-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, RM9zqaEtyeMF0gOGiruRJxk23XmhjG+IvclQqsh+XoQd6J0zWcC8STb7JW89k9rI nfpspy8qr1atVuDwt5soRw== 0000950116-97-002323.txt : 19971222 0000950116-97-002323.hdr.sgml : 19971222 ACCESSION NUMBER: 0000950116-97-002323 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19970930 FILED AS OF DATE: 19971219 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: RESOURCE AMERICA INC CENTRAL INDEX KEY: 0000083402 STANDARD INDUSTRIAL CLASSIFICATION: INVESTMENT ADVICE [6282] IRS NUMBER: 720654145 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-04408 FILM NUMBER: 97740788 BUSINESS ADDRESS: STREET 1: 1521 LOCUST ST STREET 2: 4TH FL CITY: PHILADELPHIA STATE: PA ZIP: 19102 BUSINESS PHONE: 2155465005 MAIL ADDRESS: STREET 1: 2876 SOUTH ARLINGTON ROAD CITY: AKRON STATE: OH ZIP: 44312 FORMER COMPANY: FORMER CONFORMED NAME: RESOURCE EXPLORATION INC DATE OF NAME CHANGE: 19890214 FORMER COMPANY: FORMER CONFORMED NAME: SMTR CORP DATE OF NAME CHANGE: 19700522 10-K 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended September 30, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number: 0-4408 RESOURCE AMERICA, INC. (Exact name of registrant as specified in its charter) DELAWARE 72-0654145 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 1521 Locust Street Suite 400 Philadelphia, PA 19102 (Address of principal executive offices) (Zip code) Registrant's telephone number, including area code: (215)546-5005 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Title of each class Common Stock, par value $.01 per share Name of each exchange on which registered: The Company's Common Stock trades on the Nasdaq Stock Market under the symbol "REXI." 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 [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of the voting stock held by nonaffiliates of the registrant, based upon the closing price of such stock on November 30, 1997, was $200,277,600. The number of outstanding shares of the registrant's Common Stock on November 30, 1997 was 4,749,463. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Proxy Statement for registrant's 1998 Annual Meeting of Shareholders to be held on February 17, 1998 are incorporated by reference in Part III of this Form 10-K. -2- RESOURCE AMERICA, INC. AND SUBSIDIARIES INDEX TO ANNUAL REPORT ON FORM 10-K
Page PART I Item 1: Business....................................................................... 4 Item 2: Properties..................................................................... 38 Item 3: Legal Proceedings.............................................................. 38 Item 4: Submission of Matters to a Vote of Security Holders............................................................. 38 PART II Item 5: Market for the Registrant's Common Equity and Related Stockholder Matters......................................... 39 Item 6: Selected Financial Data........................................................ 40 Item 7: Management's Discussion and Analysis of Financial Condition and Results of Operations.......................................................... 40 Item 8: Financial Statements and Supplementary Data.................................... 51 Item 9: Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.............................. 85 PART III Item 10: Directors, Executive Officers, Promoters and Control Persons of the Registrant................................... 86 Item 11: Executive Compensation................................................ 86 Item 12: Security Ownership of Certain Beneficial Owners and Management...................................................... 86 Item 13: Certain Relationships and Related Transactions........................ 86 PART IV Item 14: Exhibits, Financial Statement Schedules and Reports on Form 8-K................................................. 87 SIGNATURES
-3- PART I ITEM 1. BUSINESS General The Company is a specialty finance company engaged primarily in real estate finance and equipment leasing. For approximately 25 years prior to 1991, the Company was principally involved in the energy industry and it continues to have energy industry operations, including natural gas and oil production. Since 1991, the Company's business strategy has focused on locating and developing niche finance businesses in which the Company can realize attractive returns by targeting well-defined financial services markets and by developing specialized skills to service those markets on a cost-effective basis. To date, the Company has developed two main businesses: real estate finance and equipment leasing. Within its real estate finance business, the Company has developed a commercial mortgage loan acquisition and resolution business and a non-conforming residential mortgage lending business. Within its equipment leasing business, the Company focuses primarily on small ticket equipment lease financing, although it also manages six publicly-owned equipment leasing partnerships and has a lease finance placement and advisory business. The Company's commercial mortgage loan acquisition and resolution business involves the purchase at a discount of troubled commercial real estate mortgage loans at prices generally ranging from $1 million to $10 million and the restructuring and refinancing of those loans. These loans are generally acquired from private market sellers, primarily financial institutions. Loans acquired by the Company typically involve legal and other disputes among the lender, the borrower and/or other parties in interest, and generally are secured by properties which are unable to produce sufficient cash flow to fully service the loans in accordance with the original lender's loan terms. Since fiscal 1991 (when it entered this business), and through September 30, 1997, the Company's aggregate commercial mortgage loan portfolio has grown to 38 loans with an outstanding loan balance (excluding discounts) of $233.7 million, acquired at an investment cost (including subsequent advances, which had been anticipated by the Company at the time of acquisition and were included in its analysis of loan costs and yields) of $120.4 million. During the fiscal years ended September 30, 1997, 1996 and 1995, the Company's yield on its net investment in commercial mortgage loans (including gains on sale of senior lien interests in, and gains, if any, resulting from refinancings of commercial mortgage loans) equalled 34.7%, 36.2% and 34.6%, respectively, while its gross profit (that is, revenues from loan activities minus costs attributable thereto, including interest and provision for possible losses, and less depreciation and amortization, without allocation of corporate overhead) from its commercial mortgage loan activities for fiscal years 1997, 1996 and 1995 were $16.5 million, $6.3 million and $5.3 million, respectively. The Company seeks to reduce the amount of its own capital invested in commercial mortgage loans after their acquisition, and to enhance its returns, through sale at a profit of senior lien interests in its loans (typically on a recourse basis) or through borrower refinancing of the -4- properties underlying its loans. At September 30, 1997, senior lenders held outstanding obligations of $55.5 million, secured by properties with an aggregate appraised value of $125.4 million, resulting in a ratio of senior lien obligations-to-appraised value of property of 44%. For the three months ended September 30, 1997, the operating cash flow coverage on the required debt service on senior lien interests averaged 202%. Such calculation excludes (i) proceeds from the sale of senior lien interests or from refinancings and (ii) cash flows from and senior lien interests with respect to nine loans acquired during the fourth quarter of fiscal 1997 as to which the Company had less than three months' cash flow experience at September 30, 1997 (see "Commercial Mortgage Loan Acquisition and Resolution: Loan Status"). If such nine loans had been included (utilizing for this purpose their cash flows for periods subsequent to September 30, 1997 as set forth in "- Real Estate Finance - -Commercial Mortgage Loan Acquisition and Resolution: Loan Status"), the operating cash flow coverage would have averaged 273%. The excess of operating cash flow over required debt service on senior lien obligations is, pursuant to agreements with the borrowers, retained by the Company as debt service on the outstanding balance of the Company's loans. The Company has sponsored a real estate investment trust (the "REIT") and has undertaken to sell 10 loans to the REIT (including one loan consisting of four related obligations). The Company will not retain a junior lien interest in any of these loans. In addition, the Company has undertaken to sell a senior participation in another of its loans to the REIT. The aggregate price to be paid by the REIT for the loans and the senior participation will be $27.7 million. The Company's carried cost of investment in these loans was $22.2 million at September 30, 1997. The Company anticipates selling further loans to the REIT. See "Sponsorship of Real Estate Investment Trust." The Company's residential mortgage lending business provides first and second mortgage loans on one- to four-family residences to borrowers who do not conform to guidelines established by Fannie Mae because of past credit impairment or other reasons. Through its subsidiaries, Fidelity Mortgage Funding, Inc. ("FMF") and Tri-Star Financial Services, Inc. ("Tri-Star") (which was acquired in November 1997 and which, following regulatory approvals, the Company anticipates merging into FMF), the Company is licensed as a residential mortgage lender in 19 states and is currently originating loans in eleven states (Connecticut, Delaware, Indiana, Kentucky, Maryland, Mississippi, New Jersey, North Carolina, Ohio, Pennsylvania and Virginia). The Company began its residential mortgage lending business during fiscal 1997 and commenced originating loans in the first quarter of fiscal 1998. The Company's operational strategy is to concentrate on mid-size residential mortgage loans with targeted average loan of approximately $75,000. The Company markets its services directly to consumers and anticipates establishing "private label" lending programs (that is, programs where the Company will process, fund and service loans originated by an institution, under the institution's name) for institutions which, because of a lack of expertise in the area or for other reasons, do not otherwise make non-conforming loans. The Company's equipment leasing business commenced in September 1995 with the acquisition of an equipment leasing subsidiary of a regional insurance company. Through this -5- acquisition, the Company assumed the management of six publicly-held equipment leasing partnerships involving $55.2 million (original equipment cost) in leased assets at September 30, 1997. More importantly, through this acquisition the Company acquired an infrastructure of operating systems, computer hardware and proprietary software (generally referred to as a "platform"), as well as personnel, which the Company utilized in fiscal 1996 as a basis for the development of an equipment leasing business for its own account. As part of its development of this business, in early 1996 the Company hired a team of four experienced leasing executives, including the former chief executive officer of the U.S. leasing subsidiary of Tokai Bank, a major Japanese banking institution. The Company's operational strategy for equipment leasing is to focus on leases with equipment costs of between $5,000 to $100,000 ("small ticket" leasing), with a targeted average transaction of approximately $10,000 per lease. The Company markets its equipment leasing products through vendor programs with equipment manufacturers, distributors and other vendors such as Minolta Corporation and Lucent Technologies, Inc. The Company believes that the small ticket leasing market is under-served by equipment lessors, banks and other financial institutions, affording the Company a niche market with significant growth potential. During fiscal 1997, the Company received 8,344 lease proposals involving equipment with an aggregate cost of $113.4 million, approved 5,054 such proposals involving equipment with an aggregate cost of $67.2 million and entered into 3,214 transactions involving equipment with an aggregate cost of $34.6 million. During fiscal 1997, the Company sold, on a servicing retained basis, equipment leases with an aggregate net book value of approximately $30.2 million to third parties. The Company anticipates similar equipment lease sales in the future. The Company's income from retained servicing was not material during fiscal 1997. The Company produces natural gas and, to a lesser extent, oil from locations principally in Ohio, Pennsylvania and New York. At September 30, 1997, the Company had a net investment of $11.4 million in its energy operations, including interests in 1,129 individual wells (including overriding interests) owned directly by the Company or through 64 partnerships and joint ventures managed by the Company. While the Company has focused its business development efforts on its specialty finance operations over the past several years, its energy operations historically have provided a steady source of cash flow and tax benefits. Real Estate Finance Commercial Mortgage Loan Acquisition and Resolution Strategy Identification and Acquisition of Troubled Commercial Mortgage Loans. The Company believes that the success to date of its commercial mortgage loan acquisition and resolution business has been due in large part to its ability to identify and acquire troubled commercial mortgage loans which, due to operational difficulties at the underlying properties, legal or factual disputes, or other problems, are unable to fully meet debt service requirements under the original loan terms and can be acquired at a discount from the unpaid principal and interest amounts of the loan and the estimated value of the underlying property. A principal part of this strategy is the Company's focus on commercial mortgage loans with purchase prices generally ranging from $1 million to $10 million held by large private sector financial institutions. Due to the -6- comparatively small size of these loans relative to a large institution's total portfolio, the lender is often not able, or willing, to devote the managerial and other resources necessary to resolve the problems to which the loans are subject, and thus is sometimes willing to dispose of these loans at prices favorable to the Company. The Company, which offers to acquire a loan quickly and for immediate cash, provides a convenient way for an institution to dispose of these loans and to eliminate future work-out costs. The Company believes that the trend of consolidation in the banking industry, and the implementation of risk-based capital rules in the insurance industry, may cause an increase in the amount of smaller loans available for sale and provide the Company significant opportunities for growth. Efficient Resolution of Loans. The Company believes that a further aspect of its success to date has been its ability to resolve problems surrounding loans it has identified for acquisition. The principal element of this strategy is the cost-effective use of management and third-party resources to negotiate and resolve disputes concerning a troubled loan or the property securing it, and to identify and resolve any existing operational or other problems at the property. To implement this strategy, the Company has taken advantage of the background and expertise of its management and has identified third-party subcontractors (such as property managers and legal counsel) familiar with the types of problems to which smaller commercial properties may be subject and who have, in the past, provided effective services to the Company. Refinancing or Sale of Senior Lien Interests in Portfolio Loans. The Company seeks to reduce its invested capital and enhance its returns through sale, at a profit, of senior lien interests in its loans or through refinancing of the properties underlying its loans by borrowers. In so doing, the Company has in the past obtained, and in the future anticipates obtaining, a return of a substantial portion of its invested capital (and in some cases has obtained returns of amounts in excess of its invested capital), which it will typically seek to reinvest in further loans, while maintaining a significant continuing position in the original loan. See "- Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings." The Company also anticipates sales of whole loans to the REIT (see "- Sponsorship of Real Estate Investment Trust"). The Company's strategic plan contemplates continued growth in its commercial mortgage loan portfolio, in part through the liquidity provided by such sales or refinancings. Disposition of Loans. In the event a borrower does not repay a loan when due, the Company will seek to foreclose upon and sell the underlying property or otherwise liquidate the loan. In appropriate cases and for appropriate consideration, the Company may agree to forbear from the exercise of remedies available to it. See "- Commercial Mortgage Loan Acquisition and Resolution: Forbearance Agreements" and "- Loan Status." Market for Commercial Mortgage Loan Acquisition and Resolution Services The discounted loans acquired by the Company to date are secured by commercial properties (generally multi-family housing, small office buildings, hotels or single-user retail properties) which, while income producing, are unable to meet fully debt service requirements of the original loan under its then current terms. The loans are usually acquired from banks, -7- insurance companies, investment bankers, mortgage bankers or other similar financial organizations. Typically, the loans identified by the Company for acquisition (and the properties securing them) have been the subject of complex and/or contentious legal and other disputes, operational difficulties or other problems demanding commitments of managerial and other resources that are perceived by the selling institutions to be inordinate relative to the comparatively small asset value of these loans in the institution's total portfolio. The market for commercial mortgage loan acquisition and resolution services of the type provided by the Company is, the Company believes, relatively new. A major impetus to this market has been the sale of packages of under-performing and non-performing loans by government agencies, in particular the Resolution Trust Corporation ("RTC") and Federal Deposit Insurance Corporation ("FDIC"). While the need for loan acquisition and resolution services by governmental agencies has declined in recent years (the RTC terminated its loan pool packaging and sales operations on December 31, 1995, and any RTC assets remaining to be sold at that time were transferred to the FDIC for sale), the Company believes that a permanent market for these services is emerging in the private sector as financial institutions and other organizations realize that outside specialists may be able to resolve troubled loans more cost-efficiently than their internal staff. Moreover, the sale of loans provides selling institutions with a means of disposing of under-performing assets, thereby obtaining liquidity and improving their balance sheets. The trend has been reinforced, management believes, by consolidation within the banking industry, the implementation of risk-based capital rules within the insurance industry, and by the standardization of financing criteria by real estate conduits and other "securitization" outlets. Acquisition and Administration Procedures for Commercial Mortgage Loan Acquisition and Resolution Operations Prior to acquiring any commercial mortgage loans, the Company conducts an acquisition review. This review includes an evaluation of the adequacy of the loan documentation (for example, the existence and adequacy of notes, mortgages, collateral assignments of rents and leases, and title policies ensuring first or other lien positions) and other available information (such as credit and collateral files). The value of the property securing the loan is estimated by the Company based upon a recent independent appraisal obtained by the borrower or seller of the loan, an independent appraisal obtained by the Company, or upon valuation information obtained by the Company and thereafter confirmed by an independent appraisal. One or more members of the Company's management makes an on-site inspection of the property and, where appropriate, the Company will require further inspections by engineers, architects or property management consultants. The Company may also retain environmental consultants to review potential environmental issues. The Company obtains and reviews available rental, expense, maintenance and other operational information regarding the property, prepares cash flow and debt service analyses and reviews all pertinent information relating to any legal or other disputes to which the property is subject. The amount of the Company's offer to purchase any such loan is based upon the foregoing evaluations and analyses. The Company generally will not acquire a loan unless (i) current net cash flow from the property securing the loan is sufficient to yield an immediate cash return on the Company's investment of not less than 10% per annum, (ii) the -8- ratio of the Company's initial investment to the appraised value of the property underlying the loan (utilizing an appraisal dated within one year of acquisition) is less than 80%, (iii) there is the possibility of either prompt refinancing of the loan by the borrower after acquisition, or sale by the Company of a senior lien interest, that will result in an enhanced yield to the Company on its (reduced) funds still outstanding (see "- Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings"), and (iv) there is the possibility of a substantial increase in the value of the property underlying the loan over its appraised value, increasing the potential amount of the loan discount recoverable by the Company at loan termination. On occasion, the Company will acquire a loan that does not meet one or more of the criteria specified above if, in the Company's judgment, other factors make the loan an appropriate investment opportunity. The Company currently has in its portfolio eight loans in which the ratio of the cost of investment to the appraised value (both at the time of acquisition and at the date of the most recent appraisal) of the underlying property exceeds 80%. The Company has a policy that appraisals of properties underlying loans be updated no less often than every three years. Also, the Company has acquired loans outside of its targeted investment cost range of $1 million to $10 million and, as opportunities arise, may do so in the future. Five of the Company's portfolio loans were acquired at a lesser investment cost, while two loans were acquired at a greater cost ($10.6 million and $19.2 million, respectively). The Company is not limited by regulation or contractual obligation as to the types of properties that secure the loans it may seek to acquire or the nature or priority of any lien or other encumbrance it may accept with respect to a property. The Company also does not have restrictions regarding whether, after sale of a senior lien interest or a refinancing, its interest in a particular loan must continue to be secured (although the Company will typically retain a subordinated lien position), the amount it may invest in any one loan, or the ratio of initial investment cost-to-appraised value of the underlying property. As part of the acquisition process, the Company typically resolves disputes relating to the loans or the underlying properties. Through negotiations with the borrower and, as appropriate or necessary, with other creditors or parties in interest, the Company seeks to arrive at arrangements that reflect more closely the current operating conditions of the property and the present strategic position of the various interested parties. Where appropriate, the Company will offer concessions to assure that the Company's future control of the property's cash flow is free from dispute. These arrangements are normally reflected in an agreement (a "Forbearance Agreement") pursuant to which foreclosure or other action on the mortgage is deferred so long as the arrangements reflected in the Forbearance Agreement are met. The Company also seeks to resolve operational problems of the properties by appointment of a property manager acceptable to it (see "- Commercial Mortgage Loan Acquisition and Resolution: Forbearance Agreements") and may advance funds for purposes of paying property improvement costs, unpaid taxes and similar items. Prior to loan acquisition, the Company includes in its pre-acquisition analysis of loan costs and yields an estimate of such advances. See "Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations: Results of Operations: Commercial Mortgage Loan Acquisition and Resolution." -9- Upon acquisition of a loan, the Company typically requires that all revenues from the property underlying the loan be paid into an operating account on which the Company or its managing agent is the sole signatory. All expenditures with respect to a property (including debt service, taxes, operational expenses and maintenance costs) are paid from the Company's account and are reviewed and approved by a senior officer of the Company prior to payment. The Company further requires that its approval be obtained before any material contract or commercial lease with respect to the property is executed. To assist it in monitoring the loan, the Company requires that the borrower prepare a budget for the property not less than sixty days prior to the beginning of a year, which must be reviewed and approved by the Company, and submit both a monthly cash flow statement and a monthly occupancy report. The Company analyzes these reports in comparison with each other and with account activity in the operating account referred to above. The Company may alter the foregoing procedures in appropriate circumstances. Where a borrower has refinanced a loan held by the Company (or where the Company has acquired a loan subject to existing senior debt), the Company may agree that the revenues be paid to an account controlled by the senior lienor, with the excess over amounts payable to the senior lienor being paid directly to the Company. As of September 30, 1997, one of the Company's loans (loan 17; see "- Commercial Mortgage Loan Acquisition and Resolution: Loan Status") is subject to such a provision. Where the property is being managed by Brandywine Construction & Management, Inc. ("BCMI"), a property manager affiliated with the Company (see "- Commercial Mortgage Loan Acquisition and Resolution: Forbearance Agreements"), the Company may direct that property revenues be paid to BCMI, as the Company's managing agent. As of September 30, 1997, revenues are being paid to BCMI with respect to two loans (loans 25 and 30). Where the Company believes that operating problems with respect to an underlying property have been substantially resolved, the Company may permit the borrower to retain revenues and pay property expenses directly. The Company currently permits borrowers with respect to three loans (loans 24, 27 and 37) to do so. Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings In evaluating a potential mortgage loan, the Company places significant emphasis on the likelihood of its being able to sell a senior lien interest on favorable terms after the acquisition and/or the borrower's likely ability, with or without the Company's assistance, to secure favorable refinancing. When a loan is refinanced, or a senior lien interest sold, the Company will obtain net sale or refinance proceeds in an amount representing a major portion of (and sometimes exceeding) the amount of its investment in the loan. After sale of a senior lien interest or refinancing, the Company will typically retain an interest in the loan, which is usually subordinated to the interest of the senior lienholder or refinance lender. Where a senior lien interest is sold, the outstanding balance of the Company's loan at the time of sale remains outstanding, including as a part of that balance the amount of the senior lien interest. Thus, the Company's remaining interest effectively "wraps around" the senior lien -10- interest. Typically, the interest rate on the senior lien interest is less than the stated rate on the Company's loan. Senior lien interests with an aggregate balance of $12.0 million at September 30, 1997, relating to nine of the Company's loans, obligate the Company, in the event of a default on a loan, to replace such loan with a performing loan. These senior lien interests become due upon the expiration of their respective Forbearance Agreements (two each in 1998, 1999, 2000 and 2001 and one in 2016). Three other senior lien interests, with an aggregate balance of $10.3 million at September 30, 1997, obligate the Company, upon their respective maturities, all in fiscal 2002, to repurchase the senior lien interest (if not theretofore paid off) at a price equal to the outstanding balance of the senior lien interest plus accrued interest. See "Commercial Mortgage Loan Acquisition and Resolution: Loan Status." Where a refinancing is effectuated, the Company reduces the amount outstanding on its loan by the amount of net refinancing proceeds received by it and either converts the outstanding balance of the original note (both principal and accrued interest, as well as accrued penalties) into the stated principal amount of an amended note on the same terms as the original note, or retains the original loan obligation as paid down by the amount of refinance proceeds received by the Company. As with senior lien interests, the interest rate on the refinancing is less than the interest rate on the Company's retained interest. After sale of a senior lien interest or a refinancing, the Company's retained interest will usually be secured by a subordinate lien on the property. In certain situations, however, (including seven loans constituting 8.3%, by book value, of the Company's loans), the Company's retained interest may not be formally secured by a mortgage because of conditions imposed by the senior lender, although it may be protected by a judgment lien, an unrecorded deed-in-lieu of foreclosure, the borrower's covenant not to further encumber the property without the Company's consent, and/or a similar device. Commercial Mortgage Loan Acquisition and Resolution: Forbearance Agreements Substantially all of the commercial mortgage loans acquired by the Company are subject to Forbearance Agreements with borrowers pursuant to which the holder of the loan (the Company, upon loan acquisition) (i) agrees, subject to receipt of specified minimum monthly payments, to defer the exercise of existing rights to proceed on the defaulted loan (including the right to foreclose), (ii) receives the rents from the underlying property (either directly or through a managing agent approved by the Company, subject to certain exceptions; see "- Acquisition and Administration Procedures for Commercial Loan Acquisition and Resolution Operations") and (iii) requires the borrower to retain a property management firm acceptable to the holder. The Forbearance Agreements also provide that any cash flow from the property (after payment of Company-approved expenses and debt service on senior lien interests) above the minimum payments will be retained by the Company and applied to accrued but unpaid debt service on the loan. As a result of provision (iii), BCMI, an affiliated property management company, has assumed responsibility for supervisory and, in many cases, day to day management of the underlying properties with respect to substantially all of the loans the Company currently owns. In ten instances, the President of BCMI (or an entity affiliated with him) has also acted as the -11- general partner or trustee of the borrower. The minimum payments required under a Forbearance Agreement (generally related to anticipated cash flow from the property after operating expenses) are normally materially less than the debt service payments called for by the original terms of the loan. The difference between the minimum required payments under the Forbearance Agreement and the payments called for by the original loan terms continues to accrue, but (except for amounts recognized as an accretion of discount; see "- Commercial Mortgage Loan Acquisition and Resolution: Accounting for Discounted Loans") are not recognized as revenue to the Company until actually paid. At the end of the term of a Forbearance Agreement, the borrower is required to pay the loan in full. The borrower's ability to do so, however, will be dependent upon a number of factors, including prevailing conditions at the underlying property, the state of real estate and financial markets (generally and as regards the particular property), and general economic conditions. In the event the borrower does not or cannot do so, the Company anticipates that it will seek to sell the property underlying the loan or otherwise liquidate the loan. Alternatively, the Company anticipates that it might, in appropriate cases, and for appropriate additional consideration, agree to further forbearance. An existing Forbearance Agreement remains in effect with no modifications when the Company sells a senior lien interest in a loan. In such instance, the purchaser's interest is in the loan subject to the terms of the Forbearance Agreement. However, when a borrower refinances a loan, the Forbearance Agreement is thereby amended to (i) reflect the pay down of the loan balance, (ii) acknowledge the existence of the refinancing and (iii) provide for the continued effectiveness of all provisions of the Forbearance Agreement for the term specified therein, except that where specific provisions of the Forbearance Agreement are inconsistent with the terms of the refinancing, the terms of the refinancing have priority. In some refinancings, the refinance lender may require that the borrower issue an amended note (a "retained interest note") to reflect the reduction of the borrower's indebtedness to the Company and, where applicable, any other revised terms. Commercial Mortgage Loan Acquisition and Resolution: Loan Status At September 30, 1997, the Company's loan portfolio consisted of 38 loans of which 28 loans were acquired as first mortgage liens and 10 loans were acquired as junior lien obligations. The Company's strategy has been to acquire loans in anticipation of selling a senior lien interest in the loan or in anticipation of the borrower's refinancing of the loan. At September 30, 1997, the Company had sold a senior lien interest in 14 loans in its portfolio, (including senior interests in five loans acquired by the Company as junior lien loans) and borrowers with respect to 12 of the Company's loans have obtained refinancing (including a refinancing of one loan acquired by the Company as a junior lien loan). After such sales and refinancings, the Company holds subordinated interests in 30 loans of which seven interests, constituting approximately 8.3% of the book value of the Company's loan portfolio, are not collateralized by recorded mortgages (see "- Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings"). -12- The Company anticipates that 10 of its loans, and a senior lien interest in an eleventh loan will be sold to the REIT. See "- Sponsorship of Real Estate Investment Trust" and Note 9 to the following table. -13- The following table sets forth certain information relating to the Company's investments in real estate loans at September 30, 1997.
Loan Outstanding Loan Type of Acquired Loan Number Property Location Seller/Originator (Fiscal Year) Receivable(1) - ------ -------- -------- ----------------- ------------- ------------- 001 Multifamily Pennsylvania Alpha Petroleum Pension Fund 1991 $ 8,471,635 002(9) Multifamily Pennsylvania CoreStates Bank(10) 1992 1,555,120 003 Multifamily New Jersey RAM Enterprises/Glenn Industries 1993 2,695,748 Pension Plan 004(9) Multifamily Pennsylvania St. Paul Federal Bank for Savings(12) 1993 1,481,638 005 Office Pennsylvania Shawmut Bank(10) 1993 6,273,329 006(9) Office/Retail Virginia Nationsbank(10) 1993 5,761,455 007 Single User Minnesota Prudential Insurance, Alpha 1993 4,441,379 (Retail) Petroleum Pension Fund 008(9) Multifamily Pennsylvania Nomura/Cargill/Eastdil Realty(13) 1994 5,389,823 009(9) Multifamily Pennsylvania Mellon Bank(10) 1995 1,638,263 010(9) Multifamily Pennsylvania RIVA Financial 1994 1,579,540 011 Office Washington, D.C. First Union Bank(10) 1995 1,410,289 012(9) Multifamily Pennsylvania CoreStates Bank(10)(12) 1995 3,036,879 013 Single User California California Federal Bank, FSB 1995 2,985,207 (Commercial) 014 Office Washington, D.C. Nomura/Cargill/Eastdil Realty(13) 1995/1997 14,786,192 015 Condo/ North Carolina First Bank, South Trust Bank(14) 1997 3,572,780 Multifamily 016 Single User California Mass Mutual, Alpha Petroleum 1995/1996 6,924,661 (Retail) Pension Fund 017 Single User West Virginia Triester Investments(10)(15) 1996 1,786,434 (Retail) 018 Single User California Emigrant Savings Bank, Walter 1996 2,933,154 (Retail) R. Samuels and Jay Furman(16) 019(9) Multifamily Pennsylvania Summit Bancorp(10) 1996 4,724,376 020 Office New Jersey Cargill/Eastdil Realty(13) 1996 7,026,381 021 Multifamily Pennsylvania Bruin Holdings/Berkeley Federal 1996/1997 9,743,475 Savings Bank 022 Multifamily Pennsylvania FirsTrust FSB 1996/1997 4,465,421 023(9) Multifamily Pennsylvania Jefferson Bank 1996 711,924 (20) 024 Multifamily Pennsylvania U.S. Dept. of Housing & Urban Development 1996 3,427,673 025 Hotel/Commercial Georgia Bankers Trust Co. 1997 6,029,552 026 Office Pennsylvania FirsTrust FSB 1997 7,983,948
RESTUBBED FROM TABLE ABOVE
Appraised Value Loan Type of of Property Cost of Number Property Location Seller/Originator Securing Loan(2) Investment(3) - ------ -------- -------- ----------------- ----------------- ------------- 001 Multifamily Pennsylvania Alpha Petroleum Pension Fund $ 5,300,000 $ 4,628,323 002(9) Multifamily Pennsylvania CoreStates Bank(10) 900,000 547,813 003 Multifamily New Jersey RAM Enterprises/Glenn Industries 1,350,000 1,324,780 Pension Plan 004(9) Multifamily Pennsylvania St. Paul Federal Bank for Savings(12) 1,200,000 862,356 005 Office Pennsylvania Shawmut Bank(10) 1,700,000 1,242,218 006(9) Office/Retail Virginia Nationsbank(10) 2,800,000 2,388,018 007 Single User Minnesota Prudential Insurance, Alpha 2,515,000 1,354,382 (Retail) Petroleum Pension Fund 008(9) Multifamily Pennsylvania Nomura/Cargill/Eastdil Realty(13) 3,200,000 1,614,174 009(9) Multifamily Pennsylvania Mellon Bank(10) 2,700,000 1,362,884 010(9) Multifamily Pennsylvania RIVA Financial 800,000 456,356 011 Office Washington, D.C. First Union Bank(10) 2,000,000 1,180,030 012(9) Multifamily Pennsylvania CoreStates Bank(10)(12) 2,200,000 1,296,565 013 Single User California California Federal Bank, FSB 2,400,000 1,694,799 (Commercial) 014 Office Washington, D.C. Nomura/Cargill/Eastdil Realty(13) 11,000,000 10,566,013 015 Condo/ North Carolina First Bank, South Trust Bank(14) 3,702,000 2,787,774 Multifamily 016 Single User California Mass Mutual, Alpha Petroleum 3,000,000 2,083,399 (Retail) Pension Fund 017 Single User West Virginia Triester Investments(10)(15) 1,900,000 1,070,597 (Retail) 018 Single User California Emigrant Savings Bank, Walter 4,555,000 2,224,658 (Retail) R. Samuels and Jay Furman(16) 019(9) Multifamily Pennsylvania Summit Bancorp(10) 5,725,000 3,758,685 020 Office New Jersey Cargill/Eastdil Realty(13) 4,600,000 2,981,599 021 Multifamily Pennsylvania Bruin Holdings/Berkeley Federal 4,222,000 2,453,501 Savings Bank 022 Multifamily Pennsylvania FirsTrust FSB 4,110,000 2,409,598 023(9) Multifamily Pennsylvania Jefferson Bank 600,000 427,474 024 Multifamily Pennsylvania U.S. Dept. of Housing & Urban Development 3,250,000 2,730,183 025 Hotel/Commercial Georgia Bankers Trust Co. 8,500,000 5,877,058 026 Office Pennsylvania FirsTrust FSB 5,000,000 3,581,137
-14-
Loan Outstanding Loan Type of Acquired Loan Number Property Location Seller/Originator (Fiscal Year) Receivable(1) - ------ -------- -------- ----------------- ------------- ------------- 027(9) Office Pennsylvania Lehman Brothers Holdings, Inc. 1997 $ 52,644,228 028 Condo/ North Carolina First Bank, SouthTrust Bank(23) 1997 1,678,680 Multifamily 029 Commercial/ Pennsylvania Castine Associates, L.P.(24) 1997 6,962,930 Retail 030 Hotel Nebraska CNA Insurance 1997 6,456,907 031 Multifamily Connecticut John Hancock Mutual Life 1997 6,251,307 Insurance Company 032 Multifamily New Jersey John Hancock Mutual Life 1997 12,210,777 Insurance Company 033 Single User/ Virginia Brambilla, Ltd. 1997 3,970,564 Retail 034 Multifamily Pennsylvania Resource America, Inc.(26) 1997 400,622 035 Office Pennsylvania Jefferson Bank 1997 2,321,627 036 Office North Carolina Union Labor Life Insurance Co. 1997 4,475,257 037 Multifamily Florida Howe, Soloman & Hall 1997 6,876,566 Financial, Inc. 038(9) Office/Retail Pennsylvania Resource Asset Investment Trust(26) 1997 8,580,000 ------------- Balance as of September 30, 1997 $233,665,613 ============
RESTUBBED FROM TABLE ABOVE
Appraised Value Loan Type of of Property Cost of Number Property Location Seller/Originator Securing Loan(2) Investment(3) - ------ -------- -------- ----------------- ----------------- ------------- 027(9) Office Pennsylvania Lehman Brothers Holdings, Inc. $ 34,000,000 $ 19,240,747 028 Condo/ North Carolina First Bank, SouthTrust Bank(23) 1,773,000 1,028,143 Multifamily 029 Commercial/ Pennsylvania Castine Associates, L.P.(24) 4,000,000 2,978,752 Retail 030 Hotel Nebraska CNA Insurance 4,000,000 3,740,922 031 Multifamily Connecticut John Hancock Mutual Life 7,500,000 4,678,000 Insurance Company 032 Multifamily New Jersey John Hancock Mutual Life 12,425,000 7,410,218 Insurance Company 033 Single User/ Virginia Brambilla, Ltd. 2,650,000 1,995,705 Retail 034 Multifamily Pennsylvania Resource America, Inc.(26) 450,000 400,000 035 Office Pennsylvania Jefferson Bank 2,550,000 1,582,088 036 Office North Carolina Union Labor Life Insurance Co. 4,150,000 3,050,200 037 Multifamily Florida Howe, Soloman & Hall 3,500,000 2,796,393 Financial, Inc. 038(9) Office/Retail Pennsylvania Resource Asset Investment Trust(26) 10,600,000 8,580,000 ------------- ------------- Balance as of September 30, 1997 $176,827,000 $120,385,542 ============ ============
-15-
Proceeds from Company's Net Maturity of Loan/ Ratio of Cost Refinancing or Interest In Expiration of Loan of Investment to Sale of Senior Net Carried Cost Outstanding Loan Forbearance Number Appraised Value Lien Interests Investment(4) of Investment(5) Receivables(6) Agreement(7) - ------ --------------- -------------- ------------- ---------------- -------------- ------------ 001 87% $ 2,570,000 (8) $ 2,058,323 $ 2,503,108 $ 5,945,935 12/31/02 002 61% 575,000 (11) (27,187) 185,295 955,120 10/31/98 003 98% 627,000 697,780 725,350 2,058,198 01/01/03 004 72% 871,000 (11) (8,644) 238,958 585,638 10/31/98 005 73% 940,000 (11) 302,218 785,814 5,433,329 02/07/01 006 85% 840,000 1,548,018 1,670,669 4,881,874 07/31/98 007 54% 2,099,000 (744,618) 555,149 2,295,519 12/31/14 008 50% 934,300 679,874 1,058,457 4,287,524 07/31/98 009 50% 654,600 708,284 579,159 750,691 11/01/99 010 57% 575,000 (11) (118,644) 133,073 979,540 09/02/99 011 59% 660,000 (11) 520,030 670,564 725,289 09/30/99 012 59% 1,079,000 217,565 747,650 1,778,063 12/02/99 013 71% 1,975,000 (11) (280,201) 328,767 985,207 05/01/01 014 96% 6,487,000 4,079,013 5,297,790 8,041,969 11/30/98 015 75% 2,558,000 (8) 229,774 3,572,780 1,211,780 08/25/00 016 69% 2,375,000 (11) (291,601) 469,130 4,524,661 12/31/00 017 56% 693,000 (8) 377,597 965,512 1,116,845 12/31/18 018 49% 1,969,000 (11) 255,658 886,261 964,154 12/01/00 019 66% 3,020,000 738,685 956,429 1,539,656 12/29/00 020 65% 2,562,000 419,599 1,856,859 4,623,458 02/07/01 021 60% 2,010,000 (11) 443,501 1,496,972 7,733,475 07/01/16 (17) 022 59% 2,636,000 (18)(19) (226,402) 862,459 1,795,337 10/31/98 023 71% 450,000 (21) (22,526) 128,641 263,041 03/28/01 024 84% 2,318,750 411,433 804,390 927,673 11/01/22 025 69% - 5,877,058 6,102,725 6,029,552 12/31/15 026 72% 2,240,000 (22) 1,341,137 2,312,620 5,738,258 09/30/03
-16-
Proceeds from Company's Net Maturity of Loan/ Ratio of Cost Refinancing or Interest In Expiration of Loan of Investment to Sale of Senior Net Carried Cost Outstanding Loan Forbearance Number Appraised Value Lien Interests Investment(4) of Investment(5) Receivables(6) Agreement(7) - ------ --------------- -------------- ------------- ---------------- -------------- ------------ 027 57% $7,920,000 (18) $11,320,747 $16,615,724 $44,644,228 01/01/02 028 58% - 1,028,143 1,678,680 1,678,680 03/31/02 029 75% 750,000 (25) 2,228,752 2,464,174 6,212,930 07/01/02 030 94% - 3,740,922 3,816,425 6,456,907 09/30/02 031 62% - 4,678,000 4,704,270 6,251,307 09/01/05 032 60% - 7,410,218 7,451,074 12,210,777 09/01/05 033 80% - 1,995,705 628,671 2,595,241 02/01/21 034 89% - 400,000 400,000 400,622 10/01/02 035 63% 750,000 (25) 832,088 1,081,234 1,571,627 09/25/02 036 76% - 3,050,200 3,074,544 4,475,257 12/31/11 037 80% - 2,796,393 2,826,741 6,876,566 07/01/00 038 81% - 8,580,000 8,580,000 8,580,000 03/31/02 ----------- ------------ ------------ ------------- Balance as of September 30, 1997 $53,138,650 $67,246,892 $89,216,118 $178,125,928 =========== =========== =========== ============
-17- (1) Consists of the stated, or face value of the obligation plus accrued interest and penalties and the outstanding balance of the senior lien interest at September 30, 1997. (2) The Company's policy is to obtain an appraisal of a property underlying a loan at least once every three years. Accordingly, appraisal dates range from 1994 to 1997. (3) Consists of the original cost of the investment to the Company (including acquisition costs and the amount of any senior lien interest to which the property remained subject) plus subsequent advances, but excludes the proceeds to the Company from the sale of senior lien interests or borrower refinancings. (4) Represents the unrecovered costs of the Company's investment, calculated as the cash investment made in acquiring the loan plus subsequent advances less cash received from sale of a senior lien interest in or borrower refinancing of the loan. Negative amounts represent the receipt by the Company of proceeds from the sale of senior lien interests or borrower refinancings in excess of the Company's investment. (5) Represents the cost of the investment carried on the books of the Company after accretion of discount and allocation of gains from the sale of a senior lien interest in or borrower refinancing of the loan, but excludes an allowance for possible losses of $400,000. For a discussion of accretion on discount and allocation of gains, see "- Commercial Mortgage Loan Acquisition and Resolution: Accounting for Discounted Loans." (6) Consists of the amount set forth in the column "Outstanding Loan Receivable" less the outstanding balance of senior lien interests at September 30, 1997. (7) With respect to loans 6, 7, 8, 14, 25, 27, 30, 31, 32, 34, 35 and 38, the date given is for the maturity of the subordinate note for the residual loan balance received by the Company in connection with the refinancing. For the remaining loans, the date given is the expiration date of the related Forbearance Agreement. (8) Represents the amount of the senior lien interest in place on date of acquisition. (9) It is anticipated that these loans will be sold to the REIT. See "- Sponsorship of Real Estate Investment Trust." (10) Successor by merger to the Seller. (11) Senior lien interest sold subject to the right of the holder (Citation Insurance Company, a subsidiary of Physicians Insurance Company of Ohio), upon default, to require the Company to substitute a performing loan. (12) Seller was a wholly-owned subsidiary of this institution. -18- (13) Seller was a partnership of these entities. (14) Original lending institutions. In March 1997, as a result of agreements among the borrower, the Company and a third party, Concord Investment, L.P. ("Concord"), the borrower's partnership interests were transferred to the Company which resold them to Concord for a mortgage note (which wrapped around certain senior indebtedness), and cash. (15) The loan acquired consists of a series of notes becoming due yearly through December 31, 2018. The notes are being paid in accordance with their terms and, accordingly, a Forbearance Agreement was not required. (16) Amounts advanced by the Company were used in part to repay the loan of Emigrant Savings Bank; the balance was applied to purchase a note held by Messrs. Samuels and Furman. (17) The loan acquired consists of 31 separate mortgage loans on 49 individual condominium units in a single building. Nine of such loans are due July 1, 2016, eighteen are due January 1, 2015, one is due October 1, 2007, one is due March 1, 2001 and two are due October 9, 2001. (18) Two senior lien interests were sold to Commerce Bank, N.A. ("Commerce"). The Company has the obligation to repurchase these senior lien interests, at Commerce's option, on or after June 27, 2002 (loan 22) and September 29, 2002 (loan 27), if the senior lien interest is not repaid in accordance with its terms by the borrower. (19) Junior lien interest sold to Crafts House Apartments Partners, L.P., a limited partnership in which officers and directors of the Company beneficially own a 21.3% interest. (20) Includes a note for $14,948 which is payable to the Company on demand. (21) Senior lien interest sold to Crusader Bank. If not repaid at its maturity date, the Company is required to repurchase the interest at a price equal to its unpaid principal balance plus accrued interest. (22) Senior lien interest sold to CRC-Axewood Partners, L.P., a limited partnership in which officers and directors of the Company beneficially own an 18.3% interest. (23) Original lending institutions. In connection with the transactions referred to in Note (14), Concord acquired other condominium units in the same building. These units secured a loan in the original principal amount of $910,000 held by the Company. As part of that acquisition, the Company made an additional mortgage loan to Concord of $797,675. (24) From 1993 to October 1997 an officer of the Company served as the General Partner. -19- (25) Senior lien interest sold to Peoples Thrift Savings Bank. (26) Consists of four related loans to one borrower secured by two properties. -20- The following table sets forth the average monthly cash flow from the properties underlying loans 1 through 29, the average monthly debt service payable to senior lienholders and refinance lenders and the average monthly payment with respect to the Company's retained interest, based on three months ended September 30, 1997:
Average Average Monthly Debt Average Monthly Monthly Cash Service on Payment to Loan Flow from Refinancing or the Company's Number Property (1)(2) Senior Lien Interests(3) Interest (2) ------- --------------- ------------------------ ---------------- 001 $ 37,581 $ 26,425 $ 11,156 002 7,646 4,875 2,771 003 6,629 6,058 571 004 10,718 7,280 3,438 005 12,262 6,825 5,437 006 24,964 8,021 16,943 007 21,300 20,400 900 008 27,839 10,670 17,169 009 21,646 7,359 14,287 010 8,467 4,875 3,592 011 11,843 5,566 6,277 012 19,517 10,317 9,200 013 27,821 15,833 11,988 014 156,369 58,551 97,818 015 & 028 (4) 33,834 26,113 7,721 016 23,917 19,500 4,417 017 10,690 9,190 1,500 018 24,827 (5) 15,998 8,829 019 58,364 25,300 33,064 020 41,732 19,527 22,205 021 19,204 16,331 2,873 022 30,731 24,365 6,366 023 6,065 3,932 2,133 024 28,066 17,474 10,592 025 45,967 - 45,967 026 26,537 10,800 15,737 027 224,958 102,713 122,245 029 20,997 6,250 (6) 14,747 ---------- -------- -------- $ 990,491 (7) $490,548 (7) $499,943 (7) ========== ======== ========
-21- (1) "Cash Flow" as used in this table is that amount equal to the operating revenues from property operations less operating expenses, including real estate and other taxes pertaining to the property and its operations, and before depreciation, amortization and capital expenditures. (2) Except as set forth in Note (4), monthly cash flow from each of the properties has been calculated as the average monthly amount during the three-month period ended September 30, 1997. (3) Monthly debt service consists of required payments of principal, interest and other regularly recurring charges payable to the holder of the refinancing loan or senior lien interest. (4) Loans 15 and 28 are secured by different condominium units in the same property and are, accordingly combined for cash flow purposes. (5) Includes one twelfth of an annual payment of $110,000 received in December of each year. (6) Prior to September 29, 1997, this note was subordinate to a senior lien interest of approximately $952,000 with monthly debt service of $8,990. On September 29, 1997, the senior lien interest was repaid through sale of a senior lien interest to another institution. (7) Excludes amounts attributable to loans 30 through 38, which are referred to in the table below. For certain information regarding the combined results for all loans (including estimated results) see Note (4) to the table below. The loans in the following table have been recently acquired by the Company and, accordingly, the table sets forth monthly cash flow, debt service and payment to the Company's interest based upon the Company's experience with such loans for periods after September 30, 1997, as noted. Except as set forth in Note (3) below, "cash flow" and "monthly debt service" are as defined in notes (1) and (3) to the previous table. Monthly Debt Monthly Monthly Cash Service on Payment to Loan Flow from Refinancing or the Company's Number Property Senior Lien Interests Interest ------ -------- --------------------- -------- 030 $ 60,194 (1) $ - $ 60,194 031 41,445 (1) - 41,445 032 76,056 (1) - 76,056 033 21,940 (2) - 21,940 034 5,577 (1) - 5,577 035 25,131 (1) 6,250 18,881 036 31,598 (1) - 31,598 037 25,000 (1) - 25,000 038 77,400 (3) - 77,400 (3) -------- ------ -------- $364,341 (4) $6,250 (4) $358,091 (4) ======== ====== ======== -22- (1) Based upon cash flow for the three months ended November 30, 1997. (2) Based upon cash flow for the two months ended November 30, 1997. (3) Loan was originated by, and it is anticipated will be sold to, the REIT and is a non- discounted loan. Accordingly "cash flow" consists of required payments of principal and interest on the loan. (4) Combined with the prior table, total monthly cash flow would be $1,354,832 total monthly debt service on refinancings or senior lien interests would be $496,798 and total monthly payment to the Company's interest would be $858,034. All of the Company's portfolio loans are currently performing in accordance with their respective repayment terms under Forbearance Agreements or retained interest notes. Commercial Mortgage Loan Acquisition and Resolution: Accounting for Discounted Loans The difference between the Company's cost basis in a loan and the sum of projected cash flows from, and the appraised value of, the underlying property (up to the amount of the loan) is accreted into interest income over the estimated life of the loan using a method which approximates the level yield method. The projected cash flows from the property are reviewed on a quarterly basis and changes to the projected amounts reduce or increase the amounts accreted into interest income over the remaining life of the loan on a method approximating the level yield method. The Company records the investments in its loan portfolio at cost, which is significantly discounted from the face value of, and accrued interest and penalties on, the notes. This discount (as adjusted to give effect to refinancings and sales of senior lien interests) totaled $86.3 million, $40.0 million and $16.1 million at September 30, 1997, 1996 and 1995, respectively. The cost basis in the various loans is periodically reviewed to determine that it is not greater than the sum of the projected cash flows and the appraised value of the underlying properties. If the cost basis were found to be greater, the Company would provide, through a charge to operations, an appropriate allowance. For the year ended September 30, 1997, the Company recorded a provision for possible losses of $400,000 to reflect the increase in size of its commercial loan portfolio. For the years ended September 30, 1996 and 1995, no such provision was required. Gains on the sale of a senior lien interest in a loan (or gains, if any, from the refinancing of a loan) are allocated between the portion of the loan sold or refinanced and the portion retained based upon the fair value of those respective portions on the date of such sale or refinancing. Any gain recognized on a sale of a senior lien interest or a refinancing is brought into income on the date of such sale or refinancing. Commercial Mortgage Loan Acquisition and Resolution: Competition -23- Although the commercial mortgage loan acquisition and resolution business is intensely competitive in virtually all of its aspects, the Company's focus on the acquisition of relatively small troubled commercial mortgage loans subject to complex and/or contentious situations is a niche in which the Company believes there are relatively few, specialized investors. In the overall market for the acquisition of real estate obligations, however, there are a substantial number of competitors (including investment partnerships, financial institutions, investment companies, public and private mortgage funds and other entities), many of which possess far greater financial resources than the Company. The Company's ability to add to its loan portfolio will depend on its success in obtaining funding for the acquisition of additional mortgages. In raising such funds in the financial capital markets, the Company will have to compete for capital based largely on the Company's overall financial performance and, more specifically, the performance of the Company's loan portfolio. Residential Mortgage Loans The Company's residential mortgage loan business focuses upon loans to individuals secured by one- to four-family residences. Depending upon the credit qualification of a borrower, the Company may originate loans for its portfolio with a loan-to-value ratio of up to 60% (for the least qualified borrowers) to 90% (for the most qualified borrowers). In addition, the Company originates "125 Loans" (that is, loans with a cumulative loan-to-value ratio of up to 125%) provided that such loans are approved for acquisition by third-party purchasers prior to funding. On November 5, 1997, the Company acquired Tri-Star, an originator of non-conforming residential mortgage loans, which operates in six states (Delaware, Maryland, New Jersey, Pennsylvania, Ohio and Virginia). Tri-Star originated $46 million in mortgage loans in calendar year 1996 and, for the first ten months of 1997, originated $51 million of residential mortgage loans. FMF and Tri-Star, through which the Company conducts its residential mortgage lending operations, are currently separate subsidiaries of the Company which the Company anticipates merging upon completion of regulatory requirements relating to transfer of residential mortgage lending licenses. The Company originates residential mortgage loans directly with consumers rather than acquiring such loans in bulk from other originators. The Company primarily originates its loans through retail/consumer direct channels (principally direct mail) under the trade name USDirect Mortgage. Potential customers are identified using statistical models predicting consumer need and capacity for a mortgage loan. The Company also anticipates entering into "private label" arrangements with financial institutions and other entities to originate loans by providing loan underwriting, processing and other services to these institutions for their non-conforming borrowers. The Company reduces the time and costs related to underwriting, processing and funding residential mortgage loans, and attempts to increase the consistency of its loan underwriting, through an automated underwriting and processing system which incorporates a proprietary credit evaluation system developed from industry data and parameters established by FMF's management. Although to date the Company has funded substantially all of its loans through internally available resources, the Company (through FMF) has arranged two warehouse -24- lines of credit, with an aggregate credit amount of $20 million, to fund its lending operations. See "- Sources of Funds." The Company anticipates that, in the first quarter of fiscal 1998, it will commence sales or securitizations of residential mortgage loans held in its portfolio. The Company (through FMF) is approved as a loan seller to six investors (Unicor Mortgage, Inc., Industry Mortgage Company, Key Home Equity, Delta Funding Corporation, Cityscape Corporation and The Money Store). The Company anticipates that, initially, all loan sales will be on a service-released basis. However, as FMF and Tri-Star develop their operations and increase staffing, they may sell loans on a service-retained basis and may retain certain loans for their portfolios. Sponsorship of Real Estate Investment Trust The Company is the sponsor of the REIT which has filed a registration statement with the Securities and Exchange Commission for the public offer and sale of its common shares of beneficial interest. The REIT's primary business will be to acquire or originate mortgage loans in situations that, generally, do not conform to the underwriting standards of institutional lenders or sources that provide financing through securitization. Although the REIT may acquire mortgage loans at a discount, it seeks to acquire such loans where the workout process has been initiated and where, unlike the mortgage loans acquired by the Company, there is no need for the REIT's active intervention. It is anticipated that the REIT will commence operations in December, 1997. As sponsor of the REIT, the Company will acquire 9.8% of the REIT's common shares of beneficial interest upon completion of the REIT offering, at an anticipated cost of approximately $11.4 million, and have the right to purchase up to 15% of the REIT's common shares. So long as the Company owns 5% or more of the REIT's common shares, the Company will have the right to nominate one person to the REIT's board of trustees. The Company will sell 10 of its mortgage loans and a senior lien interest in an eleventh loan (representing a net investment by the Company at September 30, 1997 of $22.2 million) to the REIT, as part of the REIT's initial investments, for $27.7 million. The Company may sell further loans to the REIT, to a maximum of 30% of the REIT's investments (on a cost basis), excluding the initial investments. Betsy Z. Cohen, spouse of the Company's Chairman and Chief Executive Officer, is the Chairman and Chief Executive Officer of the REIT. Jonathan Z. Cohen, the son of Mrs. Cohen and Edward E. Cohen, Chairman and Chief Executive Officer of the Company, is the Company's nominee to the REIT's board of trustees. To mitigate potential conflicts of interest, the Company has agreed to certain restrictions for a period of two years following completion of the REIT's offering of common shares, including agreements not to sponsor another mortgage REIT and to provide certain rights of first refusal on originated mortgage loans (but not mortgage loans acquired from third parties) and on mortgage loans that the Company seeks to sell. -25- Equipment Leasing General The Company conducts its leasing operations through three corporate divisions: Fidelity Leasing, Inc. ("FLI"), which conducts the Company's small ticket leasing operations; F.L. Partnership Management, Inc. ("FLPM"), which manages six public leasing partnerships; and FL Financial Services, Inc. ("FLFS"), which provides lease finance placement and advisory services. The Company's primary focus in its equipment leasing operations is on the development of FLI, which commenced small ticket leasing operations in June 1996. FLPM's operations will be reduced over the next several years as partnership assets are sold and cash is distributed back to the investors. FLPM does not anticipate forming new limited partnerships in the future. FLFS will continue to operate its lease finance placement and advisory business which, while profitable, is not expected to constitute a material source of revenues for the Company. Strategy Focus on Small Ticket Leasing. The Company focuses on leasing equipment costing between $5,000 and $100,000. By so doing, the Company takes advantage not only of the background and expertise of its leasing management team, but also of the servicing platform the Company has acquired and developed, which has the capacity to monitor the large amounts of equipment and related assets involved in a small-ticket leasing operation. In addition, small ticket items represent a substantial portion of the equipment sought by small business, a segment of the end-user market the Company believes is under-served by equipment lessors, banks and other financial institutions, thereby affording the Company a niche market with significant growth potential (see "Strategy - Focus on Leasing to Small Businesses," below). Moreover, the small size of a typical transaction relative to the Company's total lease portfolio reduces the Company's credit risk exposure from any particular transaction. Focus on Vendor Programs. The significant majority of equipment leased to end-user customers by the Company will be purchased from manufacturers or regional distributors with whom the Company is establishing vendor programs. In so doing, the Company utilizes the manufacturer's or distributor's sales organization to gain access to the manufacturer's end-user base without incurring the costs of establishing independent customer relationships. The Company is actively pursuing the establishment of multiple vendor programs in an effort to reduce its reliance on any one vendor and, thus, to reduce the risk of tying the success of the Company's leasing operations to the continuation of a relationship with one (or a small group) of vendors. The Company has currently established programs with ten manufacturers or distributors. Two of such manufacturers (Minolta Corporation and Lucent Technologies, Inc.) accounted for 23% and 6.6%, respectively, of the equipment (by cost) leased by the Company during fiscal 1997. Focus on Leasing to Small Businesses. The Company focuses its marketing programs and resources on lease programs for small business end-users (generally those with 500 or fewer -26- employees). The Company has acquired and developed credit evaluation and scoring systems (based upon credit evaluation services provided by Dunn & Bradstreet) which it believes significantly reduce the credit risk in dealing with small business end-users (see "- Small Ticket Leasing"). The Company also believes that small business end-users, while sensitive to the size of a monthly lease payment, are less sensitive than large end-users to the interest rate structure of a lease, allowing the Company to increase its yield by lengthening lease terms to lower monthly rent. The Company currently offers lease terms from one to five years to meet the needs of its end-users and will consider other lease terms in appropriate circumstances. Focus on Full-Payout Leases. The Company seeks to reduce the financial risk associated with the lease transactions it originates through the use of full-payout leases. The principal benefit from this lease format is the repayment to the Company during the lease term of its invested capital plus an amount sufficient to cover its transaction costs and, typically, a minimum return on its invested capital. To the extent possible, the Company seeks to substantially increase this return through amounts received upon remarketing the equipment or through continued leasing of the equipment after expiration of the initial lease term. Focus on Providing Service. The Company provides service and support to its small business customers and vendors by seeking to minimize the time required to respond to customer applications for lease financing and by providing sales training programs to its vendors and their sales staff (which it customizes to their particular needs) regarding the use of lease financing for marketing purposes to increase a vendor's equipment sales and market share. The Company has acquired and developed proprietary management systems to assist it in providing lease quotes and application decisions to its customers, generally within 4 hours after receipt of a request. Small Ticket Leasing The Company offers full-payout leases with options, exercisable by the lessee at the end of the lease term, either to purchase the equipment at fair market value, to purchase the equipment for a fixed price negotiated at the time the lease is signed, or to continue as a lessee on a month-to-month basis. A "full-payout lease" is a lease under which the non-cancelable rental payments due during the initial lease term are at least sufficient to recover the purchase price of the equipment under the lease, related acquisition fees and, typically, a minimum return on the Company's invested capital. The Company's leases have a provision which requires the lessee to make all lease payments under all circumstances. The leases are also net leases, requiring the lessee to pay (in addition to rent) any other expenses associated with the use of equipment, such as maintenance, casualty and liability insurance, sales or use taxes and personal property taxes. The Company offers lease terms from one to five years and will consider other lease terms in appropriate circumstances. The equipment that the Company presently purchases for lease includes document processing and storage equipment, telecommunications systems, computer equipment, small manufacturing machines and office furniture. The table below sets forth the distribution of -27- equipment purchased by the Company, by product type and percentage of dollar volume of equipment purchased, during fiscal years 1997 and 1996. Equipment Volume by Product Type (% by dollar volume of equipment purchased) Fiscal Year Ended September 30, 1997 1996 ---- ---- Document processing and storage......... 49% 73% Telecommunications...................... 37% 21% Computer systems........................ 8% 6% Other................................... 6% - ---- --- Total................................. 100% 100% ==== ==== The Company has developed a credit evaluation system, known as the "Small Business Credit Scoring System," which is intended to respond to the inability of small businesses to supply standardized financial information for credit analysis (for example, audited financial statements). The system operates by assigning point amounts, or "scores," to various factors (such as business longevity, type of business, payment history, bank account balances and credit ratings) deemed relevant by the Company in determining whether an end-user is a creditworthy lessee. The scoring system declines approval of end-users with low scores, approves end-users with high scores and refers mid-range scores to credit analysts for further consideration and decision. Information is obtained from the end-user, from reports by standard credit reporting firms and from reports provided by consumer credit bureaus. The credit scoring system is also based upon industry data and the past experience of the Company and will be reviewed and modified as required in response to actual portfolio performance. Financial statements may be required for larger transactions (in the $30,000 to $100,000 range) as a complement to the scoring system. The Company oversees its leasing program through lease administration and management systems which control invoicing, collection, sales and property taxes and financial and other reporting to management (including reports regarding regular payments, payment shortages, advance payments, security deposits, insurance payments and late or finance charges). The Company has supplemented the system with an internal audit department (which evaluates the safeguarding of assets, reliability of financial information and compliance with the Company's credit policies) and a collection department. The Company is marketing its leasing services primarily through the establishment of vendor programs. See "- Strategy: Focus on Vendor Programs." The Company has currently entered into vendor program relationships with nine vendors: Minolta Corporation (copiers), Celsis Incorporated (microbial testing systems), American Marbacom Communications (Teleco) (telephone systems), CSi (test equipment), Telrad Communications (telephone systems), CT -28- Solutions (computer telephony), ATI Communications (telephone systems), the National Association of College Stores (affinity program) and Millipore Corp. (test equipment). In addition, Lucent Technologies (telecommunications equipment) has designated the Company as an authorized lessor for its dealer distribution channel. Under a typical vendor program, the Company will work with the vendor and the lessee to structure the lease, finance the lease, purchase the related equipment and administer the lease, including providing all billing and collection services (except for private-label leasing, referred to below). At the end of the initial lease term, the Company and the vendor will typically coordinate the re-marketing of the equipment. The Company seeks to establish vendor relationships by (i) obtaining manufacturers' endorsements of the Company's finance programs, (ii) offering inventory financing credit lines to a manufacturer's vendors, (iii) developing customized sales training programs to offer to vendors and (iv) assisting the manufacturers and their vendors in establishing a sales package including the lease financing provided by the Company. The Company also competes by establishing private-label leasing programs with its vendors. Private-label leasing involves the lease by a vendor of its own equipment on a lease form bearing the vendor's name as lessor (but otherwise identical to the Company's lease form), the sale of the lease and equipment to the Company, and the provision of basic administrative services by the vendor (such as billing and collecting rent). The Company will provide assistance, particularized rental payment structures and other customized lease terms, remarketing, customized invoicing and management information reports. The Company also seeks to develop programs marketing directly to end-user groups, primarily through small business affinity groups or associations, participations in trade shows and conventions, and media advertising. Although there can be no assurance, it is anticipated that a significant portion of the Company's revenues from leasing operations will be derived from residuals. The Company anticipates that residuals will principally involve the original end-users; however, equipment not sold or re-leased to end-users will be disposed of in the secondary market. While residual realization is generally higher with original end-users than in the secondary market, the secondary market (essentially, networks of distributors and dealers in various equipment categories) is well developed in the product categories the Company currently pursues and transactions in these product categories have historically resulted in residual recoveries, on average, equal to the book value of the equipment. Equipment reacquired by the Company prior to lease termination (through lease default or otherwise) will be sold in the secondary market. Partnership Management The Company acts as the general partner and manager of six public limited partnerships formed between 1985 and 1990 with total assets at September 30, 1997 of $36.1 million, including $19.5 million (book value) of equipment with an original cost of $55.2 million. The partnerships primarily lease computers and related peripheral equipment to investment grade, middle market, capital intensive companies. The principal stated objective of each of the limited partnerships is to generate leasing revenues for distribution to the investors in the partnerships. -29- For its services as general partner, the Company receives management fees, an interest in partnership cash distributions and a reimbursement of specified expenses related to administration of the partnerships (including costs of non-executive personnel, legal, accounting and third-party contractor fees and costs, and costs of equipment used in a partnership's behalf). Management fees range from 3% to 6% of gross rents except that, if leases are full payout leases, management fees range from 1% to 3% of gross rents. In four of the partnerships, management fees are subordinated to the receipt by limited partners of a cumulative annual cash distribution of 11% (two partnerships) or 12% (two partnerships) of the limited partners' aggregate investment. The Company's interest, as general partner, in cash distributions from the partnerships is 5% (one partnership), 3.5% (one partnership) and 1% (four partnerships). Lease Finance Placement and Advisory Business The Company also operates a lease finance placement and advisory business which focuses on two related types of leasing transactions: the origination of leases by others and the identification of third-party lease funding sources. Lease transactions generated by the division are typically full payout leases. The Company generally receives between 1% and 4% of the equipment cost at the time the transaction is closed for its services in arranging a transaction. In some of the transactions it generates, the Company also enters into a remarketing agreement that entitles it to fees upon residual sale. Lease finance placement and advisory services generated revenues of $657,000 and $650,000 during fiscal years 1997 and 1996, respectively. Competition The Company believes that, although the small ticket leasing business has experienced substantial consolidation in the past few years, the business of equipment leasing remains highly competitive. The Company believes, however, that small ticket leasing, to be viable, requires the financing and monitoring of large amounts of equipment and related assets. Because of the complexity and cost of developing and maintaining the platforms and vendor programs to handle such high volumes, the Company believes that there are substantial barriers to others entering into this business. Accordingly, the Company believes that its principal competitors are and will be primarily major financial institutions and their affiliates. The Company also believes that the scale on which these competitors generally operate inhibits their attention to the needs of the Company's targeted market of small manufacturers and regional distributors and provides the Company with an under-served market niche. Energy Operations General The Company produces natural gas and, to a lesser extent, oil from locations principally in Ohio, Pennsylvania and New York. At September 30, 1997, the Company had (either directly or through partnerships and joint ventures managed by it) interests in 1,129 wells, including overriding interests (of which the Company operates 799 wells), 530 miles of natural gas -30- pipelines and 81,000 acres of mineral rights, including the Company's acquisition in June 1997 from a third party of wells, pipelines and acreage. Natural gas produced from wells operated by the Company is collected in gas gathering pipeline systems owned by partnerships managed by the Company (and in which the Company also has an interest) and by systems directly owned by the Company, and is sold to a number of customers, such as gas brokers and local utilities, under a variety of contractual arrangements. Oil produced from wells operated by the Company is sold at the well site to regional oil refining companies at the prevailing spot price for Appalachian crude oil. Well Operations The following table sets forth information as of September 30, 1997 regarding productive oil and gas wells in which the Company has a working interest: Number of Productive Wells -------------------------- Gross(1) Net(1) ---------- -------- Oil Wells......................... 157 60 Gas Wells......................... 810 526 --- --- Total.......................... 967 586 === === - ---------- (1) Includes the Company's equity interest in wells owned by 64 partnerships and joint ventures. Does not include royalty or overriding interests with respect to 162 wells held by the Company. The following table sets forth net quantities of oil and natural gas produced, average sales prices, and average production (lifting) costs per equivalent unit of production, for the periods indicated, including the Company's equity interests in the production of 64 partnerships and joint ventures, for the periods indicated.
