-----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, TIQQ6fOF5BjdfS3oJVKaSCU7kLgnDM8dQSmLlW6HxkBIS4rIHDSl7h9EogNMYYsz dBpPq1FMOcTlnXhquTKymw== 0000950116-98-000548.txt : 19980306 0000950116-98-000548.hdr.sgml : 19980306 ACCESSION NUMBER: 0000950116-98-000548 CONFORMED SUBMISSION TYPE: S-3 PUBLIC DOCUMENT COUNT: 5 FILED AS OF DATE: 19980305 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: S-3 SEC ACT: SEC FILE NUMBER: 333-47393 FILM NUMBER: 98558282 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 S-3 1 Registration No. 333- SECURITIES AND EXCHANGE COMMISSION FORM S-3 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 RESOURCE AMERICA, INC. - ------------------------------------------------------------------------------ (Exact name of registrant as specified in its charter) DELAWARE - ------------------------------------------------------------------------------ (State or other jurisdiction of incorporation or organization) 72-0654145 - ------------------------------------------------------------------------------ (I.R.S. Employer Identification No.) 1521 Locust Street, Philadelphia, Pennsylvania 19102 (215-546-5005) - ------------------------------------------------------------------------------ (Address, including zip code, and telephone number, including area code, of registrant's principal executive offices) Steven J. Kessler, 1521 Locust Street, Philadelphia, Pennsylvania 19102 (215-546-5005) - ------------------------------------------------------------------------------ (Name, address, including zip code, and telephone number, including area code, of agent for service) Copies to: J. Baur Whittlesey, Esq. Dave Muchnikoff, P.C. Ledgewood Law Firm, P.C. Silver, Freedman & Taff, L.L.P. 1521 Locust Street 1100 New York Avenue, N.W. Philadelphia, PA 19102 Washington, D.C. 20005-3934 (215) 735-0663 (202) 682-0354 Approximate date of commencement of proposed sale to the public: As soon as practicable after the registration statement becomes effective. If the only securities being registered on this Form are being offered pursuant to dividend or interest reinvestment plans, please check the following box [ ]. If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, other than securities offered only in connection with dividend or interest reinvestment plans, check the following box [ ]. If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering [ ]. If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering []. If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box [ ].
CALCULATION OF REGISTRATION FEE - ----------------------------------------------------------------------------------------------------------------------------------- Title of each class Proposed Proposed maximum of securities to be Amount to be maximum offering aggregate offering Amount of registered registered price per unit(1) price registration fee - ----------------------------------------------------------------------------------------------------------------------------------- Common Stock 1,725,000 $47.125 $81,290,625 $23,980.73 - -----------------------------------------------------------------------------------------------------------------------------------
(1) Estimated solely for purposes of calculating the registration fee in accordance with Rule 457(c) under the Securities Act of 1933 based upon the average of the high and low prices reported on the Nasdaq Stock Market on March 3, 1998. The registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine. 2 Information contained herein is subject to completion or amendment. A registration statement relating to these securities has been filed with the Securities and Exchange Commission. These securities may not be sold nor may offers to buy be accepted prior to the time the registration statement becomes effective. This Prospectus shall not constitute an offer to sell or the solicitation of an offer to buy nor shall there be any sale of these securities in any State in which such offer, solicitation or sale would be unlawful prior to registration or qualification under the securities laws of any such State. SUBJECT TO COMPLETION, DATED MARCH 5, 1998 PROSPECTUS [LOGO] RESOURCE AMERICA, INC. 1,500,000 Shares of Common Stock Resource America, Inc. (the "Company") is hereby offering (the "Offering") for sale 1,500,000 shares of its common stock, $.01 par value per share (the "Common Stock"). The Common Stock is quoted on the Nasdaq National Market System ("Nasdaq") under the symbol "REXI." The last sales price of the Common Stock on March 3, 1998, as reported on Nasdaq, was $47.00 per share. See "Price Range of Common Stock and Dividend Policy." The Common Stock offered hereby involves a high degree of risk. See "Risk Factors" beginning on page 12 hereof for a discussion of certain factors that should be considered carefully by prospective purchasers. --------- THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. 1
============================================================================================================================ Price to Underwriting Proceeds to Public Discount(1) Company(2) - ---------------------------------------------------------------------------------------------------------------------------- Per Share............................. $ $ $ Total(3).............................. $ $ $ ============================================================================================================================