Average Lifting Production Average Sales Price Cost per ------------------------- ------------------------ Equivalent Fiscal Year Oil(bbls) Gas(mcf) per bbl per mcf mcf(1) ----------- --------- -------- ------- ------- ------ 1997 35,811 1,227,887 $19.68 $2.59 $1.13 1996 33,862 1,165,477 $18.53 $2.34 $1.04 1995 36,420 1,198,245 $16.74 $2.31 $1.06
- ---------- (1) Oil production is converted to mcf equivalents at the rate of six mcf per barrel. -31- Neither the Company nor the partnerships and joint ventures it manages are obligated to provide any fixed quantities of oil or gas in the future under existing contracts. Exploration and Development The following table sets forth information with respect to the number of wells completed in Ohio and New York (the only areas in which Company drilling activities occurred) at any time during fiscal years 1997, 1996 and 1995, regardless of when drilling was initiated.
Exploratory Wells Development Wells ----------------- ----------------- Productive Dry Productive Dry Fiscal ---------------- --------------- -------------- ------------- Year Gross Net Gross Net Gross Net Gross Net ---- ----- --- ----- --- ----- --- ----- --- 1997 1.0 .50 - - - - - - 1996 3.0 .52 1.0 .29 2.0 1.50 - - 1995 3.0 .36 2.0 .36 1.0 .87 2.0 1.75
All drilling has been on acreage held by the Company. The Company does not own its own drilling equipment; rather, it acts as a general contractor for well operations and subcontracts drilling and certain other work to third parties. Oil and Gas Reserve Information An evaluation of the Company's estimated proved developed oil and gas reserves as of September 30, 1997, was verified by E.E. Templeton & Associates, Inc., an independent petroleum engineering firm. Such study showed, subject to the qualifications and reservations therein set forth, reserves of 15.2 million mcf of gas and 358,000 barrels of oil at September 30, 1997. See Note 13 to the Consolidated Financial Statements. -32- The following table sets forth information with respect to the Company's developed and undeveloped oil and gas acreage as of September 30, 1997. The information in this table includes the Company's equity interest in acreage owned by 64 partnerships and joint ventures.
Developed Acreage Undeveloped Acreage --------------------- ------------------------ Gross Net Gross Net ----- --- ----- --- Arkansas........................... 2,560 403 - - Kansas............................. 160 20 - - Louisiana.......................... 1,819 206 - - Mississippi........................ 40 3 - - New York........................... 12,772 10,649 14,498 13,457 Ohio............................... 61,224 36,652 18,489 17,450 Oklahoma........................... 4,243 635 - - Pennsylvania....................... 2,271 1,679 - - Texas.............................. 4,520 209 - - ------ ------ ------ ---- 89,609 50,456 32,987 30,907 ====== ====== ====== ======
The terms of the oil and gas leases held by the Company's managed partnerships and by the Company for its own account vary, depending upon the location of the leased premises and the minimum remaining terms of undeveloped leases, from less than one year to five years. Rentals of approximately $27,600 were paid in fiscal 1997 to maintain leases on such acreage in force. The Company believes that the partnership, joint venture and Company properties have satisfactory title. The developed oil and gas properties are subject to customary royalty interests generally contracted for in connection with the acquisition of the properties, burdens incident to operating agreements, current taxes and easements and restrictions (collectively, "Burdens"). Presently, the partnerships, joint ventures and the Company are current with respect to all such Burdens. At September 30, 1997, the Company had no individual interests in any oil and gas property that accounted for more than 10% of the Company's proved developed oil and gas reserves, including the Company's interest in reserves owned by 64 partnerships and joint ventures. Pipeline Operation The Company operates, on behalf of three limited partnerships of which it is both a general and limited partner (in which it owns 13%, 46% and 22% interests), and for its own account, various gas gathering pipeline systems totaling approximately 530 miles in length. Such pipeline systems are located in Ohio, New York and Pennsylvania. -33- Well Services The Company provides a variety of well services to wells of which it is the operator and to wells operated by independent third party operators. These services include well operations, petroleum engineering, well maintenance and well workover and are provided at rates in conformity with general industry standards. Sources and Availability of Raw Materials The Company contracts for drilling rigs and purchases tubular goods necessary for the drilling and completion of wells from a substantial number of drillers and suppliers, none of which supplies a significant portion of the Company's annual needs. During fiscal 1997 and 1996, the Company faced no shortage of such goods and services. The duration of the current supply and demand situation cannot be predicted with any degree of certainty due to numerous factors affecting the oil and gas industry, including selling prices, demand for oil and gas, and governmental regulations. Major Customers The Company's natural gas is sold under contract to various purchasers. For the years ended September 30, 1997 and 1996, gas sales to two purchasers accounted for 29% and 12%, and 29% and 13%, respectively, of the Company's total production revenues. Gas sales to one purchaser individually accounted for approximately 15% of total revenues from energy production for fiscal 1995. Competition The oil and gas business is intensely competitive in all of its aspects. The oil and gas industry also competes with other industries in supplying the energy and fuel requirements of industrial, commercial and individual customers. Domestic oil and gas sales are also subject to competition from foreign sources. Moreover, competition is intense for the acquisition of leases considered favorable for the development of oil and gas in commercial quantities. The Company's competitors include other independent oil and gas companies, individual proprietors and partnerships. Many of these entities possess greater financial resources than the Company. While it is impossible for the Company to accurately determine its comparative industry position with respect to its provision of products and services, the Company does not consider its oil and gas operations to be a significant factor in the industry. Markets The availability of a ready market for oil and gas produced by the Company, and the price obtained therefor, will depend upon numerous factors beyond the Company's control including the extent of domestic production, import of foreign natural gas and/or oil, political instability in oil and gas producing countries and regions, market demands, the effect of federal regulation -34- on the sale of natural gas and/or oil in interstate commerce, other governmental regulation of the production and transportation of natural gas and/or oil and the proximity, availability and capacity of pipelines and other required facilities. Currently, the supply of both crude oil and natural gas is more than sufficient to meet projected demand in the United States. These conditions have had, and may continue to have, a negative impact on the Company through depressed prices for its oil and gas reserves. Governmental Regulation The exploration, production and sale of oil and natural gas are subject to numerous state and federal laws and regulations. Compliance with the laws and regulations affecting the oil and gas industry generally increases the Company's costs of doing business in, and the profitability of its energy operations. Inasmuch as such regulations are frequently changing, the Company is unable to predict the future cost or impact of complying with such regulations. The Company is not aware of any pending or threatened matter involving a claim that it has violated environmental regulations which would have a material effect on its operations or financial position. Sources of Funds Historically, the Company has relied upon internally generated funds to finance its growth. Since fiscal 1992, internally generated funds have been augmented by sales of senior lien interests and refinancings by borrowers of the Company's portfolio loans (see "- Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings"), by the issuance, in May 1994, of an $8 million principal amount 9.5% Senior Note (which has since been repaid) and, for the acquisition of one loan, purchase money financing of $13.4 million (which has since been repaid). During fiscal 1997, the Company entered into an initial $20 million credit facility for its equipment leasing operations and completed two capital markets transactions: a public offering of its common stock resulting in $19.5 million in net proceeds to the Company and a private placement of $115 million of its 12% Senior Notes due 2004 ("Senior Notes") to a small group of institutional investors, resulting in $110.6 million of net proceeds to the Company. In addition, in fiscal 1997 the Company sold equipment leases with an the aggregate book value of $30.2 million for $33.9 million (including notes in aggregate face amount of $13.3 million). Senior Notes. The Senior Notes are unsecured general obligations of the Company, payable interest only until maturity on August 1, 2004. The Senior Notes are not subject to mandatory redemption except upon a Change in Control of the Company, as defined in the indenture (the "Indenture") pursuant to which the Senior Notes were issued, when the Noteholders have the right to require the Company to redeem the Senior Notes at 101% of principal amount plus accrued interest. No sinking fund has been established for the Senior Notes. At the Company's option, the Senior Notes may be redeemed in whole or in part on or after August 1, 2002 at a price of 106% of principal amount (through July 31, 2003) and 103% of principal amount (through July 31, 2004), plus accrued interest to the date of redemption. The Indenture -35- contains covenants that, among other things, (i) require the Company to maintain certain levels of net worth (generally, an amount equal to $50 million plus a cumulative 25% of the Company's consolidated net income) and liquid assets (generally, an amount equal to 100% of required interest payments for the next succeeding interest payment date); and (ii) limit the ability of the Company and its subsidiaries to (a) incur indebtedness (not including secured indebtedness used to acquire or refinance the acquisition of loans, equipment leases or other assets), (b) pay dividends or make other distributions in excess of 25% of aggregate consolidated net income (offset by 100% of any deficit) on a cumulative basis, (c) engage in certain transactions with affiliates, (d) dispose of certain subsidiaries, (e) create liens and guarantees with respect to pari passu or junior indebtedness and (f) enter into any arrangement that would impose restrictions on the ability of subsidiaries to make dividend and other payments to the Company. The Indenture also restricts the Company's ability to merge, consolidate or sell all or substantially all of its assets and prohibits the Company from incurring additional indebtedness if the Company's "Leverage Ratio" exceeds 2.0 to 1.0. As defined by the Indenture, the Leverage Ratio is the ratio of all indebtedness (excluding debt used to acquire assets, obligations of the Company to repurchase loans or other financial assets sold by the Company, guarantees of either of the foregoing, non-recourse debt and certain securities issued by Securitization Entities, as defined in the Indenture), to the consolidated net worth of the Company. The Indenture also prohibits the Company from incurring pari passu or junior indebtedness with a maturity date prior to that of the Senior Notes. Senior Lien Interests. In fiscal years 1994 and 1995, Physicians Insurance Company of Ohio ("PICO") provided refinancing of $12 million with respect to the Company's portfolio loans through the purchase of senior lien interests in such loans. See "- Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings" and "- Loan Status." If a borrower defaults in the payment of debt service on any of these senior lien interests, the Company is required to replace the defaulted obligation with a performing obligation. The Company receives an annual mortgage servicing fee of 0.25% of the principal amount of any senior lien interests sold to PICO. In connection with the sale of these senior lien interests and the issuance of the 9.5% Senior Note, PICO was issued warrants to purchase 983,150 shares of the Company's common stock. PICO exercised these warrants in July 1997, from which the Company realized $3.66 million. The 983,150 shares were subsequently resold by PICO in a separate private placement to a small group of institutional investors. In fiscal 1996 and 1997, Commerce Bank, Philadelphia, Pennsylvania, purchased senior lien interests in four of the Company's loans for $13.8 million (of which two senior lien interests, for $4.0 million, have since been repaid). The remaining senior lien interests must be repaid before June 27, 2002 ($1.8 million) and September 29, 2002 ($8 million). If either interest is not repaid by its maturity date, the Company is required to repurchase it from Commerce for a price equal to its unpaid principal balance plus accrued interest. In fiscal 1997, Crusader Bank, Philadelphia, Pennsylvania ("Crusader") purchased a senior lien interest in one of the Company's loans for $450,000. The interest must be repaid before -36- May 21, 2002. If not repaid by its maturity date, the Company is required to repurchase the interest for a price equal to its unpaid principal balance plus accrued interest. In fiscal 1997, People's Thrift Savings Bank, Norristown, Pennsylvania ("People's Thrift") purchased senior lien interests in two of the Company's loans, each in the amount of $750,000. Each interest must be repaid before September 30, 2002. The Company receives no servicing fees from the Commerce Bank, Crusader Bank or People's Thrift Savings Bank senior lien interests. Lease Financing Credit Facility. FLI entered into an initial $20 million revolving credit facility with term loan availability with CoreStates Bank and First Union Bank for its equipment leasing operations. The facility has, in addition to customary covenants, the following principal terms: (i) revolving credit lines will have an interest rate equal to an adjusted London Interbank Offered Rate ("LIBOR") plus 175 basis points, while term loans will have an interest rate equal to an adjusted LIBOR plus 225 basis points; (ii) the loans will be secured by a first lien on the equipment leases being financed (and on the underlying equipment), a guaranty by the Company and a pledge of the capital stock of FLI and Resource Leasing, Inc. (the direct parent of FLI and a wholly-owned subsidiary of the Company); (iii) revolving credit loans may be converted to term loans (with terms of 18, 24 or 36 months), provided that term loans must be in increments of $2 million and no more than five term loans may be outstanding at any time; (iv) adjustable rate term loans may, at the option of FLI, be converted into fixed rate term loans at then quoted rates; (v) FLI will be required to maintain a debt (excluding non-recourse debt) to "worth" ratio of 4.5 to 1.0, a minimum tangible net worth equal to $5 million plus 75% of FLI's net income, and specified ratios of cash flow to the sum of debt service plus 25% of outstanding obligations under the revolving line of credit plus mandatory principal payments; and (vi) the Company will be required to maintain minimum shareholders' equity of $40 million. The facility expires on March 31, 1998 but may be renewed annually by the lenders. During fiscal 1997, the maximum borrowing by the Company under this facility was $7.1 million, all of which was repaid prior to fiscal year end. Residential Mortgage Loan Credit Facilities. On September 23, 1997, FMF entered into a $5 million credit facility with CoreStates Bank, bearing interest at either (i) the CoreStates prime rate, (ii) the federal funds rate plus 250 basis points, or (iii) an adjusted LIBOR plus 150 basis points, with the rate to be elected by FMF, and with the right in FMF to elect different rate formulas for separate draws under the credit facility. The credit facility will be secured by a first lien interest in the loans being financed by facility draws. Under the facility, FMF is required to maintain a minimum tangible net worth of $1 million, and a debt to tangible net worth ratio of 5.0 to 1.0 (where debt includes the unused portion of any financing commitment but excludes subordinated debt). The facility expires on September 22, 1998 unless renewed by the parties. On October 16, 1997, FMF established a $15 million warehouse credit facility with Morgan Stanley Mortgage Capital, Inc., bearing interest at LIBOR or, if unavailable, the -37- interbank eurodollars market rate, plus 90 basis points. The facility is secured by a first lien interest in the loans being financed by facility draws. Under the credit facility, FMF is required to maintain tangible net worth (capital and subordinated debt minus advances to affiliates and intangible assets representing start up costs in excess of $1 million), and a ratio of total indebtedness to tangible net worth of 10.0 to 1.0. The facility expires on October 16, 1998. Oil and Gas Credit Facility. On October 9, 1997, the Company obtained a $5 million credit facility from KeyBank for purposes of acquiring oil and gas assets. The credit facility permits draws based on a percentage of reserves of oil and gas properties pledged as security for the facility. Draws under the facility bear interest at KeyBank's prime rate plus 25 basis points. The facility requires the Company to maintain a tangible net worth in excess of $31 million, a 2.0 to 1.0 ratio of current assets to current liabilities, a 1.5 to 1.0 ratio of cash flow to maturities of long-term debt coming due within the calculation period and a ratio of adjusted debt to tangible net worth of not more than 2.0 to 1.0, The facility terminates on June 30, 1999. Employees As of September 30, 1997, the Company employed 137 persons, including 8 in general corporate, 37 in real estate finance, 63 in equipment leasing and 29 in energy. ITEM 2. PROPERTIES The Company's executive office is located in Philadelphia, and is leased under an agreement providing for rents of $65,000 per year through May 2000. The Company's equipment leasing and residential mortgage loan headquarters are located in Ambler, Pennsylvania, and are leased by the Company under agreements providing for rents of $355,000 per year (including space leased beginning July 1, 1997). The agreements terminate June 30, 1998 and June 30, 2007. The Company owns a 9,600 square foot office building and related land in Akron, Ohio, housing its energy and accounting operations. The Company also maintains two energy field offices in Ohio and New York and an equipment lease brokerage office in California at an aggregate rent of $46,000 per year. Aggregate rent for all of the Company's offices was $238,600 for fiscal 1997. ITEM 3. LEGAL PROCEEDINGS The Company is party to various routine legal proceedings arising out of the ordinary course of its business. Management believes that none of these actions, individually or in the aggregate, will have a material adverse effect on the financial condition or operations of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. -38- PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's Common Stock is quoted on the Nasdaq Stock Market under the symbol "REXI." The following table sets forth the high and low sale prices, as reported by Nasdaq, on a quarterly basis for the Company's last two full fiscal years and the 1998 fiscal year through November 30, 1997: High Low ---- --- Fiscal 1998 First Quarter (through November 30, 1997) $56.50 $44.50 Fiscal 1997 Fourth Quarter.................................... 51.50 25.00 Third Quarter..................................... 26.25 19.00 Second Quarter.................................... 26.50 17.75 First Quarter..................................... 19.00 12.25 Fiscal 1996 Fourth Quarter.................................... 17.50 12.00 Third Quarter..................................... 21.19 12.83 Second Quarter ................................... 16.23 7.43 First Quarter..................................... 8.63 6.58 As of November 30, 1997, there were 4,749,463 shares of Common Stock outstanding held by 800 holders of record. The Company paid regular quarterly cash dividends on its Common Stock of $.10 per share for each quarter in fiscal 1997 and for the last two quarters of fiscal 1996. The Company paid dividends of $.094 and $.089 per share during the second and first fiscal quarters of 1996. The Company declared and paid 6% stock dividends in January 1996 and April 1996, and effected a five-for-two stock split in the form of a 150% stock dividend in May 1996. Under the terms of the Senior Notes, the payment of dividends on the Company's Common Stock is restricted unless certain financial tests are met. See "- Sources of Funds: Senior Notes." -39- ITEM 6. SELECTED FINANCIAL DATA Selected financial data as of and for the five years ended September 30, 1997 are as follows (all amounts in thousands except per share data):
For the Years Ended September 30, --------------------------------- 1997 1996 1995 1994 1993 ---- ---- ---- ---- ---- Revenues Real estate finance $19,144 $ 7,171 $ 6,114 $ 2,522 $ 606 Equipment leasing 7,162 4,466 - - - Energy production 3,936 3,421 3,452 3,442 3,409 Energy services 1,672 1,736 1,879 2,080 2,445 Interest 930 197 149 136 106 ------- ------- ------- ------- ------ Total revenues 32,844 16,991 11,594 8,180 6,566 Income from continuing operations before income taxes 14,931 7,353 3,344 1,209 634 Provision (benefit) for income taxes 3,980 2,206 630 (100) 44 Income from continuing operations 10,951 5,147 2,714 1,309 590 Net income per share (primary) 2.51 1.88 1.23 .64 .30 Cash dividends per common share .40 .38 .09 - - Balance Sheet Data Total assets 195,119 43,959 37,550 34,796 25,231 Long-term debt less current maturities 118,786 8,966 8,523 8,627 813 Stockholders' equity 64,829 31,123 26,551 24,140 22,861
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS General The Company's operating results and financial condition reflect an acceleration of its shift in focus to a specialty finance company from an energy company following substantial increases in working capital due to the sale, in December 1996, of 1.7 million common shares (from which it received net proceeds of $19.5 million) and the issuance, in July 1997, of $115 million of senior unsecured notes (from which it received net proceeds of $110.6 million). These capital market transactions were primarily responsible for increasing the Company's capitalization (stockholders' equity plus long-term debt) to $183.6 million in fiscal 1997 from $40.1 million in fiscal 1996, an increase of $143.5 million (358%). The Company's gross revenues were $32.8 million in fiscal 1997, an increase of $15.8 million (93%) from $17.0 million in fiscal 1996, as compared to an increase in fiscal 1996 of $5.4 million (47%) from $11.6 million in fiscal 1995. -40- As of September 30, 1997, total assets were $195.1 million, an increase of $151.1 million (343%), from $44.0 million at September 30, 1996, as compared to an increase of $6.4 million (17%) from $37.6 million at September 30, 1995. Of the increases in total revenue during that period, the revenues from the Company's commercial real estate mortgage loan acquisition and resolution business were $19.1 million in fiscal 1997, an increase of $12.0 million (167%) from $7.2 million in fiscal 1996, as compared to an increase of $1.1 million (17%) in fiscal 1996 from $6.1 million in fiscal 1995. In addition, leasing revenues were $7.2 million in fiscal 1997, an increase of $2.7 million (60%) from $4.5 million in fiscal 1996, the year in which leasing operations commenced. Energy revenues remained relatively constant at $5.6 million, $5.2 million and $5.3 million in fiscal 1997, 1996 and 1995, respectively. Specialty finance revenues (real estate finance and equipment leasing) were 80%, 68% and 53% of total revenues in fiscal 1997, 1996 and 1995, respectively. Energy revenues were 17%, 30% and 46% of total revenues at September 30, 1997, 1996 and 1995, respectively. Specialty finance assets were 53%, 57% and 51% of total assets in fiscal 1997, 1996, and 1995, respectively. Energy assets were 8%, 29% and 37% of total assets at September 30, 1997, 1996 and 1995, respectively. Results of Operations: Commercial Mortgage Loan Acquisition and Resolution The following table sets forth certain information relating to the revenue recognized on the Company's commercial loan portfolio during the periods indicated:
Years Ended September 30, ------------------------- 1997 1996 1995 ---- ---- ---- (in thousands) Interest........................................ $ 4,877 $ 1,899 $ 2,246 Accreted discount............................... 4,124 954 1,176 Fees............................................ 2,556 675 963 Gains on refinancings and sale of senior lien interests...................... 7,587 3,643 1,729 ------- ------- ------- Total........................................... $19,144 $7,171 $6,114 ------- ------ ------ Average balance of investments, net............. $55,307 $19,804 $17,683 Yield on net average balance.................... 34.7% 36.2% 34.6%
Year Ended September 30, 1997 Compared to Year Ended September 30, 1996 During fiscal 1997, the Company purchased or originated eighteen loans, for a total cost of $71.7 million, as compared to the purchase of nine loans for a total of $15.1 million in fiscal 1996. The average investment in the eighteen loans was $4.0 million and ranged from a high of $19.2 million to a low of $400,000, whereas in fiscal 1996, the average investment in the nine loans was $1.7 million and ranged from a high of $3.8 million to a low of $100,000. In addition, the Company increased its investment in certain existing loans by an aggregate of $1.9 million in fiscal 1997, and an aggregate of $2.6 million in fiscal 1996 for purposes of paying for -41- property improvement costs, unpaid taxes and similar items relating to properties underlying portfolio loans. The increased investments had been anticipated by the Company at the time of loan acquisition and were included in its analysis of loan costs and yields. Revenues from commercial mortgage loan acquisition and resolution operations increased to $19.1 million in fiscal 1997 from $7.2 million in fiscal 1996, an increase of 167%. The increase in fiscal 1997 was attributable to (i) an increase of $6.1 million (215%) in interest income (including accretion of discount) resulting from an increase in the average amount of loans outstanding during fiscal 1997 as compared to the prior fiscal year and (ii) gains recognized on the refinancing of loans and sale of senior lien interests in loans held by the Company which increased to $7.6 million in fiscal 1997 from $3.6 million in fiscal 1996, an increase of $4.0 million (108%). Fees increased to $2.6 million in fiscal 1997 from $675,000 in fiscal 1996 an increase of $1.9 million (279%) due to the Company's increased ability to utilize its expertise in financial, partnership and income tax structuring; services related to bankruptcy issues of borrowers; and real estate management oversight services. Fees vary from transaction to transaction and there may be significant variations in the Company's fee income from period to period. The Company sold senior lien interests in or refinanced eight loans during each of fiscal 1997 and fiscal 1996, realizing proceeds of $16.5 million and $18.0 million, respectively. Real estate costs and expenses increased 25% in fiscal 1997 compared to fiscal 1996. The increase was primarily a result of higher personnel costs associated with the expansion of this operation. As a consequence of the foregoing, the Company's gross profit from commercial mortgage loan acquisition and resolution operations increased to $16.5 million in fiscal 1997 from $6.3 million in fiscal 1996 (163%). Year Ended September 30, 1996 Compared to Year Ended September 30, 1995 Revenues from commercial mortgage loan acquisition and resolution operations increased to $7.2 million in fiscal 1996 from $6.1 million in fiscal 1995. This increase was attributable to increases of 111% in gains recognized on the refinancing of loans and sale of senior lien interests in loans held by the Company. Fees decreased 30% in fiscal 1996 as compared to fiscal 1995 due to a reduction in the number of refinancings of, and sales of senior lien interests in, certain of the Company's portfolio loans occurring during fiscal 1996 as compared to fiscal 1995. The Company sold senior lien interests in or refinanced eight and eleven loans during fiscal years 1996 and 1995, respectively, realizing proceeds of $18.0 million and $10.2 million, respectively. During fiscal 1996, the Company purchased or originated nine real estate loans, for a total cost of $15.1 million, as compared to seven loans for a total of $13.6 million in fiscal 1995. In addition, the Company increased its investment in certain existing loans by $2.6 million in fiscal 1996 and $1.3 million in fiscal 1995 for purposes of paying for property improvement costs, unpaid taxes and similar items relating to properties underlying portfolio loans. The increased investments had been anticipated by the Company at the time of loan acquisition and were included in its analysis of loan costs and yields. In addition, in fiscal 1996 the Company increased its investment in loans by $535,000 in connection with its repurchase of certain senior lien interests to facilitate borrower refinancings and received a note for $317,000 (thus increasing -42- its investment in loans) in connection with granting its consent to the sale (subject to the Company's existing mortgage loan) of another property by a borrower. Real estate costs and expenses increased 6% in fiscal 1996 as compared to fiscal 1995. The increase was primarily a result of higher personnel costs associated with the expansion of these operations. It should be noted that certain reclassifications have been made to the consolidated financial statements for fiscal years 1996 and 1995 to conform to the fiscal 1997 presentation. As a consequence of the foregoing, the Company's gross profit from commercial mortgage loan acquisition and resolution operations increased to $6.3 million for fiscal 1996 from $5.3 million for fiscal 1995 (19%). Results of Operations: Equipment Leasing The following table sets forth certain information relating to the revenue recognized in the Company's equipment leasing operations during the periods indicated: Years Ended September 30, ------------------ 1997 1996 ---- ---- (in thousands) Small ticket leasing Gain on sale of leases........................ $3,711 $ - Interest and fees............................. 1,081 7 Partnership management........................... 1,713 3,809 Lease finance placement and advisory services.............................. 657 650 ------ ------ Total......................................... $7,162 $4,466 ====== ====== The following table sets forth certain information relating to expenses recognized in the Company's equipment leasing operations during the periods indicated: Years Ended September 30, ------------------ 1997 1996 ---- ---- (in thousands) Small ticket leasing.............................. $2,051 $ 425 Partnership management............................ 1,243 1,471 Lease finance placement and advisory services............................... 528 443 ------ ------ Total.......................................... $3,822 $2,339 ====== ====== -43- In June 1996, the Company entered the "small ticket" leasing business and began writing leases in August 1996. In fiscal 1997, the Company acquired equipment for lease with a cost of $34.6 million. During the year ended September 30, 1997, the Company sold leases with a book value of approximately $30.2 million to special-purpose financing entities in return for cash of $20.6 million and notes with face values of $13.3 million, resulting in gains on sale of $3.7 million. During fiscal 1997, the Company collected $8.5 million in principal payments on the notes. Small ticket leasing expenses increased as a result of the start-up of small ticket leasing activities in June 1996. Partnership management expenses decreased as a result of the liquidation of one partnership. Lease placement and advisory expenses increased as a result of an increase in commissions paid. The decrease in partnership management revenue in fiscal 1997 as compared to the prior year period was the result of the liquidation, in accordance with the terms of its partnership agreement, of one leasing partnership in the first quarter of fiscal 1996. Partnership management revenue in fiscal 1996 includes the settlement of the Company's general partner share of revenues from prior fiscal periods. The Company now acts as general partner for six limited partnerships which held a total of $55.2 million (original equipment cost) in leased assets at September 30, 1997. Results of Operations: Energy Oil and gas revenues from production sales increased 16% in fiscal 1997 as compared to fiscal 1996, which remained essentially constant from fiscal 1995. A comparison of oil and gas sales revenue, daily production volumes, and average sales prices for the years indicated is as follows:
Years Ended September 30, ------------------------- 1997 1996 1995 ---- ---- ---- Sales (in thousands) Gas(1)....................................... $ 3,178 $ 2,722 $ 2,762 Oil........................................... $ 705 $ 627 $ 610 Production volumes (in thousands) Gas (mcf/day)(1).............................. 3,364 3,184 3,283 Oil (bbls/day)................................ 98 93 100 Average sales prices Gas (per mcf)................................. $ 2.59 $ 2.34 $ 2.31 Oil (per bbl).............................. $ 19.68 $ 18.53 $ 16.74
- ---------- (1) Excludes sales of residual gas and sales to landowners. -44- Natural gas revenues from production sales increased 17% in fiscal 1997 from fiscal 1996 due to a 6% increase in production volumes and an 11% increase in the average price per mcf of natural gas. In fiscal 1996, natural gas revenues decreased 1% from fiscal 1995 as a result of a 3% decrease in production volumes partially offset by a 1% increase in the average price per mcf of natural gas. Oil revenues increased by 12% in fiscal 1997 from fiscal 1996 due to a 6% increase in the average price per barrel and a 5% increase in production volumes. Primarily as a result of these changes, the Company's operating profit from energy production (energy production revenues less energy production and exploration costs) increased to $1.6 million in fiscal 1997 from $1.4 million in fiscal 1996 and $1.1 million in fiscal 1995. The Company continues to experience normally declining production from its properties located in New York State. This decline has been offset by the acquisition of additional well interests in Ohio in June 1997. The Company participated in the drilling of three successful exploratory wells and two successful developmental wells during 1996. The impact on revenues from these wells were realized in the Company's financial statements in fiscal 1997. In fiscal 1995, the Company participated in the drilling of three successful exploratory wells and recompleted one successful development well. A comparison of the Company's production costs as a percentage of oil and gas sales, and the production cost per equivalent unit for oil and gas for fiscal years 1997, 1996 and 1995, is as follows:
Years Ended September 30, ------------------------- 1997 1996 1995 ---- ---- ---- Production Costs As a percent of sales........................ 42% 42% 44% Gas (mcf).................................... $1.13 $1.04 $1.06 Oil (bbl).................................... $6.80 $6.23 $6.36
Production costs increased $215,000 (15%) in fiscal 1997 from fiscal 1996 as a result of a increase in the number of wells requiring cleanout and workover operations. These operations are conducted on an as-needed basis and, accordingly, costs incurred by the Company may vary from year to year. Production costs also increased in fiscal 1997 as the result of the acquisition of interests in 288 wells in Ohio. Production costs decreased $81,000 (5%) in fiscal 1996 from fiscal 1995, a result of a decrease in the number of wells requiring cleanout and workover operations. Exploration costs increased $26,000 (16%) in fiscal 1997 and decreased $69,000 (30%) in fiscal 1996 from the previous fiscal periods. The fiscal 1997 increase was the result of an increase in delay rentals paid on lease acreage held by the Company. During fiscal 1997, the Company participated in one successful exploratory well and had lease value impairments totalling $6,000. The 1996 decrease resulted from a decrease in delay rentals and impairment of lease costs which resulted from a termination of certain leases in New York State in fiscal -45- 1995 and reduced costs relating to dry holes. During fiscal 1996 the Company participated in one exploratory dry hole and had lease impairments totaling $50,000. During fiscal 1995, the Company's participation in two exploratory dry holes and lease impairments and delay rentals totaled $145,000. Amortization of oil and gas property costs as a percentage of oil and gas revenues was 18% in fiscal 1997, 23% in fiscal 1996 and 27% in fiscal 1995. The variance from year to year is directly attributable to changes in the Company's oil and gas reserve quantities, product prices and fluctuations in the depletable cost basis of oil and gas properties. See Note 2 to the Consolidated Financial Statements. Results of Operations: Other Income (Expense) General and administrative expense increased by $1.1 million (62%) for fiscal 1997 as compared to fiscal 1996 primarily as a result of costs associated with the Company's residential mortgage loan business, higher legal and professional fees and the payment of incentive and retirement compensation to executive officers. General and administrative expense decreased $509,000 (22%) for the year ended September 30, 1996 as compared to the same period in fiscal 1995 primarily as a result of a decrease in executive compensation due to the death of a senior officer in July 1995 and the reclassification of wages which were previously in general and administrative expense to real estate expense. Interest expense increased to $5.3 million in fiscal 1997 from $872,000 in fiscal 1996, an increase of $4.4 million (505%) reflecting the increases in borrowings to fund the growth of the Company's real estate finance and small ticket leasing operations. In July 1997, the Company issued $115 million of its Senior Notes and in December 1996, the Company incurred purchase money financing of $13.4 million to fund the acquisition of a series of mortgage loans on a property located in Philadelphia, Pennsylvania (see Note 6 to Consolidated Financial Statements). This borrowing was repaid in July 1997. Interest expense decreased $219,000 during fiscal 1996 as a result of a decrease in average debt outstanding during the period due to loan repayments. The effective tax rate decreased to 27% in fiscal 1997 from 30% in fiscal 1996 which increased from 19% in fiscal 1995. The fiscal 1997 decrease resulted from the purchase of real estate loans which generate tax exempt interest as well as the investment in several low-income housing partnerships and the low income housing tax credits associated with such investments. The increase from fiscal 1995 to fiscal 1996 was the result of a continuing decrease in the generation of depletion (for tax purposes) and tax credits in relation to net income. -46- Liquidity and Capital Resources Sources and uses of cash and cash equivalents for the three years ended September 30, 1997, 1996 and 1995 are as follows:
1997 1996 1995 ---- ---- ---- (in thousands) Provided by operating activities................ $ 4,091 $2,959 $1,578 Used in investing activities.................... (63,139) (1,060) (6,113) Provided by (used in) financing activities................................... 124,173 (202) 4,395 -------- ------- ------ $ 65,125 $1,697 $ (140) ======== ====== ======
Year Ended September 30, 1997 Compared to Year Ended September 30, 1996 As discussed above, the Company was able to raise net proceeds of $19.5 million from its equity offering and $110.6 million from its offering of Senior Notes during fiscal 1997. These activities, coupled with the Company's increased profitability, resulted in the Company having $69.3 million in cash and cash equivalents on hand at September 30, 1997, as compared to $4.2 million at September 30, 1996. The Company's ratio of current assets to current liabilities was 6.7 to 1.0 at September 30, 1997 and 3.7 to 1.0 at September 30, 1996. The Company's ratio of earnings to fixed charges was 3.8 to 1.0 at September 30, 1997 and 9.4 to 1.0 at September 30, 1996. Working capital at September 30, 1997 was $61.4 million as compared to $4.4 million at September 30, 1996, as the Company had not fully deployed the proceeds from the Senior Notes offering. Cash provided by operating activities increased $1.1 million, or 38%, during fiscal 1997, as compared to fiscal 1996. The fiscal 1997 increase was primarily the result of an increase in operating income in the commercial real estate mortgage loan acquisition and resolution and equipment leasing businesses. The Company's cash used in investing activities increased $62.1 million in fiscal 1997 as compared to fiscal 1996. The increase resulted primarily from increases in the amount of cash used to fund commercial mortgage loan acquisition and resolution activities. The Company invested $71.7 million and $15.1 million in the acquisition of eighteen and nine loans in fiscal years 1997 and 1996, respectively. In addition, the Company advanced funds on existing loans of $1.9 million and $2.6 million in fiscal years 1997 and 1996, respectively. Proceeds received upon refinancings or the sale of senior lien interests amounted to $16.5 million and $18.5 million in fiscal years 1997 and 1996, respectively. Cash used for capital expenditures increased $694,000, or 63%, during fiscal year 1997 over fiscal 1996. The 1997 -47- increase includes $507,000 in capital expenditures relating to the Company's residential mortgage loan business. During fiscal 1997, the Company invested $1.2 million in 288 wells, operating rights and pipelines located in Ohio. The cost of equipment acquired for lease was $34.6 million in fiscal 1997 as compared to $731,000 in fiscal 1996, an increase of $33.9 million, as a result of the full year's activity for the small ticket leasing business in fiscal 1997 as compared to two months in fiscal 1996. The Company's cash flow provided by financing activities increased $124.4 million during fiscal 1997, as compared to fiscal 1996 as a result of the additional borrowings discussed above. Year Ended September 30, 1996 Compared to Year Ended September 30, 1995 The Company had $4.2 million in cash and cash equivalents on hand at September 30, 1996, as compared to $2.5 million at September 30, 1995. The Company's ratio of current assets to current liabilities was 3.7 to 1.0 at September 30, 1996 and 3.0 to 1.0 at September 30, 1995. Working capital at September 30, 1996 was $4.4 million as compared to $2.6 million at September 30, 1995. Cash provided by operating activities increased $1.4 million, or 88% during fiscal 1996, as compared to fiscal 1995. This increase was primarily the result of an increase in operating income in the commercial mortgage loan acquisition and resolution and equipment leasing businesses. The Company's cash used in investing activities decreased $5.1 million or 83% during fiscal 1996, as compared to fiscal 1995. The change resulted primarily from changes in the amount of cash used to fund commercial mortgage loan acquisition and resolution activities. The Company invested $15.1 million and $13.6 million in the acquisition of nine and seven loans in fiscal years 1996 and 1995, respectively. In addition, the Company advanced funds on existing loans of $2.6 million and $1.3 million in fiscal years 1996 and 1995, respectively, and in fiscal 1996 increased its investment in certain existing loans by $852,000. Proceeds received upon refinancings or the sale of senior lien interests amounted to $18.5 million and $10.2 million in fiscal years 1996 and 1995, respectively. Cash used for capital expenditures increased $280,000, or 34% during fiscal year 1996 over the previous period. This increase includes $506,000 in capital expenditures relating to the start-up of small ticket leasing operations. Cost of equipment acquired for lease represents the equipment cost and initial direct costs associated with the start up of small ticket leasing operations. The Company commenced leasing operations for its own account in June 1996 and began to write leases in August 1996. Cash flow provided by financing activities decreased $4.6 million during fiscal 1996, as compared to fiscal 1995. During fiscal 1995, the Company (i) sold a $2.0 million senior lien interest, (ii) borrowed $2.5 million and (iii) was able to release for corporate investment purposes $4.9 million of restricted cash as a result of the purchase of loans for the Company's portfolio. -48- Dividends In fiscal years 1997, 1996 and 1995, $1.4 million, $757,000 and $161,000 were paid in dividends, respectively. The Company has paid regular dividends since August 1995. The determination of the amount of future cash dividends, if any, to be declared and paid is in the sole discretion of the Company's Board of Directors and will depend on the various factors affecting the Company's financial condition and other matters the Board of Directors deems relevant. Inflation and Changes in Prices Inflation affects the Company's operating expenses and increases in those expenses may not be recoverable by increases in finance rates chargeable by the Company. Inflation also affects interests rates and movements in rates may adversely affect the Company's profitability. The Company's revenues and the value of its oil and gas properties have been and will continue to be affected by changes in oil and gas prices. Oil and gas prices are subject to fluctuations which the Company is unable to control or accurately predict. Computer Systems and Year 2000 Issue The "year 2000 issue" is the result of computer programs being written using two digits, rather than four digits, to identify the year in a date field. Any computer programs using such a system, and which have date sensitive software, will not be able to distinguish between the year 2000 and the year 1900. This could result in miscalculations or an inability to process transactions, send invoices or engage in similar normal business activities. Based upon a recent assessment by the Company, the Company has in place year 2000 capable systems for its equipment leasing and residential mortgage loan operations. The Company's commercial mortgage loan acquisition and resolution operations will be required to purchase year 2000 capable computer software, but believes that its requirements can be met by commercially available software. The Company has determined that it will be required to modify and, possibly, replace material portions of the software relating to its energy operations, and has commenced the remediation process. With respect to both its commercial mortgage loan acquisition and resolution operations and its energy operations, the Company anticipates that remediation will be completed on or before March 31, 1999 and that the aggregate costs of such remediations will not be material. The Company has made inquiries concerning the year 2000 issue to its significant suppliers of services (including BCMI) and, with respect to its energy operations, the two largest purchasers of its products. Based thereon, the Company believes that it will not be materially adversely impacted by year 2000 issues pertaining to such entities. However, there can be no assurance that the systems of third parties will be year 2000 compatible in a timely fashion, or -49- that failure to achieve compatibility by such entities will not have a material adverse effect on the Company. Environmental Regulation A continued trend to greater environmental and safety awareness and increasing environmental regulation has resulted in higher operating costs for the oil and gas industry and the Company. The Company monitors environmental and safety laws and believes it is in compliance with such laws and applicable regulations thereunder. To date, compliance with environmental laws and regulations has not had a material impact on the Company's capital expenditures, earnings or competitive position. The Company believes, however, that environmental and safety costs will increase in the future. There can be no assurance that compliance with such laws will not, in the future, materially impact the Company. -50- ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Report of Independent Certified Public Accountants Stockholders and Board of Directors RESOURCE AMERICA, INC. We have audited the accompanying consolidated balance sheets of Resource America, Inc. and subsidiaries as of September 30, 1997 and 1996, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for each of the three years in the period ended September 30, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Resource America, Inc. and subsidiaries as of September 30, 1997 and 1996, and the consolidated results of their operations and cash flows for each of the three years in the period ended September 30, 1997, in conformity with generally accepted accounting principles. We have also audited Schedule IV as of September 30, 1997. In our opinion, this schedule presents fairly, in all material respects, the information required to be set forth therein. /s/ Grant Thornton LLP - -------------------------------- Grant Thornton LLP Cleveland, Ohio November 6, 1997 -51- RESOURCE AMERICA, INC. CONSOLIDATED BALANCE SHEETS SEPTEMBER 30, 1997 AND 1996
1997 1996 --------- --------- (in thousands) ASSETS Current Assets Cash and cash equivalents ................................... $ 69,279 $ 4,154 Accounts and notes receivable ............................... 2,414 1,479 Prepaid expenses and other current assets ................... 576 473 --------- --------- Total current assets ................................. 72,269 6,106 Investments in Real Estate Loans (less allowance for possible losses of $400 and $0) ............................. 88,816 21,798 Notes Secured by Equipment Leases ............................. 4,761 -- Net Investment in Direct Financing Leases (less allowance for possible losses of $248 and $7) .. 3,391 729 Property and Equipment Oil and gas properties and equipment (successful efforts) ... 24,939 24,035 Gas gathering and transmission facilities ................... 1,606 1,536 Other ....................................................... 2,874 1,666 --------- --------- 29,419 27,237 Less accumulated depreciation, depletion, and amortization .. (15,793) (14,857) --------- --------- 13,626 12,380 Other Assets (less accumulated amortization of $1,014 and $885) 12,256 2,946 --------- --------- $ 195,119 $ 43,959 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Current maturities of long-term debt ........................ $ 708 $ 105 Accounts payable ............................................ 1,339 585 Accrued interest ............................................ 2,734 253 Accrued liabilities ......................................... 1,967 344 Estimated income taxes ...................................... 4,093 377 --------- --------- Total current liabilities ............................ 10,841 1,664 Long-Term Debt, less current maturities ....................... 118,786 8,966 Other Long-Term Liabilities ................................... 663 -- Deferred Income Taxes ......................................... -- 2,206 Commitments and Contingencies Stockholders' Equity Preferred Stock, $1.00 par value; 1,000,000 authorized shares -- -- Common Stock, $.01 par value; 8,000,000 authorized shares ... 54 20 Additional paid-in capital .................................. 56,787 21,761 Retained earnings ........................................... 22,005 12,458 Less treasury stock, at cost ................................ (13,664) Less loan receivable from Employee Stock Ownership Plan ..... (353) (417) --------- --------- Total stockholders' equity ........................... 64,829 31,123 --------- --------- $ 195,119 $ 43,959 ========= =========
See accompanying notes to consolidated financial statements. -52- RESOURCE AMERICA, INC. CONSOLIDATED STATEMENTS OF INCOME YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995
1997 1996 1995 ----------- ----------- ----------- (in thousands, except per share data) REVENUES Real Estate Finance ....................... $ 19,144 $ 7,171 $ 6,114 Equipment Leasing ......................... 7,162 4,466 -- Energy: Production ........................ 3,936 3,421 3,452 Services ........................ 1,672 1,736 1,879 Interest .................................. 930 197 149 ----------- ----------- ----------- 32,844 16,991 11,594 COSTS AND EXPENSES Real Estate Finance ....................... 1,069 852 801 Equipment Leasing ......................... 3,822 2,339 -- Energy: Exploration and Production ........ 1,823 1,582 1,733 Services ........................ 909 869 1,026 General and Administrative ................ 2,851 1,756 2,265 Depreciation, Depletion and Amortization .. 1,614 1,368 1,335 Interest .................................. 5,273 872 1,091 Provision for Possible Losses ............. 653 7 -- Other - Net ............................... (27) -- (2) ----------- ----------- ----------- 17,987 9,645 8,249 ----------- ----------- ----------- Income from Operations ........... 14,857 7,346 3,345 OTHER INCOME (EXPENSE) Gain (Loss) on Sale of Property ........... 74 7 (1) ----------- ----------- ----------- Income Before Income Taxes ................ 14,931 7,353 3,344 Provision for Income Taxes ................ 3,980 2,206 630 ----------- ----------- ----------- Net Income ................................ $ 10,951 $ 5,147 $ 2,714 =========== =========== =========== Net Income Per Common Share - Primary ..... $ 2.51 $ 1.88 $ 1.23 ----------- ----------- ----------- Weighted Average Common Shares Outstanding 4,358,400 2,756,900 2,235,400 =========== =========== =========== Net Income Per Common Share - Fully Diluted $ 2.50 $ 1.87 $ 1.18 ----------- ----------- ----------- Weighted Average Common Shares Outstanding 4,385,200 2,763,000 2,292,700 =========== =========== ===========
See accompanying notes to consolidated financial statements. -53- RESOURCE AMERICA, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995 (dollar amounts in thousands)
Additional ESOP Total Common Stock Paid-In Retained Treasury Stock Loan Stockholders' Shares Amount Capital Earnings Shares Amount Receivable Equity ------ ------ ------- -------- ------ ------ ---------- ------ Balance, October 1, 1994 817,912 $ 8 $ 19,136 $ 7,979 (131,402) $ (2,437) $(546) $24,140 Treasury shares acquired (21,298) (284) (284) Cash dividends ($.09 per share) (161) (161) Warrants issued 78 78 Repayment of ESOP loan 64 64 Net income 2,714 2,714 - ------------------------------------------------------------------------------------------------------------------------------- Balance, September 30, 1995 817,912 $ 8 $ 19,214 $10,532 (152,700) $(2,721) $(482) $26,551 Treasury shares issued (24) 1,889 39 15 6% stock dividends 82,688 1 2,453 (2,453) 1 5 for 2 stock split effected in the form of a 150% stock dividend 1,136,609 11 (11) Issuance of common stock 10,000 77 77 Treasury shares acquired (1,637) (17) (17) Cash dividends ($.38 per share) (757) (757) Warrants issued 41 41 Repayment of ESOP loan 65 65 Net income 5,147 5,147 - ------------------------------------------------------------------------------------------------------------------------------- Balance, September 30, 1996 2,047,209 $20 $21,761 $12,458 (152,448) $(2,699) $(417) $31,123 Treasury shares issued (34) 23,023 483 449 Issuance of common stock 3,363,436 34 35,060 35,094 Treasury shares acquired (579,623) (11,448) (11,448) Cash dividends ($.40 per share) (1,404) (1,404) Repayment of ESOP loan 64 64 Net income 10,951 10,951 - ------------------------------------------------------------------------------------------------------------------------------- Balance, September 30, 1997 5,410,645 $54 $56,787 $22,005 (709,048) $(13,664) $(353) $64,829 ========= === ======= ======= ======== ======== ===== =======
See accompanying notes to consolidated financial statements -54- RESOURCE AMERICA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995
1997 1996 1995 ---- ---- ---- (in thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income ............................................ $ 10,951 $ 5,147 $ 2,714 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization ...................... 1,614 1,368 1,335 Amortization of discount on senior note and deferred finance costs .................................... 657 75 74 Provision for losses ............................... 653 7 -- Deferred income taxes .............................. (2,206) 1,059 473 Accretion of discount .............................. (4,124) (954) (1,176) Gain on asset dispositions ......................... (11,375) (3,650) (1,727) Property impairments and abandonments .............. 38 71 56 Change in operating assets and liabilities: (Increase) decrease in accounts receivable ......... (935) (175) 81 (Increase) decrease in prepaid expenses and other current assets ......................... (103) (310) 88 Increase (decrease) in accounts payable ............ 754 (137) (291) Increase (decrease) in accrued income taxes ........ 3,716 377 (100) Increase in other liabilities ...................... 4,451 81 51 --------- --------- --------- Net cash provided by operating activities ............. 4,091 2,959 1,578 CASH FLOWS FROM INVESTING ACTIVITIES: Acquisition of business, less cash acquired ........... (1,226) -- (877) Cost of equipment acquired for lease .................. (34,567) (731) -- Capital expenditures .................................. (1,791) (1,097) (817) Principal payments on notes receivable ................ 8,514 -- -- Proceeds from sale of assets .......................... 37,713 18,577 10,348 Increase in other assets .............................. (3,319) (152) (59) Investments in real estate loans ...................... (69,857) (17,650) (14,708) Payments received (revenue recognized) in excess of revenue recognized (cash received) on leases ........ 1,394 (7) -- --------- --------- --------- Net cash used in investing activities ................. (63,139) (1,060) (6,113) CASH FLOWS FROM FINANCING ACTIVITIES: Long-term borrowings .................................. 129,320 536 2,000 Dividends paid ........................................ (1,404) (756) (161) (Increase) decrease in other assets ................... (5,376) (31) 4,864 Principal payments on debt ............................ (22,148) (27) (4,524) Purchase of treasury stock ............................ -- (17) (284) Increase in short term borrowings ..................... -- -- 2,500 Proceeds from issuance of stock ....................... 23,781 93 -- --------- --------- --------- Net cash provided by (used in) financing activities ... 124,173 (202) 4,395 --------- --------- --------- Increase (decrease) in cash and cash equivalents ...... 65,125 1,697 (140) Cash and cash equivalents at beginning of year ........ 4,154 2,457 2,597 --------- --------- --------- Cash and cash equivalents at end of year .............. $ 69,279 $ 4,154 $ 2,457 ========= ========= =========