(1) The Company has agreed to indemnify the Underwriters against certain liabilities, including liabilities under the Securities Act of 1933, as amended. See "Underwriting." (2) Before deducting expenses of the offering, estimated to be $_____________. (3) The Company has granted the several Underwriters a 30-day option to purchase up to 225,000 additional shares of Common Stock to cover over-allotments. If all such shares of Common Stock are purchased, the total Price to Public, Underwriting Discount and Proceeds to Company will be $__________, $__________ and $__________, respectively. See "Underwriting." The shares of Common Stock are offered by the Underwriters, subject to receipt and acceptance by the Underwriters, approval of certain legal matters by counsel for the Underwriters and certain other conditions. The Underwriters reserve the right to withdraw, cancel or modify such offers and to reject orders in whole or in part. It is expected that delivery of the shares of Common Stock will be made in New York, New York on or about _____________, 1998. FRIEDMAN, BILLINGS, RAMSEY & CO., INC. BANCAMERICA ROBERTSON STEPHENS JANNEY MONTGOMERY SCOTT INC. The date of this Prospectus is ______________, 1998. 2 AVAILABLE INFORMATION The Company is subject to the informational requirements of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and, accordingly, files reports, proxy statements and other information with the Securities and Exchange Commission (the "Commission"). Such reports, proxy statements and other information filed with the Commission are available for inspection and copying at the public reference facilities maintained by the Commission at Room 1024, Judiciary Plaza, 450 Fifth Street, N.W. Washington, D.C. 20549, and at the Commission's Regional Offices located at Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661 and at Seven World Trade Center, New York, New York 10048. Copies of such documents may also be obtained from the Public Reference Section of the Commission at Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates. In addition, copies of such documents may be obtained through the Commission's Internet address at http://www.sec.gov. The Common Stock is authorized for quotation on Nasdaq and, accordingly, such materials and other information can also be inspected at the offices of the National Association of Securities Dealers, Inc., 1735 K Street, N.W., Washington, D.C. 20006. ADDITIONAL INFORMATION The Company has filed with the Commission a Registration Statement on Form S-3 (No. 333- ) (together with any amendments thereto, the "Registration Statement"), under the Securities Act of 1933, as amended (the "Securities Act"), with respect to the securities offered hereby. This Prospectus, which constitutes a part of the Registration Statement, omits certain information contained in the Registration Statement as permitted by the rules and regulations of the Commission. For further information with respect to the Company and the securities offered hereby, reference is made to the Registration Statement and the exhibits and financial statements, notes and schedules filed as part thereof or incorporated by reference therein, which may be inspected at the public reference facilities of the Commission at the addresses set forth above. Statements made in this Prospectus concerning the contents of any documents referred to herein are not necessarily complete, and in each instance are qualified in all respects by reference to the copy of such document filed as an exhibit to the Registration Statement or incorporated by reference therein. This Prospectus contains certain forward-looking statements which involve substantial risks and uncertainties. These forward-looking statements can generally be identified as such because the context of the statement includes words such as the Company "believes," "anticipates," "expects," "estimates," "intends," or other words of similar intent. Similarly, statements that describe the Company's future plans, objectives and goals are also forward-looking statements. The Company's actual results, performance or achievements could differ materially from those expressed or implied in these forward-looking statements as a result of certain factors, including those set forth in "Risk Factors" and elsewhere in this Prospectus. 3 CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS THAT STABILIZE, MAINTAIN, OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK, INCLUDING OVER-ALLOTMENT, STABILIZING TRANSACTIONS, SYNDICATE SHORT COVERING TRANSACTIONS AND THE IMPOSITION OF PENALTY BIDS. FOR A DESCRIPTION OF THESE ACTIVITIES. SEE "UNDERWRITING." IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS AND SELLING GROUP MEMBERS MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON STOCK ON THE NASDAQ NATIONAL MARKET IN ACCORDANCE WITH RULE 103 OF REGULATION M. SEE "UNDERWRITING." INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE The following documents, previously filed with the Commission (File No. 0-4408) pursuant to Section 13 of the Exchange Act, are incorporated by reference herein and made a part hereof: (i) the Company's Annual Report on Form 10-K for the year ended September 30, 1997; (ii) the Company's Quarterly Report on Form 10-Q for the quarter ended December 31, 1997; (iii) the Company's Current Reports on Form 8-K dated December 17, 1997 and January 14, 1998; and (iv) the description of the Company's Common Stock contained in Form 8-A, including any amendment or report filed for the purpose of updating such description. All documents filed by the Company with the Commission pursuant to Section 13(a), 13(c), 14 or 15(d) of the Exchange Act after the date hereof and prior to the termination of this offering shall be deemed to be incorporated by reference in this Prospectus and to be a part hereof from the date of filing of such documents. Any statement contained in a document incorporated or deemed to be incorporated by reference herein shall be deemed to be modified or superseded for purposes of this Prospectus to the extent that a statement contained herein or in any other subsequently filed document which also is or is deemed to be incorporated by reference herein modifies or supersedes such