See accompanying notes to consolidated financial statements -55- NOTE 1-NATURE OF OPERATIONS Resource America, Inc. (the "Company") is a specialty finance company engaged in three lines of business: (1) the financing of mortgage loans, including the acquisition and resolution of commercial real estate loans and, beginning in the fiscal year ending September 30, 1998, the origination, acquisition and sale of residential loans; (2) commercial equipment leasing, and (3) energy operations, including natural oil and gas production. Based on net assets and net income, the financing of mortgage loans is the dominant current business line. The markets for the Company's business lines are as follows: in the financing of mortgage loans, the Company obtains its commercial mortgage loans on properties located throughout the United States from various financial institutions and other organizations, while its residential mortgage loans will be obtained through direct mail supported by outbound telemarketing and several wholesale channels to potential borrowers throughout the United States; in commercial equipment leasing, the Company markets its equipment leasing products nationwide through equipment manufacturers, regional distributors and other vendors; and in energy, gas is sold to a number of customers such as gas brokers and local utilities; oil is sold at the well site to regional oil refining companies in the Appalachian basin. The Company's ability to acquire and resolve commercial mortgage loans, obtain residential mortgage loans and to fund equipment lease transactions will be dependent on the continued availability of funds. The availability of third-party financing for each of these specialty finance businesses will be dependent upon a number of factors over which the Company has limited or no control, including general conditions in the credit markets, the size and liquidity of the market for the types of real estate loans or equipment leases in the Company's portfolio and the respective financial performance of the loans and equipment leases in the Company's portfolio. The Company's growth will also depend on its continued ability to generate attractive opportunities for acquiring commercial mortgage loans at a discount and to originate equipment leases. The availability of loans for acquisition on terms acceptable to the Company will be dependent upon a number of factors over which the Company has no control, including economic conditions, interest rates, the market for and value of properties securing loans which the Company may seek to acquire, and the willingness of financial institutions to dispose of troubled or under-performing loans in their portfolios. Mortgage loans and equipment leases are subject to the risk of default in payment by borrowers and lessees. Mortgage loans are further subject to the risk that declines in real estate values could result in the Company being unable to realize the property values projected. -56- NOTE 2-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The consolidated financial statements include the accounts of the Company, and its wholly owned subsidiaries and its pro rata share of the assets, liabilities, income, and expenses of the oil and gas partnerships in which the Company has an interest. All material intercompany transactions have been eliminated. All per share amounts and references to numbers of shares give effect to 6% stock dividends paid in both January and April 1996 and a five-for-two stock split (effected in the form of a 150% stock dividend) in May 1996. Use of Estimates Preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates. Impairment of Long-Lived Assets The Company reviews its long-lived assets for impairment whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. If it is determined that an asset's estimated future cash flows will not be sufficient to recover its carrying amount, an impairment charge will be recorded to reduce the carrying amount for that asset to its estimated fair value. Stock-Based Compensation The Company adopted the disclosure only option under Statement of Financial Accounting Standards ("SFAS") No. 123, Accounting for Stock Based Compensation, effective January 1, 1997. As such, the Company recognizes compensation expense with respect to stock option grants to employees using the intrinsic value method prescribed by Accounting Principles Board Opinion No. 25. Accordingly, SFAS No. 123 had no impact on the Company's financial position or results of operations (see Note 9). Transfers of Financial Assets The Company adopted SFAS No. 125, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities effective January 1, 1997. This statement is effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after December 31, 1996, and is to be applied prospectively. Earlier or retroactive application was not permitted. The adoption of SFAS 125 did not have a material impact on the Company's financial position or results of operations. -57- Oil and Gas Properties The Company follows the successful efforts method of accounting. Accordingly, property acquisition costs, costs of successful exploratory wells, all development costs, and the cost of support equipment and facilities are capitalized. Costs of unsuccessful exploratory wells are expensed when such wells are determined to be nonproductive. The costs associated with drilling and equipping wells not yet completed are capitalized as uncompleted wells, equipment, and facilities. Geological and geophysical costs and the costs of carrying and retaining undeveloped properties, including delay rentals, are expensed as incurred. Production costs, overhead, and all exploration costs other than costs of exploratory drilling are charged to expense as incurred. Unproved properties are assessed periodically to determine whether there has been a decline in value and, if such decline is indicated, a loss is recognized. The Company compares the carrying value of its oil and gas producing properties to the estimated future cash flow, net of applicable income taxes, from such properties in order to determine whether their carrying values should be reduced. No adjustment was necessary during the fiscal years ended September 30, 1997, 1996 or 1995. On an annual basis, the Company estimates the costs of future dismantlement, restoration, reclamation, and abandonment of its gas and oil producing properties. Additionally, the Company evaluates the estimated salvage value of equipment recoverable upon abandonment. At both September 30, 1997 and 1996 the Company's evaluation of equipment salvage values was greater than or equal to the estimated costs of future dismantlement, restoration, reclamation, and abandonment. Depreciation, Depletion and Amortization Proved developed oil and gas properties, which include intangible drilling and development costs, tangible well equipment, and leasehold costs, are amortized on the unit-of-production method using the ratio of current production to the estimated aggregate proved developed oil and gas reserves. Depreciation of property and equipment, other than oil and gas properties, is computed using the straight-line method over the estimated economic lives, which range from 3 to 25 years. Other Assets Included in other assets are intangible assets that consist primarily of contracts acquired through acquisitions recorded at fair value on their acquisition dates, the excess of the acquisition cost over the fair value of the net assets of a business acquired (goodwill) and deferred financing costs. The contracts acquired are being amortized on a declining balance -58- method over their respective estimated lives, ranging from five to thirteen years, goodwill is being amortized on a straight-line basis over fifteen years, deferred financing costs are being amortized over the terms of the related loans (two to seven years) and other costs are being amortized over varying periods of up to five years. Other assets at September 30, 1997 and 1996 were: September 30, ------------- 1997 1996 ---- ---- (in thousands) Contracts acquired............................ $ 1,636 $ 549 Goodwill...................................... 709 518 Deferred financing costs...................... 5,240 512 Investment in real estate partnerships........ 1,827 22 Restricted cash............................... 1,052 935 Other ........................................ 1,792 410 ------- ------ Total.................................... $12,256 $2,946 ======= ====== Fair Value of Financial Instruments The following methods and assumptions were used by the Company in estimating the fair value of each class of financial instruments for which it is practicable to estimate fair value. For cash and cash equivalents, receivables and payables, the carrying amounts approximate fair value because of the short maturity of these instruments. For long-term debt, including current maturities, the fair value of the Company's long-term debt approximates historically recorded cost since interest rates approximate market. Based upon available market information and appropriate valuation methods, the Company believes the carrying cost of investments in direct financing leases approximates fair value. For investments in real estate loans, the Company believes the carrying amounts of the loans are reasonable estimates of their fair value considering the nature of the loans and the estimated yield relative to the risks involved. Concentration of Credit Risk Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of periodic temporary investments of excess cash. The Company places its temporary excess cash investments in high quality short-term money -59- market instruments, principally at Jefferson Bank (see Note 3), and other high quality financial institutions. The amounts of these instruments may at times be in excess of the FDIC insurance limit. At September 30, 1997, the Company had $67.7 million in deposits at Jefferson Bank, of which $66.6 million is over the FDIC insurance limit. No losses have been experienced on such investments. Revenue Recognition Real Estate Finance The difference between the Company's cost basis in a loan and the sum of projected cash flows from, and the appraised value of, the underlying property (up to the amount of the loan) is accreted into interest income over the estimated life of the loan using a method which approximates the level interest method. Projected cash flows and appraised values of the property are reviewed on a regular basis and changes to the projected amounts reduce or increase the amounts accreted into interest income over the remaining life of the loan. Gains on the sale of a senior lien interest in a loan (or gains, if any, from the refinancing of a loan) are recognized based on an allocation of the Company's cost basis between the portion of the loan sold or refinanced and the portion retained based upon the fair value of those respective portions on the date of sale or refinance. Any gain recognized on a sale of a senior lien interest or a refinancing is brought into income at the time of such sale or refinancing. Equipment Leasing Direct finance leases, as defined by SFAS No. 13, Accounting for Leases, are accounted for by recording on the balance sheet the total future minimum lease payments receivable plus the estimated unguaranteed residual value of leased equipment less the unearned lease income. Unearned lease income represents the excess of the total future minimum lease payments plus the estimated unguaranteed residual value expected to be realized at the end of the lease term over the cost of the related equipment. Unearned lease income is recognized as revenue over the term of the lease by the effective interest method. Initial direct costs incurred in consummating a lease are capitalized as part of the investment in direct finance leases and amortized over the lease term as a reduction in the yield. Gains arising from the sale of direct financing leases and notes secured by equipment leases occur when the Company obtains permanent funding through the sale of a pool of leases to a third party. Subsequent to a sale, the Company has no remaining interest in the pool of leases or equipment except (i) if a note is delivered as part of the sale proceeds, a security interest in the pool, and (ii) the obligation of the Company under certain circumstances to replace non-performing leases in the pool. Upon consummation of the sale transaction, the Company records a provision for anticipated losses under its guaranty. At -60- September 30, 1997 the Company had guaranteed approximately $5.5 million of lease receivables with respect to leases sold. Equipment leasing revenues also consist of management fees, brokerage fees and a share of net income from partnerships in which a subsidiary of the Company serves as general partner. Management fees are earned for management services provided to the partnerships. Such fees are recognized as earned (see Limited Partnerships, below). Energy Operations Working interest, royalties and override revenues are recognized as production and delivery takes place. Well service income is recognized as revenue as services are performed. -61- Cash Flow Statements The Company considers temporary investments with a maturity at the date of acquisition of 90 days or less to be cash equivalents. Supplemental disclosure of cash flow information:
Year Ended September 30, ------------------------ 1997 1996 1995 ---- ---- ---- (in thousands) Cash paid during the year for: Interest........................................... $ 2,727 $797 $1,104 Income taxes....................................... 2,094 770 255 Non-cash activities include the following: Sales of leases in exchange for notes.............. $13,275 $- $ - Debt assumed upon acquisition of real estate loan...................................... 2,381 - - Receipt of note in satisfaction of real estate sale................................. 3,500 - - Note payable issued in acquisition................. 925 - - Stock issued in acquisition........................ 315 - - Details of acquisition: Fair value of assets acquired...................... $ 2,466 $- $1,189 Debt issued........................................ (925) - - Stock issued....................................... (315) - - Liabilities assumed................................. - - (312) -------- ------- -------- Net cash paid........................................ $ 1,226 $ - $ 877 ======= ====== ======
Limited Partnerships The Company conducts certain energy and leasing activities through, and a portion of its revenues and are attributable to, limited partnerships ("Partnerships"). The Company serves as general partner of the Partnerships and assumes customary rights and obligations for the Partnerships. As the general partner, the Company is liable for Partnership liabilities and can be liable to limited partners if it breaches its responsibilities with respect to the operations of the Partnerships. -62- The Company is entitled to receive management fees, reimbursement for administrative costs incurred, and to share in the Partnerships' revenue and costs and expenses according to the respective Partnership agreements. Such fees and reimbursements are recognized as income and are included in energy services and equipment leasing revenue. Amounts reimbursed for costs incurred as operator of certain oil and gas partnership properties and as the general partner in certain equipment leasing partnerships for the years ended September 30, 1997, 1996 and 1995 approximated $1.8 million, $1.6 million, and $.5 million, respectively. The Company includes in its operations the portion of the oil and gas Partnerships' revenues and expenses applicable to its interests therein. Income Taxes The Company records deferred tax assets and liabilities, as appropriate, to account for the estimated future tax effects attributable to temporary differences between the financial statement and tax bases of assets and liabilities and the value at currently enacted tax rates, of operating loss carryforwards. The deferred tax provision or benefit each year represents the net change during that year in the deferred tax asset and liability balances. Earnings Per Share Earnings per common share-primary are determined by dividing net income by the weighted average number of common shares and common share equivalents outstanding during the period. Common share equivalents include shares issuable under the terms of various stock option and warrant agreements net of the number of such shares that could have been reacquired (at the weighted average price of the Company's Common Stock during the period) with the proceeds received from the exercise of the options and warrants (see Notes 8 and 9). Fully diluted earnings per share reflect the additional dilution resulting from using in the computation the higher period-ending market price of the Company's shares. In February 1997, the Financial Accounting Standards Board ("FASB") issued SFAS No. 128 "Earnings per Share." Under this statement the calculation of primary earnings per share ("EPS") is changed to exclude the dilutive effect of stock options and is referred to as Basic EPS. This statement is effective for financial statements issued for periods ending after December 15, 1997; earlier adoption is not permitted. If SFAS No. 128 had been adopted for fiscal 1997, 1996 and 1995 it would have resulted in the following EPS: Year Ended September 30, ------------------------ 1997 1996 1995 ---- ---- ---- Basic EPS.................... $3.15 $2.72 $1.43 Diluted EPS.................. 2.51 1.88 1.23 -63- Reclassifications Certain reclassifications have been made to the fiscal years 1996 and 1995 consolidated financial statements to conform with the fiscal 1997 presentation. NOTE 3-TRANSACTIONS WITH RELATED PARTIES Until April 1996, the Chairman of the Company was of counsel to Ledgewood Law Firm, P.C. ("LLF") which provides legal services to the Company. LLF was paid $803,000, $402,000 and $562,000 during fiscal 1997, 1996 and 1995, respectively, for legal services rendered to the Company. The Chairman of the Company receives certain debt service payments from LLF related to the termination of his affiliation with such firm and its redemption of his interest therein. The Company holds commercial real estate loans of borrowers whose underlying properties are managed by Brandywine Construction & Management, Inc. ("BCMI"). The Chairman of the Company is Chairman of the Board of Directors and a minority shareholder (approximately 8%) of BCMI. The Company has advanced funds to certain of these borrowers for improvements on their properties which have been performed by BCMI. In several instances, the President of BCMI has also acted as the general partner of the borrower or as an officer of a corporate general partner. BCMI has subordinated receipt of its management fees to receipt by the Company from the properties of minimum debt service payments required under the obligations held by the Company. The Company also maintains normal banking and borrowing relationships with Jefferson Bank, a subsidiary of JeffBanks, Inc. The Chairman of the Company is an officer and director of JeffBanks, Inc. and, together with his spouse, is a principal shareholder thereof; his spouse is Chairman and Chief Executive Officer of Jefferson Bank. Another officer and director of the Company is a director of Jefferson Bank. The Company anticipates that it may, in the future, effect borrowings from Jefferson Bank; it anticipates that any such borrowings will be on terms similar to those which could be obtained by an unrelated borrower. Jefferson Bank is also a tenant at two properties which secure loans held by the Company. Management believes that the terms of the leases with Jefferson Bank are typical of similar leases for similar space. In August 1997, the Company, through a subsidiary, acquired a loan with a face amount of $2.3 million from Jefferson Bank at a cost of $1.6 million. The loan is secured by a property owned by a partnership in which an officer of the Company and the Chairman of the Company, together with his wife, are limited partners. The Company leases its headquarters space at such property. LLF and BCMI are also tenants at such property (see Note 10). In September 1997, the Company sold a senior lien interest in this loan to an unrelated party, recognizing a gain of $224,000. In June 1997, the Company acquired two loans with an aggregate face amount of $7.0 million from a partnership in which an officer of the Company and the Chairman of the Company, together with his wife, are limited partners. The officer of the Company was -64- previously the general partner of such partnership. The Company acquired such loan at a cost of $3.0 million. In September 1997, the Company sold a senior lien interest in one loan to an unrelated third party and was paid off with respect to the other loan, recognizing an aggregate gain of $804,000. In June 1997 the Company sold two senior lien interests to two different limited partnerships for $875,000 and $2.25 million, realizing gains of $310,000 and $811,000, respectively. Officers and directors of the Company hold beneficial interests in these partnerships totalling 21.3% and 18.3%, respectively. In December 1996, the Company, through a subsidiary, acquired a loan with a face amount of $52.7 million from an unaffiliated third party at a cost of $19.3 million. The property securing such loan is owned by two partnerships: 1845 Associates (the "Building Partnership"), which owns the office building and Mutual Associates (the "Garage Partnership"), which owns the parking garage. Pursuant to a loan restructuring agreement entered into in 1993, prior to the Company having any interest in the loan, an affiliate of the holder of the loan is required to hold, as additional security for the loan, general partnership interests in both the Building Partnership and the Garage Partnership. The partnership interest in the Building Partnership was assigned to a limited partnership of which another subsidiary of the Company is general partner and RPI Partnership is limited partner. The partnership interest in the Garage Partnership was assigned to a limited partnership of which a third subsidiary of the Company is general partner and RPI Partnership is limited partner. RPI Partnership is a limited partnership in which officers of the Company, including the Chairman, are limited partners. Although the Company does not anticipate any economic benefit to RPI Partnership, any which may be received will be assigned and transferred to the Company. Management believes that any other such commercial real estate transactions and balances involving parties that may be considered to be related parties are not material. The Company administers the activities of certain energy partnerships that it sponsors (see Note 2). Energy service revenues primarily represent services provided to Partnerships and joint ventures managed by the Company. In accordance with industry practice, the Company charges each producing well in the Partnerships and joint ventures a fixed monthly overhead fee and a proportionate share of certain lease operating expenses. These charges are to reimburse the Company for certain operating and general and administrative expenses. NOTE 4-INVESTMENTS IN REAL ESTATE LOANS The Company has focused its real estate activities on the purchase of income producing mortgages at a discount from both the face value of such mortgages and the appraised value of the properties underlying the mortgages. Cash received by the Company for payment on each mortgage is allocated between principal and interest with the interest portion of the cash received being recorded as income to the Company. Additionally, the -65- Company records as income the accretion of a portion of the discount to the underlying collateral value. This accretion of discount amounted to $4.1 million and $1.0 million during the years ended September 30, 1997 and 1996, respectively. As the Company sells senior lien interests or receives funds from refinancings in such mortgages, a portion of the cash received is employed to reduce the cumulative accretion of discount included in the carrying value of the Company's investment in real estate loans. At September 30, 1997 and 1996, the Company held real estate loans having aggregate face values of $233.7 million and $79.1 million, respectively, which were being carried at aggregate costs of $88.8 million and $21.8 million, including cumulative accretion. Amounts receivable, net of senior lien interests, were $178.1 million and $61.8 million at September 30, 1997 and 1996, respectively. The following is a summary of the changes in the carrying value of the Company's investments in real estate loans for the years ended September 30, 1997 and 1996: Year Ended September 30, ------------------------ 1997 1996 ------ ------ (in thousands) Balance, beginning of year................. $21,798 $17,991 New loans.................................. 71,720 15,127 Additions to existing loans................ 1,860 2,564 Reserve for possible losses................ (400) - Accretion of discount...................... 4,124 954 Collections of principal................... (517) (9,377) Cost of loans sold......................... (9,769) (5,461) ------- ------- Balance, end of year....................... $88,816 $21,798 ======= ======= A summary of activity in the Company's allowance for possible losses related to real estate loans for the year ended September 30, 1997 is as follows: Balance, beginning of year................. $ - Provision for possible losses.............. 400,000 Writeoffs.................................. - -------- Balance, end of year....................... $400,000 ======== -66- NOTE 5-INVESTMENT IN DIRECT FINANCING LEASES Components of the net investment in direct financing leases as of September 30, 1997 and 1996, as well as future minimum lease payments receivable, including residual values, are as follows:
September 30, ------------- 1997 1996 ---- ---- (in thousands) Total minimum lease payments receivable.............. $4,186 $847 Initial direct costs, net of amortization............ 75 67 Unguaranteed residual................................ 310 75 Unearned lease income................................ (932) (253) Allowance for possible losses........................ (248) (7) ------- ----- Net investment in direct financing leases............ $3,391 $729 ====== ====
At September 30, 1997, minimum lease payments for each of the five succeeding fiscal years are as follows: 1998 - $1.4 million; 1999 - $1.0 million; 2000 - $914,000; 2001 - $502,000; and 2002 - $365,000. A summary of activity in the Company's allowance for possible losses related to direct financing leases for the years ended September 30, 1997 and 1996 are as follows:
Year Ended September 30, ------------------------ 1997 1996 ---- ---- (in thousands) Balance, beginning of year........................... $ 7 $ - Provision for possible losses........................ 253 7 Write offs........................................... (12) - ----- --- Balance, end of year................................. $248 $ 7 ==== ===
Unguaranteed residual value represents the estimated amount to be received at contract termination from the disposition of equipment financed under direct financing leases. Amounts to be realized at contract termination depend on fair market value of the related equipment and may vary from the recorded estimate. Residual values are reviewed periodically to determine if the equipment's fair market is below its recorded value. Certain of the leases include options to purchase the underlying equipment at the end of the lease term at fair value or the stated residual which is not less that the book value at termination. -67- NOTE 6-LONG-TERM DEBT Long-term debt consists of the following:
September 30, ------------- 1997 1996 ---- ---- (in thousands) 12% senior unsecured notes payable, interest due semi-annually, principal due August 2004........................................................................ $115,000 $ - 9.5% senior secured note payable, repaid in July 1997.............................. - 7,902 Loan payable to a bank, secured by a certificate of deposit, 20 equal semiannual installments of $32,143 through February, 2003, and quarterly payments of interest at 1/2% above the prime rate through 2003 (See Note 9).................... 353 418 Unsecured loan, monthly installments of approximately $5,200 including interest at 2.25% above the prime rate (but not less than 7% nor greater than 14.25%) through April 2004 at which time the unpaid balance is due. This loan was refinanced in December 1996 ....................................................... - 536 Loans payable, secured by real estate, monthly installments totaling approximately $39,000 including interest ranging from prime (8.5% at September 30, 1997) to 10.25%, due at various times from December 2001 through January 2019....................................................................... 3,216 215 Unsecured note payable, due in two equal annual Installments of principal and interest beginning March 1998, interest at LIBOR (6 9/32% at September 30, 1997)................................................................ 925 - -------- ------- 119,494 9,071 Less current maturities............................................................ 708 105 -------- ------- $118,786 $ 8,966 ======== =======
As of September 30, 1997 the long-term debt maturing over the next five years is as follows: 1998 - $708,000; 1999 - $727,000; 2000 - $285,000; 2001 - $309,000; and 2002 - $712,000. -68- In July 1997, the Company issued $115 million of 12% Senior Unsecured Notes (the "12% Notes") due August 2004 in a private placement. Provisions of the 12% Notes limit dividend payments, mergers and indebtedness, place restrictions on liens and guarantees and require the maintenance of certain financial ratios. At September 30, 1997, the Company was in compliance with such provisions. In November 1997, the Company filed a registration statement with the Securities and Exchange Commission offering to exchange the privately placed 12% Notes with a like amount of fully registered 12% Notes. In May 1994, the Company privately placed with an insurance company a 9.5% senior secured note in the principal amount of $8 million together with an immediately exercisable detachable warrant to purchase, at any time through May 24, 2004, 449,440 shares, subject to adjustment, of the Company's common stock at an exercise price of $3.38 per share. The value assigned to the warrant ($100,000) was accounted for as paid-in capital, resulting in a discount which was being amortized on a straight-line basis over the life of the note. The senior note was collateralized by substantially all of the Company's oil and gas properties and certain of the Company's real estate loans. This note was paid in full in July 1997 from proceeds of the offering of the 12% Notes. The warrants were exercised in July 1997. (See Note 8.) In December 1996, FLI, the Company's equipment leasing subsidiary, entered into a secured revolving credit and term loan facility with a maximum borrowing limit of $20 million with two banking institutions. Interest on the revolving credit and term loan borrowings is payable at a rate equal to the London Interbank Offered Rate ("LIBOR") plus 1.75% and LIBOR plus 2.25% per annum, respectively. The credit facility expires on March 31, 1998 and is renewable annually at the lender's discretion. A commitment fee of 3/8% per annum is assessed on the unused portion of the borrowing limit. Borrowings under this facility are collateralized by the leases and the underlying equipment being financed and are guaranteed by the Company. The agreement contains certain covenants pertaining to FLI and the Company including the maintenance of certain financial ratios and restrictions on changes in the FLI's ownership and a key management position. During fiscal 1997, the maximum borrowing under this facility was $7.1 million, all of which was repaid prior to fiscal year end. In September 1997, FMF, the Company's residential mortgage lending business, entered into a secured credit facility with a maximum borrowing limit of $5 million with a banking institution. Interest on each draw under this facility is payable at FMFs election, at either the institution's prime rate, or at the federal funds rate plus 2.5%, or at an adjusted LIBOR plus 1.5%. The credit facility expires in September 1998 unless renewed by the parties. Borrowings under this facility are collateralized by the mortgage loans and the underlying property being financed. The agreement contains certain covenants pertaining to FMF and the Company including the maintenance of certain financial ratios. During fiscal 1997, there were no borrowings under this facility. In October 1997, FMF established a $15 million warehouse credit facility with a financial institution, bearing interest at LIBOR or, if unavailable, the interbank eurodollars market rate, plus 90 basis points. The facility is collateralized by a first lien interest in the loans being financed by facility draws. The facility expires in October 1998. The agreement contains certain covenants pertaining to FMF, including the maintenance of certain financial ratios. In October 1997, the Company obtained a $5 million credit facility from a banking institution for purposes of acquiring oil and gas assets. The credit facility permits draws based on a percentage of reserves of oil and gas properties pledged as security for the facility. Draws under the facility bear interest at the institution's prime rate plus 25 basis points. The facility terminates in June 1999. The agreement contains certain covenants pertaining to the Company, including the maintenance of certain financial ratios. -69- NOTE 7-INCOME TAXES The following table details the components of the Company's income tax expense for the fiscal years 1997, 1996 and 1995.
Year Ended September 30, ------------------------ 1997 1996 1995 ---- ---- ---- (in thousands) Provision for federal income tax: Current................................... $6,186 $1,147 $157 Deferred.................................. (2,206) 1,059 473 ------- ------ ---- $3,980 $2,206 $630 ====== ====== ====
A reconciliation between the statutory federal income tax rate and the Company's effective federal income tax rate is as follows:
Year Ended September 30, ------------------------ 1997 1996 1995 ---- ---- ---- Statutory tax rate................................ 34% 34% 34% Statutory depletion............................... (2) (4) (4) Non-conventional fuel and low-income housing credits................................. (3) - (1) Tax-exempt interest............................... (2) - - Adjustment to valuation allowance for deferred tax assets......................... - - (7) Other............................................. - - (3) ----- ---- ---- 27% 30% 19% ===== ==== ====
-70- The components of the net deferred tax liability are as follows:
September 30, ------------- 1997 1996 ---- ---- (in thousands) Deferred tax assets: Tax credit carryforwards............................ $ 507 $ - Alternative minimum tax credit carryforwards...................................... - 61 Interest receivable................................. 1,490 45 Net operating loss carryforwards.................... 357 - Provision for losses................................ 220 - ------ ------- 2,574 106 Deferred tax liabilities: Fixed asset basis difference........................ (2,290) (2,160) ESOP benefits....................................... (120) (140) Other items, net.................................... (164) (12) ------ -------- (2,574) (2,312) ------ ------- Net deferred tax liability......................... $ - $(2,206) ======== ========
NOTE 8-STOCKHOLDERS' EQUITY In July 1997, the Company issued 983,150 unregistered shares of the Company's common stock pursuant to the exercise of warrants held by the holder of the Company's 9.5% senior secured note payable due 2004, realizing proceeds of $3.66 million. The 983,150 shares were subsequently sold by the holder in a separate private placement to a small group of institutional investors. In December 1996, the Company closed a public offering of 1.66 million shares of its Common Stock. The Company received proceeds of $19.99 million, before offering expenses of $515,000, from the offering. In September 1996, the Company's shareholders authorized an amendment to the Certificate of Incorporation of the Company to increase the total authorized capital stock to 9 million shares, of which 8 million shares were Common Stock and 1 million shares were Preferred Stock. On December 20, 1995 and March 12, 1996, the Board of Directors declared 6% stock dividends on the Common Stock. Furthermore, on May 9, 1996 the Board of Directors authorized a five-for-two stock split effected in the form of a 150% stock dividend . These -71- stock dividends resulted in the issuance of 1.2 million additional shares of Common Stock. Earnings per share and weighted average shares outstanding reflect the above transactions. NOTE 9-EMPLOYEE BENEFIT PLANS Employee Stock Ownership Plan The Company sponsors an Employee Stock Ownership Plan ("ESOP"), which is a qualified non-contributory retirement plan established to acquire shares of the Company's Common Stock for the benefit of all employees who are 21 years of age or older and have completed 1,000 hours of service for the Company. Contributions to the ESOP are made at the discretion of the Board of Directors. The ESOP has borrowed funds to purchase shares from the Company, which borrowed the funds for the loan to the ESOP from a bank. The Common Stock purchased by the ESOP with the money borrowed is held by the ESOP trustee in a suspense account. On an annual basis, a portion of the Common Stock is released from the suspense account and allocated to participating employees. Any dividends on ESOP shares are used to pay principal and interest on the loan. As of September 30, 1997, there were 113,930 shares allocated to participants which constitute substantially all shares in the plan. Compensation expense related to the plan amounted to $50,400, $50,300 and $91,000 for the years ended September 30, 1997, 1996 and 1995, respectively. The loan from the bank to the Company is payable in semiannual installments through February 1, 2003. The loan from the Company to the ESOP was fully repaid in August 1996. Both the loan obligation and the unearned benefits expense (a reduction in shareholders' equity) will be reduced by the amount of any loan principal payments made by the Company. Employee Savings Plan The Company sponsors an Employee Retirement Savings Plan and Trust under Section 401(k) of the Internal Revenue Code which allows employees to defer up to 10% of their income (subject to certain limitations) on a pretax basis through contributions to the savings plan. The Company matches up to 100% of each employee's contribution. Included in general and administrative expenses are $131,900, $44,700 and $28,100 for the Company's contributions for the years ended September 30, 1997, 1996 and 1995, respectively. Stock Options The Company has three employee stock option plans, those of 1984, 1989 and 1997. The 1984 and 1989 plans authorize the granting of up to 56,180 and 589,890 (as amended during the fiscal year ended September 30, 1996) shares, respectively, of the Company's common stock in the form of incentive stock options ("ISO's"), non-qualified stock options and stock appreciation rights ("SAR's"). No further grants may be made under these two plans. -72- In April 1997, the stockholders approved the Resource America, Inc., 1997 Key Employee Stock Option Plan ("Employee Plan"). This plan, for which 275,000 shares were reserved, provides for the issuance of ISO's and non-qualified stock options. In fiscal 1997, options for 25,000 shares were issued under this plan. Options under the 1984, 1989 and 1997 plans become exercisable as to 25% of the optioned shares each year after the date of grant, and expire not later than ten years after grant. The Company received $506,400 from the exercise of stock options in fiscal 1997. Transactions for all three stock option plans are as follows:
Year Ended September 30, ------------------------------------------------------------------------------ 1997 1996 1995 -------------------------- -------------------------- ------------------------ Weighted Weighted Weighted Average Average Average Shares Exercise Price Shares Exercise Price Shares Exercise Price ------ -------------- ------ -------------- ------ -------------- Outstanding - beginning of year 348,316 $ 6.21 202,248 $2.88 202,248 $2.88 Granted 25,000 $ 39.50 202,248 $8.58 - $ - Exercised (144,663) $ 3.50 (28,090) $2.76 - $ - Cancelled - $ - (28,090) $2.76 - $ - -------- ------- ------- Outstanding - end of year 228,653 $ 11.56 348,316 $6.21 202,248 $2.88 ======== ======= ======= Exercisable, at end of year 63,554 $ 7.06 109,551 $2.92 101,124 $2.88 ======== ======= ======= Available for grant 250,000 - 5,618 ======== ======= ======= Weighted average fair value per share of options granted during the year $35.93 $6.51 - ====== ===== ===
Outstanding Exercisable ------------------------------------ ---------------------- Weighted Average Weighted Weighted Range of Contractual Average Average Exercise Prices Shares Life (Years) Exercise Price Shares Exercise Price - --------------- ------ ------------ -------------- ------ -------------- $2.76 - $3.04 16,854 5.56 $ 2.76 16,854 $ 2.76 $8.19 - $9.01 186,799 5.66 $ 8.61 46,700 $ 8.61 $39.50 - $39.50 25,000 9.91 $ 39.50 - $39.50 ------- -------- 228,653 63,554 ======= ======
In addition, a key employee of Fidelity Leasing, Inc. ("FLI"), a wholly owned subsidiary of the Company, has received options to purchase 10% of the common stock of FLI (1 million shares) at an aggregate price of $220,000 and, should FLI declare a dividend, will receive payments on the options in an amount equal to the dividends that would have been paid on the shares subject to the options had they been issued. In the event that, prior to becoming a public company, FLI issues stock to anyone other than the Company or the key -73- employee, the employee is entitled to receive such additional options as will allow him to maintain a 10% equity position in FLI upon exercise of all options held by such employee (excluding shares issuable pursuant to the employee option plan referred to below), at an exercise price equal to the price paid or value received in the additional issuance. FLI does not anticipate making any such issuances. The options issued to the key employee vest 25% per year beginning in March 1997 (becoming fully invested in March 2000), and terminate in March 2005. The options become fully vested and immediately exercisable in the event of a change in control of FLI. The key employee has certain rights, commencing after March 5, 2000, to require FLI to register his option shares under the Securities Act of 1933. In the event FLI does not become a public company by March 5, 2001, the key employee may require that FLI thereafter buy, for cash, FLI shares subject to his options at a price equal to ten times FLI's net earnings (as defined in the agreement) per share for the fiscal year ended immediately prior to the giving of notice of his exercise of this right. FLI is required to purchase 25% of such employee's shares in each year following such employee's exercise of this right. FLI has also established another option plan providing for the granting of options, at the discretion of FLI's board of directors, for up to 500,000 shares of common stock to other employees of FLI. As of September 30, 1997, options for 393,000 shares had been issued to certain employees. Transactions for both FLI stock option plans are as follows:
Year Ended September 30, ----------------------------------------------------- 1997 1996 -------------------------- ------------------------- Weighted Weighted Average Average Shares Exercise Price Shares Exercise Price ------ -------------- ------ -------------- Outstanding - beginning of year 1,000,000 $.22 - $ - Granted 393,000 $.22 1,000,000 $.22 Exercised - $ - - $ - Cancelled - $ - - $ - --------- --------- Outstanding - end of year 1,393,000 $ - 1,000,000 $.22 ========= ========= Exercisable, at end of year 250,000 $.22 - $ - ========= ========= Available for grant 107,000 500,000 ========= ========= Weighted average fair value per share of options granted during the year $ .11 $ .10 ========= =========
-74-
Outstanding Exercisable ------------------------------------------- -------------------------- Weighted Average Weighted Weighted Range of Contractual Average Average Exercise Prices Shares Life (Years) Exercise Price Shares Exercise Price - --------------- ------ ------------ -------------- ------ -------------- $.22 - $.22 1,393,000 8.79 $.22 250,000 $.22 ========= =======
Fidelity Mortgage Funding, Inc. ("FMF"), another wholly-owned subsidiary of the Company (and in which the Company owns 17 million shares of common stock), has established an option plan pursuant to which 3 million shares of FMF's common stock (representing 15% of FMF's common stock on a fully-diluted basis) have been reserved for options which may be issued to key employees. Under the program, a director and officer of the Company who is also the Chairman of FMF has received options to purchase 2 million shares (representing 10% of FMF's common stock on a fully-diluted basis) at an aggregate price of $235,294 ($.118 per share) and, should FMF declare a dividend, will receive payments on the options in an amount equal to the dividends that would have been paid on the shares subject to the options had they been issued. The options generally will have the same terms as those relating to the FLI options, except that (i) the option term and vesting period commenced in April 1997 and (ii) the period during which the officer/director may sell FMF shares to FMF will commence in April 2002. The options become fully vested and immediately exercisable in the event of a change in control or potential change in control of FMF or the Company. In addition, as part of the program, at September 30, 1997, FMF had granted options to (i) its President and Chief Operating Officer to purchase 800,000 shares at an aggregate price of $100,000 ($.125 per share) (representing 4% of FMF's common stock on a fully-diluted basis), and (ii) to certain other of its employees to purchase 145,000 shares at an aggregate price of $18,125 ($.125 per share), leaving 55,000 shares reserved for issuance of options under the plan at September 30, 1997. -75- Transactions for the FMF stock option plan are as follows:
Year Ended September 30, 1997 ----------------------------- Weighted Average Shares Exercise Price ------ -------------- Outstanding - beginning of year - - Granted 2,945,000 $.120 Exercised - - Cancelled - - ---------- Outstanding - end of year 2,945,000 $.120 Exercisable, at end of year - - ========== Available for grant 55,000 ========== Weighted average fair value per share of options granted during the year $ .06 ==========
Outstanding Exercisable ------------------------------------------- ------------------------- Weighted Average Weighted Weighted Range of Contractual Average Average Exercise Prices Shares Life (Years) Exercise Price Shares Exercise Price - --------------- ------ ------------ -------------- ------ -------------- $.118 - $.125 2,945,000 9.63 $.120 - -
As discussed in Note 2, the Company accounts for its stock-based awards using the intrinsic value method in accordance with Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and its related interpretations. Accordingly, no compensation expense has been recognized in the financial statements for these employee stock arrangements. SFAS No. 123, Accounting for Stock-Based Compensation, requires the disclosure of pro forma net income and earnings per share as if the Company had adopted the fair value method for stock options granted after June 30, 1996. No such options were granted in fiscal 1996. Under SFAS No. 123, the fair value of stock-based awards to employees is calculated through the use of option pricing models, even though such models were developed to estimate the fair value of freely tradable, fully transferable options without vesting restrictions, which significantly differ from the Company's stock option awards. These models also require subjective assumptions, including future stock price volatility and expected time to exercise, which greatly affect the calculated values. The Company's calculations were made using the Black-Scholes option pricing model with the following weighted average assumptions: expected life, 5 or 10 years following vesting; stock volatility, 96%, 87% and 144% in 1997, 1996 and 1995 respectively; risk free interest rate, 6.6%, 6.0% and 6.0% in 1997, 1996 and 1995 respectively; and no dividends during the expected term. The -76- Company's calculations are based on a multiple option valuation approach and forfeitures are recognized as they occur. If the computed fair values of the awards had been amortized to expense over the vesting period of the awards, pro forma net income would have been $10.5 million ($2.40 per share) in fiscal 1997. In addition to the various stock option plans, in May 1997 the stockholders approved the Resource America, Inc. Non-Employee Director Deferred Stock and Defined Compensation Plan (the "Director Plan") for which 25,000 shares were reserved for issuance. Each director vests in shares granted under the Director Plan on the fifth anniversary of the date of grant. If a director terminates service prior to such fifth anniversary, all of the shares granted are forfeited. In May 1997, 1,000 shares were granted under the Director Plan to each of the Company's four non-employee directors. The fair value of the grants ($22.50 per share, $90,000 in total) is being charged to operations over the five year vesting period. NOTE 10-COMMITMENTS The Company leases office space under leases with varying expiration dates through 2002 (see Note 3). Rental expense was $238,600, $188,900 and $60,500 for the years ended September 30, 1997, 1996 and 1995, respectively. At September 30, 1997, future minimum rental commitments for the next five fiscal years were as follows: 1998...................... $445,300 1999...................... 437,000 2000...................... 437,000 2001...................... 415,100 2002...................... 399,800 As of September 30, 1997, the Company had outstanding commitments to fund the purchase of equipment which it intends to lease, with an aggregate cost of $11.4 million. The Company believes, based on its past experience, that approximately $4.0 million will be funded. As of September 30, 1997, subsidiaries of the Company had two warehouse lines of credit which allow them to borrow up to $25 million. As of September 30, 1997, no funds were outstanding with respect to these lines of credit. The Company has an employment agreement with its Chairman pursuant to which the Company has agreed to provide him with a supplemental employment retirement plan ("SERP") and with certain financial benefits upon termination of his employment. Under the SERP, he will be paid an annual benefit of 75% of his Average Income after he has reached Retirement Age (each as defined in the employment agreement). Upon termination, he is entitled to receive lump sum payments in various amounts of between 25% and five times Average Compensation (depending upon the reason for termination) and, for termination due to disability, a monthly benefit equal to the SERP benefit (which will terminate upon -77- commencement of payments under the SERP). During fiscal 1997, the Company accrued $240,000 with respect to these commitments. NOTE 11-ACQUISITIONS In June 1997, the Company acquired equity interests in 288 wells (representing 78 wells net to the Company's interest) and operating rights to an additional 62 wells, together with 220 miles of natural gas pipelines and 21,830 gross acres (9,340 net acres) of mineral rights, for $1.25 million in cash, $925,000 by a note and 17,000 shares of the Company's Common Stock. The acquisition was accounted for as a purchase and, accordingly, the assets and liabilities acquired have been recorded at their estimated fair market values at the date of acquisition. The purchase price resulted in an excess of costs over net assets acquired (goodwill) of approximately $400,000, which is being amortized on a straight line basis over 15 years. In April 1997, the Company acquired all the outstanding shares of Bryn Mawr Resources, Inc. ("BMR") for 579,623 shares of common stock. BMR's only asset was 579,623 shares of the Company's Common Stock held by subsidiaries of BMR (excluding 3,807 shares of the Company's Common Stock attributable to minority interests held by third parties in BMR's subsidiaries). These acquisitions were immaterial to the results of operations of the Company, and therefore pro forma information is excluded. -78- NOTE 12-INDUSTRY SEGMENT INFORMATION AND MAJOR CUSTOMERS The Company operates in three principal industry segments - real estate, leasing and energy. Segment data for the years ended September 30, 1997, 1996 and 1995 are as follows: Year Ended September 30, -------------------------------- 1997 1996 1995 ---- ---- ---- (in thousands) Revenue: Real estate $ 19,144 $ 7,171 $ 6,114 Leasing 7,162 4,466 - Energy 5,608 5,157 5,332 Corporate 930 197 148 -------- ------- ------- $ 32,844 $16,991 $11,594 ======== ======= ======= Depreciation, Depletion and Amortization: Real estate $ 36 $ 38 $ 37 Leasing 398 204 - Energy 1,202 1,061 1,254 Corporate (22) 65 44 -------- ------- ------- $ 1,614 $ 1,368 $ 1,335 ======== ======= ======= Operating Profit (Loss): Real estate $ 16,546 $ 6,281 $ 5,276 Leasing 2,457 1,916 - Energy 1,699 1,646 1,317 Corporate (5,845) (2,497) (3,248) --------- -------- -------- $ 14,857 $ 7,346 $ 3,345 ======== ======= ======= Identifiable Assets: Real estate $ 92,287 $22,087 $18,225 Leasing 10,647 3,019 991 Energy 15,016 12,675 13,790 Corporate 77,169 6,178 4,544 -------- ------- ------- $195,119 $43,959 $37,550 ======== ======= ======= Capital Expenditures: Real Estate $ 59 $ 17 $ 172 Leasing 585 531 - Energy 1,513 501 637 Corporate 507 48 8 -------- -------- --------- $ 2,664 $ 1,097 $ 817 ======== ======= ======== -79- Operating profit (loss) represents total revenue less costs attributable thereto, including interest and provision for possible losses, and less depreciation, depletion and amortization, excluding general corporate expenses. The Company's natural gas is sold under contract to various purchasers. For the years ended September 30, 1997 and 1996, gas sales to two purchasers accounted for 29% and 12% and 29% and 13% of the Company's total production revenues, respectively. Gas sales to one purchaser individually accounted for 15% of total revenues for the year ended September 30, 1995. In commercial mortgage loan acquisition and resolution, interest and fees earned from a single borrower in the fiscal year ended September 30, 1997 approximated 20%, while for the fiscal year ended September 30, 1996 interest and fees from a (different) single borrower approximated 24% of total revenues. No single borrower generated revenues in excess of 10% in fiscal 1995. NOTE 13-SUPPLEMENTAL OIL AND GAS INFORMATION Results of operations for oil and gas producing activities:
Year Ended September 30, ---------------------------------------- 1997 1996 1995 ---- ---- ---- (in thousands) Revenues................................. $3,936 $3,421 $3,452 Production costs......................... (1,636) (1,421) (1,502) Exploration expenses..................... (187) (161) (230) Depreciation, depletion, and amortization.......................... (712) (781) (922) Income taxes............................. (197) (96) - ------- ------- ------ Results of operations for producing activities.................. $1,204 $ 962 $ 798 ====== ====== ======
-80- Capitalized Costs Related to Oil and Gas Producing Activities The components of capitalized costs related to the Company's oil and gas producing activities (less impairment reserve of $28,000 in fiscal 1997, $22,000 in fiscal 1996 and $30,000 in fiscal 1995), are as follows:
September 30, ------------------------------------------ 1997 1996 1995 (in thousands) Proved properties........................ $23,254 $22,549 $22,416 Unproved properties...................... 846 482 650 Pipelines, equipment and other interests............................. 2,445 2,540 2,488 ------- ------- ------- Total.................................... 26,545 25,571 25,554 Accumulated depreciation, depletion and amortization....................... (15,145) (14,306) (13,590) ------- ------- ------- Net capitalized costs................ $11,400 $11,265 $11,964 ======= ======= =======
Costs Incurred in Oil and Gas Producing Activities The costs incurred by the Company in its oil and gas activities during fiscal years 1997, 1996 and 1995 are as follows:
Year Ended September 30, -------------------------------------- 1997 1996 1995 ---- ---- ---- (in thousands) Property acquisition costs: Unproved properties....................... $321 $ 2 $ 5 Proved properties......................... 782 157 388 Exploration costs........................... 238 317 317 Development costs........................... 144 176 211
Oil and Gas Reserve Information (unaudited) The Company's estimates of net proved developed oil and gas reserves and the present value thereof have been verified by E.E. Templeton & Associates, Inc., an independent petroleum engineering firm. The Company does not estimate the value of its proven undeveloped reserves. The Company's oil and gas reserves are located within the United States. There are numerous uncertainties inherent in estimating quantities of proved reserves and in projecting -81- future net revenues and the timing of development expenditures. The reserve data presented represent estimates only and should not be construed as being exact. In addition, the standardized measures of discounted future net cash flows may not represent the fair market value of the Company's oil and gas reserves or the present value of future cash flows of equivalent reserves, due to anticipated future changes in oil and gas prices and in production and development costs and other factors for which effects have not been provided. The standardized measure of discounted future net cash flows is information provided for the financial statement user as a common base for comparing oil and gas reserves of enterprises in the industry.
Gas Oil (mcf) (bbls) ----- ------ Balance at September 30, 1994........................ 12,112,116 296,859 Purchases of reserves in-place....................... 893,104 23,284 Current additions.................................... 430,330 3,641 Sales of reserves in-place........................... (79,294) (628) Revisions to previous estimates...................... 624,471 14,423 Production........................................... (1,198,245) (36,420) ---------- ------- Balance at September 30, 1995........................ 12,782,482 301,159 Purchase of reserves in-place........................ 293,602 8,880 Current additions.................................... 237,070 726 Sales of reserves in-place........................... (18,645) (1,885) Revision to previous estimates....................... 723,242 35,002 Production........................................... (1,165,477) (33,862) ---------- ------- Balance at September 30, 1996........................ 12,852,274 310,020 Purchase of reserves in-place........................ 1,903,853 45,150 Current additions.................................... 15,984 0 Sales of reserves in-place........................... (1,393) 0 Revision to previous estimates....................... 1,614,704 38,654 Production........................................... (1,227,887) (35,811) ---------- ------- Balance at September 30, 1997........................ 15,157,535 358,013 ========== =======
-82- Presented below is the standardized measure of discounted future net cash flows and changes therein relating to proved developed oil and gas reserves. The estimated future production is priced at year-end prices. The resulting estimated future cash inflows are reduced by estimated future costs to develop and produce the proved developed reserves based on year-end cost levels. The future net cash flows are reduced to present value amounts by applying a 10% discount factor.