statement. Any such statement so modified or superseded shall not be deemed, except as so modified or superseded, to constitute a part of this Prospectus. All information appearing in this Prospectus should be read in conjunction with, and is qualified in its entirety by, the information and financial statements (including notes thereto) appearing in the documents incorporated herein by reference, except to the extent set forth in the immediately preceding statement. The Company will provide without charge, to each person to whom this Prospectus is delivered, upon written or oral request of such person, a copy of any and all of the documents referred to above which have been or may be incorporated in this Prospectus by reference (other than exhibits not specifically incorporated by reference therein). Written or oral requests for such copies should be directed to: Secretary, Resource America, Inc., 1521 Locust Street, Philadelphia, Pennsylvania 19102 (215) 546-5005. 4 PROSPECTUS SUMMARY The Company General The Company operates a specialty finance business focused on 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 conduct 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 residential mortgage lending business. The Company has also sponsored a real estate investment trust and currently owns 15% of the trust's common shares of beneficial interest. Within its equipment leasing business, the Company focuses primarily on small ticket equipment lease financing, although it also manages five publicly-owned equipment leasing partnerships and has a lease finance placement and advisory business. Real Estate Finance The Company's commercial mortgage loan acquisition and resolution business involves the purchase, at a discount, of troubled commercial real estate mortgage loans, and the restructuring and refinancing of those loans. These loans are generally acquired from private market sellers, primarily financial institutions, for net investments generally ranging from $1 million to $15 million. 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 December 31, 1997, the Company's commercial mortgage loan portfolio has grown to 43 loans with aggregate outstanding loan balances of $318.3 million. These loans were acquired at an investment cost of $184.9 million (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 and senior lien interests to which the properties were subject at the time of acquisition). 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 35%, 36% and 35%, respectively, while its gross profit (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 5 activities for the same periods were $16.5 million, $6.3 million and $5.3 million, respectively. The yield on net investment in commercial mortgage loans for the quarter ended December 31, 1997 was 30%, while gross profit for that period was $7.3 million. 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 properties underlying its loans. At December 31, 1997, senior lenders held outstanding obligations of $93.2 million. For the quarter ended December 31, 1997, the ratio of operating cash flow (based upon (i) with respect to loans acquired prior to October 1, 1997, cash flows for the quarter ended December 31, 1997, and (ii) with respect to loans acquired on or after October 1, 1997, cash flow estimates, historical information or information on cash flows for periods other than for the quarter ended December 31, 1997) to the required debt service on senior lien interests averaged 2.46 to 1. See "Business - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution: Loan Status." The excess of operating cash flow over required debt service on senior lien obligations is, pursuant to agreements with most borrowers, generally retained by the Company as debt service on the outstanding balance of the Company's loans. The Company's residential mortgage lending business provides first and second mortgage loans on one-to-four family residences to borrowers who typically do not conform to guidelines established by the Federal National Mortgage Association ("Fannie Mae") because of past credit impairment or other reasons. Through its subsidiaries, Fidelity Mortgage Funding, Inc. ("FMF") which commenced lending operations in October 1997 and Tri-Star Financial Services, Inc. ("Tri-Star") which was acquired in November 1997, the Company is licensed as a residential mortgage lender in 23 states and is currently originating loans in 11 states (Connecticut, Delaware, Indiana, Kentucky, Maryland, Mississippi, New Jersey, North Carolina, Ohio, Pennsylvania and Virginia). The Company concentrates on mid-size residential mortgage loans with a targeted average loan of approximately $50,000. 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 originate non-conforming loans. The Company pursues a strategy of selling its residential mortgage loan portfolio on a regular basis. The Company is currently an approved loan seller to 16 investors. The Company sponsored Resource Asset Investment Trust ("RAIT"), a real estate investment trust which is publicly traded on the American Stock Exchange. The Company sold 10 loans and senior lien interests in two other loans to RAIT in January 1998. The aggregate price paid by RAIT for the loans and the senior lien interests was $20.1 million (including $2.0 million attributable to senior lien interests acquired by the Company in anticipation of sale of the loans to RAIT and thereafter sold to RAIT, at cost). The Company realized a gain on this sale of $3.0 million. The Company anticipates selling further loans to 6 RAIT. See "Business - Real Estate Finance - Sponsorship of Real Estate Investment Trust" and "Management - Certain Relationships and Related Party Transactions." Equipment Leasing 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 acquisition, the Company manages five publicly-held equipment