Year Ended September 30, ------------------------------------------ 1997 1996 1995 ---- ---- ---- (in thousands) Future cash inflows............................ $42,634 $ 34,516 $ 30,257 Future production and development costs........................... (21,585) (16,764) (15,200) Future income tax expense...................... (2,740) (2,732) (1,260) ------- -------- -------- Future net cash flows.......................... 18,309 15,020 13,797 Less 10% annual discount for estimated timing of cash flows............... (8,186) (6,671) (5,987) ------- -------- -------- Standardized measure of discounted future net cash flows........................ $10,123 $ 8,349 $ 7,810 ======= ======== ========
-83- The following table summarizes the changes in the standardized measure of discounted future net cash flows from estimated production of proved developed oil and gas reserves after income taxes.
Year Ended September 30, ------------------------------------------ 1997 1996 1995 ---- ---- ---- (in thousands) Balance, beginning of year...................... $ 8,349 $7,810 $7,961 Increase (decrease) in discounted future net cash flows: Sales and transfers of oil and gas net of related costs.......................... (2,411) (1,928) (1,870) Net changes in prices and production costs......................................... 512 1,392 (187) Revisions of previous quantity estimates..................................... 2,483 697 418 Extensions, discoveries, and improved recovery less related costs................... 10 145 253 Purchases of reserves in-place.................. 1,474 242 612 Sales of reserves in-place, net of tax effect.................................... (1) (26) (46) Accretion of discount........................... 997 851 842 Net change in future income taxes............... (14) (924) (240) Other........................................... (1,276) 90 67 --------- ------- ------- Balance, end of year............................ $10,123 $8,349 $7,810 ======= ====== ======
NOTE 14 - FORMATION OF RESOURCE ASSET INVESTMENT TRUST The Company is the sponsor of Resource Asset Investment Trust (the "REIT"), a recently formed real estate investment trust. The REIT has been formed to acquire and provide mortgage financing in situations that generally do not conform to the debt underwriting standards of institutional lenders or sources that provide financing through securitization. The REIT has filed a Registration Statement with the Securities and Exchange Commission with respect to the public offer and sale of its common shares of beneficial interest ("Common Shares"). The Company plans to acquire 815,000 Common Shares upon the completion of the offering at a cost anticipated to be $13.95 per share (representing the anticipated initial public offering price net of underwriting discounts or commissions). After acquisition of such shares, the Company would own approximately 9.8% of the REIT's outstanding Common Shares (8.6% assuming exercise by the underwriters of their over-allotment option). -84- The chairman of the REIT is the spouse of the chairman of the Company; their son, who is not otherwise an officer or director of the Company, is the Company's representative on the REIT's board of trustees. The Company has undertaken to sell certain of its loans, or interests therein, to the REIT, and will be reimbursed for certain of its costs in connection with its sponsorship of the REIT, upon completion of the public offering. ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. -85- PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS OF THE REGISTRANT The information required by this item is set forth under the caption "Directors and Executive Officers" of the Company's definitive proxy statement, with respect to its 1998 annual meeting of shareholders, to be filed on or before January 28, 1998 (the "Proxy Statement"), and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item is set forth under the caption "Compensation of Executive Officers and Directors" in the Proxy Statement, and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this item is set forth under the caption "Security Ownership of Certain Beneficial Owners and Management" in the Proxy Statement, and is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this item is set forth under the captions "Security Ownership of Certain Beneficial Owners and Management" and "Certain Relationships and Related Party Transactions" in the Proxy Statement, and are incorporated herein by reference. -86- PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this Form 10-K: 1. Financial Statements Report of Independent Certified Public Accountants Consolidated Balance Sheets Consolidated Statements of Income Consolidated Statements of Changes in Stockholders' Equity Consolidated Statements of Cash Flows Notes to Consolidated Financial Statements 2. Financial Statement Schedules a. Inapplicable b. Schedule IV - Mortgage Loans on Real Estate All other schedules are not applicable or are omitted since either (i) the required information is not material or (ii) the information required is included in the consolidated financial statements and the Notes thereto. 3. Exhibit No. Description 2. Agreement and Plan of Merger among Tri-Star Financial Services, Inc., Frank Pellegrini, Resource Tri-Star Acquisition Corp. and the Registrant 3.1 Restated Certificate of Incorporation of the Registrant.(1) 3.2 Bylaws of the Registrant, as amended.(1) 4.1 Indenture with respect to 12% Senior Notes due 2004 (including form of note).(2) 10.1 1984 Key Employee Stock Option Plan, as amended.(3) 10.2 1989 Key Employee Stock Option Plan, as amended.(3) 10.3 Employee Stock Ownership Plan.(4) 10.4 1997 Key Employee Stock Option Plan.(5) 10.5 1997 Stock Option Plan for Directors.(5) 10.6 1997 Non-Employee Director Deferred Stock and Defined Compensation Plan.(5) 10.7 Employment Agreement between Edward E. Cohen and Registrant(6) -87- 10.8 Contribution Agreement between Resource Leasing, Inc. and Abraham Bernstein.(1) 10.9 Employment Agreement between Fidelity Leasing, Inc. and Abraham Bernstein.(1) 10.10 Employment Agreement between Fidelity Mortgage Funding, Inc. and Daniel G. Cohen.(6) 10.11 Loan and Security Agreement between CoreStates Bank, N.A. and First Union National Bank, and Registrant.(7) 10.12 Warehousing Agreement between Fidelity Mortgage Funding, Inc. and CoreStates Bank, N.A. 10.13 Master Loan and Security Agreement between Fidelity Mortgage Funding, Inc. and Morgan Stanley Mortgage Capital Inc. 10.14 Loan Agreement between Registrant and KeyBank, N.A. 11.1 Calculation of Primary and Fully Diluted Earnings per Share. 21.1 List of Subsidiaries. 23.1 Consent of E. E. Templeton & Associates, Inc. 27 Financial Data Schedule. - ---------- (1) Filed previously as an Exhibit to the Company's Registration Statement on Form S-1 (Registration No. 333-13905) and by this reference incorporated herein. (2) Filed previously as an Exhibit to the Company's Registration Statement on Form S-4 (Registration No. 333-40231) and by this reference incorporated herein. (3) Filed previously as an Exhibit to the Company's Registration Statement on Form S-8 May 2, 1996 and by this reference incorporated herein. (4) Filed previously as an Exhibit to the Company's Annual Report on Form 10-K for the year ended September 30, 1989 and by this reference incorporated herein. (5) Filed previously as an Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997. (6) Filed previously as an Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1997. -88- (7) Filed previously as an Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended December 31, 1996. -89- 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. RESOURCE AMERICA, INC. (Registrant) December 17, 1997 By: /s/ Edward E. Cohen ----------------------- Chairman of the Board, Chief Executive Officer and President Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated as of December 17, 1997. /s/ Edward E. Cohen Chairman of the Board, Chief Executive - ------------------------------ Officer and President EDWARD E. COHEN /s/ Scott F. Schaeffer Executive Vice President and Director - ------------------------------ SCOTT F. SCHAEFFER /s/ Daniel G. Cohen Executive Vice President and Director - ------------------------------ DANIEL G. COHEN /s/ Michael L. Staines Senior Vice President, Secretary and - ------------------------------ Director MICHAEL L. STAINES /s/ Carlos C. Campbell Director - ------------------------------ CARLOS C. CAMPBELL /s/ Andrew M. Lubin Director - ------------------------------ ANDREW M. LUBIN /s/ Alan D. Schrieber Director - ------------------------------ ALAN D. SCHRIEBER /s/ John S. White Director - ------------------------------ JOHN S. WHITE /s/ Steven J. Kessler Senior Vice President and Chief Financial - ------------------------------ Officer STEVEN J. KESSLER /s/ Nancy J. McGurk Vice President-Finance and Treasurer - ------------------------------ (Chief Accounting Officer) NANCY J. McGURK -90- SCHEDULE IV RESOURCE AMERICA, INC. & SUBSIDIARIES MORTGAGE LOANS ON REAL ESTATE September 30, 1997
Final Periodic Face Maturity Payment Prior Amount of Description Interest Rate Date Terms Liens Mortgages - ----------- ------------- --------- -------- ----- --------- First Mortgages Hotel/Commercial Office, GA Fixed rate of 14% 12/31/15 (a) $ - $ 5,800,000 Hotel, NE Fixed rate of 14.5% 09/30/02 (a) - 6,005,000 Apartment Building, FL Fixed rate of 13% 07/01/00 (a) - 4,100,000 Office Building, NC Fixed rate of 11.5% 12/31/11 (a) - 3,500,000 Apartment Building, NJ Fixed rate of 11.25% 09/01/05 (a) - 11,615,000 Apartment Building, CT Fixed rate of 10.85% 09/01/05 (a) - 7,520,000 Apartment Building, PA Fixed rate of 14% 10/01/02 (a) - 400,000 Office/Retail Building, PA Fixed rate of 14% 12/31/02 (a) - 8,580,000 4 loans, amounts ranging Two loans with fixed rates of from $100,000 to $7,580,000 16%; remaining loan rates from 9.7% to 10.6% Junior Lien Loans Rental Apartments, 14 loans, Five loans with fixed rates atFrom 06/01/88 - 19,321,800 32,638,000 original loan amounts ranging 12%, all remaining loans have to 10/01/07 from $618,000 to $7,193,000 varying rates from 7.3% to 16% in PA, NJ and NC One loan with interest at 85% of the 30-day rate on $100,000 CDs as published by the Wall Street Journal plus 2.75% Condominium Units, NC Fixed rate of 8.0% 03/31/02 (a) $ 2,361,000 3,550,000 Office buildings, 8 loans, original Fixed rate from 9% to 12% From 07/31/98 (a) 7,803,300 19,836,000 amounts ranging from $900,000 prime plus 3.5% and prime to 09/30/03 to $20,000,000 in PA, VA, plus 5% NJ and Washington, D.C. 09/30/99 (a) Office Building, PA Fixed rate of 8% 01/01/02 (a) 8,000,000 40,644,000 Office Building, Washington, D.C., 2 loans Fixed rate of 12% 11/30/98 (a) 6,744,200 13,283,000
RESTUBBED FROM TABLE ABOVE
Principal Final Periodic Carrying Subject to Maturity Payment Amount of Delinquent Description Interest Rate Date Terms Mortgages Interest - ----------- ------------- --------- -------- --------- ---------- First Mortgages Hotel/Commercial Office, GA Fixed rate of 14% 12/31/15 (a) $ 6,102,725 - Hotel, NE Fixed rate of 14.5% 09/30/02 (a) 3,816,425 $ - Apartment Building, FL Fixed rate of 13% 07/01/00 (a) 2,826,741 - Office Building, NC Fixed rate of 11.5% 12/31/11 (a) 3,074,544 - Apartment Building, NJ Fixed rate of 11.25% 09/01/05 (a) 7,451,074 - Apartment Building, CT Fixed rate of 10.85% 09/01/05 (a) 4,704,270 - Apartment Building, PA Fixed rate of 14% 10/01/02 (a) 400,000 - Office/Retail Building, PA Fixed rate of 14% 12/31/02 (a) 8,580,000 - 4 loans, amounts ranging Two loans with fixed rates of from $100,000 to $7,580,000 16%; remaining loan rates from 9.7% to 10.6% Junior Lien Loans Rental Apartments, 14 loans, Five loans with fixed rates atFrom 06/01/88 - 12,098,621 80,860 original loan amounts ranging 12%, all remaining loans have to 10/01/07 from $618,000 to $7,193,000 varying rates from 7.3% to 16% in PA, NJ and NC One loan with interest at 85% of the 30-day rate on $100,000 CDs as published by the Wall Street Journal plus 2.75% Condominium Units, NC Fixed rate of 8.0% 03/31/02 (a) 3,572,780 - Office buildings, 8 loans, original Fixed rate from 9% to 12% From 07/31/98 (a) 8,377,760 114,932 amounts ranging from $900,000 prime plus 3.5% and prime to 09/30/03 to $20,000,000 in PA, VA, plus 5% NJ and Washington, D.C. 09/30/99 (a) Office Building, PA Fixed rate of 8% 01/01/02 (a) 16,615,724 - Office Building, Washington, D.C., 2 loans Fixed rate of 12% 11/30/98 (a) 5,297,790 -
Final Periodic Face Maturity Payment Prior Amount of Description Interest Rate Date Terms Liens Mortgages - ----------- ------------- --------- -------- ----- --------- Industrial Building, Pasadena, CA 2.75% over the average cost of 05/01/01 (a) $ 2,000,000 $ 3,000,000 funds to FSLIC-insured savings and loan institutions Retail Buildings, 6 loans, Fixed rates from 8.5% to 13.6% From 11/01/98 - 9,309,800 19,945,000 original loan amounts ranging One loan with variable interest to 12/31/19 from $1,776,000 to $5,198,000 in 90% of prime plus 5% CA, MN, PA, VA and WV ----------- ------------ $55,540,100 $180,416,000 =========== ============
RESTUBBED FROM TABLE ABOVE
Principal Final Periodic Carrying Subject to Maturity Payment Amount of Delinquent Description Interest Rate Date Terms Mortgages Interest - ----------- ------------- --------- -------- --------- ---------- Industrial Building, Pasadena, CA 2.75% over the average cost of 05/01/01 (a) $ 328,767 $ - funds to FSLIC-insured savings and loan institutions Retail Buildings, 6 loans, Fixed rates from 8.5% to 13.6% From 11/01/98 - 5,968,897 - original loan amounts ranging One loan with variable interest to 12/31/19 from $1,776,000 to $5,198,000 in 90% of prime plus 5% CA, MN, PA, VA and WV ----------- -------- $89,216,118 $195,792 =========== ========
Reconciliation of the total carrying amount of real estate loans for the year follows: Balance at October 1, 1996 $21,797,768 Additions during the period: New mortgage loans $71,720,511 Amortization of discount 4,123,670 Additions of existing loans 1,860,117 77,704,298 ----------- ----------- $99,502,066 Deductions during the period: Collections of principal 517,136 Cost of mortgages sold 9,768,812 10,285,948 ----------- ----------- Balance at September 30, 1997 $89,216,118 =========== (a) All net cash flows from the property (b) Cost for Federal income tax purposes equals $90,054,045 -2- EX-10.12 2 EXHIBIT 10.12 WAREHOUSING--AGREEMENT BETWEEN FIDELITY MORTGAGE FUNDING, INC. AND CORESTATES BANK, N.A. TABLE OF CONTENTS 1. Definitions ............................................................1 2. The Loan ...............................................................9 2.01 Commitment .............................................................9 2.02 The Note ...............................................................9 2.03 Use of Proceeds .......................................................10 2.04 Special Non-Conforming Loans ..........................................10 2.05 Advance Rates .........................................................10 2.06 Payment of Interest and Principal .....................................11 2.07 Rate of Interest on Loan ..............................................11 2.08 Banker's Year .........................................................16 2.09 Direct Charge .........................................................16 2.10 Reserve Requirements; Change in Circumstances .........................16 2.11 Administration Fee: ...................................................18 3. Conditions of Lending .................................................18 3.01 Documentation Required Prior to First Advance Only ....................18 3.02 Documentation Required In Connection With All Advances ................19 3.03 Wet Advances ..........................................................20 3.04 Continuing Warranties .................................................20 3.05 Other Requested Documents .............................................20 4. Continuing Representations and Warranties .............................20 4.01 Borrower's Organization ...............................................21 4.02 Financial Statements ..................................................21 4.03 Authority .............................................................22 4.04 Title to Collateral ...................................................22 4.05 Warranties as to Each Consumer Loan ...................................22 4.06 [INTENTIONALLY OMITTED] ...............................................23 4.07 Borrower's Locations ..................................................23 4.08 No Default ............................................................23 4.09 Outstanding Judicial Proceedings ......................................23 4.10 Accuracy of Submitted Information; No Material Omissions ..............23 4.11 Loans Not Usurious ....................................................24 4.12 Subsidiaries ..........................................................24 5. Collateral ............................................................24 5.01 Security Interest .....................................................24 5.02 Separate Assignments ..................................................25 5.03 Deposit and Other Accounts ............................................25 5.04 Servicing Rights ......................................................26 5.05 Financing Statements ..................................................26 i 5.06 Limited Power of Attorney .............................................26 5.07 Delivery in Trust .....................................................26 6. Affirmative Covenants .................................................27 6.01 Note Payments .........................................................27 6.02 Circumstances Requiring Immediate Repayment of Separate Bank Advance ..27 6.03 Casualty Insurance ....................................................27 6.04 Other Insurance .......................................................27 6.05 Enforcement of Consumer Paper .........................................28 6.06 Costs of Collection ...................................................28 6.07 Notation of Assignments ...............................................28 6.08 Execution of Additional Documents .....................................28 6.09 Submission of Financial Statements ....................................28 6.10 Maintenance of Books and Records; Audits ..............................29 6.11 Compliance with Administrative Requests of Lender .....................30 6.12 Submission of Pipeline Report .........................................30 6.13 Notification of Default ...............................................30 6.14 Notification of Borrower's Default.....................................30 6.15 Maintenance of Take-Out Commitments ...................................30 6.16 Financial Covenants ...................................................30 6.17 Tax Returns ...........................................................31 6.18 Payment of Taxes ......................................................31 6.19 New Locations .........................................................31 6.20 Additional Reports ....................................................31 6.21 Accounts ..............................................................31 6.22 Compliance With Laws ..................................................31 6.23 Notice of Litigation ..................................................31 6.24 Payment of Obligations When Due .......................................32 6.25 Landlord's Waiver .....................................................32 6.26 ERISA .................................................................32 6.27 Credit Policy .........................................................32 6.28 Management ............................................................32 7. Negative Covenants ....................................................32 7.01 No Compromise of Collateral ...........................................32 7.02 Improper Use of Proceeds ..............................................33 7.03 [INTENTIONALLY OMITTED] ...............................................33 7.04 No Misleading Information .............................................33 7.05 No Change in Ownership ................................................33 7.06 No Change in Organization .............................................33 7.07 No Sale of Assets .....................................................33 7.08 No Liens ..............................................................33 7.09 No Guaranties .........................................................34 7.10 No Indebtedness .......................................................34 ii 8 Default ...............................................................34 8.01 Events of Default .....................................................34 8.02 Remedies Upon Default .................................................36 8.03 Remedies Cumulative ...................................................37 8.04 Indemnity .............................................................37 9. Sale of Consumer Paper ................................................38 9.01 Delivery of Consumer Paper by Lender ..................................38 9.02 Reassignment of Consumer Paper by Lender ..............................39 10. Collections ...........................................................39 11. Miscellaneous .........................................................39 11.01 Notices .............................................................39 11.02 Successors and Assigns ..............................................39 11.03 Assignment by Lender; Participations ................................40 11.04 Delay - No Waiver ...................................................40 11.05 (a) Entire Agreement - Supplemental Policies and Procedures .......40 (b) Partial Invalidity ............................................41 (c) Counterparts ..................................................41 (d) No Assignment by Borrower .....................................41 (e) Materiality; Reliance by Lender: ..............................41 (f) No Third Party Beneficiary ....................................41 (g) Confidentiality ...............................................41 11.06 Interpretation of Accounting Terms ..................................42 11.07 PENNSYLVANIA LAW; CONSENT TO JURISDICTION AND SERVICE ...............42 iii WAREHOUSING AGREEMEMT THIS AGREEMENT made and entered into as of this 23rd day of September, 1997, by and between CORESTATES BANK, N.A., a national banking association with offices at 1339 Chestnut Street, Philadelphia, Pennsylvania 19102 (hereinafter called "Lender"), and FIDELITY MORTGAGE FUNDING, INC., a Delaware corporation with its principal place of business at 7 East Skippack Pike, Ambler, Pennsylvania 19002 (hereinafter called "Borrower") WITNESSETH Lender and Borrower desire to enter into certain secured credit arrangements on the terms hereinafter set forth. NOW, THEREFORE, in consideration of the mutual undertakings herein and of each advance made by Lender to Borrower hereunder, the parties agree as follows: 1. Definitions. 1.01 For all purposes of this Agreement, except as otherwise expressly provided or unless the context otherwise requires, the terms defined in this Paragraph shall have the meanings assigned to them in this Paragraph and include the plural as well as the singular. 1.02 The terms which follow have the meanings herein ascribed to them: Agreement means this Agreement as executed as of the date first above written or, if amended or supplemented as herein provided, as so amended or supplemented. Applicable Percentage means (i) with respect to Non-Conforming Loans, 97% except to the extent provided in Section 2.05 hereof with respect to Non-Conforming Loans for which Cash 1 Collateral has been provided, and (ii) with respect to Special Non- Conforming Loans, 95%. Business Days mean days, other than a Saturday or Sunday, on which Lender is open for business. Cash-Collateral shall have the meaning given thereto in Section 2.05 hereof. Closing Media means a title company and/or disbursing attorney or other agent, in each case satisfactory to Lender. Collateral means (a) Consumer Loans, Consumer Paper and Consumer Loan Collateral and all other property rights, proceeds and payments relating to Consumer Loans (whether or not Eligible Loans), (b) all other property of Borrower hereinafter described in Paragraph 5, including Servicing Rights, (c) all property from time to time deposited with, delivered or to be delivered to or held by or for Lender pursuant to this Agreement, including Cash Collateral, and (d) all proceeds of the foregoing; all of the foregoing whether now existing or hereafter arising or acquired. Committed Purchase Price means, with respect to a Consumer Loan, the price at which the Investor under the applicable Take-Out Commitment has agreed to purchase said Consumer Loan, provided that Lender shall receive an amount at least equal to the Separate Bank Advance made against such Consumer Loan. Consumer Loans means loans against which any Separate Bank Advance is made or secured pursuant to the terms of this Agreement. Consumer Loan Collateral means personal or real property or guaranties of third parties granted or otherwise obtained as security for the obligations and liabilities of the obligor under a Consumer Loan. Consumer Paper means any instrument, chattel paper, lease, installment sales contract, promissory note, Mortgage, security agreement and any other document or agreement evidencing and/or securing a Consumer Loan. 2 Eligible Loans means Consumer Loans, each of which meets the following requirements, unless and to the extent otherwise agreed to by Lender in writing upon Borrower's request made in connection with a request for a Separate Bank Advance: (a) it is either a Non-Conforming Loan or, subject to Section 2.04 hereof, a Special Non-Conforming Loan; (b) it is evidenced by Consumer Paper, which is valid and binding and is executed by a bona fide third person which is a natural person with capacity to contract and whose personal liability is not limited by the terms thereof; (c) the proceeds thereof are intended to be used by the obligor for personal, family or household purposes; (d) it is payable at either a variable or fixed rate of interest; (e) it is, if a Special Non-Conforming Loan, subject to a Take-Out Commitment; (f) it is not contractually past due or otherwise in default; (g) it was originated or acquired by Borrower not more than 30 days prior to the date of Borrower's request for a Separate Bank Advance therefor; (h) the principal thereof and interest thereon is payable over a fixed term acceptable to Lender, and is not an "interest only", "balloon" loan having a repayment term unacceptable to Lender or "open-ended" loan (within the meaning of Regulation Z, 12 CFR Part 226.1 et seq.); (i) it is in compliance (to the extent each is applicable) with the requirements of the Fair Credit Reporting Act, the Real Estate Settlement Procedures Act of 1974, the Truth-In-Lending Act (and Regulation Z and comparable applicable regulations of the Federal Home Loan Bank Board) and the Equal Credit Opportunity Act (and Regulation B), each as currently and from time to time hereafter amended, and any other law or regulation that may from time to time be applicable to each Consumer Loan; 3 (j) the Mortgage securing such Consumer Loan is insured by a prepaid ALTA mortgagee's title insurance policy, on the most current form then in use, or an equivalent satisfactory to Lender and the Investor from a title insurance company satisfactory to Lender licensed to do business in the jurisdiction in which the mortgaged premises are located insuring the Borrower and its successors or assigns, as their respective interest may appear, in an amount at least equivalent to the current principal balance of the respective Consumer Loan, which title insurance policy shall insure the Mortgage as a lien on fee simple title to the mortgaged premises having the priority required by the definition of "Non-Conforming Loan" or "Special Non-Conforming Loan", as applicable, with any such second mortgage liens junior only to superior mortgages the indebtedness secured by which is included in the determination of loan to value ratios required by the definition of "Non-Conforming Loans" or "Special Non-Conforming Loan", as applicable, and shall not be subject to any exceptions or objections other than those which are permitted under the definition of "Mortgage", or are otherwise satisfactory to Lender; (k) the principal balance thereof, when added to the balance remaining on any indebtedness secured by a superior lien, does not as of the date of origination exceed the loan to value ratio required by the definition of "Non-Conforming Loans" or "Special Non-Conforming Loans", as applicable; (1) it is secured by a Mortgage and: (i) the mortgaged premises are covered by fire and hazard insurance in amounts and with insurers acceptable to Lender, with mortgagee's endorsement satisfactory to Lender naming Borrower, its successors or assigns, as mortgagee; (ii) if the mortgaged premises are within an area identified by the United States Secretary of Housing and Urban Development as an area having special flood hazards, the mortgaged premises are covered by flood insurance under the National Flood Insurance Act of 1968, as currently amended (the "NFIA"), in the amount of the outstanding principal balance of the Consumer Loan and any priority mortgage or the maximum limit of coverage under the NFIA, whichever is more, naming Borrower, its successors or assigns, as mortgagee; 4 (m) the mortgaged premises are covered by an appraisal prepared by an MAI or state certified appraiser and in such form as is acceptable to Lender; (n) it conforms to the representations and warranties set forth in Section 4.05 hereof; (o) it has not been repurchased or otherwise taken back by Borrower from an Investor, previously pledged as collateral to another lender or previously submitted as collateral to any other lender and rejected by such lender; and (p) it is otherwise satisfactory to Lender in its sole business discretion. Lender may in its discretion by written notice to Borrower adjust or revise or add to the foregoing requirements for all Consumer Loans for which a request for a Separate Bank Advance is thereafter made. "FHLMC" shall mean the Federal Home Loan Mortgage Corporation or any successor thereto. "FNMA" shall mean the Federal National Mortgage Association, a corporation in conformance with Title III of the National Housing Act, as amended, or any successor thereto. Investor means a bank, trust company, savings and loan association, pension fund, governmental authority, insurance company, institutional investor, investment brokerage firm, mortgage banker, or other entity, determined by Lender, in its sole discretion, to be acceptable. Leverage Ratio shall mean a fraction, the numerator of which is the sum of outstanding Liabilities plus (without duplication) the unused portion of any credit or lending commitment (including the Loan), minus Subordinated Debt, and the denominator of which is Tangible Net Worth, determined separately for Borrower (without consolidation or combination with any other person or entity) in accordance with generally accepted accounting principles consistently applied. 5 Liabilities means all liabilities and indebtedness that, in accordance with generally accepted accounting principles consistently applied, should be classified as liabilities on a balance sheet. Loan means the credit facility established by Lender for the Borrower as set forth in Section 2 hereof. Maximum Loan Amount means $5,000,000. Maximum Tranches means, as of any date, (i) four minus (ii) two if principal on such date also bears interest under both the Prime Rate Option and the Fed Funds Option, one if principal, on such date also bears interest under either the Prime Rate Option or the Fed Funds Option, but not both, and zero if principal on such date does not bear interest under either the Prime Rate Option or the Fed Funds Option. Mortgage means a mortgage or a deed of trust on residential real estate, and securing a Consumer Loan and also creating a valid enforceable lien on the fee simple title to real estate referred to therein (and all buildings and improvements thereon) subject only to (i) where permitted by the definition of "Non-Conforming Loans", a superior mortgage the indebtedness secured by which is included in the determination of required loan to value ratios, (ii) liens for taxes not yet due and payable or similar governmental charges not yet due and payable or still subject to payment without interest or penalty, (iii) zoning restrictions, utility easements, covenants, or conditions and restrictions of record, which shall neither defeat nor render invalid such lien or the priority thereof, nor materially impair the marketability or value of such real estate, nor be violated by the existing improvements or the intended use thereof. Net Worth means the excess of assets over Liabilities as would be shown on a balance sheet of Borrower, prepared in accordance with generally accepted accounting principles consistently applied, determined separately for Borrower without consolidation or combination with any other person or entity. Non-Conforming Loan means each Consumer Loan that is secured by a first or second priority Mortgage on residential 1 to 4 family real estate that is underwritten in accordance with 6 Borrower's present credit underwriting standards as set forth in Schedule 1 hereto as such standards may hereafter be changed subject to the prior written approval of Lender. Operating Account means a demand deposit account of Borrower at Lender for use by Borrower for its general business operations and for the payment to Lender of interest, fees and other amounts payable from time to time hereunder. Restricted Account means a demand deposit account of Borrower at Lender to which there may be deposited from time to time monies paid by Investors in connection with a release of Collateral as contemplated by Sections 2.06 and 9.01 hereof, which account shall be restricted in that Borrower shall not be entitled to withdraw monies therefrom and Lender shall be authorized to charge or otherwise make withdrawals from such account for amounts due in connection with a release of Collateral or otherwise. Separate Bank Advance means each separate advance under the Loan. Servicing Rights means all rights of the Borrower to service (including subservice) any loan, whether or not a Consumer Loan, and to receive any payment or compensation for the servicing of any such loan, and all rights under or in connection with any agreement at any time entered into by Borrower with respect to the servicing or subservicing of loans by Borrower; and including all rights to receive from any mortgagor or other obligor on whose behalf the Borrower has advanced funds, payment or reimbursement of the amount so advanced. Special Non-Conforming Loans means each Consumer Loan that is secured by a multi-family dwelling in excess of four (4) dwelling units and/or is a mixed-use dwelling used partially for non-residential purposes that is underwritten in accordance with Borrower's present credit underwriting standards as set forth in Schedule 2 hereto as such standards may hereafter be changed subject to the prior written approval of Lender. Special Non-Conforming Loans Sublimit means $1,000,000. Subordinated Debt means unsecured indebtedness for borrowed money the repayment of which is subordinated to all of 7 Borrower's obligations and indebtedness to Lender pursuant to a written subordination agreement in form and substance satisfactory to Lender. Subsidiary means a corporation of which 50% or more of the outstanding voting stock (except for directors' qualifying shares, if and to the extent required by law) is owned, at the time of determination, directly or indirectly, by Borrower. Take-Out Commitment means an existing written commitment to Borrower from an Investor substantially in the form, or containing the type of information which has been, previously agreed to by Lender as satisfactory, under the terms of which such Investor agrees to purchase Consumer Paper or specific Consumer Paper at a committed price, and which is in full force and effect. Tangible Net Worth means, at any time, (a) the sum of Net Worth plus Subordinated Debt less (b) the sum of: (i) cost of treasury shares, (ii) surplus from write-up of assets, (iii) franchises, licenses, permits, patents, patent applications, experimental expense, organizational expense in excess of $1,000,000 as of September 30, 1997 and other like intangibles, including the excess paid for assets acquired over their respective book values on the books of the entity from which acquired, (iv) investments in, loans to and receivables from shareholders, directors, employees, subsidiaries, affiliated entities and partners, (v) any amounts of capitalized purchase servicing or capitalized excess servicing reflected as an asset, and (vi) other intangible assets, including good will, determined separately for Borrower in accordance with generally accepted accounting principles consistently applied. Termination Date means September 22, 1998 or such later date to which the parties may, without obligation to do so, hereafter agree in writing. Warehouse Account means a demand deposit account of Borrower at Lender to which proceeds of a Separate Bank Advance may be deposited and from which such proceeds may be disbursed, in accordance with instructions from Borrower to Lender, directly to the Borrower or to the Closing Media in connection with Borrower's origination or acquisition of an Eligible Loan, subject, however, to such escrow arrangements as Lender shall reasonably require, as more fully set forth in Section 2.01 hereof. 8 Wet Advance means a Separate Bank Advance with respect to which the original Consumer Paper and copy of original Mortgage required to be delivered by Borrower pursuant to Sections 3.02.02 and 3.02.03 hereof shall instead be delivered pursuant to Section 3.03 hereof. From and after the date on which the Consumer Paper and copy of Mortgage with respect to any such Wet Advance are received by Lender, such Separate Bank Advance shall cease to be a Wet Advance for all purposes hereof. Wet Advance Sublimit means an amount equal to 20% of the Maximum Loan Amount. 2. The Loan. 2.01 Commitment: Borrower may from time to time prior to the Termination Date request Lender to make an advance and lend to Borrower an amount (a "Separate Bank Advance"), in connection with any Eligible Loan acceptable as Collateral to Lender, and, subject to the terms and conditions of this Agreement, Lender shall make such Separate Bank Advance to Borrower. The aggregate unpaid principal amount at any one time outstanding of all the Separate Bank Advances shall not exceed the Maximum Loan Amount. Separate Bank Advances will be made by crediting the Warehouse Account with the proceeds thereof and disbursing the same either to the Borrower or to the Closing Media in such manner and subject to such escrow arrangements as Lender shall reasonably require. 2.02 The Note: The Loan, which shall be in the form of a revolving credit, shall be evidenced by Borrower's promissory note (hereinafter called the "Note"), issued to Lender, in form and content satisfactory to Lender. All terms of the Note are incorporated herein. The Note shall be dated the date of this Agreement, shall bear interest payable at the rate and in the manner provided for in Sections 2.06 and 2.07 hereof, and shall evidence all advances of the Loan. 2.02.01 Borrower agrees that the date and amount of each advance of the Loan shall be as set forth in the books and records of Lender relating to such matters which shall be presumed accurate but subject to verification and correction by Borrower within 30 days of Borrower's receipt of a statement. 9 2.03 Use of Proceeds: The proceeds of the Loan shall be used by Borrower solely to finance its origination or acquisition of Eligible Loans pending sale thereof to Investors. Use of Loan proceeds for any other purpose, including but not limited to, the repurchase of loans purchased by an Investor and subsequently returned to Borrower, shall constitute an Event of Default for all purposes of this Agreement. 2.04 Special Non-Conforming Loans: Notwithstanding anything to the contrary contained herein, Lender will have no obligation to make any Separate Bank Advance with respect to a Special Non-Conforming Loan except to the extent Lender, in its sole discretion, determines to do so on a case by case basis upon Borrower's request therefor, provided that (i) such Special Non-Conforming Loan otherwise constitutes an Eligible Loan hereunder, (ii) it is subject to a Take-Out Commitment and (iii) the aggregate principal amount at any time outstanding of all Separate Bank Advances for Special Non-Conforming Loans does not exceed the Special Non-Conforming Loans Sublimit. 2.05 Advance Rates: Each advance of the Loan shall not exceed the Applicable Percentage of the lesser of i) the Committed Purchase Price, ii) the aggregate principal balance of the Eligible Loans with respect to which such Separate Bank Advance is made, iii) the purchase price paid by Borrower for such Consumer Loan under its dealer contract or iv) the market value of such Consumer Loan as determined by Lender in its sole business judgment. Notwithstanding the definition of "Applicable Percentage" to the contrary, the Applicable Percentage applicable to any Separate Bank Advance made with respect to a Non-Conforming Loan may exceed 97% to up to 100% provided that Borrower first provides Lender with cash collateral ("Cash Collateral") as security for such Separate Bank Advance and all other liabilities and obligations, in an amount equal to the amount by which such Separate Bank Advance made at such higher Applicable Percentage exceeds the amount that such Separate Bank Advance would have been if made at the 97% Applicable Percentage. Such Cash Collateral will secure the entire Separate Bank Advance and all other obligations and liabilities of Borrower to Lender and will be released only when the entire Separate Bank Advance, with interest, is repaid in full and no outstanding Event of Default has theretofore occurred. 10 2.06 Payment of Interest and Principal: Borrower shall pay monthly installments of interest on the first day of each month. The proceeds payable to Borrower by an Investor from the sale of Consumer Loans upon which a Separate Bank Advance has been made shall (and Borrower shall, and authorizes Lender to, direct the Investor that such proceeds shall) be forwarded via federal wire transfer by the Investor directly to the Restricted Account, and the amount so received shall first be applied to all amounts advanced by Lender with respect to such Consumer Loans and any other amounts (including without limitation any amounts due upon any declaration incident to an Event of Default) due and owing Lender pursuant to this Agreement, and the balance, if any, of such proceeds shall be remitted to Borrower by crediting its Operating Account with the amount thereof; should Borrower ever receive such proceeds from the Investor, the same will be held in trust for the Lender and immediately remitted to Lender with all necessary endorsements (which Lender is authorized to make on Borrower's behalf) for application as aforesaid. Should the aggregate unpaid principal amount at any time outstanding of all Separate Bank Advances exceed the Maximum Loan Amount, the Borrower will immediately upon Lender's demand repay the principal thereof to the extent of such excess. The entire principal balance of the Loan shall be due and payable in full on the Termination Date. 2.07 Rate of Interest on Loan: (a) Unless a LIBOR election is made pursuant to the terms of subsection (b) hereof, the daily outstanding principal balance of the Loan shall bear interest under one or both of the following options (herein, the "Prime Rate Option" or the "Fed Funds Option"): a per annum rate equal to, at Borrower's option, (i) Lender's Prime rate of interest (herein, the "Prime-Based Rate) or (ii) the Fed Funds Rate plus 2.50 percentage points (herein, the "Fed Funds Based Rate"). As used herein, (i) "Prime" means that rate (which is not necessarily the lowest rate of interest charged by Lender to any borrower or group or class of borrowers) so designated and established by Lender, as such rate may change from time to time and (ii) "Fed Funds Rate" means the daily rate of interest announced from time to time by the Board of Governors of the Federal Reserve System as the "Federal Funds Rate". Interest at the Prime Rate Option or the Fed Funds Option shall change from time to time effective as of the date in each change in the Prime rate or the Fed Funds Rate, as applicable. Borrower shall, 11 on the first Business Day of each month with respect to principal of the Loan then outstanding and for which Borrower desires the Prime Rate Option or the Fed Funds Option to apply, and at the time of each Separate Bank Advance with respect to the principal amount thereof and for which Borrower desires the Prime Rate Option or the Fed Funds Option to apply, specify to Lender in writing the interest rate Option to be applicable to any portion of principal for the balance of the then calendar month, it being understood that both the Prime Rate Option and the Fed Funds Option can be applicable simultaneously to different portions of principal outstanding under the Loan. Should Borrower fail to specify a rate of interest as aforesaid or in accordance with subsection (b) below, then the Option theretofore in effect will be deemed to have been selected unless such principal is a new Separate Bank Advance, in which case the Prime Rate Option will be deemed to have been selected. (b) (1) As used in this subsection (b), the following terms shall have the following meanings: (A) "LIBOR Rate" means for any day during each Rate Period (a) the per annum rate of interest (computed on a basis of a year of 360 days and actual days elapsed) determined by Lender as being the composite rate available to Lender at approximately 11:00 a.m. London time in the London Interbank Market, as referenced by Telerate (page 3750), in accordance with the usual practice in such market, for the Rate Period elected by Borrower, in effect two (2) London business days prior to the funding date for a requested LIBOR Rate advance for deposits of dollars in amounts equal (as nearly as may be estimated) to the amount of the LIBOR Rate advance which shall then be loaned by Lender to Borrower as of the time of such determination, as such rate (the "Base Rate") may be adjusted by the reserve percentage applicable during the Rate Period in effect (or if more than one such percentage shall be applicable, the daily average of such percentages for those days in such Rate Period during which any such percentage shall be so applicable) under regulations issued from time to time, by the Board of Governors of the Federal Reserve System (or any successor) for determining the maximum reserve requirement (including without limitation, any emergency, supplemental or other marginal reserve requirement) for Lender with respect to liabilities or assets consisting of or including "Eurocurrency Liabilities" as such term is defined in Regulation D of the Board of Governors of the Federal Reserve System, as in 12 effect from time to time, having a term equal to such Rate Period ("Eurocurrency Reserve Requirement"), plus (b) 1.50 percentage points. Such reserve adjustment shall be effectuated by calculating, and the LIBOR Rate shall be equal to, (a) the quotient of (i) the Base Rate divided by (ii) one minus the Eurocurrency Reserve Requirement, plus (b) 1.50 percentage points. (B) "Notification" means telephonic notice (which shall be irrevocable) by Borrower to Lender that Borrower has requested that the LIBOR Rate shall apply to some portion of the principal amount of the Loan in accordance with the provisions of Section 2.07 (b) (2) hereof, which notice shall be given no later than 10:00 a.m. Philadelphia time, on the day which is at least 3 Business Days prior to the Business Day on which such election is to become effective, and which notice shall specify (i) the principal amount of the Loan to be subject to such rate(s); (ii) whether such amount is a new advance, a renewal of a previous request of such rate, a conversion from one interest rate to another, or a combination thereof; (iii) the Rate Period(s) selected; and (iv) the date on which such request is to become effective (which date shall be a date selected in accordance with subsection (2) hereof). (C) "Rate Period" means for any portion of principal for which Borrower elects the LIBOR Rate the period of time for which such rate shall apply to such principal portion. Rate Periods for principal earning interest at the LIBOR Rate shall be for periods of 1 week or 1, 2 or 3 months and for no other length of time, Provided, that, no Rate Period may end after the Termination Date. (2) (A) By giving Notification, and so long as no Event of Default is outstanding, Borrower may request to have all or a portion of the outstanding principal of the Loan as hereinafter permitted earn interest at the LIBOR Rate as follows: (i) with respect to the principal amount of any Separate Advance under the Loan, from the date of such advance until the end of the Rate Period specified in the Notification; and/or (ii) with respect to the principal amount of any portion of Loan outstanding and earning interest at the LIBOR Rate at the time of the Notification related to such principal amount, from the expiration of the then current Rate Period related to such principal amount until the end of the Rate Period specified in the Notification; and/or (iii) with 13 respect to all or any portion of the principal amount of Loan outstanding and earning interest at the Prime-Based Rate or the Fed Funds Based Rate at the time of Notification, from the date set forth in the Notification until the end of the Rate Period specified in the Notification. (B) Borrower understands and agrees: (i) that subject to the provisions of this Agreement, the Prime-Based Rate, the Fed Funds Based Rate and the LIBOR Rate may apply simultaneously to different parts of the outstanding principal of the Loan, (ii) that the LIBOR Rate may apply simultaneously to various portions of the outstanding principal for various Rate Periods, (iii) that the LIBOR Rate applicable to any portion of outstanding principal may be different from the LIBOR Rate applicable to any other portion of outstanding principal, (iv) that the principal portion of the Loan for which a LIBOR Rate election is being made shall not be less than $1,000,000 per election and, if in excess thereof, shall be in integral multiples of $1,000,000, (v) that no more than the Maximum Tranches of principal of the Loan bearing interest at the LIBOR Rate may be outstanding at any one time, (vi) that the Borrower's right to elect the LIBOR Rate will not be available at any time upon or after the occurrence of an Event of Default, and (vii) that Lender shall have the right to terminate any Rate Period, and the interest rate applicable thereto, prior to maturity of such Rate Period, if Lender determines in good faith (which determination shall be conclusive) that continuance of such interest rate has been made unlawful by any law, to which Lender may be subject, in which event the principal to which such terminated Rate Period relates thereafter shall earn interest at the Prime-Based Rate or the Fed Funds Based Rate, at Borrower's election. (3) After expiration of any Rate Period, any principal portion corresponding to such Rate Period which has not been converted or renewed in accordance with this Section shall earn interest automatically at the LIBOR Rate as if Borrower had made an election therefor in accordance herewith for the same Rate Period as the Rate Period then expired (or if the Rate Period which would be deemed to have been selected would extend beyond the Termination Date, then at the Prime-Based Rate). (4) Borrower shall indemnify Lender against any loss or expense (including loss of margin) which Lender has 14 sustained or incurred as a consequence of: (a) any payment of any principal amount earning interest at the LIBOR Rate on a day other than the last day of the corresponding Rate Period (whether or not any such payment is made pursuant to acceleration upon or after an Event of Default, demand by Lender otherwise made or prepayment otherwise required under this Agreement, by reason of an application of proceeds incident to an insured loss or condemnation of property, or for any other reason, and whether or not any such payment is consented to the Lender or any Lender, unless Lender shall have expressly waived such indemnity in writing); (b) any attempt by Borrower to revoke in whole or part any Notification given pursuant to this Agreement; or (c) any attempt by Borrower to convert or renew any principal amount earning interest at the LIBOR Rate on a day other than the last day of the corresponding Rate Period (whether or not such conversion or renewal is consented to by Lender, unless Lender shall have expressly waived such indemnity in writing). (5) In the event that, as a result of any changes in applicable law or the interpretation thereof, it becomes unlawful for Lender to maintain Eurodollar liabilities sufficient to fund any LIBOR Rate loan, then Lender's obligation to convert to or maintain a LIBOR Rate shall be suspended until such time as Lender may again cause the LIBOR Rate to be applicable to the Loan and such principal earning interest at the LIBOR Rate shall accrue interest instead at the Prime-Based Rate and/or the Fed Funds Based Rate, as elected by Borrower. (6) In the event that the Borrower shall have requested the LIBOR Rate in accordance herewith and Lender shall have reasonably determined that Eurodollar deposits equal to the amount of the principal to earn interest at the LIBOR Rate and for the Rate Period specified are unavailable, impractical or unlawful with respect to Lender, or that the rate based on the LIBOR Rate will not adequately and fairly reflect the cost to Lender of the LIBOR Rate applicable to the specified Rate Period, of making or maintaining the principal amount of the Loan at the LIBOR Rate specified by the Borrower during the Rate Period specified, or that by reason of circumstances affecting Eurodollar markets, adequate and reasonable means do not exist for ascertaining the rate based on the LIBOR Rate applicable to the specified Rate Period, Lender shall promptly give notice of such determination to the Borrower that the LIBOR Rate is not available. A determination by Lender 15 hereunder shall be conclusive evidence of the correctness of the fact and amount of such additional costs or unavailability. Upon such a determination, (i) the right of Borrower to select, convert to, or maintain a LIBOR Rate shall be suspended until Lender shall have notified the Borrower that such conditions shall have ceased to exist, and (ii) that portion of the Loan subject to the requested LIBOR Rate shall accrue interest instead at the Prime- Based Rate and/or the Fed Funds Based Rate, at Borrower's Option. (c) To the extent permitted by law, upon and during the continuance of an Event of Default, the rate of interest shall, commencing three (3) days after Lender gives Borrower written notice thereof, increase by three (3) percentage points in excess of the otherwise applicable rate ("Default Rate"). (d) Interest shall continue to accrue on the unpaid principal balance of the Loan at the applicable contract rate set forth in this Agreement even if all sums due hereunder are accelerated and reduced to judgment. 2.08 Banker's Year: All interest calculations shall be based on a 360 day year for the actual days elapsed. 2.09 Direct Charge: Borrower authorizes Lender to charge Borrower's Operating Account with the amount of any interest, fees or other sums from time to time due by Borrower to Lender. 2.10 Reserve Requirements: Change in Circumstances: (a) Notwithstanding any other provision herein, if after the date of this Agreement any change in applicable law or regulation or in the interpretation or administration thereof by any governmental authority charged with the interpretation or administration thereof (whether or not having the force of law) shall impose, modify or deem applicable any reserve, special deposit or similar requirement against assets of, deposits with or for the account of or credit extended by Lender, or shall impose on Lender any other condition affecting this Agreement, Lender's commitment or the Loan extended by Lender, and the result of any of the foregoing shall be to increase the cost to Lender of making or maintaining such Loan or to reduce the amount of any sum received or receivable by Lender hereunder (whether of principal, interest or otherwise) by an amount deemed by Lender to be material, then 16 the Borrower will, subject to subpart (c) below, pay to Lender upon demand such additional amount or amounts as will compensate Lender for such additional costs incurred or reduction suffered. (b) If Lender shall have determined that after the date of this Agreement the applicability of any law, rule, regulation or guideline adopted pursuant to or arising out of the July 1988 report of the Basle Committee on Banking Regulations and Supervisory Practices entitled "International Convergence of Capital Measurement and Capital Standards," or the adoption after the date hereof, of any other law, rule, regulation or guideline regarding capital adequacy, or any change in any of the foregoing or in the interpretation or administration of any of the foregoing by any governmental authority, central bank or comparable agency charged with the interpretation or administration thereof, or compliance by Lender (or any lending office of Lender) or Lender's holding company with any request or directive regarding capital adequacy (whether or not having the force of law) of any such authority, central bank or comparable agency, has or would have the effect of reducing the rate of return on Lender's capital or on the capital of Lender's holding company, if any, as a consequence of this Agreement, Lender's commitment or any Loan advance by Lender pursuant hereto to a level below that which Lender or Lender's holding company could have achieved but for such adoption, change or compliance (taking into consideration Lender's policies and the policies of Lender's holding company with respect to capital adequacy) by an amount deemed by Lender to be material, then from time to time the Borrower shall, subject to subpart (c) below, pay to Lender such additional amount or amounts as will compensate Lender or Lender's holding company for any such reduction suffered. (c) A certificate of Lender setting forth such amount or amounts (including computation of such amount or amounts) as shall be necessary to compensate Lender or its holding company as specified in paragraph (a) or (b) above, as the case may be, shall be delivered to the Borrower not less than 30 days prior to the date (the "Implementation Date") such additional compensation will be implemented, retroactively if necessary but in no event with respect to increased costs or reduction in amounts received or receivable or in return on capital incurred or suffered with respect to any period more than 90 days prior to delivery of such certificate. Within 30 days of delivery to Borrower of such certificate, Borrower may by written notice to Lender elect to 17 terminate the Loan effective as of the Implementation Date, in which event Borrower shall on the Implementation Date repay to Lender all principal, interest and other reasonable fees and expenses owing under this Agreement (including the additional compensation otherwise due by reason of this Section 2.10 through the date of final repayment) and release Lender from any further commitment or obligation hereunder. If Borrower does not elect to terminate the Loan as aforesaid, Borrower shall on the Implementation Date pay to Lender the amount shown as due on any such certificate. (d) Failure on the part of Lender to demand compensation for any increased costs or reduction in amounts received or receivable or reduction in return on capital with respect to any period shall not, except as next noted, constitute a waiver of Lender's right to demand compensation with respect to such period or any other period, provided, that Lender shall not be entitled to compensation for any increased costs or any such reduction with respect to any period more than 90 days prior to delivery of a certificate as set forth in subparagraph (c) above. The protection of this Section shall be available to Lender regardless of any possible contention of the invalidity or inapplicability of the law, rule, regulation, guideline or other change or condition which shall have occurred or been imposed. Each determination by Lender under this Section shall be in good faith and shall be conclusive absent manifest error. 2.11 Administration Fee: Borrower will pay Lender an administration fee of $32.00 per Consumer Loan upon and at the time at which any Separate Bank Advance is made hereunder. 3. Conditions of Lending. 3.01 Documentation Required Prior to First Advance Only: Delivery by Borrower of each of the following to Lender shall be conditions precedent to the making of the first advance of the Loan: 3.01.01 The executed Note of Borrower; 3.01.02 A certified copy of a resolution of Borrower's Board of Directors authorizing the borrowing herein provided for, the execution and delivery of this Agreement and the 18 Note, and the endorsing and assigning to Lender of the Collateral as herein provided; 3.01.03 Certificates, as of the most recent dates practicable, of the Secretary of State of Delaware, the Secretary of State of each state in which Borrower is qualified as a foreign corporation, and the department of revenue or taxation of each of the foregoing states, or other evidence satisfactory to Lender, as to the good standing of Borrower. 3.01.04 A written opinion of counsel to Borrower, dated the date of this Agreement and addressed to Lender, in form and substance satisfactory to Lender. 3.01.05 A certificate, dated the date of this Agreement, signed by the president or vice president of Borrower to the effect that: (1) The representations and warranties set forth in Section 4 of this Agreement are true, complete and correct as of the date hereof; (2) No Event of Default hereunder, and no event which, with the giving of notice or the passage of time, or both, could become such an Event of Default, has occurred as of the date hereof; and (3) All conditions set forth in this Section 3.01 have been fulfilled. 3.02 Documentation Required In Connection With All Advances: Borrower shall deliver to Lender a Schedule of Eligible Loans and a Loan Cover Sheet, each in form provided by Lender for this purpose and duly completed and executed by Borrower. Subject to Section 3.03 hereof, concurrently with the making of each Separate Bank Advance, Borrower shall deliver to Lender the following, as applicable: 3.02.01 A copy of the applicable Take-Out Commitment if otherwise required hereby, in form and content satisfactory to Lender, agreeing to purchase that specific Eligible Loan(s); 19 3.02.02 The original Consumer Paper, duly endorsed in favor of Borrower, its successors and assigns, without recourse; 3.02.03 Copy of the original Mortgage, together with an original assignment thereof in recordable form and assigned in blank, duly executed by the mortgagee; 3.02.04 An assignment by Borrower in blank in recordable form of all Consumer Paper; 3.02.05 Such additional documents or instruments as may be required by Lender and/or by the Investor. 3.03 Wet Advances: Notwithstanding Section 3.02 hereof to the contrary, Lender will permit Wet Advances up to an aggregate principal amount at any time outstanding equal to the Wet Advance Sublimit. If on any date the aggregate principal amount outstanding of Wet Advances exceeds the Wet Advance Sublimit, Borrower shall immediately prepay the principal of Wet Advances in an amount equal to such excess. In the event that for any reason (including by reason of any fault of the Closing Media) the original Consumer Paper and copy of Mortgage is not received by Lender within 5 Business Days following the date on which such Wet Advance was made, Borrower shall within one (1) day of the first to occur of Borrower's actual knowledge thereof or Lender's written demand with respect thereto prepay the full principal amount of such Wet Advance. 3.04 Continuing Warranties: At the time any Separate Bank Advance is requested by Borrower, and as a precondition to the making of any advance hereunder, no Event of Default shall have occurred and be continuing, and no event shall have occurred which, with the lapse of time or the giving of notice or both, shall constitute such Event of Default; and Borrower shall have paid all fees and charges due and payable by Borrower hereunder. 3.05 Other Requested Documents: Borrower shall deliver directly to Lender any documents pertaining to the Eligible Loan which Lender specifically requests. 4. Continuing Representations and Warranties. 19 In order to induce Lender to enter into this Agreement and to induce Lender to make each Separate Bank Advance, Borrower warrants and represents that as of the date hereof, at the time of the making of each Separate Bank Advance hereunder, at the time each Consumer Paper is delivered to Lender, and at the time of sale of each Consumer Loan to the Investor, that: 4.01 Borrower's Organization: Borrower is a corporation, duly organized and existing and in good standing under the laws of Delaware, and Borrower is qualified to do business in and in good standing in every other jurisdiction where its business or operations requires such qualification. All of Borrower's shareholders and their respective shares of capital stock of each class, are listed on Exhibit "A" hereto. The execution, delivery and performance of this Agreement, the Note and other documents required of Borrower have been duly authorized by all requisite action and will not violate the Borrower's charter or by-laws or any applicable statutes or regulations or any agreements or judgements to which Borrower is a party or by which it or its property is bound. This Agreement and the Note are valid and binding obligations of Borrower, enforceable in accordance with their terms except as may be limited by bankruptcy, insolvency, moratorium, reorganization and other similar laws or equitable principles affecting the enforcement of creditors' rights generally, and the consent or approval of governmental authorities or of third parties is not required for the validity of Borrower's obligations hereunder or thereunder or, if required, has been obtained and remains in full force and effect. 4.02 Financial Statements: All financial statements and financial information heretofore delivered to Lender are true and correct in all material respects as of the date made. As of the date of this Agreement and as of the date of any borrowing hereunder, there has not been, nor does Borrower anticipate the occurrence of, nor is Borrower aware of any circumstance which with the passage of time could reasonably be expected to result in, any Event of Default or any material change of an adverse nature sufficient to impair Borrower's ability to repay every Separate Bank Advance or to continue to conduct its business as it is being conducted on the date hereof. Borrower has no material contingent liabilities or unusual forward or long-term commitments which are not disclosed by or reserved against in said financial statements 21 furnished to Lender or have not been disclosed to Lender in writing. At the date of this Agreement and at the date of each advance requested by Borrower hereunder, Borrower warrants and reaffirms there are no material unrealized or anticipated losses from any commitments of the Borrower except as previously disclosed in writing to Lender. 4.03 Authority: All requisite action for the authorization, execution and delivery by Borrower of this Agreement and the Note, and for the assigning and endorsing by Borrower of the Collateral as provided for hereunder, has been duly taken and has not been rescinded. 4.04 Title to Collateral: Borrower is or will be the legal and beneficial owner (subject only to potential claims of an Investor arising solely out of a Take-Out Commitment) of the Collateral at the time pledged, free and clear of all security interests liens and encumbrances, and has the right to assign the same to Lender as contemplated by this Agreement. 4.05 Warranties as to Each Consumer Loan: Each Consumer Loan upon which any Separate Bank Advance is made is, unless otherwise agreed to by Lender in connection with a particular Consumer Loan, an Eligible Loan and will remain as such until the related Separate Bank Advance is repaid in full; is in full force and effect; has not been modified and is not past due or otherwise in default; is not subject to defense or right of set-off on the part of the maker or makers of the Consumer Paper; is secured by a valid Mortgage on fee simple residential real estate, free from damage or casualty; represents a bona fide transaction which has been carried out in accordance with all applicable laws and regulations, including, but not limited to, the making of all required disclosures correctly to all persons entitled to receive them within the time specified under such laws or rules and regulations, which shall include but not be limited to: (a) Real Estate Settlement Procedures Act of 1974, as amended - Regulation X; (b) Fair Credit Reporting Act; (c) Equal Credit Opportunity Act - Regulation B; 22 (d) Truth-In-Lending Act - Regulation Z; and applicable regulations of the office of Thrift Supervision and the Comptroller of the Currency; and for which the total consideration to be advanced by a lender shall in fact have been advanced less closing and other fees and costs which may customarily be deducted from the loan proceeds. 4.06 [INTENTIONALLY OMITTED] 4.07 Borrower's Locations: The address of Borrower set forth above in this Agreement is its chief executive office and the addresses indicated on Exhibit "B" attached hereto are all of the Borrower's offices or locations; 4.08 No Default: Borrower has no knowledge of any default under any material, term or provision or any agreement to which it is a party or by which it is bound or to which any of its property is subject, which default would have a material adverse effect on Borrower's creditworthiness. It is agreed that a breach of the terms of any mortgage warehouse loan agreement with any other lender shall be deemed to have such a material adverse effect. 4.09 Outstanding Judicial Proceedings: There are no outstanding criminal proceedings pending or threatened, or judgements, actions or proceedings pending or threatened before any court or governmental authority, bureau or agency, with respect to or affecting the Borrower wherein damages alleged or owed exceed $25,000 in any such proceeding, judgment or action or in the aggregate for all such proceedings, judgments or actions, nor are there any such actions, judgments or proceedings in which Borrower is a plaintiff or complainant (excepting routine foreclosures) wherein damages alleged or owed exceed $25,000 in any such proceeding, judgment or action or in the aggregate for all such proceedings, judgments or actions. 4.10 Accuracy of Submitted Information; No Material Omissions: No certificate, opinion, financial statement or any other statement made or furnished to Lender by or on behalf of the Borrower in connection with this Agreement or the transaction contemplated herein, contains any untrue statement of a material 23 fact, or omits a material fact necessary in order to make the statements contained therein or herein not misleading. 4.11 Loans Not Usurious: The Consumer Loans are not usurious. 4.12 Subsidiaries: Borrower has no Subsidiaries and is a wholly owned Subsidiary of Resource America, Inc. 5. Collateral. 5.01 Security Interest: Borrower hereby grants to Lender, as collateral security for all Separate Bank Advances and for the Loan and the Note and all other present and future obligations, liabilities and indebtedness of Borrower of every kind (whether principal, interest, fees, costs and expenses or otherwise) under this Agreement (the "Secured Obligations"), a security interest in all accounts, accounts receivable and loans receivable in respect of which any Separate Bank Advance is made by Lender, now existing or hereafter acquired or arising, and in all notes, instruments, mortgages and chattel paper, including all Consumer Paper and Consumer Loan Collateral, evicencing or securing each said account, account receivable, loan receivable and Consumer Loans, and in all contracts, documents, files, instruments, general intangibles, property, rights, proceeds and payments relating thereto, including without limitation the following: 5.01.01 All payments and prepayments of principal, interest, and other income due or to become due thereon and all proceeds therefrom, and all the right, title and interest of every nature whatsoever of Borrower in and to the same and every part of such property including, without limitation, the following: (a) All rights, liens and security interests existing with respect thereto or as security therefor; (b) All hazard insurance (including without limitation flood insurance) policies, title insurance policies or condemnation proceeds with respect thereto; (c) All prepayment premiums and late payment charges with respect thereto; 24 5.01.02 All real estate acquired by Borrower by deed in lieu of foreclosure or by foreclosure attributable thereto; 5.01.03 All Take-Out Commitments related thereto and the proceeds resulting from sales by Borrower pursuant thereto; 5.01.04 All right, title and interest of Borrower in and to all files, surveys, certificates, correspondence, appraisals, computer programs, tapes, discs, cards, accounting records, and other records, information, and data of Borrower relating thereto; 5.01.05 The proceeds from the sale or other disposition of any Collateral; 5.01.06 Any other property and proceeds thereof that may, from time to time hereafter, be subject to the security interests created hereby; 5.01.07 All business records, computer tapes, software, microfiche, etc., necessary to identify and locate the Collateral and protect or enforce Lender's or any Lender's rights therein. 5.02 Separate Assignments: At the time of making each Separate Bank Advance, Lender may require Borrower to deliver a separate assignment to Lender of all of Borrower's right, title and interest in the Consumer Paper and Consumer Loan Collateral and other property, right, proceeds or payment forming part of the Collateral including but not limited to all Borrower's rights in and to any applicable Take-Out Commitment and insurance policies and proceeds and Borrower will pay the cost of filing the same in all public offices. 5.03 Deposit and Other Accounts: Borrower hereby grants to Lender, as security for the Secured Obligations, a lien and security interest in, and assignment of, all amounts at any time standing to Borrowers account in any and all deposit, restricted, operating or other accounts now or hereafter maintained by Borrower with Lender, including without limitation the Operating Account, Restricted Account and Warehouse Account, which lien and security interest is in addition to, and not in lieu of, any right of setoff otherwise available to Lender under applicable law. 25 5.04 Servicing Rights: Borrower hereby grants to Lender and each Lender, as security for the Secured Obligations, a first lien security interest in all Servicing Rights, if any, and all proceeds thereof. 5.05 Financing Statements: Borrower will execute one or more financing statements covering the Collateral pursuant to the Uniform Commercial Code, in form satisfactory to Lender, and will pay the cost of filing the same in all public offices. A copy of this Agreement may be recorded as a financing statement. 5.06 Limited Power of Attorney: Borrower hereby irrevocably makes, constitutes and appoints Lender its attorney-in-fact with full power of substitution for and on behalf and in the name of Borrower (which Lender is under no obligation to use) to endorse any checks, instruments or other papers in Lender's possession representing payments on or proceeds of Consumer Paper and Consumer Loan Collateral or Take-Out Commitments; to complete, execute, deliver and record any assignment or other document, including financing statements, covering the Collateral; to endorse any Consumer Paper in the name of Borrower and do every other act or thing necessary or desirable to effect transfer of Consumer Paper, Consumer Loan Collateral or any related Collateral and/or to protect the interest of Lender in the Collateral; to take all necessary and appropriate action in Borrower's name with respect to any Separate Bank Advances hereunder and servicing of Consumer Paper and Consumer Loan Collateral or sale of Collateral under any Take-Out Commitment; to take any and all action which Lender deems appropriate to commence, prosecute, settle, discontinue, defend or otherwise dispose of any claim relating to any Take-Out Commitment, insurance or guarantee, Consumer Paper, Consumer Loan Collateral or other Collateral; and to sign Borrower's name whenever and wherever appropriate to the performance of this Agreement, including, but not limited to, execution in Borrower's name of any document necessary to perfect or protect Lender's security interest granted hereunder. This appointment shall be deemed coupled with an interest but shall only extend to dealings with regard to the Collateral. 5.07 Delivery in Trust: Should Lender ever deliver any Consumer Paper or other Collateral to Borrower for purposes of correction thereof or otherwise, or to an Investor in connection with an Investor's purchase thereof, or to any other person or 26 entity for any reason, the same shall be delivered subject to Lender's liens and security interest therein and upon an express trust for the benefit of Lender until the same is returned to Lender or the Separate Bank Advance to which such Consumer Paper relates has been repaid in full with accrued interest. 6. Affirmative Covenants. Borrower covenants and agrees: 6.01 Note Payments: To pay the Loan (as provided in the Note and this Agreement) when due including but not limited to interest upon the Loan. 6.02 Circumstances Requiring Immediate Repayment of Separate Bank Advance: To repay in full within three (3) days after the first to occur of Borrower's actual knowledge thereof or Lender's written demand with respect thereto, any Separate Bank Advance, plus accrued interest, if the Consumer Loan with respect to which such Separate Bank Advance was made (a) shall be rejected as unsatisfactory for purchase by the pertinent Investor if a Take-Out Commitment was required in connection with such Separate Bank Advance pursuant to the terms hereof; (b) has not been purchased within the applicable warehouse period specified in Schedule 1 or Schedule 2, as applicable, hereto after funding by Lender or within the time permitted under any applicable Take-out Commitment, whichever occurs first; (c) said Consumer Loan becomes 31 or more days contractually past due or in default; (d) as provided in the final sentence of Section 3.03 hereof; or (e) the improvements covered by the applicable Mortgage have sustained a casualty loss in excess of 5% of the appraised value of the land and improvements, whether or not covered by insurance. 6.03 Casualty Insurance: To place, or cause to be placed, and maintained at all times, such fire and extended coverage insurance on all real estate or other property covered by any Consumer Loan Collateral as may be required by the Investor or by Lender. 6.04 Other Insurance: To maintain (a) liability insurance and fire and other hazard insurance on its properties, with responsible insurance companies approved by the Lender, in such amounts and against such risks as is customarily carried by similar 27 businesses operating in the same vicinity; and (b) within thirty (30) days after notice from Lender, will obtain such additional insurance as Lender shall reasonably require, all at the sole expense of the Borrower. Copies of such policies, as well as copies of errors and omissions policies and Fidelity Bonds, if any, maintained by Borrower, shall be furnished to the Lender without charge upon request of the Lender. 6.05 Enforcement of Consumer Paper: To enforce payment and collection, at Borrower's expense, of all Consumer Paper. 6.06 Costs of Collection: To pay the reasonable costs of collection (including attorneys' fees) of any of the Collateral, the enforcement or collection of which has been undertaken by Lender. 6.07 Notation of Assignments: To make appropriate notations on its books of all assignments and liens granted to Lender hereunder, and to give such notice thereof as Lender may from time to time reasonably require. 6.08 Execution of Additional Documents: To execute such additional instruments or assignments of the Collateral as Lender may from time to time reasonably require. 6.09 Submission of Financial Statements: 6.09.01 Submission of Monthly Financial Statements: To furnish to Lender within forty-five (45) days after the close of each month in each fiscal year, Borrower's financial statements, to include a balance sheet and income statement and statement of cash flow of the Borrower for such month, subject to year end audit adjustments, prepared by Borrower in accordance with generally accepted accounting principles consistently applied and certified true and correct by Borrower's Chief Financial Officer, Controller or Vice President of Finance. 6.09.02 Submission of Ouarterly Financial Statements: To furnish to Lender within sixty (60) days after the close of each quarterly accounting period in each fiscal year, Borrower's financial statements, to include a balance sheet and income statement and statement of cash flow of the Borrower for such period, subject to year end audit adjustments, prepared by 28 Borrower in accordance with generally accepted accounting principles consistently applied and certified true and correct by Borrower's Chief Financial Officer, Controller or Vice President of Finance. 6.09.03 Submission of Year End Financial Statement: To furnish to Lender within ninety (90) days after the close of each fiscal year: (a) a statement of shareholders' equity; (b) an income statement for such fiscal year; (c) a cash flow statement for such fiscal period; and (d) a balance sheet as of the end of such fiscal year, all in reasonable detail, including all supporting schedules and comments; the statements and balance sheet to be audited by an independent certified public accountant selected by the Borrower and acceptable to Lender (Lender hereby acknowledging that Grant Thornton is acceptable); and accompanied by such accountant's opinion letter reasonably satisfactory to Lender and certified true and correct by Borrower's Chief Financial Officer, Controller or Vice President of Finance. 6.09.04 Covenant Compliance: That each financial statement submitted pursuant to this Section 6.09 shall include (a) the then current Tangible Net Worth, and (b) the then Leverage Ratio. All such numbers shall be accompanied by work sheet calculations used to arrive at reported result. Borrower shall also provide Lender with a Covenant Compliance Worksheet in form acceptable to Lender, certified as true, correct and complete by Borrower's Chief Financial Officer, Controller or Vice President of Finance. 6.09.05 Intentionally Omitted, 6.09.06 Projections: To furnish to Lender, as requested by Lender, a projected balance sheet, income statement and cash flow statement for each of the upcoming 12 months. 6.09.07 Management Letters: To furnish to Lender, all reports, including management letters, from time to time issued to Borrower by its accountants performing a year-end audit relating to Borrower's financial and accounting policies and procedures. 6.10 Maintenance of Books and Records; Audits: To maintain adequate books, accounts and records in accordance with generally accepted accounting practices with appropriate notations 29 thereon of all assignments to Lender; and to permit Lender, or its representatives at any reasonable time to inspect or examine or audit the books, accounts and records of Borrower. Borrower shall be responsible to Lender for such audit fees as Lender may reasonably assess in connection with any such audit or examination, not to exceed, unless an Event of Default shall be continuing, $4,500 per audit. 6.11 Compliance with Administrative Requests of Lender: To comply with such reasonable administrative directions as Lender may give in order to provide proper servicing of the Separate Bank Advances hereunder. 6.12 Submission of Pipeline Report: To provide when requested by Lender, a copy of the Borrower's pipeline report in form and substance satisfactory to Lender. 6.13 Notification of Default: In connection with any Consumer Loan in respect of which a Separate Bank Advance has been made, to notify Lender within two Business Days of Borrower's discovery of any default thereunder or any claim asserted in connection therewith or of the termination of the Take-out Commitment related thereto or of the rejection by the Investor under said Take-Out Commitment to purchase said Consumer Loan. 6.14 Notification of Borrower's Default: To advise Lender in writing within three Business Days after the expiration of any applicable cure period, of any uncured material default known to Borrower in connection with any material agreement to which Borrower is bound. 6.15 Maintenance of Take-Out Commitments: To keep all Take-Out Commitments in full force and effect and subject to no lien, assignment or other interest (other than that of the Lender) 6.16 Financial Covenants: To maintain on a consolidated basis for the Borrower and its consolidated subsidiaries: (a) Tangible Net Worth of not less than $1,000,000; (b) a Leverage Ratio of not more than 5 to 1. 30 6.17 Tax Returns: To furnish Lender with copies of federal income tax returns filed by Resource America, Inc. or, if tax returns are filed separately by Borrower, by Borrower, within ten (10) days of Lender's written request. 6.18 Payment of Taxes: To pay or cause to be paid when due, all taxes, assessments and charges or levies imposed upon it or on any of its property or which it is required to withhold and pay over, except, as to taxes other than such as to which any lien which attaches with respect thereto has or would with the passage of time have priority over the liens and security interests granted to Lender, where contested in good faith by appropriate proceedings with adequate reserves therefor having been set aside on its books provided, however that the Borrower shall pay or cause to be paid all such taxes, assessments, charges or levies forthwith whenever foreclosure on any lien that attaches (or security therefor) appears imminent. 6.19 New Locations: To furnish Lender with the name and addresses of all new offices and locations, including relocations of existing offices, no later than thirty (30) Business Days prior to the date Borrower commences occupation of said premises. 6.20 Additional Reports: To promptly furnish Lender with such reports and information as it deems reasonably necessary from time to time. 6.21 Accounts: To maintain an Operating Account, Warehouse Account and Restricted Account with Lender. 6.22 Compliance With Laws: To comply with all present and future laws applicable to it in the operation of its business, and all material agreements to which it is subject. 6.23 Notice of Litigation: To give immediate notice to Lender of: (1) any litigation in which it is a party if an adverse decision therein would require it to pay over more than $25,000 in such litigation or in the aggregate for all such litigation or deliver assets the value of which exceeds such sum (whether or not the claim is considered to be covered by insurance); and (2) the institution of any other suit or any administrative proceeding involving it that might materially and adversely affect its operations, financial conditions, property or business. 31 6.24 Payment of Obligations When Due: To pay when due (or within applicable grace periods) all material indebtedness due third persons, except when the amount thereof is being contested in good faith, by appropriate proceedings and with adequate reserves therefor being set aside on the books of Borrower. 6.25 Landlord's Waiver: To use its best efforts to obtain from the landlord of each premises leased by Borrower a waiver of all rights in or to the Collateral. 6.26 ERISA: Borrower will (1) fund all its Employee Benefit Plans in accordance with no less than the minimum funding standards of Section 302 of the Employee Retirement Income Security Act of 1974, as amended ("ERISA"), (2) furnish Lender, promptly after the filing of the same, with copies of all reports or other statements filed with the United States Department of Labor, the Pension Benefit Guaranty Corporation ("PBGC") or the Internal Revenue Service ("IRS") with respect to all such Plans, or which Borrower, or any member of a Controlled Group, may receive from the United States Department of Labor, the IRS or the PBGC, with respect to all such Employee Benefit Plans, and (3) promptly advise Lender of the occurrence of any Reportable Event or Prohibited Transaction with respect to any such Employee Benefit Plan(s) and the action which Borrower proposes to take with respect thereto; or (4) promptly advise Lender of any claim for withdrawal liability made against it or a member of its Controlled Group. 6.27 Credit Policy: To maintain Borrower's current credit underwriting standards and quality control procedures unless Lender first approves any change thereof in writing. 6.28 Management: To maintain a chief financial officer, chief executive officer and chief operating officer acceptable to Lender. 7. Negative Covenants. Without the prior written consent of Lender, Borrower will not: 7.01 No Compromise of Collateral: Make any compromise, adjustment or settlement in respect of any of the Collateral or accept anything other than cash in payment of the Collateral. 32 7.02 Improper Use of Proceeds: Use the proceeds of the Loan, or permit them to be used, for any purpose other than to purchase or originate Eligible Loans pursuant to the terms of this Agreement. 7.03 [INTENTIONALLY OMITTED]. 7.04 No Misleading Information: Furnish to Lender any certificate or document that contains any untrue statement of material fact or omits a material fact necessary to make it not misleading in light of the circumstances under which it was furnished. 7.05 No Change in Ownership: Permit or suffer any change in the shareholders of the Borrower and their respective shareholder shares. 7.06 No Change in Organization: Change its name, enter into any merger, consolidation, reorganization or recapitalization, or reclassify its capital stock, or liquidate or dissolve or acquire any stock in or all or substantially all of the assets of or any partnership or joint venture interest in, or make any loan to or investment in, any other person or entity, other than (i) consumer loans made in the ordinary course of its business and (ii) the acquisition of substantially all of the assets of or all of the capital stock of Tri-Star Financial Services ("Tri-Star"), provided, that if such acquisition is a stock acquisition, Borrower will, concurrently with its acquisition thereof, cause Tri-Star to execute and deliver to Lender all documents and instruments, including an amendment to this Agreement, required by Lender for the purposes of joining Tri-Star to this Agreement as a co-borrower. 7.07 No Sale of Assets: Borrower will not sell, transfer, lease or otherwise dispose of all or (except for the sale of loans and other financial products in the ordinary course of its business and the disposition of equipment or other fixed assets which in Borrower's reasonable judgment is no longer needed in the ordinary course of its business) any part of its assets. 7.08 No Liens: Borrower will not mortgage, pledge, grant or permit to exist a security interest in or lien on any of its assets of any kind, real or personal, tangible or intangible, now 33 owned or hereafter acquired including without limitation the Collateral, except (i) for purchase money liens in equipment, (ii) existing liens shown on Exhibit C hereto, (iii) liens in favor of Lender hereunder, and (iv) liens on Consumer Paper, other than such as against which Lender has made any Separate Bank Advance hereunder, securing indebtedness permitted by Section 7.10(5) hereof. 7.09 No Guaranties: Borrower will not become liable, directly or indirectly, as guarantor, surety, endorser or otherwise, for any obligation or indebtedness of any other person, except for endorsement of commercial paper for deposit or collection in the ordinary course of business. Usual and customary representations and warranties made by Borrower to investors, buyers and other warehouse lenders of Consumer Paper as to the underlying obligors thereon shall not constitute a "guaranty" for this purpose. 7.10 No Indebtedness: Borrower will not incur, create, assume or permit to exist any indebtedness of any nature, except (1) to Lender pursuant hereto, (2) trade indebtedness incurred in the ordinary course of business,(3) purchase money indebtedness for equipment and capital lease obligations not in excess of $75,000 at any time outstanding, (4) Subordinated Debt, and (5) warehouse indebtedness in favor of other warehouse lenders provided that any such warehouse lender first executes an intercreditor agreement in favor of and in form and substance acceptable to Lender. 8. Default. 8.01 Events of Default: Borrower shall be in default under this Agreement upon the happening of any of the following events or conditions: 8.01.01 Failure to pay any principal or interest when due or any fee, expense or other amount required to be paid by Borrower hereunder within five (5) days after written notice from Lender thereof; 8.01.02 Default in the performance of any other obligation, covenant or liability of Borrower contained or referred to herein and, if such default relates to the covenants set forth in Sections 6.04, 6.08, 6.20 or 6.23, the same is not cured within 30 days after Lender provides Borrower with written notice thereof; 34 8.01.03 Any warranty, representation or statement furnished to Lender by or on behalf of Borrower in connection with this Agreement proves to have been false in any material respect when made or furnished; 8.01.04 Loss, theft, substantial damage, destruction, abandonment, sale or encumbrances to or of the Collateral or any part thereof, or the making of any levy, seizure or attachment thereof or thereon; 8.01.05 Dissolution, termination of existence, insolvency, business failure, appointment of a receiver for benefit of creditors by, or the commencement of any case or proceeding under any bankruptcy or insolvency law by or against Borrower or any of its Subsidiaries unless said proceeding, if commenced against Borrower or any of its Subsidiaries, is dismissed within 30 days, from the date it is filed; 8.01.06 Occurrence of any material adverse change in the financial or operating condition of Borrower; 8.01.07 Five (5) days or more shall elapse from the date of release of any Consumer Paper and any other item of Collateral to Borrower made at Lender's sole discretion subject to such terms and conditions as Lender may from time to time require and such Collateral has not been returned to Lender; 8.01.08 Twenty-one (21) days or more (or such greater time as Lender may approve) shall elapse from the date of shipment or delivery of Collateral to an Investor without Lender having received full payment of the Separate Bank Advance(s) or portions thereof secured thereby; 8.01.09 The occurrence of any circumstance that would cause any Consumer Loan in respect of which a Separate Bank Advance was made to fail to conform to the definition of Eligible Loan; 8.01.10 If presently held or later obtained, subsequent loss of FNMA and/or FHLMC certification; 35 8.01.11 Failure of Borrower to observe or perform any agreement of any nature whatsoever with Lender; 8.01.12 Borrower's default under the terms and conditions of any other loan or credit agreement or other material agreement with Lender or any third party, including any contract granting Borrower Servicing Rights. 8.02 Remedies Upon Default: Upon such default, at Lender's election, no additional advances shall be made by Lender and/or this Agreement may be terminated and/or all sums now or hereafter owed by Borrower to Lender may be declared to be immediately due and payable, and Lender may charge Borrower's DDA account for any or all sums due and owing to Lender. Lender shall have the rights and remedies of a secured party under the Uniform Commercial Code in addition to the rights and remedies provided herein or in any other instrument or paper executed by Borrower, including, at its option and in its sole discretion, until all sums now or hereafter owed to the Lender are paid in full, the right or rights to: 8.02.01 Communicate with and notify the obligors under any Consumer Loans of Borrower's assignments hereunder, and note any such assignment on Borrower's records; 8.02.02 Take over the exclusive right to collect the Collateral at the sole expense of the Borrower, without any obligation to preserve rights against third parties. For any acts done or not done incident to such collection or liquidation, Lender shall not be liable in any manner. Lender shall have the right to settle, compromise, or adjust Collateral and the claims or right of Borrower thereunder and accept return of the real estate or other Consumer Loan Collateral involved, and in turn sell and dispose of all said real estate without notice to or approval of Borrower, Lender may employ agents and attorneys to collect or liquidate any Collateral, and Lender shall not be liable for such Collateral or defaults of any such Lenders and attorneys; 8.02.03 To effect collection of any Consumer Loan, take possession of and open any mail addressed to Borrower whether on Borrower's premises or elsewhere and to remove, collect, and apply all payments therein contained and as attorney in fact for Borrower, sign the Borrower's name to any receipts, checks, notes, 36 agreements, assignments or other instruments or letters, in order to collect, sell or liquidate the Collateral. This power shall be irrevocable; 8.02.04 Require Borrower to assemble all books and records of account relating to the Collateral and make them available to Lender at its office herein set forth or such other place as may be designated by Lender; 8.02.05 Enter the office of Borrower and take possession of any of the Collateral including any records that pertain to the Collateral; and 8.02.06 Undertake to service any Consumer Loans and upon the happening of such, Borrower shall transfer to Lender all escrow funds, records, and any other documents relating to any such Consumer Loans then held by it. 8.03 Remedies Cumulative: All remedies available to Lender shall be cumulative and not alternate in that the exercise of one or more of them shall not preclude exercising one or more of the others. 8.04 Indemnity: (a) Borrower agrees to defend, protect, indemnify and hold harmless Lender and its officers, directors, employees, attorneys and Lenders (including, without limitation, those retained in connection with the satisfaction or attempted satisfaction of any of the conditions set forth herein) (collectively, the "Indemnities") from and against any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, claims, costs, expenses and disbursements of any kind or nature whatsoever (including, without limitation, the reasonable fees and disbursements of counsel for such Indemnities in connection with any investigative, administrative or judicial proceeding, whether or not such Indemnities shall be designated a party thereto), imposed on, incurred by, or asserted against such Indemnities (whether direct, indirect or consequential and whether based on any federal or state laws or other statutory regulations, including, without limitation, securities and commercial laws and regulations, under common law or at equity, or on contract or otherwise) in any manner relating to or arising out of this Agreement, or any act, event or transaction related or attendant thereto, the making of the Loan, the management of the Loan or the use or intended use of the proceeds of the Loan (collectively, the 37 "Indemnified Matters"); provided, that Borrower shall have no obligation to an Indemnitee hereunder with respect to (i) Indemnified Matters caused by or resulting from the willful misconduct or gross negligence of that Indemnitee, as determined by a court of competent jurisdiction, or (ii) any loss directly resulting from and which would not have occurred but for the failure of Lender to perform its obligations under this Agreement. To the extent that the undertaking to indemnify, pay and hold harmless set forth in the preceding sentence may be unenforceable because it is violative of any law or public policy, Borrower shall contribute the maximum portion which it is permitted to pay and satisfy under applicable law, to the payment and satisfaction of all Indemnified Matters incurred by the Indemnities. (b) Without prejudice to the survival of any other obligation of Borrower hereunder, the obligations and indemnities of Borrower contained in this Section shall survive the termination of this Agreement and payment in full of principal and interest hereunder and under the Notes. 9. Sale of Consumer Paper. So long as no Event of Default or event which with the passage of time and/or the giving of notice would constitute an Event of Default has occurred hereunder, Lender shall: 9.01 Delivery of Consumer Paper by Lender: Upon sale by Borrower of any Consumer Loan on which a Separate Bank Advance has been made hereunder and receipt by Lender of the entire proceeds thereof in an amount sufficient to repay in full the Separate Bank Advance related thereto, Lender shall deliver the Consumer Paper as requested by Borrower to the Investor. Lender agrees to send the original Consumer Paper together with the loan document delivery package received from Borrower directly to the pertinent Investor no later than one Business Day after receipt of said sale proceeds. Proceeds received by Lender from the Investor shall be deposited in the Restricted Account for application to the related Separate Bank Advance and any other amounts then due by Borrower hereunder, and any sums remaining after full repayment of the pertinent Separate Bank Advance and such other amounts will be promptly credited to Borrower's Operating Account. Lender may require Borrower to deliver a cover letter, in form satisfactory to Lender, directing Investor to make payment directly to Lender. 38 9.02 Reassignment of Consumer Paper by Lender. Reassign to Borrower any Consumer Paper referred to in Paragraph 6.02 hereof, and to deliver all supporting papers, upon payment in full to Lender of the respective Separate Bank Advance, plus accrued interest. 10. Collections. Upon default if so requested by Lender, in writing, Borrower shall act as the representative of, and in trust for, Lender in receiving and collecting all monies payable on any Consumer Loan and after collection thereof shall deposit the same in the Restricted Account, and the same shall be held by Lender as part of the Collateral hereunder. Lender, upon deposit in the Restricted Account of any monies payable on any such Consumer Loan, may, in its sole discretion, apply all or any part thereof to the payment of Borrower's obligation arising out of the related Separate Bank Advance or toward any other Secured Obligation. 11. Miscellaneous. 11.01 Notices: Except as to routine business matters, any and all communications between the parties hereto or notices provided herein to be given in writing shall be i) delivered in person, ii) sent by both certified or registered mail, return receipt requested, and by regular mail, iii) by overnight courier service that provides for proof of delivery; or iv) via facsimile transmission; addressed as follows: if to Lender, 1339 Chestnut Street, F.C.1-8-12-7, Philadelphia, PA 19102, (Fax No. (215) 786-8304), Attention: Andrew Tauber; if to Borrower: Fidelity Mortgage Funding, Inc., 7 East Skippack Pike, Ambler, Pennsylvania 19002 (Fax No. (215)648-3524) Attention: ___________, or to such other address any party may by notice indicate to the others from time to time. Unless sooner received, all notices shall be deemed delivered two (2) days after mailing, as herein set forth. Actual knowledge of the contents of the notice, however received, shall constitute proper notice hereunder. 11.02 Successors and Assigns: The terms and provisions of this Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns. All representations, warranties, covenants (affirmative and negative) and agreements herein contained on the part of 39 Borrower shall survive the making of any Separate Bank Advance and the execution of Borrower's Note, and shall be effective as long as any sums remain due and owing to Lender. 11.03 Assignment by Lender: Participations: (a) Lender may, at any time, transfer or assign its Note and its rights under this Agreement in whole or in part, without the prior written consent of Borrower; (b) Lender may grant participations in its Note and in rights under this Agreement and may, provided that Lender first has such participant sign Lender's standard confidentiality agreement, furnish to its participants or prospective participants financial and other information concerning the Borrower in connection therewith. 11.04 Delay - No Waiver -- No delay in exercising, or failure to exercise any right, power or remedy accruing to Lender through any breach or default of Borrower under this Agreement, or any acquiescence to any such breach or default, or to any similar breach or default thereafter occurring, shall impair any such right, power or remedy of Lender nor shall any waiver of any single breach or default be deemed a waiver of any breach or default thereafter occurring. Any waiver, permit, consent or approval of any kind or character on the part of Lender of any provision or condition of the Agreement, must be in writing and shall be effective only to the extent of such writing specifically set forth. In the event Lender is required to take any action to collect sums due under the Note or to enforce, renegotiate, restructure or modify the terms of this Agreement, or is required to institute, defend or otherwise participate in any action at law or suit in equity arising from this Agreement, or any Consumer Loan or Consumer Loan Collateral forming part of the Collateral, Borrower, in addition to all other sums which it may be called upon to pay, will pay Lender's fees, expenses and costs, including the reasonable fees, incurred by Lender in connection therewith. Nothing in this Agreement shall be deemed any waiver or prohibition of Lender's right of set-off, except that Lender agrees to not set-off against any legitimate custodial or escrow account in which Borrower accumulates funds owned by individual mortgagors or other third parties. 11.05 (a) Entire Agreement-Supplemental Policies and Procedures: This Agreement, together with the Note and other documents executed in connection herewith, sets forth the entire 40 agreement among the parties hereto, and there are no other agreements, express or implied, written or oral, except as set forth herein and thereon. This Agreement may not be amended, altered or changed except in writing by all parties hereto. It is contemplated that from time to time Borrower and Lender will enter into supplemental agreements establishing policies and procedures to carry out the terms of this Agreement. Such agreements shall constitute amendments hereto provided they are signed by Borrower and Lender. (b) Partial Invalidity: The inapplicability or unenforceability of any provision of this Agreement shall not limit or impair the operation or validity of any other provisions of this Agreement. (c) Counterparts: This Agreement may be executed in any number of counterparts, each of which, when executed and delivered, shall be an original, but such counterparts shall together constitute one and the same instrument. (d) No Assignment by Borrower: This Agreement shall not be assignable by Borrower without the express written approval of Lender. (e) Materiality Reliance by Lender: All covenants, agreements and representations made herein and in documents delivered in support of this Agreement, now or in the future, shall be deemed to have been material and relied on by Lender and shall not merge with this Agreement. (f) No Third Party Beneficiary: The parties hereto understand and agree that there is no intention to confer any benefits upon any person or legal entity not a party to this Agreement. (g) Confidentiality: All information and materials provided to Lender and Lenders by Borrower shall be treated with the same degree of confidentiality as Lender maintains with regard to similar information of its other customers generally. Nothing contained herein shall prevent Lender from releasing to actual or proposed loan participants such information regarding Borrower as Lender may deem pertinent and necessary. 41 11.06 Interpretation of Accounting Terms: Each accounting term used in this Agreement which is not specifically defined shall have the meaning customarily given to it in accordance with generally accepted accounting principles. 11.07 PENNSYLVANIA LAW; CONSENT TO JURISDICTION AND SERVICE: THIS AGREEMENT AND THE NOTE SHALL BE GOVERNED BY THE LAWS OF THE COMMONWEALTH OF PENNSYLVANIA. BORROWER AGREES AND CONSENTS TO THE EXCLUSIVE JURISDICTION OF THE COURT OF COMMON PLEAS OF PHILADELPHIA, PENNSYLVANIA AND/OR THE UNITED STATES DISTRICT COURT FOR THE EASTERN DISTRICT OF PENNSYLVANIA. BORROWER AND LENDER HEREBY WAIVES ALL RIGHT TO DEMAND A JURY TRIAL, IN ANY AND ALL ACTIONS AND PROCEEDINGS WHETHER ARISING HEREUNDER OR UNDER ANY OTHER AGREEMENT OR UNDERTAKING AND IRREVOCABLY AGREES TO SERVICE OF PROCESS SENT BY CERTIFIED MAIL, RETURN RECEIPT REQUESTED, AND REGULAR MAIL TO THE ADDRESS AS SET FORTH HEREIN, OR SUCH ADDRESS AS MAY APPEAR IN LENDER'S RECORDS. IN WITNESS WHEREOF, the parties have executed this Agreement all as of the day and year first hereinabove written. CORESTATES BANK, N.A., By: /s/ Andrew Tauber ------------------------ Andrew Tauber Vice President FIDELITY MORTGAGE FUNDING, INC. By: ------------------------ Attest: -------------------- 42 SCHEDULE 1 FIDELITY MORTGAGE FUNDING, INC. NON-CONFORMING CREDIT UNDERWRITING CRITERIA Classes of Loans A(1) B C D(2) Warehouse Period 90 90 90 45 Debt to Income 50% 50% 50% 60% Loan to Value 90% 85% 80% 75% Mortgage Loan Maximum $200,000 on any non pre-approved Mortgage Loan. Any loan over $200,000 provided that the loan is pre-approved by the Bank. Employment Must be verified on all Loans. The Borrower can underwrite and close NIQ and NIV Loans. Property 1 - 4 Family Dwelling; both owner occupied and investor properties are eligible. Appraisal Required on all Loans. Closings Must be closed by counsel or title company. Schedule 1 [continued on next page] (1) With respect to Class "A" Mortgage Loans, the Bank will permit such Mortgage Loans to have a loan-to-value ratio not to exceed one hundred percent (100%) and a debt-to-income ratio not to exceed 45%. (2) Limited to 10% of Maximum Loan Amount. 43 The Bank in its sole discretion retains the right to accept or reject any collateral. From time to time, the Borrower may request a revision on the credit underwriting criteria set out above provided (i) the Borrower submits a revised Schedule 1 to the Bank for its written approval; and (ii) the Bank approves the revised Schedule, in writing, as evidenced by a letter from the Bank to the Borrower. 44 Schedule 2 Fidelity Mortgage Funding, Inc. Small Multi Family/Mixed use Loans Underwriting Criteria (Advance Rate is 95% with a 60 day warehouse period) Eligible Property Residential properties which may include income from nonresidential sources. Minimum Debt Service Coverage Ratio 2-6 Units: Net income equal or exceed debt service. 7 or more Units: 1.20x based on net income available for debt service. Maximum Loan to Value 70% Occupancy Both owner occupied and investor properties are eligible. Loan Limits Minimum: $50,000 Maximum: $500,000 Lien Position First liens only 45 EXHIBIT "A" Ownership of Stock a. 100% of authorized and issued capital stock is owned by Resource America, Inc. EXHIBIT "B" Location a. 7 East Skippack Pike, Ambler, Pennsylvania 19002 NOTE $5,000,000.00 September 23, 1997 FOR VALUE RECEIVED, and intending to be legally bound, FIDELITY MORTGAGE FUNDING, INC. ("Borrower") promises to pay to the order of CORESTATES BANK, N.A. ("Bank") at Bank's office, the lesser of FIVE MILLION ($5,000,000.00) or the principal balance outstanding hereunder pursuant to the provisions of the Warehousing Agreement referred to below. The actual amount due and owing from time to time hereunder shall be evidenced by the Bank's records of receipts and disbursements hereunder which shall be conclusive evidence of such amount. Borrower further agrees to pay interest on the unpaid principal amount outstanding hereunder in accordance with the terms and conditions of the Warehousing Agreement. This Note constitutes the "Note" referred to in that certain Warehousing Agreement of even date herewith between Borrower and Bank, to which agreement reference is hereby made for the terms and provisions thereof, and for additional rights and limitations of such rights of the Borrower and Bank thereunder, including, but not limited to, provisions for Borrower's right to borrow, prepay and reborrow part or all of the principal hereof under certain conditions and for the acceleration of Borrower's liabilities to Bank upon the occurrence of certain events as therein specified. In the event counsel is employed to collect this obligation or to protect the security hereof, Borrower agrees to pay, upon demand, the reasonable attorneys' fees of Bank, whether suit be brought or not, and all other costs and expenses reasonably connected with collection. Borrower and any endorser, guarantor or surety, jointly and severally, waive presentment, protest and demand, notice of protest, demand and dishonor and nonpayment of this Note, and expressly agree that this Note, or any payment hereunder, may be extended from time to time without in any way affecting the liability of the Borrower or any endorser hereof. The validity and construction and enforceability of, and the rights and obligations of Borrower and Bank under this Note and the aforesaid Warehousing Agreement shall be governed by, construed and enforced in accordance with the substantive laws of the Commonwealth of Pennsylvania. If permitted by law, Borrower hereby authorizes and empowers any attorney of any court of record upon the occurrence of any Event of Default under the Warehousing Agreement to appear for and confess judgment against Borrower without prior notice to Borrower or prior opportunity to be heard for such sums as shall have become due under this Note and all other obligations hereunder of Borrower to Bank, with or without declaration, with costs of suit (including, without limitation, reasonable attorneys' fees and disbursements) and release of error, without stay of execution. If a copy of this Note, verified by affidavit of Bank or someone on behalf of Bank, shall have been filed in such action, it shall not be necessary to file the original Note as a warrant of attorney. The authority and power to appear for and enter judgment against Borrower shall not be exhausted by one or more exercises thereof, or by any imperfect exercise thereof, and shall not be extinguished by any judgment entered pursuant thereto; the authority and power may be exercised on one or more occasions, from time to time, in the same or different jurisdictions, as often as Bank shall deem necessary or desirable, for all of which this Note shall be a sufficient warrant. IN WITNESS WHEREOF, Borrower has caused these presents to be executed the day and year first above written. FIDELITY MORTGAGE FUNDING, INC. By: ----------------------------- Attest: ------------------------- 2 EX-10.13 3 EXHIBIT 10.13 =============================================================================== MASTER LOAN AND SECURITY AGREEMENT ------------------------------ Dated as of October 16, 1997 ------------------------------ FIDELITY MORTGAGE FUNDING, INC. as Borrower and MORGAN STANLEY MORTGAGE CAPITAL INC. as Lender =============================================================================== TABLE OF CONTENTS RECITALS 1 SECTION 1. DEFINITIONS AND ACCOUNTING MATTERS 1 1.01 Certain Defined Terms 1 1.02 Accounting Terms and Determinations 8 SECTION 2. LOANS, NOTE AND PREPAYMENTS 9 2.01 Loans 9 2.02 Notes 9 2.03 Procedure for Borrowing 9 2.04 Limitation on Types of Loans; Illegality 10 2.05 Repayment of Loans; Interest 11 2.06 Mandatory Prepayments or Pledge 11 SECTION 3. PAYMENTS; COMPUTATIONS; ETC. 11 3.01 Payments 11 3.02 Computations 12 3.03 U.S. Taxes 12 SECTION 4. COLLATERAL SECURITY 13 4.01 Collateral; Security Interest 13 4.02 Further Documentation 14 4.03 Changes in Locations, Name, etc. 14 4.04 Lender's Appointment as Attorney-in-Fact 14 4.05 Performance by Lender of Borrower's Obligations 15 4.06 Proceeds 15 4.07 Remedies 16 4.08 Limitation on Duties Regarding Presentation of Collateral 16 4.09 Powers Coupled with an Interest 17 4.10 Release of Security Interest 17 SECTION 5. CONDITIONS PRECEDENT 17 5.01 Initial Loan 17 5.02 Initial and Subsequent Loans 18 SECTION 6. REPRESENTATIONS AND WARRANTIES 19 6.01 Existence 19 6.02 Financial Condition 19 6.03 Litigation 20 6.04 No Breach 20 6.05 Action 20 6.06 Approvals 20 6.07 Margin Regulations 21 6.08 Taxes 21 6.09 Investment Company Act 21 -i- 6.10 Collateral; Collateral Security 21 6.11 Chief Executive Office 22 6.12 Location of Books and Records 22 6.13 Hedging 22 6.14 True and Complete Disclosure 22 6.15 Tangible Net Worth 22 6.16 ERISA 22 SECTION 7. COVENANTS OF THE BORROWER 22 7.01 Financial Statements 22 7.02 Litigation 24 7.03 Existence, etc. 25 7.04 Prohibition of Fundamental Changes 25 7.05 Borrowing Base Deficiency 25 7.06 Notices 25 7.07 Hedging 26 7.08 Reports 26 7.09 Underwriting Guidelines 26 7.10 Transactions with Affiliates 26 7.11 Limitation on Liens 26 7.12 Limitation on Guarantees 27 7.13 Limitation on Distributions 27 7.14 Maintenance of Tangible Net Worth 27 7.15 Maintenance of Ratio of Total Indebtedness to Tangible Net Worth 27 7.16 Maintenance of Profitability 27 7.17 Servicing Tape 27 SECTION 8. EVENTS OF DEFAULT 27 SECTION 9. REMEDIES UPON DEFAULT 29 SECTION 10. NO DUTY OF LENDER 29 SECTION 11. MISCELLANEOUS 29 11.01 Waiver 29 11.02 Notices 30 11.03 Indemnification and Expenses 30 11.04 Amendments 31 11.05 Successors and Assigns 31 11.06 Survival 31 11.07 Captions 31 11.08 Counterparts 31 11.09 Loan Agreement Constitutes Security Agreement; Governing Law 31 11.10 Submission to Jurisdiction; Waivers 31 11.11 Waiver of Jury Trial 32 11.12 Acknowledgments 32 11.13 Hypothecation or Pledge of Loans 32 11.14 Servicing 32 11.15 Periodic Due Diligence Review 33 11.16 Intent 34 -ii- SCHEDULES SCHEDULE 1 Representations and Warranties re: Mortgage Loans SCHEDULE 2 Filing Jurisdictions and Offices EXHIBITS EXHIBIT A Form of Promissory Note EXHIBIT B Form of Custodial Agreement EXHIBIT C Form of Opinion of Counsel to Borrower EXHIBIT D Form of Request for Borrowing EXHIBIT E-1 Form of Borrower's Release Letter EXHIBIT E-2 Form of Warehouse Lender's Release Letter EXHIBIT F Underwriting Guidelines -iii- MASTER LOAN AND SECURITY AGREEMENT MASTER LOAN AND SECURITY AGREEMENT, dated as of October 16, 1997, between FIDELITY MORTGAGE FUNDING, INC., a Delaware corporation (the "Borrower"), and MORGAN STANLEY MORTGAGE CAPITAL INC., a Delaware corporation (the "Lender"). RECITALS The Borrower has requested that the Lender from time to time make revolving credit loans to it to finance certain residential mortgage loans owned by the Borrower, and the Lender is prepared to make such loans upon the terms and conditions hereof. Accordingly, the parties hereto agree as follows: Section 1. Definitions and Accounting Matters. 1.01 Certain Defined Terms. As used herein, the following terms shall have the following meanings (all terms defined in this Section 1.01 or in other provisions of this Loan Agreement in the singular to have the same meanings when used in the plural and vice versa): "'A' Credit Mortgage Loan" shall mean a Mortgage Loan made by the Borrower to a Mortgagor with an 'A' credit history which is underwritten in accordance with the Borrower's Underwriting Guidelines for 'A' Credit Mortgage Loans. "Affiliate" shall mean (i) with respect to the Lender, MS & Co. and Morgan Stanley, Dean Witter, Discover & Co., and (ii) with respect to the Borrower, any "affiliate" of the Borrower as such term is defined in the Bankruptcy Code. "Affiliate Guaranty" shall mean that certain Affiliate Guaranty dated as of October 16, 1997, made by Resource America Inc. in favor of the Lender, as amended from time to time. "Affiliated Party" shall mean the collective reference to the Borrower and the Guarantor. "Applicable Collateral Percentage" shall mean (i) with respect to Eligible Mortgage Loans (other than Delinquent Mortgage Loans), ninety-five percent (95%) and (ii) with respect to Eligible Mortgage Loans that are Delinquent Mortgage Loans, eighty-five percent (85%). "Applicable Margin" shall mean: (i) 0.90% or (ii) in the event that MS & Co. acts as sole or lead underwriter or placement agent in a Securitization Transaction, then with respect to all Eligible Mortgage Loans delivered during the ninety (90) days subsequent to the closing date of such Securitization Transaction, 0.80%. "'B' Credit Mortgage Loan" shall mean a Mortgage Loan made by the Borrower to a Mortgagor with a 'B' credit history which is underwritten in accordance with the Borrower's Underwriting Guidelines for 'B' Credit Mortgage Loans. "Bankruptcy Code" shall mean the United States Bankruptcy Code of 1978, as amended from time to time. -1- "Borrower" shall have the meaning provided in the heading hereof. "Borrowing Base" shall mean the aggregate Collateral Value of all Eligible Mortgage Loans. "Borrowing Base Deficiency" shall have the meaning provided in Section 2.06 hereof. "Business Day" shall mean any day other than (i) a Saturday or Sunday or (ii) a day on which the New York Stock Exchange, the Federal Reserve Bank of New York or the Custodian is authorized or obligated by law or executive order to be closed. "Capital Expanditures" shall mean, as to any Person for any period, the aggregate amount paid or accrued by such Person and its Afffliates for the rental, lease, purchase (including by way of the acquisition of securities of any Person), construction or use of any Property during such period, the value or cost of which, in accordance with GAAP, would appear on such Person's consolidated balance sheet in the category of property, plant or equipment at the end of such period. "Capital Lease Obligations" shall mean, for any Person, all obligations of such Person to pay rent or other amounts under a lease of (or other agreement conveying the right to use) Property to the extent such obligations are required to be classified and accounted for as a capital lease on a balance sheet of such Person under GAAP, and, for purposes of this Loan Agreement, the amount of such obligations shall be the capitalized amount thereof, determined in accordance with GAAP. "'C' Credit Mortgage Loan" shall mean a Mortgage Loan made by the Borrower to a Mortgagor with a 'C' credit history which is underwritten in accordance with the Borrower's Underwriting Guidelines for 'C' Credit Mortgage Loans. "Code" shall mean the Internal Revenue Code of 1986, as amended from time to time. "Collateral" shall have the meaning provided in Section 4.01(b) hereof. "Collateral Value" shall mean, with respect to each Mortgage Loan, the lesser of (a) the Applicable Collateral Percentage of the Market Value of such Mortgage Loan, and (b) 98% of the outstanding principal balance of such Mortgage Loan; provided, that, (i) the Collateral Value shall be deemed to be zero with respect to each Mortgage Loan (1) in respect of which there is a breach of a representation and warranty set forth on Schedule 1 (assuming each representation and warranty is made as of the date Collateral Value is determined), (2) in respect of which there is a delinquency in the payment of principal and/or interest which continues for a period in excess of 59 days (without regard to any applicable grace periods), (3) which remains pledged to the Lender hereunder later than 95 days after the date on which it is first included in the Collateral, (4) which has been released from the possession of the Custodian under the Custodial Agreement to the Borrower for a period in excess of 14 days, or (5) which is a Wet-Ink Mortgage Loan with respect to which the original Mortgage Loan Documents have not been received by the Custodian on the second Business Day following the Funding Date; (ii) the aggregate Collateral Value of Mortgage Loans which are 'C' Credit Mortgage Loans or 'D' Credit Mortgage Loans may not exceed 35% of the Maximum Credit; -2- (iii) the aggregate Collateral Value of Mortgage Loans which are Second Lien Mortgage Loans may not exceed 10% of the aggregate principal balance of the Loans outstanding; (iv) the aggregate Collateral Value of Mortgage Loans which are Wet-Ink Mortgage Loans may not exceed 20% of the Maximum Credit; (v) the aggregate Collateral Value of Mortgage Loans which are Delinquent Mortgage Loans may not exceed 5% of the aggregate principal balance of the Loans outstanding. "Custodial Agreement" shall mean the Custodial Agreement, dated as of the date hereof, among the Borrower, the Custodian and the Lender, substantially in the form of Exhibit B hereto, as the same shall be modified and supplemented and in effect from time to time. "Custodian" shall mean Norwest Bank Minnesota, National Association, as custodian under the Custodial Agreement, and its successors and permitted assigns thereunder. "'D' Credit Mortgage Loan" shall mean a Mortgage Loan made by the Borrower to a Mortgagor with a 'D' credit history which is underwritten in accordance with the Borrower's Underwriting Guidelines for 'D' Credit Mortgage Loans. "Default" shall mean an Event of Default or an event that with notice or lapse of time or both would become an Event of Default. "Delinquent Mortgage Loan" shall mean an Eligible Mortgage Loan which is more than 29 days, but less than or equal to 59 days delinquent. "Dollars" and "S" shall mean lawful money of the United States of America. "Due Diligence Review" shall mean the performance by the Lender of any or all of the reviews permitted under Section 11.15 hereof with respect to any or all of the Mortgage Loans, as desired by the Lender from time to time. "Effective Date" shall mean the date upon which the conditions precedent set forth in Section 5.01 shall have been satisfied. "Eligible Mortgage Loan" shall mean a Mortgage Loan secured by a first or second mortgage lien on a one-to-four family residential property, as to which the representations and warranties in Section 6.10 and Part I of Schedule 1 hereof are correct and which is either an 'A' Credit Mortgage Loan, a 'B' Credit Mortgage Loan, a 'C' Credit Mortgage Loan, or a 'D' Credit Mortgage Loan. "ERISA' shall mean the Employee Retirement Income Security Act of 1974, as amended from time to time. "ERISA Affiflate" shall mean any corporation or trade or business that is a member of any group of organizations (i) described in Section 414(b) or (c) of the Code of which the Borrower is a member and (ii) solely for purposes of potential liability under Section 302(c)(11) of ERISA and -3- Section 412(c)(11) of the Code and the lien created under Section 302(f) of ERISA and Section 412(n) of the Code, described in Section 414(m) or (o) of the Code of which the Borrower is a member. "Eurodollar Rate" shall mean, with respect to each day a Loan is outstanding (or if such day is not a Business Day, the next succeeding Business Day), the rate per annum equal to the rate appearing at page 5 of the Telerate Screen as one-month LIBOR on such date, and if such rate shall not be so quoted, the rate per annum at which the Lender is offered Dollar deposits at or about 10:00 A.M., New York City time, on such date by prime banks in the interbank eurodollar market where the eurodollar and foreign currency exchange operations in respect of its Loans are then being conducted for delivery on such day for a period of 30 days and in an amount comparable to the amount of the Loans to be outstanding on such day. "Event of Default" shall have the meaning provided in Section 8 hereof. "Federal Funds Rate" shall mean, for any day, the weighted average of the rates on overnight federal funds transactions with members of the Federal Reserve System arranged by federal funds brokers, as published on the next succeeding Business Day by the Federal Reserve Bank of New York, or, if such rate is not so published for any day which is a Business Day, the average of the quotations for the day of such transactions received by the Lender from three federal funds brokers of recognized standing selected by it. "First Lien Mortgage Loan" shall mean an Eligible Mortgage Loan secured by the lien on the Mortgaged Property, subject to no prior liens on such Mortgaged Property. "Funding Date" shall mean the date on which a Loan is made hereunder. "GAAP" shall mean generally accepted accounting principles as in effect from time to time in the United States. "Governmental Authority" shall mean any nation or government, any state or other political subdivision thereof, any entity exercising executive, legislative, judicial, regulatory or administrative functions of or pertaining to government and any court or arbitrator having jurisdiction over the Borrower, any of its Subsidiaries or any of its properties. "Guarantee" shall mean, as to any Person, any obligation of such Person directly or indirectly guaranteeing any Indebtedness of any other Person or in any manner providing for the payment of any Indebtedness of any other Person or otherwise protecting the holder of such Indebtedness against loss (whether by virtue of partnership arrangements, by agreement to keep-well, to purchase assets, goods, securities or services, or to take-or-pay or otherwise); provided that the term "Guarantee" shall not include (i) endorsements for collection or deposit in the ordinary course of business, or (ii) obligations to make servicing advances for delinquent taxes and insurance or other obligations in respect of a Mortgaged Property, to the extent required by the Lender. The amount of any Guarantee of a Person shall be deemed to be an amount equal to the stated or determinable amount of the primary obligation in respect of which such Guarantee is made or, if not stated or determinable, the maximum reasonably anticipated liability in respect thereof as determined by such Person in good faith. The terms "Guarantee" and "Guaranteed" used as verbs shall have correlative meanings. "Guarantor" shall mean Resource America Inc., or any successor in interest under the Affiliate Guaranty. -4- "Indebtedness" shall mean, for any Person: (a) obligations