leasing partnerships involving $49.8 million (original equipment cost) in leased assets at December 31, 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 within the dealer distribution channels is under-served by equipment lessors, banks and other financial institutions, affording the Company a market opportunity with significant growth potential. During the first quarter of fiscal 1998, the Company received 3,608 lease applications involving equipment with an aggregate cost of $47.8 million, approved 1,907 applications involving equipment with an aggregate cost of $18.6 million, and entered into 1,551 transactions involving equipment with an aggregate cost of $16.0 million. During fiscal 1997, the Company received 8,344 lease applications involving equipment with an aggregate cost of $113.4 million, approved 5,054 applications 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. The Company pursues a strategy of selling equipment leases originated by it in bulk on a servicing retained basis. See "Business - Equipment Leasing - - Strategy: Focus on Lease Sales." During the first quarter of fiscal 1998 and during fiscal 1997, the Company sold equipment leases with an aggregate book value of approximately $14.4 million and $30.2 million, respectively, to third parties. The Company's income from retained servicing was not material during either the first fiscal quarter of 1998 or fiscal 1997. Energy The Company produces natural gas and, to a lesser extent, oil from locations principally in Ohio, Pennsylvania and New York. At December 31, 1997, the Company had a net investment of $12.4 million in its energy operations, including interests in 1,264 7 individual wells 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. From time to time, the Company receives indications of interest in the acquisition of its energy operations, and continually pursues the increase of its reserve base through selective acquisition of producing properties and other assets. Within the past nine months, the Company has acquired the assets of two small energy companies. The Offering
Common Stock offered to the public............................. 1,500,000 shares(1) Common Stock to be outstanding after the Offering.................................................. 6,248,537 shares(1)(2) Use of Proceeds................................................ The net proceeds from the sale of Common Stock by the Company will be used primarily for the acquisition of additional commercial real estate mortgage loans and, to a lesser extent, for the expansion of equipment leasing operations, the acquisition of selected energy properties and assets and for other general corporate purposes. Nasdaq Stock Market symbol..................................... REXI
- ------------- (1) Assumes that the Underwriters' over-allotment option to purchase up to 225,000 shares of Common Stock is not exercised. (2) Does not give effect to employee stock options to purchase up to 262,431 shares of Common Stock outstanding at February 13, 1998. 8 Summary Consolidated Financial Data The financial data set forth below should be read in conjunction with, and is qualified in its entirety by, the Consolidated Financial Statements of the Company, including the notes thereto, and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere herein.
As of and for the Quarter Ended As of and for the December 31, Year Ended September 30, ----------------------- -------------------------------------------------------------- 1997 1996 1997 1996 1995 1994 1993 --------- --------- --------- --------- --------- --------- --------- (in thousands, except ratios and per share data) Statement of Operations Data: Revenues: Real estate finance - Interest(1) .......................... $ 4,668 $ 1,427 $ 9,001 $ 2,853 $ 3,422 $ 1,401 $ 606 Fees ................................. 1,775 1,407 2,556 675 963 25 -- Gains on refinancings and sales of senior lien interests ...... 2,949 385 7,587 3,643 1,729 1,096 -- --------- --------- --------- --------- --------- --------- --------- Total ............................. 9,392 3,219 19,144 7,171 6,114 2,522 606 Equipment leasing ..................... 3,172 1,202 7,162 4,466 -- -- -- Energy production ..................... 1,232 950 3,936 3,421 3,452 3,442 3,409 Energy services ....................... 583 389 1,672 1,736 1,879 2,080 2,445 Interest .............................. 698 84 930 197 149 136 106 --------- --------- --------- --------- --------- --------- --------- Total revenues .................... 15,077 5,844 32,844 16,991 11,594 8,180 6,566 Costs and expenses: Real estate finance ................... 1,523 163 1,069 852 801 248 114 Equipment leasing ..................... 1,325 883 3,822 2,339 -- -- -- Energy exploration and production ..... 574 412 1,823 1,582 1,733 2,004 1,735 Energy services ....................... 309 224 909 869 1,026 1,131 1,106 General and administrative ............ 927 592 2,851 1,756 2,265 1,901 1,841 Provision for possible losses ......... 318 10 653 7 -- -- -- Interest .............................. 3,870 409 5,273 872 1,091 310 41 Other ................................. (3) (88) (101) (7) (1) 30 (383) --------- --------- --------- --------- --------- --------- --------- Total costs and expenses .......... 8,843 2,605 16,299 8,270 6,915 5,624 4,454 Income before income taxes, depreciation, depletion and amortization .......................... 6,234 3,239 16,545 8,721 4,679 2,556 2,112 Depreciation, depletion and amortization 508 379 1,614 1,368 1,335 1,347 1,478 Income before income taxes ............. 5,726 2,860 14,931 7,353 3,344 1,209 634 Net income ............................. 3,951 2,285 10,951 5,147 2,714 1,309 590 Segment Profitability (Loss):(2) Real estate finance .................... $ 7,467 $ 2,865 $ 16,546 $ 6,281 $ 5,276 $ 2,237 $ 455 Equipment leasing ...................... 