created, issued or incurred by such Person for borrowed money (whether by loan, the issuance and sale of debt securities or the sale of Property to another Person subject to an understanding or agreement, contingent or otherwise, to repurchase such Property from such Person); (b) obligations of such Person to pay the deferred purchase or acquisition price of Property or services, other than trade accounts payable (other than for borrowed money) arising, and accrued expenses incurred, in the ordinary course of business so long as such trade accounts payable are payable within 90 days of the date the respective goods are delivered or the respective services are rendered; (c) Indebtedness of others secured by a Lien on the Property of such Person, whether or not the respective Indebtedness so secured has been assumed by such Person; (d) obligations (contingent or otherwise) of such Person in respect of letters of credit or similar instruments issued or accepted by banks and other financial institutions for account of such Person; (e) Capital Lease Obligations of such Person; (f) obligations of such Person under repurchase agreements or like arrangements; (g) Indebtedness of others Guaranteed by such Person; (h) all obligations of such Person incurred in connection with the acquisition or carrying of fixed assets by such Person; and (i) Indebtedness of general partnerships of which such Person is a general partner. "Interest Rate Protection Agreement" shall mean, with respect to any or all of the Mortgage Loans, any short sale of US Treasury Security, or futures contract, or mortgage related security, or Eurodollar futures contract, or options related contract, or interest rate swap, cap or collar agreement or similar arrangements providing for protection against fluctuations in interest rates or the exchange of nominal interest obligations, either generally or under specific contingencies, entered into by the Borrower with MS & Co. or its affiliate, and reasonably acceptable to the Lender. "Lender" shall have the meaning provided in the heading hereto. "Lien" shall mean any mortgage, lien, pledge, charge, security interest or similar encumbrance. "Loan" shall have the meaning provided in Section 2.01(a) hereof. "Loan Agreement" shall mean this Master Loan and Security Agreement, as the same may be amended, supplemented or otherwise modified from time to time. "Loan Documents" shall mean, collectively, this Loan Agreement, the Note, the Affiliate Guaranty and the Custodial Agreement. "Market Value" shall mean, as of any date in respect of an Eligible Mortgage Loan, the price at which such Eligible Mortgage Loan could readily be sold as determined in good faith by the Lender. The Lender's determination of Market Value shall be conclusive upon the parties absent manifest error on the part of the Lender. "Material Adverse Effect" shall mean a material adverse effect on (a) the Property, business, operations, financial condition or prospects of the Borrower, (b) the ability of the Borrower to perform its obligations under any of the Loan Documents to which it is a party, (c) the validity or enforceability of any of the Loan Documents, (d) the rights and remedies of the Lender under any of the Loan Documents, (e) the timely payment of the principal of or interest on the Loans or other amounts payable in connection therewith or (f) the Collateral. "Maximum Credit" shall mean $15,000,000. -5- "Mortgage" shall mean the mortgage, deed of trust or other instrument securing a Mortgage Note, which creates a first or second lien on the fee in real property securing the Mortgage Note. "Mortgage File" shall have the meaning assigned thereto in the Custodial Agreement. "Mortgage Loan" shall mean a mortgage loan which the Custodian has been instructed to hold for the Lender pursuant to the Custodial Agreement, and which Mortgage Loan includes, without limitation, (i) a Mortgage Note and related Mortgage and (ii) all right, title and interest of the Borrower in and to the Mortgaged Property covered by such Mortgage. "Mortgage Loan Documents" shall mean, with respect to a Mortgage Loan, the documents comprising the Mortgage File for such Mortgage Loan. "Mortgage Loan Schedule" shall have the meaning assigned thereto in the Custodial Agreement. "Mortgage Loan Schedule and Exception Report" shall mean the mortgage loan schedule and exception report prepared by the Custodian pursuant to the Custodial Agreement. "Mortagae Loan Tape" shall mean a computer-readable electronic transmission containing the following information with respect to each Mortgage Loan, to be delivered by the Borrower to the Lender pursuant to Section 2.03(a) hereof: (i) a field detailing whether the Mortgage Loan is an 'A' Credit Mortgage Loan, a 'B' Credit Mortgage Loan, a 'C' Credit Mortgage Loan, or a 'D' Credit Mortgage Loan; (ii) a field indicating whether the Mortgage Loan is a Second Lien Mortgage Loan; (iii) a field indicating whether the Mortgage Loan is a Wet-Ink Mortgage Loan, and (iv) such other fields as shall be mutually agreed upon by the Borrower and the Lender. "Mortgage Note" shall mean the original executed promissory note or other evidence of the indebtedness of a mortgagor/borrower with respect to a Mortgage Loan. "Mortgaged Property" shall mean the real property (including all improvements, buildings, fixtures, building equipment and personal property thereon and all additions, alterations and replacements made at any time with respect to the foregoing) and all other collateral securing repayment of the debt evidenced by a Mortgage Note. "Mortgagor" shall mean the obligor on a Mortgage Note. "MS & Co." shall mean Morgan Stanley & Co. Incorporated, a registered broker-dealer. "Multiemployer Plan" shall mean a multiemployer plan defined as such in Section 3(37) of ERISA to which contributions have been or are required to be made by the Borrower or any ERISA Affiliate and that is covered by Title IV of ERISA. "Net Income" shall mean, for any period, the net income of the Borrower for such period as determined in accordance with GAAP. -6- "Note" shall mean the promissory note provided for by Section 2.02(a) hereof for Loans and any promissory note delivered in substitution or exchange therefor, in each case as the same shall be modified and supplemented and in effect from time to time. "PBGC" shall mean the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA. "Person" shall mean any individual, corporation, company, voluntary association, partnership, joint venture, limited liability company, trust, unincorporated association or government (or any agency, instrumentality or political subdivision thereof). "Plan" shall mean an employee benefit or other plan established or maintained by the Borrower or any ERISA Affiliate and covered by Title IV of ERISA, other than a Multiemployer Plan. "Post-Default Rate" shall mean, in respect of any principal of any Loan or any other amount under this Loan Agreement, the Note or any other Loan Document that is not paid when due to the Lender (whether at stated maturity, by acceleration, by mandatory prepayment or otherwise), a rate per annum during the period from and including the due date to but excluding the date on which such amount is paid in full equal to 2% per annum plus the Prime Rate. "Prime Rate" shall mean the prime rate announced to be in effect from time to time, as published as the average rate in The Wall Street Journal. "Property" shall mean any right or interest in or to property of any kind whatsoever, whether real, personal or mixed and whether tangible or intangible. "Regulations G.T.U and X" shall mean Regulations G, T, U and X of the Board of Governors of the Federal Reserve System (or any successor), as the same may be modified and supplemented and in effect from time to time. "Responsible Officer" shall mean, as to any Person, the chief executive officer or, with respect to financial matters, the chief financial officer of such Person. "Second Lien Mortgage Loan" shall mean an Eligible Mortgage Loan secured by the lien on the Mortgaged Property, subject to one prior lien on such Mortgaged Property. "Secured Obligations" shall have the meaning provided in Section 4.01(c) hereof. "Securitization Transaction" shall mean a securitization transaction backed by Mortgage Loans underwritten or placed on behalf of the Borrower which transaction has received an investment grade rating from any nationally-recognized rating agency and otherwise conforms to the current standards of institutional securitization applicable to mortgage loans substantially similar in nature to the Mortgage Loans. "Servicer" shall have the meaning provided in Section 11.14(c) hereof. "Servicing Agreement" shall have the meaning provided in Section 11.14(c) hereof. "Servicing Records" shall have the meaning provided in Section 11.14(b) hereof. -7- "Settlement Agent" shall mean, with respect to any Loan, the entity reasonably satisfactory to the Lender, (which may be a title company, escrow company or attorney in accordance with local law and practice in the jurisdiction where the related Wet-Ink Mortgage Loan is being originated) to which the proceeds of such Loan are to be wired pursuant to the instructions of the Lender. "Subsidiary" shall mean, with respect to any Person, any corporation, partnership or other entity of which at least a majority of the securities or other ownership interests having by the terms thereof ordinary voting power to elect a majority of the board of directors or other persons performing similar functions, of such corporation, partnership or other entity (irrespective of whether or not at the time securities or other ownership interests of any other class or classes of such corporation, partnership or other entity shall have or might have voting power by reason of the happening of any contingency) is at the time directly or indirectly owned or controlled by such Person or one or more Subsidiaries of such Person or by such Person and one or more Subsidiaries of such Person. "Tangible Net Worth" shall mean, as of a particular date, (a) all amounts which would be included under capital or subordinated debt on a balance sheet of the Borrower at such date, determined in accordance with GAAP, less (b) (i) amounts owing to the Borrower from Affiliates and (ii) intangible assets in excess of $1,000,000 representing start-up costs, determined in accordance with GAAP. "Termination Date" shall mean October 16, 1998 or such earlier date on which this Loan Agreement shall terminate in accordance with the provisions hereof or by operation of law. "Test Period" shall have the meaning provided in Section 7.16 hereof. "Total Indebtedness" shall mean, for any period, the aggregate Indebtedness of the Borrower during such period less the amount of any nonspecific balance sheet reserves maintained in accordance with GAAP. "True Sale Certification" shall mean a certification substantially in the form of Exhibit G hereto. "Underwriting Guidelines" shall mean the underwriting guidelines attached as Exhibit E hereto. "Uniform Commercial Code" shall mean the Uniform Commercial Code as in effect on the date hereof in the State of New York; provided that if by reason of mandatory provisions of law, the perfection or the effect of perfection or non-perfection of the security interest in any Collateral is governed by the Uniform Commercial Code as in effect in a jurisdiction other than New York, "Uniform Commercial Code" shall mean the Uniform Commercial Code as in effect in such other jurisdiction for purposes of the provisions hereof relating to such perfection or effect of perfection or non-perfection. 1.02 Accounting Terms and Determinations. Except as otherwise expressly provided herein, all accounting term used herein shall be interpreted, and all financial statements and certificates and reports as to financial matters required to be delivered to the Lender hereunder shall be prepared, in accordance with GAAP. -8- Section 2. Loans, Note and Prepayments. 2.01 Loans. (a) The Lender agrees to consider from time to time the Borrower's requests that the Lender make, on the terms and conditions of this Loan Agreement, loans (individually, a "Loan" and, collectively, the "Loans") to the Borrower in Dollars, from and including the Effective Date to and including the Termination Date in an aggregate principal amount at any one time outstanding up to but not exceeding the Maximum Credit as in effect from time to time. This Loan Agreement is not a commitment to lend but rather sets forth the procedures to be used in connection with periodic requests for Loans. The Borrower hereby acknowledges that the Lender is under no obligation to agree to make, or to make, any Loan pursuant to this Loan Agreement. (b) Subject to the terms and conditions of this Loan Agreement, during such period the Borrower may borrow, repay and reborrow hereunder. (c) In no event shall a Loan be made when any Default or Event of Default has occurred and is continuing. 2.02 Notes. (a) The Loans made by the Under shall be evidenced by a single promissory note of the Borrower substantially in the form of Exhibit A hereto (the "Note"), dated the date hereof, payable to the Lender in a principal amount equal to the amount of the Maximum Credit as originally in effect and otherwise duly completed. The Lender shall have the right to have its Note subdivided, by exchange for promissory notes of lesser denominations or otherwise. (b) The date, amount and interest rate of each Loan made by the Lender to the Borrower, and each payment made on account of the principal thereof, shall be recorded by the Lender on its books and, prior to any transfer of the Note, endorsed by the Lender on the schedule attached to the Note or any continuation thereof; provided that the failure of the Lender to make any such recordation or endorsement shall not affect the obligations of the Borrower to make a payment when due of any amount owing hereunder or under the Note in respect of the Loans. 2.03 Procedure for Borrowing. (a) The Borrower may request a borrowing hereunder, on any Business Day during the period from and including the Effective Date to and including the Termination Date, by delivering to the Lender, with a copy to the Custodian, an irrevocable written request for borrowing, substantially in the form of Exhibit D attached hereto, which request must be received by the Lender prior to 3:00 p.m., New York City time, one (1) Business Day prior to the requested Funding Date. Such request for borrowing shall (i) attach a schedule identifying the Eligible Mortgage Loans that the Borrower proposes to pledge to the Lender and to be included in the Borrowing Base in connection with such borrowing, (ii) specify the requested Funding Date, (iii) include a Mortgage Loan Tape containing information with respect to the Eligible Mortgage Loans that the Borrower proposes to pledge to the Lender and to be included in the Borrowing Base in connection with such borrowing, and (iv) attach an officer's certificate signed by a Responsible Officer of the Borrower as required by Section 5.02(b) hereof. -9- (b) Upon the Borrower's request for a borrowing pursuant to Section 2.03(a), the Lender may at its sole option, assuming all conditions precedent set forth in Section 5.01 and 5.02 have been met and provided no Default shall have occurred and be continuing, make a Loan to the Borrower on the requested Funding Date, in the amount so requested. (c) The Borrower shall release to the Custodian no later than 12:00 p.m., New York City time, one (1) Business Day prior to the requested Funding Date, the Mortgage File pertaining to each Eligible Mortgage Loan (other than a Wet-Ink Mortgage Loan) to be pledged to the Lender and included in the Borrowing Base on such requested Funding Date, in accordance with the terms and conditions of the Custodial Agreement. (d) Pursuant to the Custodial Agreement, if the Custodian has received such Mortgage File by 12:00 p.m., New York City time, on the Funding Date, then on the Funding Date, the Custodian will deliver, to the Lender and the Borrower, via facsimile and by modem, no later than 3:00 p.m., New York City time, a Trust Receipt (as defined in the Custodial Agreement) in respect of all Mortgage Loans (except Wet-Ink Mortgage Loans) pledged to the Lender on such Funding Date, and a Mortgage Loan Schedule and Exception Report (as so defined) covering all Wet-Ink Mortgage Loans so pledged. Subject to Section 5 hereof, such borrowing will then be made available to the Borrower by the Lender transferring, via wire transfer, to the following account of the Borrower: Jefferson Bank, for the A/C of Fidelity Mortgage Funding, Inc. Warehouse Account, Account No. 004274598, ABA No. 031 901 482, Attn: Eric Schneider, prior to the close of business on such Funding Date, in the aggregate amount of such borrowing in funds immediately available to the Borrower. 2.04 Limitation on Types of Loans; Illegality. Anything herein to the contrary notwithstanding, if, on or prior to the determination of any Eurodollar Rate: (a) the Lender determines, which determination shall be conclusive, that quotations of interest rates for the relevant deposits referred to in the definition of "Eurodollar Rate" in Section 1.01 hereof are not being provided in the relevant amounts or for the relevant maturities for purposes of determining rates of interest for Loans as provided herein; or (b) the Lender determines, which determination shall be conclusive, that the relevant rate of interest referred to in the definition of "Eurodollar Rate" in Section 1.01 hereof upon the basis of which the rate of interest for Loans is to be determined is not likely adequately to cover the cost to the Lender of making or maintaining Loans; or (c) it becomes unlawful for the Lender to honor its obligation to make or maintain Loans hereunder using a Eurodollar Rate; then the Lender shall give the Borrower prompt notice thereof and, so long as such condition remains in effect, the Lender shall be under no obligation to make additional Loans, and the Borrower shall, either prepay all such Loans as may be outstanding or pay interest on such Loans at a rate per annum equal to the Federal Funds Rate plus 1%. 2.05 Repayment of Loan; Interest. (a) The Borrower hereby promises to repay in full on the Termination Date the then aggregate outstanding principal amount of the Loans. -10- (b) The Borrower hereby promises to pay to the Lender interest on the unpaid principal amount of each Loan for the period from and including the date of such Loan to but excluding the date such Loan shall be paid in full, at a rate per annum equal to the Eurodollar Rate plus the Applicable Margin. Notwithstanding the foregoing, the Borrower hereby promises to pay to the Lender interest at the applicable Post-Default Rate on any principal of any Loan and on any other amount payable by the Borrower hereunder or under the Note that shall not be paid in full when due (whether at stated maturity, by acceleration or by mandatory prepayment or otherwise) for the period from and including the due date thereof to but excluding the date the same is paid in full. The Lender shall provide prompt notice to the Borrower that such Post-Default Rate is being applied to such outstanding amount. Accrued interest on each Loan shall be payable monthly on the first Business Day of each month and for the last month of the Loan Agreement on the first Business Day of such last month and on the Termination Date, except that interest payable at the Post-Default Rate shall accrue daily and shall be payable upon such accrual. Promptly after the determination of any interest rate provided for herein or any change therein, the Lender shall give notice thereof to the Borrower. (c) It is understood and agreed that, unless and until a Default shall have occurred and be continuing, the Borrower shall be entitled to the proceeds of the Mortgage Loans pledged to the Lender hereunder. 2.06 Mandatory Prepayments or Pledge. If at any time the aggregate outstanding principal amount of Loans exceeds the Borrowing Base (a "Borrowing Base Deficiency"), as determined by the Lender and notified to the Borrower on any Business Day, the Borrower shall no later than one Business Day after receipt of such notice, either prepay the Loans in part or in whole or pledge additional Eligible Mortgage Loans (which Collateral shall be in all respects acceptable to the Lender) to the Lender, such that after giving effect to such prepayment or pledge the aggregate outstanding principal amount of the Loans does not exceed the Borrowing Base. Section 3. Payments; Computations; Etc, 3.01 Payments. (a) Except to the extent otherwise provided herein, all payments of principal, interest and other amounts to be made by the Borrower under this Loan Agreement and the Note, shall be made in Dollars, in immediately available funds, without deduction, set-off or counterclaim, to the Lender at the following account maintained by the Lender: Account No. 40615114, for the account of MSMCI, Citibank, N.A., ABA No. 021000089, Attn: Peter A. Mozer, not later than 1:00 p.m., New York City time, on the date on which such payment shall become due (and each such payment made after such time on such due date shall be deemed to have been made on the next succeeding Business Day). The Borrower acknowledges that it has no rights of withdrawal from the foregoing account. (b) Except to the extent otherwise expressly provided herein, if the due date of any payment under this Loan Agreement or the Note would otherwise fall on a day that is not a Business Day, such date shall be extended to the next succeeding Business Day, and interest shall be payable for any principal so extended for the period of such extension. -11- 3.02 Computations. Interest on the Loans shall be computed on the basis of a 360-day year for the actual days elapsed (including the first day but excluding the last day) occurring in the period for which payable. 3.03 U.S. Taxes. (a) The Borrower agrees to pay to the Lender such additional amounts as are necessary in order that the net payment of any amount due to the Lender hereunder after deduction for or withholding in respect of any U.S. Tax (as defined below) imposed with respect to such payment (or in lieu thereof, payment of such U.S. Tax by the Lender), will not be less than the amount stated herein to be then due and payable; provided that the foregoing obligation to pay such additional amounts shall not apply: (i) to any payment to the Lender hereunder unless the Lender is entitled to submit a Form 1001 (relating to the Lender and entitling it to a complete exemption from withholding on all interest to be received by it hereunder in respect of the Loans) or Form 4224 (relating to all interest to be received by the Lender hereunder in respect of the Loans), or (ii) to any U. S. Tax imposed solely by reason of the failure by the Lender to comply with applicable certification, information, documentation or other reporting requirements concerning the nationality, residence, identity or connections with the United States of America of the Lender if such compliance is required by statute or regulation of the United States of America as a precondition to relief or exemption from such U.S. Tax. For the purposes of this Section 3.03, (x) "Form 1001" shall mean Form 1001 (Ownership, Exemption, or Reduced Rate Certificate) of the Department of the Treasury of the United States of America, (y) "Form 4224" shall mean Form 4224 (Exemption from Withholding of Tax on Income Effectively Connected with the Conduct of a Trade or Business in the United States) of the Department of the Treasury of the United States of America (or in relation to either such Form such successor and related form as may from time to time be adopted by the relevant taxing authorities of the United States of America to document a claim to which such Form relates), and (z) "U.S. Taxes" shall mean any present or future tax, assessment or other charge or levy imposed by or on behalf of the United States of America or any taxing authority thereof or therein. (b) Within 30 days after paying any such amount to the Lender, and within 30 days after it is required by law to remit such deduction or withholding to any relevant taxing or other authority, the Borrower shall deliver to the Lender evidence satisfactory to the Lender of such deduction, withholding or payment (as the case may be). (c) The Lender represents and warrants to the Borrower that on the date hereof the Lender is either incorporated under the laws of the United States or a State thereof or is entitled to submit a Form 1001 (relating to the Lender and entitling it to a complete exemption from withholding on all interest to be received by it hereunder in respect of the Loans) or Form 4224 (relating to all interest to be received by the Lender hereunder in respect of the Loans). -12- Section 4. Collateral Security. 4.01 Collateral: Security Interest. (a) Pursuant to the Custodial Agreement, the Custodian shall hold the Mortgage Loan Documents as exclusive bailee and agent for the Lender pursuant to terms of the Custodial Agreement and shall deliver to the Lender Trust Receipts (as defined in the Custodial Agreement) each to the effect that it has reviewed such Mortgage Loan Documents in the mamer and to the extent required by the Custodial Agreement and identifying any deficiencies in such Mortgage Loan Documents as so reviewed. (b) All of the Borrower's right, title and interest in, to and under each of the following items of property, whether now owned or hereafter acquired, now existing or hereafter created and wherever located, is hereinafter referred to as the Collateral: (i) all Mortgage Loans; (ii) all Mortgage Loan Documents, including without limitation all promissory notes, and all Servicing Records (as defined in Section 11.14(b) below), servicing agreements and any other collateral pledged or otherwise relating to such Mortgage Loans, together with all files, documents, instruments, surveys, certificates, correspondence, appraisals, computer programs, computer storage media, accounting records and other books and records relating thereto; (iii) all mortgage guaranties and insurance (issued by governmental agencies or otherwise) and any mortgage insurance certificate or other document evidencing such mortgage guaranties or insurance relating to any Mortgage Loan and all claim and payments thereunder; (iv) all other insurance policies and insurance proceeds relating to any Mortgage Loan or the related Mortgaged Property; (v) all Interest Rate Protection Agreements; (vi) all "general intangibles" as defined in the Uniform Commercial Code relating to or constituting any and all of the foregoing; and (vii) any and all replacements, substitutions, distributions on or proceeds of any and all of the foregoing. (c) The Borrower hereby assigns, pledges and grants a security interest in all of its right, title and interest in, to and under the Collateral to the Lender to secure the repayment of principal of and interest on all Loans and all other amounts owing to the Lender hereunder, under the Note and under the other Loan Documents (collectively, the "Secured Obligations"). The Borrower agrees to mark its computer records and tapes to evidence the interests granted to the Lender hereunder. 4.02 Further Documentation. At any time and from time to time, upon the written request of the Lender, and at the sole expense of the Borrower, the Borrower will promptly and duly execute and deliver, or will promptly cause to be executed and delivered, such further instruments and documents and take such further action as the Lender may reasonably request for the purpose of obtaining or preserving the full benefits of this Loan Agreement and of the rights and powers herein -13- granted, including, without limitation, the filing of any financing or continuation statements under the Uniform Commercial Code in effect in any jurisdiction with respect to the Liens created hereby. The Borrower also hereby authorizes the Lender to file any such financing or continuation statement without the signature of the Borrower to the extent permitted by applicable law. A carbon, photographic or other reproduction of this Loan Agreement shall be sufficient as a financing statement for filing in any jurisdiction. 4.03 Changes in Locations, Name, etc. The Borrower shall not (i) change the location of its chief executive office/chief place of business from that specified in Section 6 hereof or (ii) change its name, identity or corporate structure (or the equivalent) or change the location where it maintains its records with respect to the Collateral unless it shall have given the Lender at least 30 days prior written notice thereof and shall have delivered to the Lender all Uniform Commercial Code financing statements and amendments thereto as the Lender shall request and taken all other actions deemed necessary by the Lender to continue its perfected status in the Collateral with the same or better priority. 4.04 Lender's Appointment as Attorney-in-Fact. (a) The Borrower hereby irrevocably constitutes and appoints the Lender and any officer or agent thereof, with full power of substitution, as its true and lawful attorney-in-fact with full irrevocable power and authority in the place and stead of the Borrower and in the name of the Borrower or in its own name, from time to time in the Lender's discretion, for the purpose of carrying out the terms of this Loan Agreement, to take any and all appropriate action and to execute any and all documents and instruments which may be necessary or desirable to accomplish the purposes of this Loan Agreement, and, without limiting the generality of the foregoing, the Borrower hereby gives the Lender the power and right, on behalf of the Borrower, without assent by, but with notice to, the Borrower, if an Event of Default shall have occurred and be continuing, to do the following: (i) in the name of the Borrower or its own name, or otherwise, to take possession of and endorse and collect any checks, drafts, notes, acceptances or"other instruments for the payment of moneys due under any mortgage insurance or with respect to any other Collateral and to file any claim or to take any other action or proceeding in any court of law or equity or otherwise deemed appropriate by the Lender for the purpose of collecting any and all such moneys due under any such mortgage insurance or with respect to any other Collateral whenever payable; (ii) to pay or discharge taxes and Liens levied or placed on or threatened against the Collateral; and (iii) (A) to direct any party liable for any payment under any Collateral to make payment of any and all moneys due or to become due thereunder directly to the Lender or as the Lender shall direct; (B) to ask or demand for, collect, receive payment of and receipt for, any and all moneys, claims and other amounts due or to become due at any time in respect of or arising out of any Collateral; (C) to sign and endorse any invoices, assignments, verifications, notices and other documents in connection with any of the Collateral; (D) to commence and prosecute any suits, actions or proceedings at law or in equity in any court of competent jurisdiction to collect the Collateral or any thereof and to enforce any other right in respect of any Collateral; (E) to defend any suit, action or proceeding brought against the Borrower with respect to any Collateral; (F) to settle, compromise or adjust any suit, action or -14- proceeding described in clause (E) above and, in connection therewith, to give such discharges or releases as the Lender may deem appropriate; and (G) generally, to sell, transfer, pledge and make any agreement with respect to or otherwise deal with any of the Collateral as fully and completely as though the Lender were the absolute owner thereof for all purposes, and to do, at the Lender's option and the Borrower's expense, at any time, and from time to time, all acts and things which the Lender deems necessary to protect, preserve or realize upon the Collateral and the Lender's Liens thereon and to effect the intent of this Loan Agreement, all as fully and effectively as the Borrower might do. The Borrower hereby ratifies all that said attorneys shall lawfully do or cause to be done by virtue hereof. This power of attorney is a power coupled with an interest and shall be irrevocable. (b) The Borrower also authorizes the Lender, at any time and from time to time, to execute, in connection with any sale provided for in Section 4.07 hereof, any endorsements, assignments or other instruments of conveyance or transfer with respect to the Collateral. (c) The powers conferred on the Lender are solely to protect the Lender's interests in the Collateral and shall not impose any duty upon the Lender to exercise any such powers. The Lender shall be accountable only for amounts that it actually receives as a result of the exercise of such powers, and neither the Lender nor any of its officers, directors, or employees shall be responsible to the Borrower for any act or failure to act hereunder, except for its own gross negligence or willful misconduct. 4.05 Performance by Lender of Borrower's Obligations. If the Borrower fails to perform or comply with any of its agreements contained in the Loan Documents and the Lender may itself perform or comply, or otherwise cause performance or compliance, with such agreement, the expenses of the Lender incurred in connection with such performance or compliance, together with interest thereon at a rate per annum equal to the Post-Default Rate, shall be payable by the Borrower to the Lender on demand and shall constitute Secured Obligations. 4.06 Proceeds. If an Event of Default shall occur and be continuing, (a) all proceeds of Collateral received by the Borrower consisting of cash, checks and other near-cash items shall be held by the Borrower in trust for the Lender, segregated from other funds of the Borrower, and shall forthwith upon receipt by the Borrower be turned over to the Lender in the exact form received by the Borrower (duly endorsed by the Borrower to the Lender, if required) and (b) any and all such proceeds received by the Lender (whether from the Borrower or otherwise) may, in the sole discretion of the Lender, be held by the Lender as collateral security for, and/or then or at any time thereafter may be applied by the Lender against, the Secured Obligations (whether matured or unmatured), such application to be in such order as the Lender shall elect. Any balance of such proceeds remaining after the Secured Obligations shall have been paid in full and this Loan Agreement shall have been terminated shall be paid over to the Borrower or to whomsoever may be lawfully entitled to receive the same. For purposes hereof, proceeds shall include, but not be limited to, all principal and interest payments, all prepayments and payoffs, insurance claims, condemnation awards, sale proceeds, real estate owned rents and any other income and all other amounts received with respect to the Collateral. 4.07 Remedies. If an Event of Default shall occur and be continuing, the Lender may exercise, in addition to all other rights and remedies granted to it in this Loan Agreement and in any other instrument or agreement securing, evidencing or relating to the Secured Obligations, all rights and remedies of a secured party under the Uniform Commercial Code. Without limiting the generality -15- of the foregoing, the Lender without demand of performance or other demand, presentment, protest, advertisement or notice of any kind (except any notice required by law referred to below) to or upon the Borrower or any other Person (each and all of which demands, presentments, protests, advertisements and notices are hereby waived), may in such circumstances forthwith collect, receive, appropriate and realize upon the Collateral, or any part thereof, and/or may forthwith sell, lease, assign, give option or options to purchase, or otherwise dispose of and deliver the Collateral or any part thereof (or contract to do any of the foregoing), in one or more parcels or as an entirety at public or private sale or sales, at any exchange, broker's board or office of the Lender or elsewhere upon such terms and conditions as it may deem advisable and at such prices as it may deem best, for cash or on credit or for future delivery without assumption of any credit risk. The Lender shall have the right upon any such public sale or sales, and, to the extent permitted by law, upon any such private sale or sales, to purchase the whole or any part of the Collateral so sold, free of any right or equity of redemption in the Borrower, which right or equity is hereby waived or released. The Borrower further agrees, at the Lender's request, to assemble the Collateral and make it available to the Lender at places which the Lender shall reasonably select, whether at the Borrower's premises or elsewhere. The Lender shall apply the net proceeds of any such collection, recovery, receipt, appropriation, realization or sale, after deducting all reasonable costs and expenses of every kind incurred therein or incidental to the care or safekeeping of any of the Collateral or in any way relating to the Collateral or the rights of the Lender hereunder, including without limitation reasonable attorneys' fees and disbursements, to the payment in whole or in part of the Secured Obligations, in such order as the Lender may elect, and only after such application and after the payment by the Lender of any other amount required or permitted by any provision of law, including without limitation Section 9-504(l)(c) of the Uniform Commercial Code, need the Lender account for the surplus, if any, to the Borrower. To the extent permitted by applicable law, the Borrower waives all claims, damages and demands it may acquire against the Lender arising out of the exercise by the Lender of any of its rights hereunder, other than those claims, damages and demands arising from the gross negligence or willful misconduct of the Lender. If any notice of a proposed sale or other disposition of Collateral shall be required by law, such notice shall be deemed reasonable and proper if given at least 10 days before such sale or other disposition. The Borrower shall remain liable for any deficiency (plus accrued interest thereon as contemplated pursuant to Section 2.05(b) hereof) if the proceeds of any sale or other disposition of the Collateral are insufficient to pay the Secured Obligations and the fees and disbursements of any attorneys employed by the Lender to collect such deficiency. 4.08 Limitation on Duties Regarding Presentation of Collateral. The Lender's duty with respect to the custody, safekeeping and physical preservation of the Collateral in its possession, under Section 9-207 of the Uniform Commercial Code or otherwise, shall be to deal with it in the same manner as the Lender deals with similar property for its own account. Neither the Lender nor any of its directors, officers or employees shall be liable for failure to demand, collect or realize upon all or any part of the Collateral or for any delay in doing so or shall be under any obligation to sell or otherwise dispose of any Collateral upon the request of the Borrower or otherwise. 4.09 Powers Coupled with an Interest. All authorizations and agencies herein contained with respect to the Collateral are irrevocable and powers coupled with an interest. 4.10 Release of Secure Interest. Upon termination of this Loan Agreement and repayment to the Lender of all Secured Obligations and the performance of all obligations under the Loan Documents the Lender shall release its security interest in any remaining Collateral. -16- Section 5. Conditions Precedent. 5.01 Initial Loan. The obligation of the Lender to make its initial Loan hereunder is subject to the satisfaction, immediately prior to or concurrently with the making of such Loan, of the condition precedent that the Lender shall have received all of the following documents, each of which shall be satisfactory to the Lender and its counsel in form and substance: (a) Loan Documents. (i) Note. The Note, duly completed and executed; (ii) Custodial Agreement. The Custodial Agreement, duly executed and delivered by the Borrower and the Custodian. In addition, the Borrower shall have taken such other action as the Lender shall have requested in order to perfect the security interests created pursuant to the Loan Agreement; (b) Organzational Documents. A good standing certificate and certified copies of the charter and by-laws (or equivalent documents) of each Affiliated Party and of all corporate or other authority for each Affiliated Party with respect to the execution, delivery and performance of the Loan Documents and each other document to be delivered by each Affiliated Party from time to time in connection herewith (and the Lender may conclusively rely on such certificate until it receives notice in writing from any Afffliiated Party to the contrary); (c) Legal Opinion. A legal opinion of counsel to each Affiliated Party, substantially in the form attached hereto as Exhibit C; (d) Mortgage Loan Schedule and Exception Report. A Mortgage Loan Schedule and Exception Report, dated the Effective Date, from the Custodian, duly completed; (e) Servicing Agreement. Any Servicing Agreement, certified as a true, correct and complete copy of the original, with the letter of the applicable Servicer consenting to termination of such Servicing Agreement upon the occurrence of an Event of Default attached; (f) Affiliate Guaranty. The Affiliate Guaranty, duly executed by the Guarantor; and (g) Other Documents. Such other documents as the Lender may reasonably request. 5.02 Initial and Subsequent Loans. The making of each Loan to the Borrower (including the initial Loan) on any Business Day is subject to the satisfaction of the following further conditions precedent, both immediately prior to the making of such Loan and also after giving effect thereto and to the intended use thereof: (a) no Default or Event of Default shall have occurred and be continuing; (b) both immediately prior to the making of such Loan and also after giving effect thereto and to the intended use thereof, the representations and warranties made by the Borrower in Section 6 hereof, and elsewhere in each of the Loan Documents, shall be true and -17- complete on and as of the date of the making of such Loan in all material respects (in the case of the representations and warranties in Section 6.10 and Schedule 1, solely with respect to Mortgage Loans included in the Borrowing Base) with the same force and effect as if made on and as of such date (or, if any such representation or warranty is expressly stated to have been made as of a specific date, as of such specific date). The Lender shall have received an officer's certificate signed by a Responsible Officer of the Borrower certifying as to the truth and accuracy of the above, which certificate shall specifically include a statement that the Borrower is in compliance with all governmental licenses and authorizations and is qualified to do business and in good standing in all required jurisdictions. (c) the aggregate outstanding principal amount of the Loans shall not exceed the Borrowing Base; (d) subject to the Lender's right to perform one or more Due Diligence Reviews pursuant to Section 11.15 hereof, the Lender shall have completed its due diligence review of the Mortgage Loan Documents for each Loan and such other documents, records, agreements, instruments, mortgaged properties or information relating to such Loans as the Lender in its sole discretion deems appropriate to review and such review shall be satisfactory to the Lender in its sole discretion; (e) the Lender shall have received from the Custodian a Trust Receipt with exceptions as are acceptable to the Lender in its sole discretion in respect of Eligible Mortgage Loans to be pledged hereunder on such Business Day and a Mortgage Loan Schedule and Exception Report, in each case dated such Business Day and duly completed; (f) the Lender shall have received from the Borrower a Warehouse Lender's Release Letter substantially in the form of Exhibit E-2 hereto (or such other form acceptable to the Lender) or a Seller's Release Letter substantially in the form of Exhibit E-1 hereto (or such other form acceptable to the Lender) covering each Mortgage Loan to be pledged to the Lender; (g) the Lender shall have received from the Borrower a true sale opinion and true sale certification, in forms acceptable to the Lender, with respect to any Mortgage Loans acquired by the Borrower from an Affiliate; and (h) none of the following shall have occurred and/or be continuing: (i) an event or events shall have occurred resulting in the effective absence of a "repo market" or comparable "lending market" for financing debt obligations secured by mortgage loans or securities for a period of (or reasonably expected to be) at least 30 consecutive days or an event or events shall have occurred resulting in the Lender not being able to finance any Loans through the "repo market" or "lending market" with traditional counterparties at rates which would have been reasonable prior to the occurrence of such event or events; (ii) an event or events shall have occurred resulting in the effective absence of a "securities market" for securities backed by mortgage loans for a period of (or reasonably expected to be) at least 30 consecutive days or an event or events shall have occurred resulting -18- in the Lender not being able to sell securities backed by mortgage loans at prices which would have been reasonable prior to such event or events; or (iii) there shall have occurred a material adverse change in the financial condition of the Lender which effects (or can reasonably be expected to effect) materially and adversely the ability of the Lender to fund its obligations under this Loan Agreement. Each request for a borrowing by the Borrower hereunder shall constitute a certification by the Borrower that all the conditions set forth in this Section 5 (except with respect to Section 5.02(h) herein) have been satisfied (both as of the date of such notice, request or confirmation and as of the date of such borrowing). Section 6. Representations and Warranties. The Borrower represents and warrants to the Lender that throughout the term of this Loan Agreement: 6.01 Existence. The Borrower (a) is a corporation duly organized, validly existing and in good standing under the laws of the jurisdiction of its organization, (b) has all requisite corporate or other power, and has all governmental licenses, authorizations, consents and approvals necessary to own its assets and carry on its business as now being or as proposed to be conducted, except where the lack of such licenses, authorizations, consents and approvals would not be reasonably likely to have a material adverse effect on its Property, business or financial condition or prospects; and (c) is qualified to do business and is in good standing in all other jurisdictions in which the nature of the business conducted by it makes such qualification necessary, except where failure so to qualify would not be reasonably likely (either individually or in the aggregate) to have a material adverse effect on its Property, business or financial condition or prospects. 6.02 Financial Condition. Each Affiliated Party has heretofore furnished to the Lender a copy of (a) its consolidated balance sheet and the consolidated balance sheets of its consolidated Subsidiaries for the first three quarterly fiscal periods of the fiscal year of the Affiliated Party ended June 30, 1997 and the related consolidated statements of income and retained earnings and of cash flows for the Affiliated Party and its consolidated Subsidiaries for such quarterly fiscal periods, setting forth in each case in comparative form the figures for the previous year, (b) its consolidated balance sheet and the consolidated balance sheets of its consolidated Subsidiaries for such fiscal year and the related consolidated statements of income and retained earnings and of cash flows for the Affiliated Party and its consolidated Subsidiaries for such fiscal year, setting forth in each case in comparative form the figures for the previous year, with the opinion thereon of Grant Thornton LLP and (c) its consolidated balance sheet and the consolidated balance sheets of its consolidated Subsidiaries for the quarterly fiscal periods of the Affiliated Party ended September 30, 1995, and September 30, 1996 and the related consolidated statements of income and retained earnings and of cash flows for the Affiliated Party and its consolidated Subsidiaries for such quarterly fiscal periods, setting forth in each case in comparative form the figures for the previous year. All such financial statements are complete and correct and fairly present, in all material respects, the consolidated financial condition of the Affiliated Party and its Subsidiaries and the consolidated results of their operations as at such dates and for such fiscal periods, all in accordance with GAAP applied on a consistent basis. Since September 30, 1997, there has been no material adverse change in the consolidated business, operations or financial condition of the Affiliated Party and its consolidated Subsidiaries taken as a whole from that set forth in said financial statements. -19- 6.03 Litigation. There are no actions, suits, arbitrations, investigations or proceedings pending or, to its knowledge, threatened against either Affiliated Party or any of their respective Subsidiaries or affecting any of the Property of any of them before any Governmental Authority (i) as to which individually or in the aggregate there is a reasonable likelihood of an adverse decision which would be reasonably likely to have a material adverse effect on its Property, business or financial condition or prospects or (ii) which questions the validity or enforceability of any of the Loan Documents or any action to be taken in connection with the transactions contemplated hereby. 6.04 No Breach. Neither (a) the execution and delivery of the Loan Documents nor (b) the consummation of the transactions therein contemplated in compliance with the terms and provisions thereof will conflict with or result in a breach of the charter or by-laws of either Affiliated Party, or any applicable law, rule or regulation, or any order, writ, injunction or decree of any Governmental Authority, or any Servicing Agreement or other material agreement or instrument to which either Affiliated Party or any of their respective Subsidiaries is a party or by which any of them or any of their Property is bound or to which any of them is subject, or constitute a default under any such material agreement or instrument or result in the creation or imposition of any Lien (except for the Liens created pursuant to this Loan Agreement) upon any Property of either Affiliated Party or any of their respective Subsidiaries pursuant to the terms of any such agreement or instrument. 6.05 Action. Each Affiliated Party has all necessary corporate or other power, authority and legal right to execute, deliver and perform its obligations under each of the Loan Documents; the execution, delivery and performance by each Affiliated Party of each of the Loan Documents have been duly authorized by all necessary corporate or other action on its part; and each Loan Document has been duly and validly executed and delivered by each Affiliated Party and constitutes a legal, valid and binding obligation of the Affiliated Party, enforceable against such Affiliated Party in accordance with its terms. 6.06 Approvals. No authorizations, approvals or consents of, and no filings or registrations with, any Governmental Authority or any securities exchange are necessary for the execution, delivery or performance by any Affiliated Party of the Loan Documents or for the legality, validity or enforceability thereof, except for filings and recordings in respect of the Liens created pursuant to this Loan Agreement. 6.07 Margin Regulations. Neither the making of any Loan hereunder, nor the use of the proceeds thereof, will violate or be inconsistent with the provisions of Regulation G, T, U or X. 6.08 Taxes. Each Affiliated Party and their respective Subsidiaries have filed all Federal income tax returns and all other material tax returns that are required to be filed by them and have paid all taxes due pursuant to such returns or pursuant to any assessment received by any of them, except for any such taxes as are being appropriately contested in good faith by appropriate proceedings diligently conducted and with respect to which adequate reserves have been provided. The charges, accruals and reserves on the books of each Affiliated Party and their respective Subsidiaries in respect of taxes and other governmental charges are, in the opinion of each Affiliated Party, adequate. 6.09 Investment Company Act. Neither the Affiliated Party nor any of its Subsidiaries is an "investment company", or a company "controlled" by an "investment company," within the meaning of the Investment Company Act of 1940, as amended. -20- 6.10 Collateral; Collateral Security. (a) The Borrower has not assigned, pledged, or otherwise conveyed or encumbered any Mortgage Loan to any other Person, and immediately prior to the pledge of such Mortgage Loan to the Lender, the Borrower was the sole owner of such Mortgage Loan and had good and marketable title thereto, free and clear of all Liens, in each case except for Liens to be released simultaneously with the Liens granted in favor of the Lender hereunder. (b) The provisions of this Loan Agreement are effective to create in favor of the Lender a valid security interest in all right, title and interest of the Borrower in, to and under the Collateral. (c) Upon receipt by the Custodian of each Mortgage Note, endorsed in blank by a duly authorized officer of the Borrower, the Lender shall have a fully perfected first priority security interest therein, in the Mortgage Loan evidenced thereby and in the Borrower's interest in the related Mortgaged Property. (d) Upon the filing of financing statements on Form UCC-1 naming the Lender as "Secured Party" and the Borrower as "Debtor", and describing the Collateral, in the jurisdictions and recording offices listed on Schedule 2 attached hereto, the security interests granted hereunder in the Collateral will constitute fully perfected first priority security interests under the Uniform Commercial Code in all right, title and interest of the Borrower in, to and under such Collateral which can be perfected by filing under the Uniform Commercial Code. 6.11 Chief Executive Office. The Borrower's chief executive office on the Effective Date is located at 7 East Skippack Pike, Ambler, Pennsylvania 19002. 6.12 Location of Books and Records. The location where the Borrower keeps its books and records, including all computer tapes and records relating to the Collateral is its chief executive office. 6.13 Hedging. Either the Borrower has not entered into Interest Rate Protection Agreements or the Borrower has notified the Lender in writing of the Borrower's policy with respect to Interest Rate Protection Agreements. 6.14 True and Complete Disclosure. The information, reports, financial statements, exhibits and schedules furnished in writing by or on behalf of the Borrower to the Lender in connection with the negotiation, preparation or delivery of this Loan Agreement and the other Loan Documents or included herein or therein or delivered pursuant hereto or thereto, when taken as a whole, do not contain any untrue statement of material fact or omit to state any material fact necessary to make the statements herein or therein, in light of the circumstances under which they were made, not misleading. All written information furnished after the date hereof by or on behalf of the Borrower to the Lender in connection with this Loan Agreement and the other Loan Documents and the transactions contemplated hereby and thereby will be true, complete and accurate in every material respect, or (in the case of projections) based on reasonable estimates, on the date as of which such information is stated or certified. There is no fact known to a Responsible Officer of the Borrower, after due inquiry, that could reasonably be expected to have a Material Adverse Effect that has not been disclosed herein, in the other Loan Documents or in a report, financial statement, exhibit, schedule, disclosure letter or -21- other writing furnished to the Lender for use in connection with the transactions contemplated hereby or thereby. 6.15 Tangible Net Worth. On the Effective Date, the Tangible Net Worth of the Borrower is not less than $4,500,000. 6.16 ERISA. Each Plan to which the Borrower or its Subsidiaries make direct contributions, and, to the knowledge of the Borrower, each other Plan and each Multiemployer Plan, is in compliance in all material respects with, and has been administered in all material respects in compliance with, the applicable provisions of ERISA, the Code and any other Federal or State law. No event or condition has occurred and is continuing as to which the Borrower would be under an obligation to furnish a report to the Lender under Section 7.01(d) hereof. Section 7. Covenants of the Borrower. The Borrower covenants and agrees with the Lender that, so long as any Loan is outstanding and until payment in full of all Secured Obligations: 7.01 Financial Statements. The Borrower shall deliver to the Lender: (a) as soon as available and in any event within 45 days after the end of each of the first three quarterly fiscal periods of each fiscal year of each Affiliated Party, the unaudited consolidated balance sheets of each Affiliated Party and their respective consolidated Subsidiaries as at the end of such period and the related unaudited consolidated statements of income and retained earnings and of cash flows for each Affiliated Party and their consolidated Subsidiaries for such period and the portion of the fiscal year through the end of such period, setting forth in each case in comparative form the figures for the previous year, accompanied by a certificate of a Responsible Officer of each Affiliated Party, which certificate shall state that said consolidated financial statements fairly present the consolidated financial condition and, results of operations of the respective Affiliated Party and their respective consolidated Subsidiaries in accordance with GAAP, consistently applied, as at the end of, and for, such period (subject to normal year-end audit adjustments); (b) as soon as available and in any event within 90 days after the end of each fiscal year of each Affiliated Party, the consolidated balance sheets of each Affiliated Party and their respective consolidated Subsidiaries as at the end of such fiscal year and the related consolidated statements of income and retained earnings and of cash flows for each Affiliated Party and their respective consolidated Subsidiaries for such year, setting forth in each case in comparative form the figures for the previous year, accompanied by an opinion thereon of independent certified public accountants of recognized national standing, which opinion shall not be qualified as to scope of audit or going concern and shall state that said consolidated financial statements fairly present the consolidated financial condition and results of operations of such Affiliated Party and its consolidated Subsidiaries as at the end of, and for, such fiscal year in accordance with GAAP, and a certificate of such accountants stating that, in making the examination necessary for their opinion, they obtained no knowledge, except as specifically stated, of any Default or Event of Default; (C) from time to time such other information regarding the financial condition, operations, or business of each Affiliated Party as the Lender may reasonably request; and -22- (d) as soon as reasonably possible, and in any event within thirty (30) days after a Responsible Officer of either Affiliated Party knows, or with respect to any Plan or Multiemployer Plan to which either Affiliated Party or any of their respective Subsidiaries makes direct contributions, has reason to believe, that any of the events or conditions specified below with respect to any Plan or Multiemployer Plan has occurred or exists, a statement signed by a senior financial officer of the Affiliated Party setting forth details respecting such event or condition and the action, if any, that the Affiliated Party or its ERISA Affiliate proposes to take with respect thereto (and a copy of any report or notice required to be filed with or given to PBGC by the Affiliated Party or an ERISA Affiliate with respect to such event or condition): (i) any reportable event, as defined in Section 4043(b) of ERISA and the regulations issued thereunder, with respect to a Plan, as to which PBGC has not by regulation waived the requirement of Section 4043(a) of ERISA that it be notified within thirty (30) days of the occurrence of such event (provided that a failure to meet the minimum funding standard of Section 412 of the Code or Section 302 of ERISA, including without limitation the failure to make on or before its due date a required installment under Section 412(m) of the Code or Section 302(e) of ERISA, shall be a reportable event regardless of the issuance of any waivers in accordance with Section 412(d) of the Code); and any request for a waiver under Section 412(d) of the Code for any Plan; (ii) the distribution under Section 4041(c) of ERISA of a notice of intent to terminate any Plan or any action taken by the Borrower or an ERISA Affiliate to terminate any Plan; (iii) the institution by PBGC of proceedings under Section 4042 of ERISA for the termination of, or the appointment of a trustee to administer, any Plan, or the receipt by either Affiliated Party or any ERISA Affiliate of a notice from a Multiemployer Plan that such action has been taken by PBGC with respect to such Multiemployer Plan; (iv) the complete or partial withdrawal from a Multiemployer Plan by either Affiliated Party or any ERISA Affiliate that results in liability under Section 4201 or 4204 of ERISA (including the obligation to satisfy secondary liability as a result of a purchaser default) or the receipt by either Affiliated Party or any ERISA Affiliate of notice from a Multiemployer Plan that it is in reorganization or insolvency pursuant to Section 4241 or 4245 of ERISA or that it intends to terminate or has terminated under Section 4041A of ERISA; (v) the institution of a proceeding by a fiduciary of any Multiemployer Plan against either Affiliated Party or any ERISA Affiliate to enforce Section 515 of ERISA, which proceeding is not dismissed within 30 days; and (vi) the adoption of an amendment to any Plan that, pursuant to Section 401(a)(29) of the Code or Section 307 of ERISA, would result in the loss of tax-exempt status of the trust of which such Plan is a part if the Affiliated Party or an ERISA Affiliate fails to provide timely security to such Plan in accordance with the provisions of said Sections. -23- The Borrower will furnish to the Lender, at the time it furnishes each set of financial statements pursuant to paragraphs (a) and (b) above, a certificate of a Responsible Officer of the Borrower to the effect that, to the best of such Responsible Officer's knowledge, each Affiliated Party during such fiscal period or year has observed or performed all of its covenants and other agreements, and satisfied every condition, contained in this Loan Agreement and the other Loan Documents to be observed, performed or satisfied by it, and that such Responsible Officer has obtained no knowledge of any Default or Event of Default except as specified in such certificate (and, if any Default or Event of Default has occurred and is continuing, describing the same in reasonable detail and describing the action the Affiliated Party has taken or proposes to take with respect thereto). 7.02 Litigation. The Borrower will promptly, and in any event within 10 days after service of process on any of the following, give to the Lender notice of all legal or arbitrable proceedings affecting any Affiliated Party or any of their respective Subsidiaries that questions or challenges the validity or enforceability of any of the Loan Documents or as to which there is a reasonable likelihood of adverse determination which would result in a Material Adverse Effect. 7.03 Existence, etc. The Borrower will: (a) preserve and maintain its legal existence and all of its material rights, privileges, licenses and franchises (provided that nothing in this Section 7.03(a) shall prohibit any transaction expressly permitted under Section 7.04 hereof); (b) comply with the requirements of all applicable laws, rules, regulations orders of Governmental Authorities (including, without limitation, all environmental laws) if failure to comply with such requirements would be reasonably likely (either individually or in the aggregate) to have a material adverse effect on its Property, business or financial condition, or prospects; (c) keep adequate records and books of account, in which complete entries will be made in accordance with GAAP consistently applied; (d) not move its chief executive office from the address referred to in Section 6.11 unless it shall have provided the Lender 30 days' prior written notice of such change; (e) pay and discharge all taxes, assessments and governmental charges or levies imposed on it or on its income or profits or on any of its Property prior to the date on which penalties attach thereto, except for any such tax, assessment, charge or levy the payment of which is being contested in good faith and by proper proceedings and against which adequate reserves are being maintained; and (f) permit representatives of the Lender, during normal business hours, to examine, copy and make extracts from its books and records, to inspect any of its Properties, and to discuss its business and affairs with its officers, all to the extent reasonably requested by the Lender. 