1,430 214 2,457 1,916 -- -- -- Energy exploration, production and services ............................. 518 372 1,699 1,646 1,317 1,114 1,720 Corporate (excluding taxes)(3) ......... (3,692) (679) (5,845) (2,497) (3,248) (2,105) (1,393) Balance Sheet and Other Data: Assets: Current assets ........................ $ 34,343 $ 8,721 $ 72,269 $ 6,106 $ 3,924 $ 3,985 $ 2,150 Net investment in real estate loans ... 128,884 49,693 88,816 21,798 17,991 10,386 7,329 Net investment in leasing assets ...... 13,214 5,388 8,152 729 -- -- -- Net investment in energy property and equipment ............................ 12,379 11,036 11,400 11,265 11,964 12,786 13,542 Net other assets ...................... 19,099 5,573 14,482 4,061 3,671 7,639 2,210 --------- --------- --------- --------- --------- --------- --------- Total assets ...................... 207,919 80,411 195,119 43,959 37,550 34,796 25,231
9
As of and for the Quarter Ended As of and for the December 31, Year Ended September 30, ----------------------- -------------------------------------------------------------- 1997 1996 1997 1996 1995 1994 1993 --------- --------- --------- --------- --------- --------- --------- (in thousands, except ratios and per share data) Liabilities: Current liabilities ...................... $ 16,690 $ 2,449 $ 10,841 $ 1,664 $ 1,329 $ 1,355 $ 723 Long-term debt less current maturities(4) ........................... 118,116 22,496 118,786 8,966 8,523 8,627 813 Deferred income taxes and long-term liabilities ............................. 2,656 2,589 663 2,206 1,147 674 834 ------- -------- -------- -------- -------- -------- -------- Total liabilities .................... 137,462 27,534 130,290 12,836 10,999 10,656 2,370 Stockholders' equity(5) ................... 70,457 52,877 64,829 31,123 26,551 24,140 22,861 Stockholders' equity per common share(6)(7) 14.86 14.89 13.79 16.43 14.21 12.52 11.59 Assets under management: Real estate(8) ........................... 330,128 139,608 233,666 100,520 52,955 26,328 13,303 Leasing(9) ............................... 114,876 83,503 105,940 79,649 103,439 -- -- Energy(10) ............................... 38,867 32,145 37,809 32,147 33,688 36,067 38,500 ------- -------- -------- -------- -------- -------- -------- Total assets under management ........ 483,871 255,256 377,415 212,316 190,082 62,395 51,803 Selected Ratios: Operating ratios - Return on equity(11) ..................... 23% 22% 23% 18% 11% 6% 3% Yield on net real estate investment(12) .. 30% 36% 35% 36% 35% 31% 12% Balance sheet ratios: Real estate loan to value(13) ............ 82% 80% 82% 86% 78% 79% 82% Earnings to fixed charges(14) ............ 2.48 8.00 3.83 9.44 4.07 4.89 16.45 Common Share Information: Net income per common share (basic)(15) ... $ .83 $ .91 $ 3.15 $ 2.72 $ 1.43 $ .66 $ .30 Weighted average number of common shares outstanding (basic) .............. 4,733 2,507 3,478 1,890 1,904 1,970 1,975 Net income per common share (diluted)(16) . $ .81 $ .66 $ 2.51 $ 1.88 $ 1.23 $ .64 $ .30 Weighted average number of common shares (diluted) ........................ 4,906 3,476 4,358 2,757 2,235 2,076 1,990 Cash dividends per common share ........... $ .10 $ .10 $ .40 $ .38 $ .09 $ -- $ --
- --------- (1) Interest income includes accreted discounts of $1.7 million and $793,000 for the quarters ended December 31, 1997 and 1996, respectively, and $4.1 million, $954,000, $1.2 million, $602,000, and $256,000 for the fiscal years ended September 30, 1997, 1996, 1995, 1994 and 1993, respectively. (2) Represents segment revenues minus segment costs less depreciation, depletion and amortization attributable to the segment, but without allocation of corporate overhead. (3) Includes interest expense, interest income on cash not invested in operations, general and administrative expenses, and depreciation and amortization not allocated to operations of other segments. Interest expense was $3.9 million and $409,000 for the quarters ended December 31, 1997 and 1996, respectively, and $5.3 million, $872,000, $1.1 million, $310,000 and $41,000 for the years ended September 30, 1997, 1996, 1995, 1994 and 1993, respectively. (4) In July 1997, the Company completed a private offering of 12% senior notes and received net proceeds (after placement and offering expenses) of $110.6 million. (5) In December 1996, the Company completed a public offering of shares of Common Stock and received net proceeds (after underwriting and offering expenses) of $19.5 million. 10 (6) Based on shares of Common Stock outstanding of 4.7 million and 3.6 million at December 31, 1997 and 1996, respectively, and 4.7 million, 1.9 million, 1.9 million, 1.9 million, and 2.0 million at September 30, 1997, 1996, 1995, 1994, 1993, respectively. (7) Giving effect to the issuance of 1.5 million shares in this Offering at an assumed price of $47.00 (the closing price of the Common Stock on Nasdaq on March 3, 1998), and after deduction of underwriting discounts and estimated offering expenses, stockholders' equity per common share would have been $21.83 on December 31, 1997. (8) Represents the stated, or face, amount of outstanding loans plus accrued interest and penalties. (9) Represents the aggregate of (i) the original cost of equipment under lease and cash held by equipment leasing limited partnerships managed by the Company, and (ii) gross lease receivables under leases held in the Company's portfolio or serviced by the Company for third parties. (10) Represents the original cost of assets held by the Company and energy partnerships and joint ventures managed by the Company. (11) Calculated as net income divided by average stockholders' equity. (12) Calculated as gross real estate finance revenues (including gains on refinancings and sales of senior lien interests in commercial mortgage loans) divided by the average book cost of real