7.04 Prohibition of Fundamental Changes. The Borrower shall not enter into any transaction of merger or consolidation or amalgamation, or liquidate, wind up or dissolve itself (or suffer any liquidation, winding up or dissolution) or sell all or substantially all of its assets; provided, that the Borrower may merge or consolidate with (a) any wholly owned subsidiary of the Borrower, or -24- (b) any other Person if the Borrower is the surviving corporation; and provided further, that if after giving effect thereto, no Default would exist hereunder. 7.05 Borrowing Base Deficiency. If at any time there exists a Borrowing Base Deficiency the Borrower shall cure same in accordance with Section 2.06 hereof. 7.06 Notices. The Borrower shall give notice to the Lender: (a) promptly upon receipt of notice or knowledge of the occurrence of any Default or Event of Default; (b) with respect to any Mortgage Loan pledged to the Lender hereunder, immediately upon receipt of any principal prepayment (in full or partial) of such pledged Mortgage Loan; (c) with respect to any Mortgage Loan pledged to the Lender hereunder, immediately upon receipt of notice or knowledge that the underlying Mortgaged Property has been damaged by waste, fire, earthquake or earth movement, windstorm, flood, tornado or other casualty, or otherwise damaged so as to affect adversely the Collateral Value of such pledged Mortgage Loan; and (d) promptly upon receipt of notice or knowledge of (i) any default related to any Collateral, (ii) any Lien or security interest (other than security interests created hereby or by the other Loan Documents) on, or claim asserted against, any of the Collateral or (iii) any event or change in circumstances which could reasonably be expected to have a material adverse effect on the Property, business or financial condition or prospects of the Borrower. Each notice pursuant to this Section shall be accompanied by a statement of a Responsible Officer of the Borrower setting forth details of the occurrence referred to therein and stating what action the Borrower has taken or proposes to take with respect thereto. 7.07 Hedging. As soon as the Borrower's policy with respect to Interest Rate Protection Agreements has been enacted, the Borrower shall promptly deliver to the Lender a written summary thereof and shall thereafter maintain Interest Rate Protection Agreements in compliance therewith. The Borrower shall deliver to the Lender monthly a written summary of the notional amount of all outstanding Interest Rate Protection Agreements. 7.08 Reports. The Borrower shall provide the Lender with a quarterly report, which report shall include, among other items, a summary of the Borrower's delinquency and loss experience with respect to mortgage loans serviced by the Borrower, any Servicer or any designee of either, plus any such additional reports as the Lender may reasonably request with respect to the Borrower's or any Servicer's servicing portfolio or pending originations of mortgage loans. 7.09 Underwriting Guidelines. Without the prior written consent of the Lender, the Borrower shall not amend or otherwise modify the Underwriting Guidelines. 7.10 Transactions with Affiliates. The Borrower will not enter into any transaction, including without limitation any purchase, sale, lease or exchange of property or the rendering of any service, with any Affiliate unless such transaction is (a) otherwise permitted under this Loan Agreement, (b) in the ordinary course of the Borrower's business and (c) upon fair and reasonable -25- terms no less favorable to the Borrower than it would obtain in a comparable arm's length transaction with a Person which is not an Affiliate, or make a payment that is not otherwise permitted by this Section 7.10 to any Affiliate. In no event shall the Borrower pledge to the Lender hereunder any Mortgage Loan acquired by the Borrower from an Affiliate of the Borrower, unless the Borrower has delivered to the Lender a true sale opinion, in form acceptable to the Lender and a True Sale Certification, substantially in the form attached hereto as Exhibit G, in connection therewith. 7.11 Limitation on Liens. The Borrower will defend the Collateral against, and will take such other action as is necessary to remove, any Lien, security interest or claim on or to the Collateral, other than the security interests created under this Loan Agreement, and the Borrower will defend the right, title and interest of the Lenders in and to any of the Collateral against the claims and demands of all persons whomsoever. 7.12 Limitation on Guarantees. The Borrower shall not create, incur, assume or suffer to exist any Guarantees. 7.13 Limitation on Distributions. After the occurrence and during the continuation of any Event of Default, the Borrower shall not make any payment on account of, or set apart assets for, a sinking or other analogous fund for the purchase, redemption, defeasance, retirement or other acquisition of any equity or partnership interest of the Borrower, whether now or hereafter outstanding, or make any other distribution in respect thereof, either directly or indirectly, whether in cash or property or in obligations of the Borrower. 7.14 Maintenance of Tangible Net Worth. The Borrower shall not permit Tangible Net Worth at any time to be less than $3,500,000. 7.15 Maintenance of Ratio of Total Indebtedness to Tangible Net Worth. The Borrower shall not permit the ratio of Total Indebtedness to Tangible Net Worth at any time to be greater than 10:1. 7.16 Maintenance of Profitability. The Borrower shall not permit, for any period of three consecutive fiscal quarters (each such period, a "Test Period"), Net Income for such Test Period, before income taxes for such Test Period and distributions made during such Test Period, to be less than $1.00. 7.17 Servicing Tape. The Borrower shall provide to the Lender on a monthly basis a computer readable magnetic tape or an electronic transmission containing servicing information, including without limitation those fields specified by the Lender from time to time, on a loan-by-loan basis and in the aggregate, with respect to the Mortgage Loans serviced hereunder by the Borrower or any Servicer. Section 8. Events of Default. Each of the following events shall constitute an event of default (an "Event of Default") hereunder: (a) the Borrower shall default in the payment of any principal of or interest on any Loan when due (whether at stated maturity, upon acceleration or at mandatory prepayment); or (b) any Affiliated Party shall default in the payment of any other amount payable by it hereunder or under any other Loan Document after notification by the Lender of such default, and such default shall have continued unremedied for five Business Days; or -26- (c) any representation, warranty or certification made or deemed made herein or in any other Loan Document by the Borrower or any certificate furnished to the Lender pursuant to the provisions hereof or thereof shall prove to have been false or misleading in any material respect as of the time made or furnished (other than the representations and warranties set forth in Schedule 1, which shall be considered solely for the purpose of determining the Collateral Value of the Mortgage Loans; unless the Borrower shall have made any such representations and warranties with knowledge that they were materially false or misleading at the time made); or (d) the Borrower shall fail to comply with the requirements of Section 7.03(a), Section 7.04, Section 7.05, Section 7.06, or Sections 7.09 through 7.17 hereof, or the Borrower shall otherwise fail to comply with the requirements of Section 7.03 hereof and such default shall continue unremedied for a period of five Business Days; or any Affiliated Party shall fail to observe or perform any other covenant or agreement contained in this Loan Agreement or any other Loan Document and such failure to observe or perform shall continue unremedied for a period of seven Business Days; or (e) a final judgment or judgments for the payment of money in excess of $500,000 in the aggregate shall be rendered against any Affiliated Party or any of its Subsidiaries by one or more courts, administrative tribunals or other bodies having jurisdiction and the same shall not be discharged (or provision shall not be made for such discharge) or bonded, or a stay of execution thereof shall not be procured, within 60 days from the date of entry thereof, and the Affiliated Party or any such Subsidiary shall not, within said period of 60 days, or such longer period during which execution of the same shall have been stayed or bonded, appeal therefrom and cause the execution thereof to be stayed during such appeal; or (f) any Affiliated Party shall admit in writing its inability to pay its debts as such debts become due; or (g) any Affiliated Party or any of their respective Subsidiaries shall (i) apply for or consent to the appointment of, or the taking of possession by, a receiver, custodian, trustee, examiner or liquidator or the like of itself or of all or a substantial part of its property, (ii) make a general assignment for the benefit of its creditors, (iii) commence a voluntary case under the Bankruptcy Code, (iv) file a petition seeking to take advantage of any other law relating to bankruptcy, insolvency, reorganization, liquidation, dissolution, arrangement or winding-up, or composition or readjustment of debts, (v) fail to controvert in a timely and appropriate manner, or acquiesce in writing to, any petition filed against it in an involuntary case under the Bankruptcy Code or (vi) take any corporate or other action for the purpose of effecting any of the foregoing; or (h) a proceeding or case shall be commenced, without the application or consent of any Affiliated Party or any of their respective Subsidiaries, in any court of competent jurisdiction, seeking (i) its reorganization, liquidation, dissolution, arrangement or winding-up, or the composition or readjustment of its debts, (ii) the appointment of, or the taking of possession by, a receiver, custodian, trustee, examiner, liquidator or the like of the Affiliated Party or any such Subsidiary or of all or any substantial part of its property, or (iii) similar relief in respect of the Affiliated Party or Subsidiary under any law relating to bankruptcy, insolvency, reorganization, liquidation, dissolution, arrangement or winding-up, or composition or adjustment of debts, and such proceeding or case shall continue undismissed, or an order, -27- judgment or decree approving or ordering any of the foregoing shall be entered and continue unstayed and in effect, for a period of 60 or more days; or an order for relief against the Affiliated Party or Subsidiary shall be entered in an involuntary case under the Bankruptcy Code; or (i) the Custodial Agreement or any Loan Document shall for whatever reason be terminated or cease to be in full force and effect, or the enforceability thereof shall be contested by any Affiliated Party; or (j) the Borrower shall grant, or suffer to exist, any Lien on any Collateral except the Liens contemplated hereby; or the Liens contemplated hereby shall cease to be first priority perfected Liens on the Collateral in favor of the Lender or shall be Liens in favor of any Person other than the Lender; or (k) any materially adverse change in the Property, business, financial condition or prospects of any Affiliated Party or any of its Subsidiaries shall occur, in each case as determined by the Lender in its sole discretion, or any other condition shall exist which, in the Lender's sole discretion, constitutes a material impairment of any Affiliated Party's ability to perform its obligations under this Loan Agreement, the Note or any other Loan Document. Section 9. Remedies Upon Default. (a) Upon the occurrence of one or more Events of Default other than those referred to in Section 8(g) or (h), the Lender may immediately declare the principal amount of the Loans then outstanding under the Note to be immediately due and payable, together with all interest thereon and fees and expenses accruing under this Loan Agreement. Upon the occurrence of an Event of Default referred to in Sections 8(g) or (h), such amounts shall immediately and automatically become due and payable without any further action by any Person. Upon such declaration or such automatic acceleration, the balance then outstanding on the Note shall become immediately due and payable, without presentment, demand, protest or other formalities of any kind, all of which are hereby expressly waived by the Borrower. (b) Upon the occurrence of one or more Events of Default, the Lender shall have the right to obtain physical possession of the Servicing Records and all other files of the Borrower relating to the Collateral and all documents relating to the Collateral which are then or may thereafter come in to the possession of the Borrower or any third party acting for the Borrower and the Borrower shall deliver to the Lender such assignments as the Lender shall request. The Lender shall be entitled to specific performance of all agreements of the Borrower contained in this Loan Agreement. Section 10. No Duty of Lender. The powers conferred on the Lender hereunder are solely to protect the Lender's interests in the Collateral and shall not impose any duty upon it to exercise any such powers. The Lender shall be accountable only for amounts that it actually receives as a result of the exercise of such powers, and neither it nor any of its officers, directors, employees or agents shall be responsible to the Borrower for any act or failure to act hereunder, except for its or their own gross negligence or willful misconduct. -28- Section II. Miscellaneous. 11.01 Waiver. No failure on the part of the Lender to exercise and no delay in exercising, and no course of dealing with respect to, any right, power or privilege under any Loan Document shall operate as a waiver thereof, nor shall any single or partial exercise of any right, power or privilege under any Loan Document preclude any other or further exercise thereof or the exercise of any other right, power or privilege. The remedies provided herein are cumulative and not exclusive of any remedies provided by law. 11.02 Notices. Except as otherwise expressly permitted by this Loan Agreement, all notices, requests and other communications provided for herein and under the Custodial Agreement (including without limitation any modifications of, or waivers, requests or consents under, this Loan Agreement) shall be given or made in writing (including without limitation by telex or telecopy) delivered to the intended recipient at the "Address for Notices" specified below its name on the signature pages hereof or thereof); or, as to any party, at such other address as shall be designated by such party in a written notice to each other party. Except as otherwise provided in this Loan Agreement and except for notices given under Section 2 (which shall be effective only on receipt), all such communications shall be deemed to have been duly given when transmitted by telex or telecopy or personally delivered or, in the case of a mailed notice, upon receipt, in each case given or addressed as aforesaid. 11.03 Indemnification and Expenses. (a) The Borrower agrees to hold the Lender harmless from and indemnify the Lender against all liabilities, losses, damages, judgments, costs and expenses of any kind which may be imposed on, incurred by or asserted against the Lender (collectively, the "Costs") relating to or arising out of this Loan Agreement, the Note, any other Loan Document or any transaction contemplated hereby or thereby, or any amendment, supplement or modification of, or any waiver or consent under or in respect of, this Loan Agreement, the Note, any other Loan Document or any transaction contemplated hereby or thereby, that, in each case, results from anything other than the Lender's gross negligence or willful misconduct. Without limiting the generality of the foregoing, the Borrower agrees to hold the Lender harmless from and indemnify the Lender against all Costs relating to or arising out of any breach, violation or alleged breach or violation of any consumer credit laws, including without limitation the Truth in Lending Act and/or the Real Estate Settlement Procedures Act. In any suit, proceeding or action brought by the Lender in connection with any Mortgage Loan for any sum owing thereunder, or to enforce any provisions of any Mortgage Loan, the Borrower will save, indemnify and hold the Lender harmless from and against all expense, loss or damage suffered by reason of any defense, set-off, counterclaim, recoupment or reduction or liability whatsoever of the account debtor or obligor thereunder, arising out of a breach by the Borrower of any obligation thereunder or arising out of any other agreement, indebtedness or liability at any time owing to or in favor of such account debtor or obligor or its successors from the Borrower. The Borrower also agrees to reimburse the Lender as and when billed by the Lender for all the Lender's costs and expenses incurred in connection with the enforcement or the preservation of the Lender's rights under this Loan Agreement, the Note, any other Loan Document or any transaction contemplated hereby or thereby, including without limitation the reasonable fees and disbursements of its counsel. The Borrower hereby acknowledges that, notwithstanding the fact that the Note is secured by the Collateral, the obligation of the Borrower under the Note is a recourse obligation of the Borrower. -29- (b) The Borrower agrees to pay as and when billed by the Lender all of the out-of-pocket costs and expenses incurred by the Lender in connection with the development, preparation and execution of, and any amendment, supplement or modification to, this Loan Agreement, the Note, any other Loan Document or any other documents prepared in connection herewith or therewith. The Borrower agrees to pay to the Lender, immediately upon closing, all of the out-of-pocket costs and expenses incurred in connection with the consummation and administration of the transactions contemplated hereby and thereby including without limitation (i) all the reasonable fees, disbursements and expenses of counsel to the Lender not to exceed $10,000 and (ii) all the due diligence, inspection, testing and review costs and expenses incurred by the Lender with respect to Collateral under this Loan Agreement, including, but not limited to, those costs and expenses incurred by the Lender pursuant to Sections 11.03(a), 11.14 and 11.15 hereof. 11.04 Amendments. Except as otherwise expressly provided in this Loan Agreement, any provision of this Loan Agreement may be modified or supplemented only by an instrument in writing signed by the Borrower and the Lender and any provision of this Loan Agreement may be waived by the Lender. 11.05 Successors and Assigns. This Loan Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and permitted assigns. 11.06 Survival. The obligations of the Borrower under Sections 3.03 and 11.03 hereof shall survive the repayment of the Loans and the termination of this Loan Agreement. In addition, each representation and warranty made or deemed to be made by a request for a borrowing, herein or pursuant hereto shall survive the making of such representation and warranty, and the Lender shall not be deemed to have waived, by reason of making any Loan, any Default that may arise because any such representation or warranty shall have proved to be false or misleading, notwithstanding that the Lender may have had notice or knowledge or reason to believe that such representation or warranty was false or misleading at the time such Loan was made. 11.07 Captions. The table of contents and captions and section headings appearing herein are included solely for convenience of reference and are not intended to affect the interpretation of any provision of this Loan Agreement. 11.08 Counterparts. This Loan Agreement may be executed in any number of counterparts, all of which taken together shall constitute one and the same instrument, and any of the parties hereto may execute this Loan Agreement by signing any such counterpart. 11.09 Loan Agreement Constitutes Security Agreement; Governing Law. This Loan Agreement shall be governed by New York law without reference to choice of law doctrine, and shall constitute a security agreement within the meaning of the Uniform Commercial Code. 11.10 SUBMISSION TO JURISDICTION; WAIVERS. THE BORROWER HEREBY IRREVOCABLY AND UNCONDITIONALLY: (A) SUBMITS FOR ITSELF AND ITS PROPERTY IN ANY LEGAL ACTION OR PROCEEDING RELATING TO THIS LOAN AGREEMENT, THE NOTE AND THE OTHER LOAN DOCUMENTS, OR FOR RECOGNITION AND ENFORCEMENT OF ANY JUDGMENT IN RESPECT THEREOF, TO THE NON-EXCLUSIVE GENERAL JURISDICTION OF THE COURTS OF THE STATE OF NEW -30- YORK, THE FEDERAL COURTS OF THE UNITED STATES OF AMERICA FOR THE SOUTHERN DISTRICT OF NEW YORK, AND APPELLATE COURTS FROM ANY THEREOF; (B) CONSENTS THAT ANY SUCH ACTION OR PROCEEDING MAY BE BROUGHT IN SUCH COURTS AND, TO THE EXTENT PERMITTED BY LAW, WAIVES ANY OBJECTION THAT IT MAY NOW OR HEREAFTER HAVE TO THE VENUE OF ANY SUCH ACTION OR PROCEEDING IN ANY SUCH COURT OR THAT SUCH ACTION OR PROCEEDING WAS BROUGHT IN AN INCONVENIENT COURT AND AGREES NOT TO PLEAD OR CLAIM THE SAME; (C) AGREES THAT SERVICE OF PROCESS IN ANY SUCH ACTION OR PROCEEDING MAY BE EFFECTED BY MAILING A COPY THEREOF BY REGISTERED OR CERTIFIED MAIL (OR ANY SUBSTANTIALLY SIMILAR FORM OF MAIL), POSTAGE PREPAID, TO ITS ADDRESS SET FORTH UNDER ITS SIGNATURE BELOW OR AT SUCH OTHER ADDRESS OF WHICH THE LENDER SHALL HAVE BEEN NOTIFIED; AND (D) AGREES THAT NOTHING HEREIN SHALL AFFECT THE RIGHT TO EFFECT SERVICE OF PROCESS IN ANY OTHER MANNER PERMITTED BY LAW OR SHALL LIMIT THE RIGHT TO SUE IN ANY OTHER JURISDICTION. 11.11 WAIVER OF JURY TRIAL. EACH OF THE BORROWER AND THE LENDER HEREBY IRREVOCABLY WAIVES, TO THE FULLEST EXTENT PERMITTED BY APPLICABLE LAW, ANY AND ALL RIGHT TO TRIAL BY JURY IN ANY LEGAL PROCEEDING ARISING OUT OF OR RELATING TO THIS LOAN AGREEMENT, ANY OTHER LOAN DOCUMENT OR THE TRANSACTIONS CONTEMPLATED HEREBY OR THEREBY. 11.12 Acknowledgments. The Borrower hereby acknowledges that: (a) it has been advised by counsel in the negotiation, execution and delivery of this Loan Agreement, the Note and the other Loan Documents; (b) the Lender has no fiduciary relationship to the Borrower, and the relationship between the Borrower and the Lender is solely that of debtor and creditor; and (c) no joint venture exists between the Lender and the Borrower. 11.13 Hypothecation or Pledge of Loans. The Lender shall have free and unrestricted use of all Collateral and nothing in this Loan Agreement shall preclude the Lender from engaging in repurchase transactions with the Collateral or otherwise pledging, repledging, transferring, hypothecating, or rehypothecating the Collateral. Nothing contained in this Loan Agreement shall obligate the Lender to segregate any Collateral delivered to the Lender by the Borrower. 11.14 Servicing. (a) The Borrower covenants to maintain or cause the servicing of the Mortgage Loans to be maintained in conformity with accepted and prudent servicing practices in the industry for the same type of mortgage loans as the Mortgage Loans and in a manner at least equal in quality to the -31- servicing the Borrower provides for mortgage loans which it owns. In the event that the preceding language is interpreted as constituting one or more servicing contracts, each such servicing contract shall terminate automatically upon the earliest of (i) an Event of Default, (ii) the date on which all the Secured Obligations have been paid in full or (iii) the transfer of servicing approved by the Borrower. (b) If the Mortgage Loans are serviced by the Borrower, (i) the Borrower agrees that the Lender is the collateral assignee of all servicing records, including but not limited to any and all servicing agreements, files, documents, records, data bases, computer tapes, copies of computer tapes, proof of insurance coverage, insurance policies, appraisals, other closing documentation, payment history records, and any other records relating to or evidencing the servicing of Mortgage Loans (the "Servicing Records"), and (ii) the Borrower grants the Lender a security interest in all servicing fees and rights relating to the Mortgage Loans and all Servicing Records to secure the obligation of the Borrower or its designee to service in conformity with this Section and any other obligation of the Borrower to the Lender. The Borrower covenants to safeguard such Servicing Records and to deliver them promptly to the Lender or its designee (including the Custodian) at the Lender's request. (c) If the Mortgage Loans are serviced by a third party servicer (such third party servicer, the "Servicer"), the Borrower (i) shall provide a copy of the servicing agreement to the Lender, which shall be in form and substance acceptable to the Lender (the "Servicing Agreement"); and (ii) hereby irrevocably assigns to the Lender and the Lender's successors and assigns all right, title, interest of the Borrower in, to and under, and the benefits of, any Servicing Agreement with respect to the Mortgage Loans. (d) If the servicer of the Mortgage Loans is the Borrower or the Servicer is an Affiliate of the Borrower, the Borrower shall provide to the Lender a letter from the Borrower or the Servicer, as the case may be, to the effect that upon the occurrence of an Event of Default, the Lender may terminate any Servicing Agreement and transfer servicing to its designee, at no cost or expense to the Lender, it being agreed that the Borrower will pay any and all fees required to terminate the Servicing Agreement and to effectuate the transfer of servicing to the designee of the Lender. (e) After the Funding Date, until the pledge of any Mortgage Loan is relinquished by the Custodian, the Borrower will have no right to modify or alter the terms of such Mortgage Loan and the Borrower will have no obligation or right to repossess such Mortgage Loan or substitute another Mortgage Loan, except as provided in the Custodial Agreement. (f) In the event the Borrower or its Affiliate is servicing the Mortgage Loans, the Borrower shall permit the Lender to inspect the Borrower's or its Affiliate's servicing facilities, as the case may be, for the purpose of satisfying the Lender that the Borrower or its Affiliate, as the case may be, has the ability to service the Mortgage Loans as provided in this Loan Agreement. 11.15 Periodic Due Diligence Review. The Borrower acknowledges that the Lender has the right to perform continuing due diligence reviews with respect to the Mortgage Loans, for purposes of verifying compliance with the representations, warranties and specifications made hereunder, or otherwise, and the Borrower agrees that upon reasonable (but no less than three (3) Business Day's, unless a Default shall have occurred and be continuing) prior notice to the Borrower, the Lender or its authorized representatives will be permitted during normal business hours to examine, inspect, and make copies and extracts of, the Mortgage Files and any and all documents, records, agreements, instruments or information relating to such Mortgage Loans in the possession or under the -32- control of the Borrower and/or the Custodian. Such Due Diligence Reviews by the Lender may be limited by the Borrower to two (2) Due Diligence Reviews per year unless a Default shall have occurred and be continuing. The Borrower also shall make available to the Lender a knowledgeable financial or accounting officer for the purpose of answering questions respecting the Mortgage Files and the Mortgage Loans. Without limiting the generality of the foregoing, the Borrower acknowledges that the Lender may make Loans to the Borrower based solely upon the information provided by the Borrower to the Lender in the Mortgage Loan Tape and the representations, warranties and covenants contained herein, and that the Lender, at its option, has the right at any time to conduct a partial or complete due diligence review on some or all of the Mortgage Loans securing such Loan, including without limitation ordering new credit reports and new appraisals on the related Mortgaged Properties and otherwise re-generating the information used to originate such Mortgage Loan. The Lender may underwrite such Mortgage Loans itself or engage a mutually agreed upon third party underwriter to perform such underwriting. The Borrower agrees to cooperate with the Lender and any third party underwriter in connection with such underwriting, including, but not limited to, providing the Lender and any third party underwriter with access to any and all documents, records, agreements, instruments or information relating to such Mortgage Loans in the possession, or under the control, of the Borrower. The Borrower further agrees that the Borrower shall reimburse the Lender for any and all out-of-pocket costs and expenses incurred by the Lender in connection with the Lender's activities pursuant to this Section 11.15 ("Due Diligence Costs"); provided that such Due Diligence Costs shall not exceed $4,500 per year unless a Default shall have occurred and be continuing (the "Due Diligence Cap"). 11.16 Intent. The parties recognize that each Loan is a "securities contract" as that term is defined in Section 741 of Title 11 of the United States Code, as amended. [SIGNATURE PAGE FOLLOWS] -33- IN WITNESS WHEREOF, the parties hereto have caused this Loan Agreement to be duly executed and delivered as of the day and year first above written. BORROWER FIDELITY MORTGAGE FUNDING, INC. By /s/ Kathy Schauer --------------------------------- Title: President Address for Notices: 7 East Skippack Pike Ambler, Pennsylvania 19002 Attention: Eric Schneider Telecopier No.: (215) 648-3524 Telephone No.: (215) 648-3502 LENDER MORGAN STANLEY MORTGAGE CAPITAL INC. By --------------------------------- Title: Address for Notices: 1585 Broadway New York, New York 10036 Attention: Mr. Peter Mozer Telecopier No.: 212-761-0570 Telephone No.: 212-761-2408 IN WITNESS WHEREOF, the parties hereto have caused this Loan Agreement to be duly executed and delivered as of the day and year first above written. BORROWER FIDELITY MORTGAGE FUNDING, INC. By --------------------------- Title: Address for Notices: 7 East Skippack Pike Ambler, Pennsylvania 19002 Attention:___________________ Telecopier No.:______________ Telephone No.:_______________ LENDER MORGAN STANLEY MORTGAGE CAPITAL INC. By --------------------------------- Title: Vice President Address for Notices: 1585 Broadway New York, New York 10036 Attention: Mr. Peter Mozer Telecopier No.: 212-761-0570 Telephone No.: 212-761-2408 Schedule 1 REPRESENTATIONS AND WARRANTIES RE: MORTGAGE LOANS Part I. Eligible Mortgage Loans As to each residential Mortgage Loan included in the Borrowing Base on a Funding Date (and the related Mortgage, Mortgage Note, Assignment of Mortgage and Mortgaged Property), the Borrower shall be deemed to make the following representations and warranties to the Lender as of such date and as of each date Collateral Value is determined (certain defined terms used herein and not otherwise defined in the Loan Agreement appearing in Part II to this Schedule 1): (a) Mortgage Loans as Described. The information set forth in the Mortgage Loan Schedule with respect to the Mortgage Loan is complete, true and correct in all material respects. (b) Payments Current. Except with respect to Delinquent Mortgage Loans, all payments required to be made up to the Funding Date for the Mortgage Loan under the terms of the Mortgage Note have been made and credited. No payment required under the Mortgage Loan is delinquent in excess of 59 days. The first Monthly Payment shall be made, or shall have been made, with respect to the Mortgage Loan on its Due Date or within the grace period, all in accordance with the terms of the related Mortgage Note. (c) No Outstanding Charges. There are no defaults in complying with the terms of the Mortgage securing the Mortgage Loan, and all taxes, governmental assessments, insurance premiums, water, sewer and municipal charges, leasehold payments or ground rents which previously became due and owing have been paid, or an escrow of funds has been established in an amount sufficient to pay for every such item which remains unpaid and which has been assessed but is not yet due and payable. Neither the Borrower nor the Qualified Originator from which the Borrower acquired the Mortgage Loan has advanced funds, or induced, solicited or knowingly received any advance of funds by a party other than the Mortgagor, directly or indirectly, for the payment of any amount required under the Mortgage Loan, except for interest accruing from the date of the Mortgage Note or date of disbursement of the proceeds of the Mortgage Loan, whichever is earlier, to the day which precedes by one month the Due Date of the first installment of principal and interest thereunder. (d) Original Terms Unmodified. The terms of the Mortgage Note and Mortgage have not been impaired, waived, altered or modified in any respect, from the date of origination; except by a written instrument which has been recorded, if necessary to protect the interests of the Lender, and which has been delivered to the Custodian and the terms of which are reflected in the Mortgage Loan Schedule. The substance of any such waiver, alteration or modification has been approved by the title insurer, to the extent required, and its terms are reflected on the Mortgage Loan Schedule. No Mortgagor in respect of the Mortgage Loan has been released, in whole or in part, except in connection with an assumption agreement approved by the title insurer, to the extent required by such policy, and which assumption agreement is part of the Mortgage File delivered to the Custodian and the terms of which are reflected in the Mortgage Loan Schedule. Schedule 1-35- (e) No Defenses. The Mortgage Loan is not subject to any right of rescission, set-off, counterclaim or defense, including without limitation the defense of usury, nor will the operation of any of the terms of the Mortgage Note or the Mortgage, or the exercise of any right thereunder, render either the Mortgage Note or the Mortgage unenforceable, in whole or in part and no such right of rescission, set-off, counterclaim or defense has been asserted with respect thereto, and no Mortgagor in respect of the Mortgage Loan was a debtor in any state or Federal bankruptcy or insolvency proceeding at the time the Mortgage Loan was originated other than as permitted under the Underwriting Guidelines. The Borrower has no knowledge nor has it received any notice that any Mortgagor in respect of the Mortgage Loan is a debtor in any state or federal bankruptcy or insolvency proceeding. (f) Hazard Insurance. The Mortgaged Property is insured by a fire and extended perils insurance policy, issued by a Qualified Insurer, and such other hazards as are customary in the area where the Mortgaged Property is located, and to the extent required by the Borrower as of the date of origination consistent with the Underwriting Guidelines, against earthquake and other risks insured against by Persons operating like properties in the locality of the Mortgaged Property, in an amount not less than the greatest of (i) 100% of the replacement cost of all improvements to the Mortgaged Property, (ii) either (A) the outstanding principal balance of the Mortgage Loan with respect to each First Lien Mortgage Loan or (B) with respect to each Second Lien Mortgage Loan, the sum of the outstanding principal balance of the First Lien Mortgage Loan and the outstanding principal balance of the Second Lien Mortgage Loan, or (iii) the amount necessary to avoid the operation of any co-insurance provisions with respect to the Mortgaged Property, and consistent with the amount that would have been required as of the date of origination in accordance with the Underwriting Guidelines. If any portion of the Mortgaged Property is in an area identified by any federal Governmental Authority as having special flood hazards, and flood insurance is available, a flood insurance policy meeting the current guidelines of the Federal Insurance Administration is in effect with a generally acceptable insurance carrier, in an amount representing coverage not less than the least of (1) the outstanding principal balance of the Mortgage Loan, (2) the full insurable value of the Mortgaged Property, and (3) the maximum amount of insurance available under the Flood Disaster Protection Act of 1973, as amended. All such insurance policies (collectively, the "hazard insurance policy") contain a standard mortgagee clause naming the Borrower, its successors and assigns (including without limitation, subsequent owners of the Mortgage Loan), as mortgagee, and may not be reduced, terminated or canceled without 30 days' prior written notice to the mortgagee. No such notice has been received by the Borrower. All premiums on such insurance policy have been paid. The related Mortgage obligates the Mortgagor to maintain all such insurance and, at such Mortgagor's failure to do so, authorizes the mortgagee to maintain such insurance at the Mortgagor's cost and expense and to seek reimbursement therefor from such Mortgagor. Where required by state law or regulation, the Mortgagor has been given an opportunity to choose the carrier of the required hazard insurance, provided the policy is not a "master" or "blanket" hazard insurance policy covering a condominium, or any hazard insurance policy covering the common facilities of a planned unit development. The hazard insurance policy is the valid and binding obligation of the insurer and is in full force and effect. The Borrower has not engaged in, and has no knowledge of the Mortgagor's having engaged in, any act or omission which would impair the coverage of any such policy, the benefits of the endorsement provided for herein, or the validity and binding effect of either including, without limitation, no unlawful fee, commission, kickback or other unlawful compensation or value of any kind has been or will be received, retained or realized by any attorney, firm or other Person, and no such unlawful items have been received, retained or realized by the Borrower. Schedule 1-36- (g) Compliance with Applicable Laws. Any and all requirements of any federal, state or local law including, without limitation, usury, truth-in-lending, real estate settlement procedures, consumer credit protection, equal credit opportunity or disclosure laws applicable to the Mortgage Loan have been complied with, the consummation of the transactions contemplated hereby will not involve the violation of any such laws or regulations, and the Borrower shall maintain or shall cause its agent to maintain in its possession, available for the inspection of the Lender, and shall deliver to the Lender, upon demand, evidence of compliance with all such requirements. (h) No Satisfaction of Mortgage. The Mortgage has not been satisfied, canceled, subordinated or rescinded, in whole or in part, and the Mortgaged Property has not been released from the lien of the Mortgage, in whole or in part, nor has any instrument been executed that would effect any such release, cancellation, subordination or rescission. The Borrower has not waived the performance by the Mortgagor of any action, if the Mortgagor's failure to perform such action would cause the Mortgage Loan to be in default, nor has the Borrower waived any default resulting from any action or inaction by the Mortgagor. (i) Location and Typee of Mortgaged Property. The Mortgaged Property is located in an Acceptable State as identified in the Mortgage Loan Schedule and consists of a single parcel of real property with a detached single family residence erected thereon, or a two- to four-family dwelling, or an individual condominium unit in a low-rise condominium project, or an individual unit in a planned unit development or a de minimis planned unit development, provided, however, that any condominium unit or planned unit development shall conform with the applicable FNMA and FHLMC requirements regarding such dwellings and that no residence or dwelling is a mobile home or a manufactured dwelling (other than Acceptable Manufactured Housing). No Mortgaged Property is secured by a Mixed Use Mortgage Loan, and no portion of the Mortgaged Property is used for commercial purposes. (j) Valid First or Second Lien. The Mortgage is a valid, subsisting, enforceable and perfected (A) first lien and first priority security interest with respect to each Mortgage Loan which is indicated by such Borrower to be a First Lien Mortgage Loan (as reflected on the Mortgage Loan Tape), or (B) second lien and second priority security interest with respect to each Mortgage Loan which is indicated by such Borrower to be a Second Lien Mortgage Loan (as reflected on the Mortgage Loan Tape), in either case, on the real property included in the Mortgaged Property, including all buildings on the Mortgaged Property and all installations and mechanical, electrical, plumbing, heating and air conditioning systems located in or annexed to such buildings, and all additions, alterations and replacements made at any time with respect to the foregoing. The lien of the Mortgage is subject only to: (1) the lien of current real property taxes and assessments not yet due and payable; (2) covenants, conditions and restrictions, rights of way, easements and other matters of the public record as of the date of recording acceptable to prudent mortgage lending institutions generally and specifically referred to in the lender's title insurance policy delivered to the originator of the Mortgage Loan and (a) referred to or otherwise considered in the appraisal made for the originator of the Mortgage Loan or (b) which do not adversely affect the Appraised Value of the Mortgaged Property set forth in such appraisal; Schedule 1-37- (3) other matters to which like properties are commonly subject which do not materially interfere with the benefits of the security intended to be provided by the Mortgage or the use, enjoyment, value or marketability of the related Mortgaged Property; and (4) with respect to each Mortgage Loan which is indicated by such Borrower to be a Second Lien Mortgage Loan (as reflected on the Mortgage Loan Tape) a prior mortgage lien on the Mortgaged Property. Any security agreement, chattel mortgage or equivalent document related to and delivered in connection with the Mortgage Loan establishes and creates a valid, subsisting and enforceable (A) first lien and first priority security interest with respect to each Mortgage Loan which is indicated by such Borrower to be a First Lien Mortgage Loan (as reflected on the Mortgage Loan Tape), or (B) second lien and second priority security interest with respect to each Mortgage Loan which is indicated by such Borrower to be a Second Lien Mortgage Loan (as reflected on the Mortgage Loan Tape), in either case, on the property described therein and the Borrower has full right to pledge and assign the same to the Lender. The Mortgaged Property was not, as of the date of origination of the Mortgage Loan, subject to a mortgage, deed of trust, deed to secure debt or other security instrument creating a lien subordinate to the lien of the Mortgage. (k) Validity of Mortgage Documents. The Mortgage Note and the Mortgage and any other agreement executed and delivered by a Mortgagor or guarantor, if applicable, in connection with a Mortgage Loan are genuine, and each is the legal, valid and binding obligation of the maker thereof enforceable in accordance with its terms. All parties to the Mortgage Note, the Mortgage and any other such related agreement had legal capacity to enter into the Mortgage Loan and to execute and deliver the Mortgage Note, the Mortgage and any such agreement, and the Mortgage Note, the Mortgage and any other such related agreement have been duly and properly executed by such related parties. No fraud, error, omission, misrepresentation, negligence or similar occurrence with respect to a Mortgage Loan has taken place on the part of any Person, including, without limitation, the Mortgagor, any appraiser, any builder or developer, or any other party involved in the origination of the Mortgage Loan. The Borrower has reviewed all of the documents constituting the Servicing File and has made such inquiries as it deems necessary to make and confirm the accuracy of the representations set forth herein. (l) Full Disbursement of Proceeds. The Mortgage Loan has been closed and the proceeds of the Mortgage Loan have been fully disbursed and there is no further requirement for future advances thereunder, and any and all requirements as to completion of any on-site or off-site improvement and as to disbursements of any escrow funds therefor have been complied with. All costs, fees and expenses incurred in making or closing the Mortgage Loan and the recording of the Mortgage were paid, and the Mortgagor is not entitled to any refund of any amounts paid or due under the Mortgage Note or Mortgage. (m) Ownership. The Borrower is the sole owner and holder of the Mortgage Loan. The Mortgage Loan is not assigned or pledged, and the Borrower has good, indefeasible and marketable title thereto, and has full right to transfer, pledge and assign the Mortgage Loan to the Lender free and clear of any encumbrance, equity, participation interest, lien, pledge, charge, claim or security interest, and has full right and authority subject to no interest or participation of, or agreement with, any other party, to assign, transfer and pledge each Mortgage Loan pursuant to this Loan Agreement and following the pledge of each Mortgage Loan, the Lender will hold such Mortgage Loan Schedule 1-38- free and clear of any encumbrance, equity, participation interest, lien, pledge, charge, claim or security interest except any such security interest created pursuant to the terms of this Loan Agreement. (n) Doing Business. All parties which have had any interest in the Mortgage Loan, whether as mortgagee, assignee, pledgee or otherwise, are (or, during the period in which they held and disposed of such interest, were) (i) in compliance with any and all applicable licensing requirements of the laws of the state wherein the Mortgaged Property is located, and (ii) either (A) organized under the laws of such state, (B) qualified to do business in such state, (C) a federal savings and loan association, a savings bank or a national bank having a principal office in such state, or (D) not doing business in such state. (o) CLTV. No Mortgage Loan has a CLTV greater than 100%. (p) Title Insurance. The Mortgage Loan is covered by either (i) an attorney's opinion of title and abstract of title, the form and substance of which is acceptable to prudent mortgage lending institutions making mortgage loans in the area wherein the Mortgaged Property is located or (ii) an ALTA lender's title insurance policy or other generally acceptable form of policy or insurance acceptable to FNMA or FHLMC and each such title insurance policy is issued by a title insurer acceptable to FNMA or FHLMC and qualified to do business in the jurisdiction where the Mortgaged Property is located, insuring the Borrower, its successors and assigns, as to the first (or second, if the Mortgage Loan is a Second Lien Mortgage Loan) priority lien of the Mortgage in the original principal amount of the Mortgage Loan (or to the extent a Mortgage Note provides for negative amortization, the maximum amount of negative amortization in accordance with the Mortgage), subject only to the exceptions contained in clauses (1), (2), (3) and, with respect to each Mortgage Loan which is indicated by the Borrower to be a Second Lien Mortgage Loan (as reflected on the Mortgage Loan Schedule) clause (4) of paragraph (j) of this Part I of Schedule 1, and in the case of adjustable rate Mortgage Loans, against any loss by reason of the invalidity or unenforceability of the lien resulting from the provisions of the Mortgage providing for adjustment to the Mortgage Interest Rate and Monthly Payment. Where required by state law or regulation, the Mortgagor has been given the opportunity to choose the carrier of the required mortgage title insurance. Additionally, such lender's title insurance policy affirmatively insures ingress and egress and against encroachments by or upon the Mortgaged Property or any interest therein. The title policy does not contain any special exceptions (other than the standard exclusions) for zoning and uses and has been marked to delete the standard survey exception or to replace the standard survey exception with a specific survey reading. The Borrower, its successors and assigns, are the sole insureds of such lender's title insurance policy, and such lender's title insurance policy is valid and remains in full force and effect and will be in force and effect upon the consummation of the transactions contemplated by this Loan Agreement. No claims have been made under such lender's title insurance policy, and no prior holder or servicer of the related Mortgage, including the Borrower, has done, by act or omission, anything which would impair the coverage of such lender's title insurance policy, including, without limitation, no unlawful fee, commission, kickback or other unlawful compensation or value of any kind has been or will be received, retained or realized by any attorney, firm or other Person, and no such unlawful items have been received, retained or realized by the Borrower. (q) No Defaults. There is no default, breach, violation or event of acceleration existing under the Mortgage or the Mortgage Note (other than Mortgage Loans for which payments are delinquent for no more than fifty-nine (59) days) and no event has occurred which, with the passage of time or with notice and the expiration of any grace or cure period, would constitute a default, breach, violation or event of acceleration, and neither the Borrower nor its predecessors have waived any Schedule 1-39- default, breach, violation or event of acceleration. With respect to each Mortgage Loan which is indicated by such Borrower to be a Second Lien Mortgage Loan (as reflected on the Mortgage Loan Schedule) (i) the prior mortgage is in full force and effect, (ii) there is no default, breach, violation or event of acceleration existing under such prior mortgage or the related mortgage note, (iii) no event which, with the passage of time or with notice and the expiration of any grace or cure period, would constitute a default, breach, violation or event of acceleration thereunder, and either (A) the prior mortgage contains, a provision which allows or (B) applicable law requires, the mortgagee under the Second Lien Mortgage Loan to receive notice of, and affords such mortgagee an opportunity to cure any default by payment in full or otherwise under the prior mortgage. (r) No Mechanics' Liens. There are no mechanics' or similar liens or claims which have been filed for work, labor or material (and no rights are outstanding that under the law could give rise to such liens) affecting the Mortgaged Property which are or may be liens prior to, or equal or coordinate with, the lien of the Mortgage. (s) Location of Improvements: No Encroachments. All improvements which were considered in determining the Appraised Value of the Mortgaged Property lie wholly within the boundaries and building restriction lines of the Mortgaged Property, and no improvements on adjoining properties encroach upon the Mortgaged Property. No improvement located on or being part of the Mortgaged Property is in violation of any applicable zoning and building law, ordinance or regulation. (t) Origination: Payment Terms. The Mortgage Loan was originated by or in conjunction with a mortgagee approved by the Secretary of Housing and Urban Development pursuant to Sections 203 and 211 of the National Housing Act, a savings and loan association, a savings bank, a commercial bank, credit union, insurance company or similar banking institution which is supervised and examined by a federal or state authority. Principal payments on the Mortgage Loan commenced no more than 60 days after funds were disbursed in connection with the Mortgage Loan. The Mortgage Interest Rate is adjusted, with respect to adjustable rate Mortgage Loans, on each Interest Rate Adjustment Date to equal the Index plus the Gross Margin (rounded up or down to the nearest .125%), subject to the Mortgage Interest Rate Cap. The Mortgage Note is payable in equal monthly installments of principal and interest, which installments of interest, with respect to adjustable rate Mortgage Loans, are subject to change due to the adjustments to the Mortgage Interest Rate on each Interest Rate Adjustment Date, with interest calculated and payable in arrears, sufficient to amortize the Mortgage Loan fully by the stated maturity date, over an original term of not more than 30 years from commencement of amortization. The due date of the first payment under the Mortgage Note is no more than 60 days from the date of the Mortgage Note. (U) Customary Provisions. The Mortgage Note has a stated maturity. The Mortgage contains customary and enforceable provisions such as to render the rights and remedies of the holder thereof adequate for the realization against the Mortgaged Property of the benefits of the security provided thereby, including, (i) in the case of a Mortgage designated as a deed of trust, by trustee's sale, and (ii) otherwise by judicial foreclosure. Upon default by a Mortgagor on a Mortgage Loan and foreclosure on, or trustee's sale of, the Mortgaged Property pursuant to the proper procedures, the holder of the Mortgage Loan will be able to deliver good and merchantable title to the Mortgaged Property. There is no homestead or other exemption available to a Mortgagor which would interfere with the right to sell the Mortgaged Property at a trustee's sale or the right to foreclose the Mortgage. Schedule 1-40- (v) Conformance with Underwriting Guidelines and Agency Standards. The Mortgage Loan was underwritten in accordance with the Underwriting Guidelines. The Mortgage Note and Mortgage are on forms similar to those used by FHLMC or FNMA and the Borrower has not made any representations to a Mortgagor that are inconsistent with the mortgage instruments used. (w) Occupancy of the Mortgaged Property. As of the Funding Date the Mortgaged Property is lawfully occupied under applicable law. All inspections, licenses and certificates required to be made or issued with respect to all occupied portions of the Mortgaged Property and, with respect to the use and occupancy of the same, including but not limited to certificates of occupancy and fire underwriting certificates, have been made or obtained from the appropriate authorities. The Borrower has not received notification from any governmental authority that the Mortgaged Property is in material non-compliance with such laws or regulations, is being used, operated or occupied unlawfully or has failed to have or obtain such inspection, licenses or certificates, as the case may be. The Borrower has not received notice of any violation or failure to conform with any such law, ordinance, regulation, standard, license or certificate. The Mortgagor represented at the time of origination of the Mortgage Loan that the Mortgagor would occupy the Mortgaged Property as the Mortgagor's primary residence. (x) No Additional Collateral. The Mortgage Note is not and has not been secured by any collateral except the lien of the corresponding Mortgage and the security interest of any applicable security agreement or chattel mortgage referred to in clause (y) above. (y) Deeds of Trust. In the event the Mortgage constitutes a deed of trust, a trustee, authorized and duly qualified under applicable law to serve as such, has been properly designated and currently so serves and is named in the Mortgage, and no fees or expenses are or will become payable by the Custodian or the Lender to the trustee under the deed of trust, except in connection with a trustee's sale after default by the Mortgagor. (z) Delivery of Mortgage Documents. The Mortgage Note, the Mortgage, the Assignment of Mortgage and any other documents required to be delivered under the Custodial Agreement for each Mortgage Loan have been delivered to the Custodian. The Borrower or its agent is in possession of a complete, true and accurate Mortgage File in compliance with the Custodial Agreement, except for such documents the originals of which have been delivered to the Custodian. (aa) Transfer of Mortgage Loans. The Assignment of Mortgage is in recordable form and is acceptable for recording under the laws of the jurisdiction in which the Mortgaged Property is located. (bb) Due-On-Sale. The Mortgage contains an enforceable provision for the acceleration of the payment of the unpaid principal balance of the Mortgage Loan in the event that the Mortgaged Property is sold or transferred without the prior written consent of the mortgagee thereunder. (cc) No Buydown Provisions; No Graduated Payments or Contingent Interests. The Mortgage Loan does not contain provisions pursuant to which Monthly Payments are paid or partially paid with funds deposited in any separate account established by the Borrower, the Mortgagor, or anyone on behalf of the Mortgagor, or paid by any source other than the Mortgagor nor does it contain any other similar provisions which may constitute a "buydown" provision. The Mortgage Loan is not Schedule 1-41- a graduated payment mortgage loan and the Mortgage Loan does not have a shared appreciation or other contingent interest feature. (dd) Consolidation of Future Advances. Any future advances made to the Mortgagor prior to the Cut-off Date have been consolidated with the principal amount secured by the Mortgage, and the secured principal amount, as consolidated, bears a single interest rate and single repayment term. The lien of the Mortgage securing the consolidated principal amount is expressly insured as having (A) first lien priority with respect to each Mortgage Loan which is indicated by such Borrower to be a First Lien Mortgage Loan (as reflected on the Mortgage Loan Schedule), or (B) second lien priority with respect to each Mortgage Loan which is indicated by such Borrower to be a Second Lien Mortgage Loan (as reflected on the Mortgage Loan Schedule), in either case, by a title insurance policy, an endorsement to the policy insuring the mortgagee's consolidated interest or by other title evidence acceptable to FNMA and FHLMC. The consolidated principal amount does not exceed the original principal amount of the Mortgage Loan. (ee) Mortgage Property Undamaged. The Mortgaged Property is undamaged by waste, fire, earthquake or earth movement, windstorm, flood, tornado or other casualty so as to affect adversely the value of the Mortgaged Property as security for the Mortgage Loan or the use for which the premises were intended and each Mortgaged Property is in good repair. There have not been any condemnation proceedings with respect to the Mortgaged Property and the Borrower has no knowledge of any such proceedings. (ff) Collection Practices: Escrow Deposits Interest Rate Adjustments. The origination and collection practices used by the originator, each servicer of the Mortgage Loan and the Borrower with respect to the Mortgage Loan have been in all respects in compliance with Accepted Servicing Practices, applicable laws and regulations, and have been in all respects legal and proper. With respect to escrow deposits and Escrow Payments, (other than with respect to each Mortgage Loan which is indicated by such Borrower to be a Second Lien Mortgage Loan and for which the mortgagee under the prior mortgage lien is collecting Escrow Payments (as reflected on the Mortgage Loan Schedule), all such payments are in the possession of, or under the control of, the Borrower and there exist no deficiencies in connection therewith for which customary arrangements for repayment thereof have not been made. All Escrow Payments have been collected in full compliance with state and federal law. An escrow of funds is not prohibited by applicable law and has been established in an amount sufficient to pay for every item that remains unpaid and has been assessed but is not yet due and payable. No escrow deposits or Escrow Payments or other charges or payments due the Borrower have been capitalized under the Mortgage or the Mortgage Note. All Mortgage Interest Rate adjustments have been made in strict compliance with state and federal law and the terms of the related Mortgage Note. Any interest required to be paid pursuant to state, federal and local law has been properly paid and credited. (gg) Other Insurance Policies. No action, inaction or event has occurred and no state of facts exists or has existed that has resulted or will result in the exclusion from, denial of, or defense to coverage under any applicable special hazard insurance policy, PMI Policy or bankruptcy bond, irrespective of the cause of such failure of coverage. In connection with the placement of any such insurance, no commission, fee, or other compensation has been or will be received by the Borrower or by any officer, director, or employee of the Borrower or any designee of the Borrower or any corporation in which the Borrower or any officer, director, or employee had a financial interest at the time of placement of such insurance. Schedule 1-42- (hh) Soldiers' and Sailors' Civil Relief Act. The Mortgagor has not notified the Borrower, and the Borrower has no knowledge, of any relief requested or allowed to the Mortgagor under the Soldiers' and Sailors' Civil Relief Act of 1940. (ii) Appraisal. The Mortgage File contains an appraisal of the related Mortgaged Property signed prior to the approval of the Mortgage Loan application by a qualified appraiser, duly appointed by the Borrower, who had no interest, direct or indirect in the Mortgaged Property or in any loan made on the security thereof, and whose compensation is not affected by the approval or disapproval of the Mortgage Loan, and the appraisal and appraiser both satisfy the requirements of FNMA or FHLMC and Title XI of the Federal Institutions Reform, Recovery, and Enforcement Act of 1989 as amended and the regulations promulgated thereunder, all as in effect on the date the Mortgage Loan was originated. (jj) Disclosure Materials. The Mortgagor has executed a statement to the effect that the Mortgagor has received all disclosure materials required by applicable law with respect to the making of adjustable rate mortgage loans, and the Borrower maintains such statement in the Mortgage File. (kk) Construction or Rehabilitation of Mortgaged Property. No Mortgage Loan was made in connection with the construction or rehabilitation of a Mortgaged Property or facilitating the trade-in or exchange of a Mortgaged Property. (ll) No Defense to Insurance Coverage. No action has been taken or failed to be taken, no event has occurred and no state of facts exists or has existed on or prior to the Funding Date (whether or not known to the Borrower on or prior to such date) which has resulted or will result in an exclusion from, denial of, or defense to coverage under any private mortgage insurance (including, without limitation, any exclusions, denials or defenses which would limit or reduce the availability of the timely payment of the full amount of the loss otherwise due thereunder to the insured) whether arising out of actions, representations, errors, omissions, negligence, or fraud of the Borrower, the related Mortgagor or any party involved in the application for such coverage, including the appraisal, plans and specifications and other exhibits or documents submitted therewith to the insurer under such insurance policy, or for any other reason under such coverage, but not including the failure of such insurer to pay by reason of such insurer's breach of such insurance policy or such insurer's financial inability to pay. (mm) Capitalization of Interest. The Mortgage Note does not by its terms provide for the capitalization or forbearance of interest. (nn) No Equity Participation. No document relating to the Mortgage Loan provides for any contingent or additional interest in the form of participation in the cash flow of the Mortgaged Property or a sharing in the appreciation of the value of the Mortgaged Property. The indebtedness evidenced by the Mortgage Note is not convertible to an ownership interest in the Mortgaged Property or the Mortgagor and the Borrower has not financed nor does it own directly or indirectly, any equity of any form in the Mortgaged Property or the Mortgagor. (oo) Proceeds of Mortgage Loan. The proceeds of the Mortgage Loan have not been and shall not be used to satisfy, in whole or in part, any debt owed or owing by the Mortgagor to the Borrower or any Affiliate or correspondent of the Borrower. Schedule 1-43- (pp) Withdrawn Mortgage Loans. If the Mortgage Loan has been released to the Borrower pursuant to a Request for Release as permitted under Section 5 of the Custodial Agreement, then the promissory note relating to the Mortgage Loan was returned to the Custodian within 10 days (or if such tenth day was not a Business Day, the next succeeding Business Day). (qq) Origination Date. The Origination Date is no earlier than nine months prior to the date the Mortgage Loan is first included in the Borrowing Base. (rr) No Exception. The Custodian has not noted any material exceptions on an Exception Report (as defined in the Custodial Agreement) with respect to the Mortgage Loan which would materially adversely affect the Mortgage Loan or the Lender's security interest, granted by the Borrower, in the Mortgage Loan. (ss) Qualified Originator. The Mortgage Loan has been originated by, and, if applicable, purchased by the Borrower from, a Qualified Originator. (tt) Mortgage Submitted for Recordation. The Mortgage either has been or will promptly be submitted for recordation in the appropriate governmental recording office of the jurisdiction where the Mortgaged Property is located. (uu) Wet-Ink Mortgage Loans. With respect to each Mortgage Loan that is a Wet-Ink Mortgage Loan, the Settlement Agent has been instructed in writing by the Borrower to hold the related Mortgage Loan Documents as agent and bailee for the Lender and to promptly forward such Mortgage Loan Documents to the Custodian for receipt within two (2) Business Days following the applicable Funding Date. Schedule 1-44- Part II Defined Terms In addition to terms defined elsewhere in the Loan Agreement, the following terms shall have the following meanings when used in this Schedule 1: "Acceptable Manufactured Housing" shall mean a fully attached manufactured home which is considered and treated as "real estate" under applicable state law. "Acceptable State" shall mean any state notified by the Borrower to the Lender from time to time and approved in writing by the Lender, which approval has not been revoked by the Lender in their sole discretion, any such notice of revocation to be given no later than 10 Business Days prior to its intended effective date. "Accepted Servicing Practices" shall mean, with respect to any Mortgage Loan, those mortgage servicing practices of prudent mortgage lending institutions which service mortgage loans of the same type as such Mortgage Loans in the jurisdiction where the related Mortgaged Property is located. "ALTA" means the American Land Title Association. "Appraised Value" shall mean the value set forth in an appraisal made in connection with the origination of the related Mortgage Loan as the value of the Mortgaged Property. "Best's" means Best's Key Rating Guide, as the same shall be amended from time to time. "Combined LTV" or "CLTV" shall mean with respect to any Mortgage Loan, the ratio of (a) the outstanding principal balance as of the related Cut-off Date of (i) the Mortgage Loan plus (ii) the mortgage loan constituting the first lien to (b) the Appraised Value of the Mortgaged Property. "Cut-off Date" means the first day of the month in which the related Funding Date occurs. "Debt Service Ratio" means with respect to any Eligible Multifamily Mortgage Loan or Eligible Commercial Mortgage Loan, as of any date of determination and for any period, the applicable "Debt Service Coverage" ratio determined in accordance with, and defined in, the Underwriting Guidelines. "Due Date" means the day of the month on which the Monthly Payment is due on a Mortgage Loan, exclusive of any days of grace. "Escrow Payments" means with respect to any Mortgage Loan, the amounts constituting ground rents, taxes, assessments, water rates, sewer rents, municipal charges, mortgage insurance premiums, fire and hazard insurance premiums, condominium charges, and any other payments required to be escrowed by the Mortgagor with the mortgagee pursuant to the Mortgage or any other document. Schedule 1-45- "FHLMC" means the Federal Home Loan Mortgage Corporation, or any successor thereto. "FNMA" means the Federal National Mortgage Association, or any successor thereto. "Gross Margin" means with respect to each adjustable rate Mortgage Loan, the fixed percentage amount set forth in the related Mortgage Note. "Ground Lease" means a lease for all or any portion of the real property comprising the Mortgaged Property, the lessee's interest in which is held by the Mortgagor of the related Mortgage Loan. "Index" means with respect to each adjustable rate Mortgage Loan, the index set forth in the related Mortgage Note for the purpose of calculating the interest rate thereon. "Insurance Proceeds" means with respect to each Mortgage Loan, proceeds of insurance policies insuring the Mortgage Loan or the related Mortgaged Property. "Interest Rate Adjustment Date" means with respect to each adjustable rate Mortgage Loan, the date, specified in the related Mortgage Note and the Mortgage Loan Schedule, on which the Mortgage Interest Rate is adjusted. "Loan-to-Value Ratio" or "LTV" means with respect to any Mortgage Loan, the ratio of the original outstanding principal amount of the Mortgage Loan to the lesser of (a) the Appraised Value of the Mortgaged Property at origination or (b) if the Mortgaged Property was purchased within 12 months of the origination of the Mortgage Loan, the purchase price of the Mortgaged Property. "Mixed Use Mortgage Loan" shall mean a Mortgage Loan secured by a Mortgaged Property that is used primarily for residential purposes, but which is also used for non-residential purposes. "Monthly Payment" means the scheduled monthly payment of principal and interest on a Mortgage Loan as adjusted in accordance with changes in the Mortgage Interest Rate pursuant to the provisions of the Mortgage Note for an adjustable rate Mortgage Loan. "Mortgage Interest Rate" means the annual rate of interest borne on a Mortgage Note, which shall be adjusted from time to time with respect to adjustable rate Mortgage Loans. "Mortagage Interest Rate Cap" means with respect to an adjustable rate Mortgage Loan, the limit on each Mortgage Interest Rate adjustment as set forth in the related Mortgage Note. "Mortgagee" means the Borrower or any subsequent holder of a Mortgage Loan. "Origination Date" shall mean, with respect to each Mortgage Loan, the date of the Mortgage Note relating to such Mortgage Loan, unless such information is not provided by the Borrower with respect to such Mortgage Loan, in which case the Origination Date shall be deemed to be the date that is 40 days prior to the date of the first payment under the Mortgage Note relating to such Mortgage Loan. Schedule 1-46- "PMI Policy" or "Primary Insurance Policy" means a policy of primary mortgage guaranty insurance issued by a Qualified Insurer. "Qualified Insurer" means an insurance company duly qualified as such under the laws of the states in which the Mortgaged Property is located, duly authorized and licensed in such states to transact the applicable insurance business and to write the insurance provided, and approved as an insurer by FNMA and FHLMC and whose claims paying ability is rated in the two highest rating categories by any of the rating agencies with respect to primary mortgage insurance and in the two highest rating categories by Best's with respect to hazard and flood insurance. "Qualified Originator" means an originator of Mortgage Loans reasonably acceptable to the Lender. "Servicing File" means with respect to each Mortgage Loan, the file retained by the Borrower consisting of originals of all documents in the Mortgage File which are not delivered to a Custodian and copies of the Mortgage Loan Documents set forth in Section 2 of the Custodial Agreement. Schedule 1-47- Schedule 2 FILING JURISDICTIONS AND OFFICES Secretary of the Commonwealth of Pennsylvania Prothonotary of Montgomery County EXHIBIT-A [FORM OF PROMSSORY NOTE] $15,000,000 October 16, 1997 New York, New York FOR VALUE RECEIVED, FIDELITY MORTGAGE FUNDING, INC., a Delaware corporation (the "Borrower"), hereby promises to pay to the order of MORGAN STANLEY MORTGAGE CAPITAL INC. (the "Lender"), at the principal office of the Lender at 1585 Broadway, New York, New York, 10036, in lawful money of the United States, and in immediately available funds, the principal sum of FIFTEEN MILLION DOLLARS ($15,000,000) (or such lesser amount as shall equal the aggregate unpaid principal amount of the Loans made by the Lender to the Borrower under the Loan Agreement), on the dates and in the principal amounts provided in the Loan Agreement, and to pay interest on the unpaid principal amount of each such Loan, at such office, in like money and funds, for the period commencing on the date of such Loan until such Loan shall be paid in full, at the rates per annum and on the dates provided in the Loan Agreement. The date, amount and interest rate of each Loan made by the Lender to the Borrower, and each payment made on account of the principal thereof, shall be recorded by the Lender on its books and, prior to any transfer of this Note, endorsed by the Lender on the schedule attached hereto or any continuation thereof, provided, that the failure of the Lender to make any such recordation or endorsement shall not affect the obligations of the Borrower to make a payment when due of any amount owing under the Loan Agreement or hereunder in respect of the Loans made by the Lender. This Note is the Note referred to in the Master Loan and Security Agreement dated as of October 16, 1997 (as amended, supplemented or otherwise modified and in effect from time to time, the "Loan Agreement") between the Borrower and the Lender, and evidences Loans made by the Lender thereunder. Terms used but not defined in this Note have the respective meanings assigned to them in the Loan Agreement. The Borrower agrees to pay all the Lender's costs of collection and enforcement (including reasonable attorneys' fees and disbursements of Lender's counsel) in respect of this Note when incurred, including, without limitation, reasonable attorneys' fees through appellate proceedings. Notwithstanding the pledge of the Collateral, the Borrower hereby acknowledges, admits and agrees that the Borrower's obligations under this Note are recourse obligations of the Borrower to which the Borrower pledges its full faith and credit. The Borrower, and any endorsers or guarantors hereof, (a) severally waive diligence, presentment, protest and demand and also notice of protest, demand, dishonor and nonpayments of this Note, (b) expressly agree that this Note, or any payment hereunder, may be extended from time to time, and consent to the acceptance of further Collateral, the release of any Collateral for this Note, the release of any party primarily or secondarily liable hereon, and (c) expressly agree that it will not be necessary for the Lender, in order to enforce payment of this Note, to first institute or exhaust the Lender's remedies against the Borrower or any other party liable hereon or against any Collateral for this Note. No extension of time for the payment of this Note, or any installment hereof, made by agreement by the Lender with any person now or hereafter liable for the payment of this Note, shall affect the liability under this Note of the Borrower, even if the Borrower is not a party to such agreement; provided, however, that the Lender and the Borrower, by written agreement between them, may affect the liability of the Borrower. Any reference herein to the Lender shall be deemed to include and apply to every subsequent holder of this Note. Reference is made to the Loan Agreement for provisions concerning optional and mandatory prepayments, Collateral, acceleration and other material terms affecting this Note. This Note shall be governed by and construed under the laws of the State of New York (without reference to choice of law doctrine) whose laws the Borrower expressly elects to apply to this Note. The Borrower agrees that any action or proceeding brought to enforce or arising out of this Note may be commenced in the Supreme Court of the State of New York, Borough of Manhattan, or in the District Court of the United States for the Southern District of New York. FIDELITY MORTGAGE FUNDING, INC. By:____________________________ Name: Title: A-2 EX-10.14 4 LOAN AGREEMENT LOAN AGREEMENT This Agreement is executed on this 9th day of October 1997, and is made and entered into by and between RESOURCE AMERICA, INC., a Delaware corporation having its principal offices and place of business at 1521 Locust Street, Philadelphia, PA 19102 (the "Borrower") and KEYBANK, N.A., a national banking association having offices at 126 Central Plaza North, Canton, Ohio 44702 (the "Bank"). WITNESSETH: WHEREAS, subject to the terms and conditions contained herein, Bank presently is willing to extend to Borrower loans hereunder in the aggregate not to exceed FIVE MILLION DOLLARS ($5,000,000). NOW, THEREFORE, in consideration of the mutual covenants contained herein, and with the intent to be legally bound hereby, the parties hereto agree as follows: SECTION 1. REVOLVING CREDIT LOAN. 1.1 Credit. Subject to the terms and conditions hereof (including but not limited to the conditions contained in Section 7.1 hereof), and relying on the representations and warranties herein contained, Bank agrees to, and shall be obligated to, lend to Borrower, from time to time in accordance with the provisions of Section 1311.14 of the Ohio Revised Code and upon request of Borrower as provided in section 7.1, during the period (the "Revolving Credit Period") commencing on the effective date hereof and ending on June 30, 1999 (the "Termination Date"), an amount or amounts (the "Revolving Credit") not exceeding in the aggregate at any one time outstanding FIVE MILLION DOLLARS ($5,000,000). The loans which Bank is willing to make to Borrower hereunder shall be evidenced by a note substantially in the form of Exhibit "A" attached hereto and made a part hereof with appropriate insertions (the "Revolving Credit Note"). Notwithstanding the principal amount of the Revolving Credit Note as stated on the face thereof is in the amount of FIVE MILLION DOLLARS ($5,000,000), the actual principal amount due from the Borrower to the Bank on account of the Revolving Credit Note, as of any date of computation, shall be the sum of all advances then and theretofore made on account thereof less all payments of principal actually received by the Bank in collected funds during the same period; such advances and payments shall be noted on the records of the Bank which shall be the evidence of the amount outstanding under the Revolving Credit Note. During the Revolving Credit Period, Borrower may borrow, repay and reborrow funds under the Revolving Credit, as it may be adjusted pursuant hereto, provided, however, that at no time shall the unpaid principal balance outstanding under the Revolving Credit Note exceed FIVE MILLION DOLLARS ($5,000,000). Each borrowing and reborrowing shall be in a minimum amount of ONE HUNDRED THOUSAND DOLLARS ($100,000); and each repayment shall be in a minimum amount of ONE HUNDRED THOUSAND DOLLARS ($100,000) or the outstanding principal balance of, and unpaid and accrued interest on, the Revolving Credit Note, whichever is less, and shall be applied against principal and interest in such order and in such amounts as Bank, in its sole discretion, shall determine. 1.2 Interest. Each borrowing made by Borrower hereunder shall bear interest at an interest rate per annum equal to the Prime Rate from time to time in effect plus one-quarter of one percent (0.25%). For purposes of this Agreement, "Prime Rate" means the rate of interest determined and publicly announced from time to time by the Bank as its "Prime Rate"; the Prime Rate is one of several reference rates used by the Bank for pricing loans to its borrowers, and such loans may be made at rates higher or lower than the Prime Rate. 1.3 Repayment. The entire principal balance outstanding under the Revolving Credit Note, and all unpaid and accrued interest thereon, shall be due and payable on the Termination Date. 1.4 Adjustments to Revolving Credit. (i) Determination of Borrowing Base. Promptly after October 1, 1998 and October 1 of each year thereafter until the Indebtedness (as defined in Section 3 hereof) is paid in full, the Borrower shall furnish to the Bank a report in form and substance and based upon assumptions satisfactory to the Bank, of an independent petroleum engineer satisfactory to the Bank and/or, at the option of Bank, the Bank will cause a petroleum engineer employed by it to prepare a report, which report(s) shall be dated as of October 1 of such year and shall set forth the remaining proven and producing unencumbered and unimpaired gas and oil reserves attributable to all wells identified by the Borrower to the Bank (the "Wells") in which the Borrower now or hereafter has an interest, whether directly or indirectly, as an owner of a working interest, royalty or overriding royalty, as a general or limited partner of a partnership, as a coventurer of a joint venture or otherwise, and a projection of the rate of gas and oil production from the Wells as well as a projection of the total future net operating income payable to the Borrower with respect thereto for a twenty (20) year period ("Future Net Income"), as of such dates. In addition, at any time and from time to time, at the option of Bank, the Bank, at its expense, may cause a petroleum engineer employed by it to prepare a report in form and substance and based upon assumptions satisfactory to the Bank, which report(s) shall set forth the remaining proven and producing unencumbered and unimpaired gas and oil reserves attributable to the Wells and a projection of the rate of gas and oil production from the Wells as well as a projection of the Future Net Income therefrom, as of such dates as the Bank may select. After receipt of such report(s), the Bank shall make a determination (as set forth in the following paragraph) of the Borrowing Base as of such dates and shall send a written notification of such determination to the Borrower. For the purposes of this Agreement, the "Borrowing Base" shall be the lesser of (i) Five Million Dollars ($5,000,000) or (ii) an amount determined by Bank in its sole discretion and based upon the remaining proven and producing unencumbered and unimpaired gas and oil reserves attributable to the Wells [which reserves shall not exceed Ten Million Dollars ($10,000,000)], as set forth in the engineering reports which the Bank elects to use and determined by Bank in accordance with its then usual and customary engineering practices and methods and economic parameters. Presently, Bank applies a valuation formula establishing the Borrowing Base as fifty per cent (50%) of the standardized measure of discounted future net cash flows produced from the Wells. Bank agrees to advise Borrower of change in Bank's valuation formula. For the purposes of this Agreement, the Bank shall determine in its sole discretion whether any oil and gas reserves, revenues and proceeds are unencumbered or proceeds are encumbered or impaired even though they are not subject to any liens or security interests. 2 (ii) Adjustments to Borrowing Base. In the event that the principal balance outstanding under the Revolving Credit Note shall, at any time, be in excess of the then current Borrowing Base, the Borrower shall within thirty (30) days after such occurrence make a payment on the Revolving Credit Note in an amount equal to such excess (plus interest on such amount accrued to the date of payment). 1.5 Commitment Fee. During and for the Revolving Credit Period, Borrower shall pay to Bank a Commitment fee ("Commitment Fee") computed at the rate of one-quarter of one percent (0.25%) per annum on the daily average difference between the Revolving Credit, as it may be adjusted pursuant hereto, and the principal balance outstanding under the Revolving Credit Note. The Commitment Fee shall be due and payable quarterly, in arrears, beginning on the first day of October, 1997 and thereafter on the first day of each calendar quarter and on the Termination Date. 1.6 Origination Fee. In addition to interest on the Revolving Credit Note and the Commitment Fee payable hereunder and to compensate the Bank for the costs of the extension of credit hereunder, the Borrowers shall pay to Bank an origination fee ("Origination Fee") in the amount of Twelve Thousand Five Hundred Dollars ($12,500.00), payable upon the execution of this Agreement. SECTION 2. REPRESENTATIONS AND WARRANTIES. To induce Bank to enter into this Agreement and to make the loans herein provided for, Borrower represents and warrants to Bank that: 2.1 Existence and Authority. Borrower is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware, and is duly qualified to do business, and is in good standing as a foreign corporation, in all jurisdictions wherein its ownership of property or the nature of its business requires such qualification and where the failure to be so qualified would materially and adversely affect the financial condition or operating condition of Borrower. Each Borrower has the right, power and authority to own, and hold under lease, its properties and to carry on its business as now being conducted. 2.2 Rights, Titles and Interests. Borrower has, and will maintain, good and marketable rights, titles and interests in and to the Wells, free and clear of all material liens and encumbrances, except such liens and encumbrances, if any, set forth in writings heretofore delivered to, and acknowledged in writing to have been received by, Bank and which are acknowledged in writing to be acceptable to the Bank. Borrower warrants that at its expense it will defend generally the Wells, against the claims and demands of all persons, corporations and any other entities whatsoever. No material defaults have occurred under any of the documents or instruments pursuant to which, or establishing that, Borrower acquired interests in the Wells which have not been cured or waived and such documents and instruments are in full force and effect and they have not been modified or amended. 2.3 Financial Statements. The financial statements described below in this section, together with the notes and reports thereto, (copies of which have been furnished to Bank), are complete and correct, have been prepared in accordance with generally accepted accounting principles, practices and procedures consistently applied and present fairly the financial position of the Borrower as at the dates set forth below and the results of its 3 operations for the periods set forth below, subject only to ordinary and usual year end audit adjustments in the case of the statements described in clause (ii) below: (i) Balance sheet as of September 30, 1996, and the related statements of income, changes in stockholder's equity and changes in cash flow for the fiscal year ended on such date, prepared and certified by Grant-Thorton, L.L.P., independent certified public accountants; and (ii) Balance sheet as of June 30, 1997, the related statements of income, changes stockholder's equity and changes in cash flow for the nine (9) month period ended on such date, prepared and certified by the chief financial officer of the Borrower. Except as reflected or referred to in the above financial statements, (a) the Borrower has no contingent or disputed liabilities or unrealized or anticipated losses or commitments which in the aggregate are material; (b) Since June 30, 1997, there has been no change in the condition, business or prospects, financial or otherwise, of the Borrower as described on the financial statements as filed with the United States Securities and Exchange Commission as of such date and no change in the aggregate value of the property owned by the Borrower, except changes in the ordinary course of business, none of which individually or in the aggregate has been materially adverse. 2.4 Litigation. There is no litigation or proceeding of any kind whatsoever pending, nor to the knowledge of Borrower threatened, nor any judgment, order, writ, injunction, decree or award outstanding, which could materially or adversely affect Borrower or the operation of its business, or the Wells, nor does the Borrower know or have reasonable grounds to know of any basis for any such action or any governmental investigation or any claim relating to the Borrower or the operation of its business or the Wells. The Borrower has complied with all material provisions of all agreements to which it is a party or by which it is bound and is not in default under any of them or in the payment of any of its material obligations. 2.5 Validity of Agreement and Revolving Credit Note. The execution and delivery of this Agreement and the Revolving Credit Note and the documents and instruments referred to herein and therein to be executed and/or delivered by Borrower, as one or more may be amended, modified or supplemented (the "Loan Documents"), the borrowings under the Loan Documents, the performance by the Borrower of its obligations under the Loan Documents and the assignment of, and the grant of the liens on and security interests in, the Borrower's various rights, titles and interests, to Bank by the Loan Documents, do not, and will not, contravene any provision of law, or of its articles of incorporation or by-laws, or of any agreement, instrument or document or of any judicial, arbitration or local, state or federal governmental requirement or restriction to which Borrower is a party or by which it is bound, or result in the creation or imposition of any lien or other encumbrance on any of the property of the Borrower including the Wells except the liens and security interests granted by the Loan Documents; and any and all consents or approvals of any kind whatsoever, including approvals and consents of any local, state or federal governmental unit, commission, authority, agency or other body, required to be obtained in connection therewith have been obtained and are in full force and effect. This Agreement constitutes, and the other Loan Documents when duly executed will constitute, legal, valid and binding obligations of Borrower, enforceable in accordance with their respective terms. Borrower is duly authorized to execute and deliver this Agreement and the other Loan Documents; all action necessary and proper to authorize the execution and delivery of the Loan Documents has occurred; and Borrower is, and will continue to be, duly authorized, and has, and shall continue to have, the right, power and authority, to execute and deliver the Loan Documents and to make the assignment and grant the liens and security interests pursuant to the Loan Documents as well as to borrow under the Loan Documents and to perform all of the other terms and conditions of the Loan Documents. 2.6 Permits. Borrower has obtained, or caused to be obtained, all material permissions, licenses, easements, rights-of-way, leasehold and fee interests and all local, state and federal governmental approvals, authorizations, consents and permits as well as all other rights, titles and interests necessary to the ownership, development and operation of the Wells and the conduct of its energy business, all of which are in full force and effect, and which if not obtained, and kept in full force and effect, would materially adversely affect Borrower or the operation of its energy business or the Wells. 2.7 ERISA. The Pension Benefit Guaranty Corporation ("PBGC") has not made a determination that, with respect to any Plan (as hereinafter defined) of the Borrower, or any subsidiary or other affiliate of the Borrower, an event or condition has occurred which constitutes grounds under the Employee Retirement Income Security Act of 1974, as amended ("ERISA") for the termination of, or for the appointment of a trustee to administer, any such plan. As used herein, "plan" shall be defined as any employee benefit plan or other plan maintained for employees of the Borrower, or any subsidiary or other affiliate of the Borrower, covered by ERISA. 2.8 Regulation U. The Borrower is not engaged in the business of extending credit for the purpose of purchasing or carrying margin stock (within the meaning of Regulation U of the Board of Governors of the Federal Reserve System), and no part of the proceeds of any advance hereunder will be used to purchase or carry any margin stock or to extend credit to others for the purpose of purchasing or carrying any margin stock. 2.9 Compliance with Law. Borrower has complied with, and is in compliance with, all applicable local, state and federal laws, rules and regulations relating to all of its activities including but not limited to the operation of the gathering system and the Wells and the offer and sale of securities. 2.10 Taxes. All tax returns and reports of the Borrower required by law to be filed have been duly filed, and all taxes, assessments, fees and other governmental charges upon the Borrower or any of the property of the Borrower and upon any of the other assets, income or franchises of the Borrower which are due and payable have been paid or are being contested in good faith by appropriate proceedings duly prosecuted by Borrower. 2.11 Environmental Compliance. Except as described on Exhibit V under the heading "Environmental Matters:" (a) no Well of the Borrower is currently on or has ever been on, or is adjacent to any property which is on or has ever been on, any federal or state list of Superfund Sites; (b) no Hazardous Substances have been generated, transported, and/or disposed of by the Borrower at a site which was, at the time of such generation, transportation, and/or disposal, or has since become, a Superfund Site; 5 (c) except in accordance with applicable requirements of law or the terms of a valid permit, license, certificate, or approval of the relevant Governmental Authority, no material release of Hazardous Substances by the Borrower or from, affecting, or related to any Well of the Borrower has occurred; and (d) no environmental complaint has been received by the Borrower. SECTION 3. SECURITY. Promptly upon request by the Bank at any time and from time to time following the occurrence of an Event of Default (as defined in Section 8) Borrower shall, to the fullest extent permitted by applicable law, execute and deliver such security instruments and other documents as the Bank shall request, in form and substance satisfactory to Bank, granting and conveying a lien or security interest in favor of the Bank in and to any and all of the Wells and any or all general intangibles related to the Wells to secure the payment of principal of, and interest on, the Revolving Credit Note and all fees, costs, expenses or other charges to be paid or reimbursed by Borrower under the Loan Documents (the "Indebtedness") and the performance of the terms of the Loan Documents. In addition, following the occurrence of an event of default and notice to Borrower, Borrower shall execute such letters in lieu of transfer orders and such division and/or transfer orders as are necessary or appropriate to transfer and deliver to Bank proceeds from or attributable to any of the Wells. SECTION 4. AFFIRMATIVE COVENANTS. For so long as any Indebtedness remains unpaid, unless Bank otherwise consents in writing, Borrower agrees that: 4.1 Protection of Rights. Titles and Interests. Borrower will take, or cause to be taken, all reasonable steps necessary and proper (i) to protect and enforce its rights, titles and interests in and to the Wells and in connection with its energy business and (ii) to comply with all duties, terms and conditions undertaken or assumed by Borrower in connection with the Wells and its energy business. 4.2 Operation and Maintenance. Borrower will continuously operate, or cause to be operated, the Wells in a good and workmanlike manner and in accordance with sound and approved industry practices. Borrower shall maintain, or cause to be maintained, the Wells in good condition and, shall make, or cause to be made, all necessary renewals, repairs, replacements, additions, betterments and improvements thereto. 4.3 Permits. Borrower will obtain and keep in full force and effect, or shall cause to be obtained and kept in full force and effect, all permissions, licenses, easements, rights-of-way, leasehold and fee interests and all local, state and federal governmental approvals, authorizations, consents and permits as well as all other rights, titles and interests necessary to the ownership, development and operation of the Wells and to the conduct of its energy business. 6 4.4 Compliance with Law. Borrower will comply with, or cause to be complied with, all applicable local, state and federal laws, rules and regulations relating to all of its activities including but not limited to the operation of the Wells. 4.5 Existence. Borrower shall do, or cause to be done, all things necessary to preserve and keep in full force and effect its existence as a corporation, its good standing under the laws of the State of Delaware and its qualification to do business, and its good standing as a foreign corporation, in all jurisdictions wherein its ownership of property or the nature of its business requires such qualification, and where the failure to be so qualified would materially and adversely affect the financial condition or operating condition of Borrower. 4.6 Reports and Other Information. Within ninety (90) days after the end of each fiscal quarter of each fiscal year of the Borrower, the Borrower shall furnish to Bank such interim financial statements as Bank shall request (consisting of at least a balance sheet as of the close of such quarter and a profit and loss statement and an analysis of surplus for such quarter and for the period from the beginning of the fiscal year to the close of such quarter), which statements shall be in such detail as Bank shall require, shall show the Borrower's financial condition at the close of such fiscal quarter and the results of its operations for the period then ended and shall be prepared by the chief financial officer of Borrower in accordance with generally accepted accounting principles, practices and procedures consistently applied and certified by such officer, subject only to ordinary and usual year end audit adjustments. Within one hundred twenty (120) days after the end of each of its fiscal years, Borrower shall furnish to Bank a copy of its annual audited financial statements prepared in conformity with generally accepted accounting principles, practices and procedures consistently applied by Grant-Thorton, L.L.P., or other certified public accountants satisfactory to Bank, and certified without qualification as to scope. At any time and from time to time, Borrower will submit, or cause to be submitted, to Bank promptly, in such form as Bank shall require, such other information relating to the financial affairs of the Borrower, to the Wells, to the business of the Borrower or otherwise as Bank shall reasonably request including but not limited to engineering reports and supporting data relating to the Wells and statements setting forth the quantity of gas and oil produced from the Wells, the price paid or to be paid for such gas and oil, the Borrower's proceeds (showing in detail the computation whereby the Borrower's proceeds are determined) and such other information as Bank may request which may include but not be limited to a report prepared by Borrower showing the performance of each Well on a monthly and cumulative basis as well as such information as is customarily set forth in a meter statement. 4.7 Records and Access. Borrower shall keep, or cause to be kept, full and complete books and records in which correct and accurate entries will be made of all its business transactions and the Wells and at any time and from time to time shall give, or cause to be given, to the Bank and its representatives full access during normal business hours to examine and copy all of the Wells and Borrower's books, contracts and records relating to the Wells. 4.8 Payment of Taxes and Mechanics' Claims. Borrower will pay, or cause to be paid, all taxes, assessments, license fees and other governmental charges and all claims of mechanics and materialmen to which it or any of the Wells shall be subject, and all other charges on or relating to the Wells, before such charges and claims become delinquent, except that no such charge or claim need be paid for so long as its validity or amount shall be contested in good faith by appropriate proceedings duly prosecuted and Borrower shall have set up in its books such reserves with respect thereto as shall be dictated by sound accounting practices; provided, however, that all such charges and claims shall be paid, subject to refund proceedings, if failure to pay would adversely affect the rights or titles of Borrower to any of the Wells. 4.9 Insurance. Borrower will keep, or cause to be kept, with financially sound and reputable insurers, such insurance with respect to its business and property including the Wells, in such amounts and insuring against such risks, casualties and contingencies of such types (including but not limited to insurance for loss or damage by fire and other hazards and insurance for liability for damage to persons and property in connection with the Wells and the activities conducted thereon or relating thereto) as is customary for persons, corporations and other entities of established reputations engaged in the same or similar businesses as the Borrower and similarly situated (and with respect to such insurance and upon request of Bank after the occurrence of any default as defined in section 8 hereof, the Bank shall be named as mortgagee or lender loss payee or additional insured as its interests may appear), and will keep, or cause to be kept, such insurance as required by any applicable worker's compensation laws, and will furnish, or cause to be furnished, certificates of all such insurance to Bank before the initial borrowing hereunder and within one hundred twenty (120) days after the end of each of its fiscal years. All policies shall provide that they may not be altered or cancelled except on thirty (30) days' prior written notice to Bank. 4.10 Duty to Plug. If and when any of the Wells ceases producing gas and oil in paying quantities or is of no further use, or Borrower or any other person, corporation or other entity is required to do so under any agreement or law, Borrower will plug and abandon, or cause to be plugged and abandoned, any and all such Wells in accordance with the local, state and/or federal laws then in force and regulating the plugging of gas and oil wells. Borrower further consents and agrees that it will save harmless Bank, its successors and assigns, of and from any loss, damage and penalty through failure, if any, to plug, or cause to be plugged, such Well or Wells as herein provided. 4.11 Expenses, Fees and Disbursements. Borrower shall pay, or cause to be paid, all expenses, fees and disbursements incurred in connection with the recordation, filing, satisfaction and termination of any mortgage, financing statements and any other Loan Documents and any other instruments or documents relating thereto and the fees, expenses and disbursements of Bank's counsel in connection with this Agreement and the other Loan Documents, and any other instruments or documents relating thereto, their preparation, administration and enforcement as well as the fees, expenses and disbursements of others (including but not limited to geologists and engineers) engaged by Bank to provide information and advice in connection with this Agreement and the other Loan Documents and any other instruments or documents relating thereto, their preparation, administration and enforcement. 4.12 Assigned Payments. In connection with any amounts due to Borrower which are assigned to Bank pursuant to any mortgage and/or security agreement and/or any other Loan Document, following an Event of Default and upon notice to Borrower and the payor thereof by Bank, such payments shall be made directly by the payor thereof to Bank. Bank is, upon the occurrence of such an Event of Default and giving notice to Borrower hereby authorized by Borrower to endorse for and on Borrower's behalf and deposit all drafts and checks payable to Borrower, and such authority shall continue while any Indebtedness is outstanding. In the event that any such assigned amounts paid to Bank consists of amounts belonging in whole or in part to any person, corporation or entity other than Borrower, the Bank shall promptly deliver such amounts or parts thereof to such persons, corporations or satisfactory to the Bank of such amounts or parts thereof and the identity of such persons, corporations or other entities. 4.13 Notification. Within ten (10) days after Borrower receives notice of any future litigation or any future judicial or administrative proceedings pending or threatened against it which might result in Borrower being liable for the payment or performance of obligations in excess of Five Hundred Thousand ($500,000) Dollars with respect to any single such litigation or proceeding or in excess of One Million Dollars ($1,000,000.00) Dollars in the aggregate for all such litigations and proceedings, Borrower shall notify the Bank, or cause the Bank to be notified, in writing of such litigation or proceeding. 4.14 Current Ratio. The ratio of (a) current assets of the Borrower to (b) current liabilities of Borrower shall at all times exceed 2.0 to 1.0. This ratio shall be determined quarterly, as of the end of each calendar quarter. 4.15 Tangible Net Worth. The tangible net worth of the Borrower (as determined by Bank in accordance with generally accepted accounting principles) shall at all times exceed Thirty-one Million Dollars ($31,000,000). 4.16 Cash Flow. The ratio of (a) Cash Flow, [defined as the sum of (i) net income from operations during a period after provision for federal and state income taxes, plus (ii) depletion, depreciation, amortization and other non-cash charges for such period] to (b) the maturities of long-term debt coming due within the calculation period, shall at all times exceed 1.5 to 1.0. This ratio shall be determined quarterly, on a rolling 12-month basis, as of the end of each calendar quarter during the term of the Loan. 4.17 Adjusted Debt to Tangible Net Worth. The ratio of (a) Adjusted Debt (defined as total liabilities minus subordinated debt) to (b) Tangible Net Worth (defined as net worth minus intangible assets) plus subordinated debt shall at no time exceed 2.0 to 1.0. This ratio shall be determined quarterly, during the term of the Loans. 4.18 Additional Documents. From time to time, at the Bank's request, whether before or after any borrowings hereunder, the Borrower at its expense will execute and deliver, or cause to be executed and delivered, to Bank such instruments, papers and other documents and take, or cause to be taken, such further action as Bank reasonably may require in connection with the transactions contemplated hereby including the enforcement of the Loan Documents. SECTION 5. NEGATIVE COVENANTS. For so long as any Indebtedness remains unpaid, Borrower agrees that it will not, without the prior written consent of Bank: 5.1 Alienation. Sell, lease, transfer or otherwise dispose of or alienate any of the Wells, except the sale in the ordinary course of business of gas and oil from the Wells and except the sale, lease, transfer or other disposition or alienation in the ordinary course of business of Wells having fair market value in the aggregate not in excess of One Hundred Thousand Dollars ($100,000) per year. 9 5.2 Encumbrances. Permit, create, assume or incur any mortgage, pledge, charge, security interest, lien or encumbrance of any kind upon any of the Wells (whether now owned or hereafter acquired) or commit any act or make any election which will require it to assign any of the Wells, except encumbrances (i) created and granted in favor of the Bank to secure the Indebtedness, (ii) relating to current taxes, assessments, license fees and other governmental charges and claims of mechanics and materialmen not delinquent, or if delinquent being contested in good faith as set forth in section 4.8 hereof, (iii) imposed in the normal course of business of the Borrower in connection with obtaining surety bonds and (iv) imposed in the normal course of business of the Borrower on the equipment ("Equipment") of the Borrower hereafter acquired by it for its field activities such as automobiles, pick-up trucks, 4-wheel drive vehicles, tank trucks, service rigs, tractor trailers and bulldozers, provided that such liens and encumbrances are imposed in connection with the financing of the acquisition of the Equipment. 5.3 Debt. Create, assume, incur or permit to exist, any indebtedness for money borrowed and used directly by Borrower's Energy Division, except (i) the borrowings under the Loan Documents and (ii) the borrowings for the acquisition of Equipment in an amount not to exceed One Hundred Thousand ($100,000) Dollars in the aggregate at any one time outstanding. SECTION 6. BORROWING REQUIREMENTS. Unless otherwise agreed to by Bank and subject to the performance by Borrower of its other obligations under the Loan Documents, the Bank shall have no obligation to advance any funds to Borrower until all legal matters incident to the transactions contemplated by the Loan Documents are resolved in a manner satisfactory to Bank's counsel and until Borrower shall have provided Bank with the following: A. The Revolving Credit Note and other Loan Documents duly executed and all in form and substance satisfactory to Bank. B. Evidence satisfactory to Bank authorizing the execution and delivery by Borrower of this Agreement, the Note and the other Loan Documents. C. Opinions of counsel for Borrower, satisfactory to Bank's counsel, relating to such matters as the Bank may reasonably require, including opinions that on the dates of delivery of such opinions and at the times the funds to be lent pursuant to this Agreement are advanced (a) the representations set forth in section 2.5 hereof (which representations shall be repeated at length in such opinions) are accurate, and (b) to the best of the knowledge of Borrower's counsel, the representations set forth in sections 2.1,2.2, 2.4, 2.6 and 2.9 hereof (which representations shall be repeated at length in such opinions) are accurate. D. Certificates executed by Borrower stating that no defaults have occurred which are unremedied or unwaived under any agreement, lease, assignment or other document or instrument by or through which Borrower has any rights, titles or interests in connection with the Wells. E. A current certificate of good standing of the Borrower and a certificate of incumbency for the Borrower. 10 F. Such other documents and instruments, and evidence of the performance by Borrower of such other obligations, as Bank may reasonably request. SECTION 7. DISBURSEMENT. 7.1 Procedure. Unless otherwise agreed to by Bank, Borrower shall give Bank at least one (1) days' written notice requesting, and specifying the date, the amount of each borrowing or reborrowing hereunder and not later than noon on the date specified by Borrower in such written notice, Bank shall credit one or more of the accounts (the "Accounts") maintained by Borrower at Bank in the amount to be borrowed or reborrowed. Each borrowing or reborrowing by Borrower shall be conditioned on the following: that at the time of such borrowing, reborrowing or conversion the representations and warranties contained in this Agreement are true and correct and no event of default set forth in section 8 hereof shall have occurred and be continuing and no event which, with giving of notice or lapse of time or both would become such an event of default, shall have occurred or shall have failed to occur and be continuing; and each such borrowing and reborrowing as well as such conversion shall be deemed to be a representation and warranty by the Borrower that the foregoing conditions exist and upon the request of Bank the Borrower shall execute and deliver to Bank a certificate as to the existence of the foregoing conditions. 7.2 Use of Proceeds. Borrower represents, warrants and agrees that all funds lent or advanced pursuant to this Agreement or any other Loan Document shall be used solely for the acquisition of businesses or assets related to oil or natural gas drilling, producing, gathering and associated activities and facilities. 7.3 Charging Account. Borrower agrees that Bank may charge and is hereby authorized to charge the Accounts at Bank for payment of principal of, or interest on, the Revolving Credit Note when due and payable and all other charges set forth in the Loan Documents when due and payable including but not limited to the Commitment Fee and the charges set forth in sections 4.11 and 10.3 hereof. SECTION 8. DEFAULTS. If one or more of the following events occur: A. Borrower makes an assignment for the benefit of its creditors, becomes insolvent or admits in writing its inability to pay its debts as they become due; or Borrower files a voluntary petition in bankruptcy or files a petition or answer seeking for itself any reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any present or future statute, law or regulation; or Borrower files an answer admitting or not contesting the material allegations of any petition filed in any action commenced against the Borrower in bankruptcy or seeking the relief described in this subsection 8.A, or any such action shall not have been dismissed within thirty (30) days after it is commenced; or the Borrower takes any action looking to the dissolution or liquidation of Borrower; or the Borrower applies for, consents to, or acquiesces in the appointment of a trustee, receiver or liquidator for itself or for any of its property or in the absence of such application, consent or acquiescence such a trustee, receiver or liquidator is appointed and is not discharged within ninety (90) days after being appointed; B. Any garnishment proceeding by attachment, levy or otherwise in an amount greater than $500,000 is instituted against any deposit balance maintained, or any property deposited, with the Bank by the Borrower. This Agreement and the other Loan Documents shall immediately and automatically be in default, any obligation Bank has under the Loan Documents or otherwise to make any further advances to or for the benefit of Borrower shall immediately and automatically terminate and the principal of, and interest on, the Note and all other Indebtedness shall immediately be due and payable without necessity of demand, presentment, protest, notice of dishonor, notice of default or any other notice whatsoever. If one or more of the following events occur: C. Default by Borrower in the payment of principal of, or interest on, the Note or in the payment of the Commitment Fee or in the payment of items of expense or other charges to be paid by the Borrower pursuant to the Loan Documents, including but not limited to the items set forth in sections 4.11 or 10.3 hereof, when due and payable, and continuance thereof for ten (10) days thereafter or for ten (10) days after bills therefor are sent to Borrower, whichever last occurs; D. Any court shall render a final judgment or judgments against Borrower in an aggregate amount greater than Five Hundred Thousand Dollars ($500,000,000) in excess of any insurance protecting against the liability on which such judgment or judgments are based and such judgment or judgments shall not be satisfactorily stayed, discharged, vacated or set aside within ninety (90)days after the entry thereof, or except as set forth in subsection 8.B above, any property of Borrower shall be liened or attached under a claim or claims in an aggregate amount greater than Five Hundred Thousand Dollars ($500,000,000) in excess of any insurance protecting against the liability on which such lien or attachment is based and such lien or attachment shall not be released or provided for to the satisfaction of Bank within ninety (90) days after the property is liened or attached; E. Borrower shall fail to take reasonable corrective measures within thirty (30) days after notice to Borrower with respect to any litigation or any judicial or administrative proceedings pending or threatened against Borrower, the outcome of which, in the reasonable judgment of Bank, would materially and adversely affect the financial condition of Borrower or the Wells; F. The PBGC shall make a determination that there has occurred an event or condition which constitutes grounds under ERISA for the termination of, or for the appointment of a trustee to administer, any Plan; G. Default in the performance of any material agreement, covenant or obligation of Borrower set forth in this Agreement or any other Loan Document and not constituting a specific event of default set forth in this section 8, and continuance thereof for thirty (30) days, provided, however, that in the event that such default cannot be cured within such thirty (30) day period Borrower shall not be deemed to be in default hereunder so long as Borrower undertakes and diligently pursues all action necessary to cure such default within a reasonable time; 12 H. Default in the performance of any agreement, covenant or obligation of Borrower in any agreement between Bank and Borrower in addition to any Loan Document, and continuance thereof for more than the permitted period of grace, if any; I. Except as set forth in subsections 8.C, 8.G and 8.H hereof, default in the payment or performance of any material obligation for borrowed money, for which the Borrower is liable (directly, by assumption, as guarantor, or otherwise) or in the payment or performance of any material obligation secured by any mortgage, pledge, charge, security interest, lien, or other encumbrance with respect to any property of the Borrower, and continuance thereof for more than the permitted period of grace, if any; J. Any representation or warranty made by Borrower herein or in any other Loan Document is untrue in any material respect or any certificate, schedule, statement, report, notice or writing furnished or made to Bank in connection with the transactions contemplated by the Loan Documents is untrue in any material respect on the date as of which the facts set forth therein are stated or certified; or K. The Borrower shall fail to do, or cause to be done, all things necessary to preserve and keep in full force and effect its existence as a corporation, its good standing under the laws of the State of Delaware, and its qualification to do business, and its good standing as a foreign corporation, in all jurisdictions wherein its ownership of property or the nature of its business requires such qualification and where failure to be so qualified would materially and adversely affect the financial condition or operating condition of Borrower. Then Bank, at its option, may immediately declare this Agreement and/or the other Loan Documents in default, may terminate any obligation it has under the Loan Documents or otherwise to make any advance to or for the benefit of Borrower and/or may declare the principal of, and interest on, the Revolving Credit Note and/or all other Indebtedness immediately due and payable, whereupon the Indebtedness shall immediately become due and payable without necessity of demand, presentment, protest, notice of dishonor, notice of default or any other notice whatsoever. SECTION 9. REMEDIES. Bank shall be entitled at its option to exercise each and every remedy accorded it by law and/or specifically set forth in the Loan Documents, which remedies are specifically incorporated herein by reference. Such remedies may be asserted concurrently, cumulatively, successively or independently from time to time so long as any part of the Indebtedness remains unpaid. SECTION 10. MISCELLANEOUS. 10.1 Waiver and Modification. No waiver by Bank of any default shall operate as a waiver of any other default or of the same default on a future occasion. No failure to exercise, and no delay in exercising, on the part of Bank, any power, remedy or right shall operate as a waiver thereof, nor shall any single or partial exercise of any power, remedy or right preclude other or further exercise thereof or the exercise of any other power, remedy or right. The terms, conditions and covenants of this Agreement and the other Loan Documents, including the Note, may only be modified or waived by a written document executed by Borrower and Bank. 13 10.2 Notices. All notices or other correspondence required or made necessary by the terms of this Agreement and the other Loan Documents shall be in writing and shall be considered as having been given to each party if mailed by registered or certified mail, postage prepaid, to the respective addresses as follows: (a) To Borrower: Resource America, Inc. 1521 Locust Street Philadelphia, PA 19102 Attention: Michael L. Staines (b) To Bank: Key Bank, N.A. 126 Central Plaza North Canton, Ohio 44702 Attention: Kelly J. Brennan Each party shall have the right to change its address at any time, and from time to time, by giving written notice thereof to the other party. 10.3 Certain Taxes. Borrower agrees to pay, and save Bank harmless from, all liability for any federal or state documentary stamp or other tax liability (other than the tax liabilities determined with reference to the income or revenue of the Bank) together with any interest or penalty, which is payable or determined to be payable with respect to the execution or delivery of this Agreement or any other Loan Document which obligation of the Borrower shall survive the termination of this Agreement. 10.4 Right to Cure. In the event that Borrower shall fail for any reason to pay any fee, cost, expense or other charge to be paid or reimbursed by Borrower, Bank shall have the right but not the duty to make such payment and if Bank makes such payment the amount thereof shall be added to the balance of the Indebtedness shall be payable on demand and shall bear interest at the rate shown in the Revolving Credit Note until paid. 10.5 Venue and Jurisdiction. The parties hereto agree that any action or proceeding arising out of or relating to the transactions contemplated by the Loan Documents may be commenced in the Court of Common Pleas of Stark County, Ohio and each party agrees that a summons and complaint commencing an action or proceedings in such court shall be properly served and shall confer personal jurisdiction if served personally or by certified mail to it at its address designated pursuant hereto, or as otherwise provided under the laws of the State of Ohio. 10.6 Applicable Law. This Agreement and the other Loan Documents shall be contracts made under and governed by the laws of the State of Ohio. 10.7 Severabi1ity. In the event that any term or provision of this Agreement or any other Loan Document, including the Note and the Mortgage, is lawfully held or declared to be invalid, illegal or unenforceable, it shall be deemed deleted to the extent necessary under the applicable law and the validity of the other terms and provisions shall not be affected thereby. 14 10.8 Successors and Assigns. This Agreement and the other Loan Documents shall be binding upon the Borrower and Bank and their respective successors and assigns, and shall inure to the benefit of Borrower, Bank and the successors and assigns of Bank (except that Borrower shall have no right to assign, voluntarily or by operation of law, any of its rights hereunder or under any other Loan Document without Bank's prior written consent, and provided further that nothing herein is intended by any party hereto to confer any rights upon any third party as a beneficiary hereof). 10.9 Nature and Survival of Representations. All statements contained in any certificate or other document or instrument of any kind whatsoever delivered by or on behalf of Borrower pursuant hereto or any other Loan Document, or in connection with the transactions contemplated hereby or thereby, shall be deemed representations and warranties made by the Borrower in this Agreement or other Loan Document, or pursuant hereto or thereto, and, together with all representations and warranties contained herein or in any other Loan Document, shall survive the execution and delivery thereof and of this Agreement and any other Loan Document, the making of any loans under the Loan Documents, and the making of any investigation made at any time by or on behalf of Bank. 10.10 Number and Gender. Whenever required by the context of this Agreement or any other Loan Document the singular shall include the plural, and vice-versa; and the masculine and feminine genders shall include the neuter gender, and vice versa. 10.11 Headings. The headings of the sections of this Agreement are inserted for convenience only and shall not be deemed to constitute a part hereof. WITNESS the due execution hereof the day and year first above written. RESOURCE AMERICA, INC. By:__________________________ Its:_________________________ KEYBANK, N.A. By:__________________________ Its:_________________________ 15 EX-11.1 5 CALCULATION OF EARNINGS PER SHARE EXHIBIT 11.1 CALCULATION OF PRIMARY AND FULLY DILUTED EARNINGS PER SHARE PRIMARY EARNINGS PER SHARE Computation for Statement of Operations
1997 1996 1995 ---- ---- ---- (dollars in thousands except per share data) Reconciliation of net income per statement of operations to amount used in primary earnings per share computation: Net income $10,951 $5,147 $2,714 Add-interest on short-term debt, net of tax effect, on application of assumed proceeds from exercise of options and warrants in excess of 20% limitation - 45 36 ------- ------- ------- Net income, as adjusted $10,951 $5,192 $2,750 ======= ====== ====== Additional Primary Computation Net income, as adjusted per primary computation above $10,951 $5,192 $2,750 Additional adjustment to weighted average number of shares outstanding: Weighted average number of shares outstanding 3,478,290 1,890,200 1,904,400 Add-Dilutive effect of outstanding options and warrants (as determined by the application of the treasury stock method) 880,074 866,700 331,000 Weighted average number of shares outstanding 4,358,364 2,756,900 2,235,400 Primary earnings per shares, as adjusted $2.51 $1.88 $1.23
1997 1996 1995 ---- ---- ---- (Dollars in thousands except per share data) FULLY DILUTED EARNINGS PER SHARE Computation for Statement of Operations Reconciliation of net income per statement of operations to amount used in primary earnings per share computation: Income (loss) before extraordinary loss $10,951 $5,147 $2,714 Add-Interest on short-term debt, net of tax effect, on application of assumed proceeds from exercise of options and warrants in excess of 20% limitation - 19 - Net income, as adjusted 10,951 5,166 2,714 Additional Fully Diluted Computation Net income, as adjusted per primary computation above 10,951 5,166 2,714 Additional adjustment to weighted average number of shares outstanding: Weighted average number of shares outstanding 3,478,290 1,890,200 1,904,400 Add-Dilutive effect of outstanding options and warrants (as determined by the application of the treasury stock method) 906,925 872,800 388,300 Weighted average number of shares outstanding 4,385,215 2,763,000 2,292,700 Fully diluted earnings per share, as adjusted $2.50 $1.87 $1.18
EX-21.1 6 LIST OF SUBSIDIARIES EXHIBIT 21.1 LIST OF SUBSIDIARIES Entity State of Incorporation - ------ ---------------------- Resource Properties, Inc. Delaware Resource Properties II, Inc. Delaware Resource Properties III, Inc. Delaware Resource Properties IV, Inc. Delaware Resource Properties V, Inc. Delaware Resource Properties VI, Inc. Delaware Resource Properties VII, Inc. Delaware Resource Properties VIII, Inc. Delaware Resource Properties IX, Inc. Delaware Resource Properties X, Inc. Delaware Resource Properties XI, Inc. Delaware Resource Properties XII, Inc. Delaware Resource Properties XIII, Inc. Delaware Resource Properties XIV, Inc. Delaware Resource Properties XV, Inc. Delaware Resource Properties XVI, Inc. Delaware Resource Properties XVII, Inc. Delaware Resource Properties XVIII, Inc. Delaware Resource Properties XIX, Inc. Delaware Resource Properties XX, Inc. Delaware Resource Properties XXI, Inc. Delaware Resource Properties XXII, Inc. Delaware Resource Properties XXIII, Inc. Delaware Resource Properties XXIV, Inc. Delaware Resource Properties XXV, Inc. Delaware Resource Properties XXVI, Inc. Delaware Resource Properties XXVII, Inc. Delaware Resource Properties XXVIII, Inc. Delaware Resource Properties XXIX, Inc. Delaware Resource Properties XXX, Inc. Delaware Resource Properties XXXI, Inc. Delaware Resource Properties XXXII, Inc. Delaware Resource Properties XXXIII, Inc. Delaware Resource Properties XXXIV, Inc. Delaware Resource Properties XXXV, Inc. Delaware Resource Properties XXXVI, Inc. Delaware Resource Properties XXXVII, Inc. Delaware Resource Properties XXXVIII, Inc. Delaware Resource Properties XXXIX, Inc. Delaware Entity State of Incorporation - ------ ---------------------- Resource Properties XL, Inc. Delaware Resource Properties XLI, Inc. Delaware Resource Properties XLII, Inc. Delaware Resource Properties XLIII, Inc. Delaware Resource Properties XLIV, Inc. Delaware Resource Properties XLV, Inc. Delaware Resource Programs, Inc. Delaware Resource Commercial Mortgages, Inc. Delaware Resource Energy, Inc. Delaware Resource Well Services, Inc. Delaware RAI Financial, Inc. Delaware RPI Mortgage Funding, Inc. Delaware Resource Financial Services, Inc. Delaware Resource Funding, Inc. Delaware Rancho Investments, Inc. Delaware Resource Leasing, Inc. Delaware Fidelity Leasing, Inc. Pennsylvania F.L. Partnership Management, Inc. Delaware F.L. Financial Services, Inc. Delaware St. Julien III Corp. Pennsylvania Fidelity Mortgage Funding, Inc. Delaware DAC Acquisition Corporation Delaware Bryn Mawr Resources, Inc. Delaware Bryn Mawr Energy Company Pennsylvania BMR Holdings, Inc. Delaware Bryn Mawr Properties Advisors, Inc. Pennsylvania WS Mortgage Acquisition Corporation Delaware Tri-Star Financial Services, Inc. New Jersey REI-NY, Inc. -2- EX-23 7 EXHIBIT 23.1 December 5, 1997 Resource Energy, Inc. Attention: Mr. Jeffrey C. Simmons 2876 S. Arlington Rd. Akron, Ohio 44312 Gentlemen: We hereby consent to the use of our audit report dated October 23, 1997, on reserves and revenue as of October 1, 1997 from certain properties owned by Resource Energy, Inc., as wholly owned subsidiary of Resource America, Inc., in Resource America, Inc.'s Annual Report on Form 10-K for the fiscal year ending September 30 1997. Very Truly Yours, /s/ E. E. Templeton & Associates, Inc. - --------------------------------------------- E. E. Templeton & Associates, Inc. EX-27 8 FINANCIAL DATA SCHEDULE
5 1,000 YEAR SEP-30-1997 OCT-01-1996 SEP-30-1997 69,279 0 2,414 0 0 72,269 29,419 15,793 195,119 10,841 118,786 0 0 54 64,775 195,119 3,936 32,844 1,823 7,623 0 653 5,273 14,931 3,980 10,951 0 0 0 10,951 2.51 2.50
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