estate finance assets. (13) Calculated as the aggregate book value of loans with respect to any property (including all loans with liens senior to or of the same seniority with the loan interest held by the Company) divided by the appraised value of the property. (14) Calculated by dividing income from continuing operations before income taxes, extraordinary gains and cumulative effect of a change in accounting principle plus fixed charges by fixed charges. Fixed charges represent total interest expense, including amortization of debt expense and discount relating to indebtedness. (15) Calculated as net income divided by the weighted average Common Stock outstanding during the period, in accordance with Statement of Financial Accounting Standards ("SFAS") No. 128. (16) Calculated as net income divided by the weighted average number of shares of Common Stock outstanding during the period and dilutive potential Common Stock in accordance with SFAS No. 128. Dilutive potential shares of Common Stock include shares issuable under the terms of various stock option and warrant agreements (including, during fiscal 1994 through fiscal 1997, warrants exercised during fiscal 1997) net of the number of such shares that could have been reacquired (at the weighted average price of the Common Stock during the period) with the proceeds received from the exercise of the options and warrants. 11 RISK FACTORS In addition to the other information contained or incorporated by reference in this Prospectus, the following factors should be considered carefully in evaluating an investment in the Common Stock. The cautionary statements set forth below and elsewhere in this Prospectus, or which are incorporated by reference herein, should be read as accompanying forward-looking statements included or incorporated by reference herein. The risks described in the statements set forth below could cause the Company's results to differ materially from those expressed in or indicated by such forward-looking statements. General Ability to Generate Funding for Growth. The success of the Company's future operations will depend largely upon the continued availability of outside funds for its real estate finance and equipment leasing operations. Funding for the Company's operations has been derived from a number of different sources, including internally generated funds, borrowings, and the sale of its notes and Common Stock. See "Business - Sources of Funds." The future availability of third-party financing for each of the Company's specialty finance businesses will depend on a number of factors over which the Company has limited or no control, including general conditions in the credit markets, the size, pricing and liquidity of the markets for the types of mortgage loans or equipment leases in the Company's portfolio and the financial performance of the Company's loans and equipment leases. There can be no assurance that the Company will be able to generate funding on satisfactory terms and in acceptable amounts and thus sustain its growth. Moreover, any failure to renew or obtain adequate funding under a credit or financing facility or other borrowing could have a material adverse effect on the Company's results of operations and financial condition. To the extent the Company is not successful in maintaining or replacing existing financing, and, in particular, replacing or refinancing the $115.0 million principal amount of its 12% Senior Notes (the "Senior Notes") when they become due in August 2004, the Company would have to curtail its activities (and, with respect to the Senior Notes, possibly sell assets in order to repay the Senior Notes), which would have a material adverse effect on the Company's results of operations and financial condition. Certain Financing Limitations Imposed by Senior Notes. The Indenture pursuant to which the Senior Notes were issued permits the Company to incur both secured and unsecured debt in the future, subject to specific limitations. Such limitations include (i) a prohibition against incurring debt, of equal seniority with or junior to the Senior Notes, which has a maturity prior to that of the Senior Notes, and (ii) a prohibition from incurring further debt where the ratio of debt (excluding debt used to acquire mortgage loans, equipment leases or other assets, obligations to repurchase assets sold, guarantees of either of the foregoing and certain other obligations) to the Company's consolidated net worth would exceed 2.0 to 1.0. For a description of certain other limitations imposed by the Indenture, see "Business - Sources of Funds." Such limitations may restrict the ability of the Company to obtain financing in the future. 12 Ability to Generate Growth Opportunities. The success of the Company's finance operations will also depend on its continued ability to generate attractive opportunities for acquiring commercial mortgage loans at a discount and originating and reselling equipment leases and residential mortgage loans. In each area, the Company will rely primarily upon the knowledge, experience and industry contacts of its senior management to generate appropriate opportunities. See "Management." There can be no assurance that the Company will generate opportunities satisfactory to it sufficient to sustain growth or that, in its commercial mortgage loan acquisition and resolution activities, the Company will be able to acquire loans in the same manner, on similar terms or at similar levels of discount as its current portfolio loans. The availability of loans for acquisition on terms acceptable to the Company, and the ability of the Company to originate satisfactory equipment leases and residential mortgage loans, will depend upon a number of factors over which the Company has no control, including economic conditions, interest rates and the market for and value of properties securing loans which the Company may seek to acquire. The Company may also be affected by competition from other acquirors of troubled loans and by the willingness of financial institutions and other entities to dispose of troubled or under-performing loans in their portfolios. The Company's growth strategy with respect to both equipment leasing and residential mortgage lending involves expanding these businesses through increased penetration into existing markets and expansion into new markets while maintaining satisfactory premiums on sale, interest rate spreads and underwriting criteria. Implementation of this strategy will depend in large part on the Company's ability to (i) expand its network of manufacturers, distributors and other vendors to join with the Company in vendor programs for equipment leasing and, with respect to residential mortgage lending, establishing direct-sourced origination activities in markets with a sufficient concentration of borrowers meeting the Company's underwriting criteria, (ii) hire, train and retain skilled employees, and (iii) continue to expand in the face of increasing competition from other lessors and mortgage lenders. There can be no assurance that the Company will be able to implement these growth strategies, or that such strategies will be effective. Risks Related to Management of Growth. The Company has recently undergone a period of significant growth, and further expansion may significantly strain the Company's management, financial and other resources. There can be no assurance that the Company will manage its growth effectively or that the Company will be able to attract and retain the personnel necessary to meet its business objectives. If the Company is unable to manage its growth effectively, the Company's business, operating results and financial condition could be materially adversely affected. Interest Rate Risks. As an entity engaged in real estate finance and equipment leasing, the Company will be subject to risks relating to changes in interest rates. In general, in a period of rising interest rates, the resale value of loans or leases with fixed interests rates will decrease. Changing interest rate environments will also affect the Company's rate of return on its investments. In commercial mortgage loan acquisition and resolution, a rising interest rate environment will increase the Company's cost of funds, such as the interest rates payable 13 on new senior lien interests sold by the Company or new borrower refinancings, while not necessarily resulting in an increase in interest paid to or accrued by the Company, thus reducing the Company's return on its funds invested. Interest rate changes will also affect the Company's return on commercial mortgage loan originations. In particular, during a period of declining rates, the amounts becoming available to the Company for investment due to repayment of its commercial mortgage loans, sales of senior lien interests, borrower refinancing or (particularly with its residential mortgage loans) prepayments may be invested at lower rates than the Company had been able to obtain in prior investments, or than the rates on the repaid loans. In addition, in residential mortgage lending and equipment leasing, the return expected, and the rates charged, by the Company are based on interest rates prevailing in the market at the time of loan origination or lease approval. Until the Company's residential loans or leases are sold, they are funded from the Company's credit facilities or from working capital. Should the Company be unable to sell residential loans or leases with fixed rates within a reasonable period of time after funding, the Company's operating margins could be adversely affected by increases in interest rates. Further, increases in interest rates could cause a reduction in demand for the Company's residential mortgage and lease funding. Economic Slowdown May Adversely Affect Volume of Residential Mortgage Loans and Equipment Leases. Periods of economic slowdown may reduce the demand for residential mortgage loans as people elect not to purchase new homes due to economic uncertainty and also may adversely affect the financial condition of potential borrowers so that they do not meet the Company's underwriting criteria. In addition, economic slowdowns may cause a decline in real estate values. Any material decline in real estate values will reduce the ability of borrowers to use home equity to support borrowings by negatively affecting loan-to-value ratios of the home equity collateral. Similarly, small businesses may defer the leasing of new equipment or may suffer a decline in profitability which would inhibit their ability to obtain lease financing. To the extent that the loan-to-value ratios of prospective borrowers' home equity collateral (for residential mortgage loans) or the debt service ratios (for equipment leasing) do not meet the Company's underwriting criteria, the volume of loans and leases originated by the Company could decline which could have a material adverse effect on the Company's operations and financial condition. Credit Risks. Loans and equipment leases are subject to the risk of default in payment by borrowers and lessees. Defaults by borrowers and lessees could adversely affect the Company's financial position. Upon a default, the Company will attempt to recover outstanding loan or lease balances through foreclosure, repossession of equipment or similar procedures. With respect to any particular loan or equipment lease, instituting any of these procedures could adversely impact the Company's yield on such loan or lease. There can be no assurance that, in the event of default, the amount realizable from the property securing a defaulted loan or the equipment subject to a defaulted lease will be sufficient to recover amounts invested by or owed to the Company. See "Risk Factors - Real Estate Finance Considerations - Lien Priority" and "- Equipment Leasing Considerations - Residuals." 14 The commercial mortgage loans acquired in the Company's commercial mortgage loan acquisition and resolution operations typically do not provide for recourse against the borrowers and, accordingly, in seeking to collect amounts owed on a loan, the Company must rely solely on the value of the property underlying the loan to satisfy the obligation. This value will be affected by numerous factors beyond the Company's control, including general or local economic conditions, neighborhood real property values, interest rates, operating expenses (such as real estate taxes and insurance costs), occupancy rates and the presence of competitive properties. In addition, most of the Company's loans require a substantial lump sum payment at maturity. The ability of a borrower to pay a lump sum, and thus the ability of the Company to collect promptly all amounts due upon maturity, may be dependent on the borrower's ability to obtain suitable refinancing or otherwise raise a substantial amount of cash which, in turn, will depend upon factors (such as those referred to previously) over which the Company has no control. To the extent that the Company sells a senior lien position in a loan, or the loan is refinanced, the Company will typically retain a subordinated interest in the loan, which may be unsecured. See "Risk Factors - Real Estate Finance Considerations - Lien Priority." Such retained interests are relatively illiquid investments and are subject to materially increased risks of collection upon default. The Company focuses its marketing efforts in residential mortgage lending on borrowers who may be unable to obtain mortgage financing from conventional mortgage sources. Loans made to such borrowers may entail a higher risk of delinquency and higher losses than loans made to borrowers who qualify to utilize conventional mortgage sources. Delinquencies, foreclosures and losses generally increase during economic slowdowns or recessions. Further, any material decline in real estate values increases the loan-to-value ratios of loans previously made by the Company, thereby weakening collateral coverages and increasing the possibility of a loss in the event of a borrower default. Any sustained period of increased delinquencies, foreclosures or losses after the loans are sold could adversely affect the pricing of the Company's future residential loan sales and the ability of the Company to sell its residential loans in the future. The Company specializes in acquiring and originating equipment leases involving equipment with a purchase price of less than $100,000, generally involving small and mid-size commercial businesses located throughout the United States. Small business leases may entail a greater risk of non-performance and higher delinquencies and losses than leases entered into with larger lessees because small businesses generally have lesser financial resources with which to meet lease obligations and may be more susceptible to changes in economic conditions. Although the Company seeks to mitigate this risk through the use of its Small Business Credit Scoring System, its asset tracking systems and its loan servicing and collection procedures, there can be no assurance that the Company will not be subject to higher risks of default than firms leasing to larger entities. Moreover, because of the Company's short operating history in leasing, only limited performance data is available with respect to leases funded by the Company. Thus, historical delinquency and loss statistics are not necessarily indicative of future performance. The failure of the Company's lessees to comply with the terms of their leases will result in the inability of such leases to qualify to 15 serve as collateral under the Company's warehouse facilities or to be sold to investors, which may materially adversely affect the Company's liquidity. Additionally, delinquencies and defaults experienced in excess of levels estimated by management in determining the Company's allowance for credit losses could have a material adverse effect on the Company's ability to obtain financing and effect lease sales or other transactions which may, in turn, have a material adverse effect on the Company's financial condition and result of operations. Dependence on Lease and Residential Loan Sales. Gains on sales of residential loans and equipment leases generated by the Company represent a material and growing source of the Company's revenues and net income, aggregating $3.2 million or 21% of the Company's revenues for the three months ended December 31, 1997. The gain on sale of leases sold represented approximately 56% of revenues from leasing operations for the quarter ended December 31, 1997 and approximately 52% of the Company's revenues from leasing operations in fiscal 1997. The gain on sale of residential mortgage loans represented 84% of the Company's revenues from residential mortgage loan operations for the quarter ended December 31, 1997 (the quarter in which such operations commenced). Furthermore, the Company will rely in significant part on proceeds from residential loan and equipment lease sales to generate cash for further investments and for repayment of borrowings used by the Company to originate residential loans and equipment leases. The Company sells virtually all of its residential loan and equipment leases in the secondary market to a limited number of institutional purchasers. Several factors affect the Company's ability to complete such lease and residential mortgage sales, including the credit quality of the Company's lease and mortgage originations, compliance of the Company's originations with eligibility requirements established by buyers, and, to the extent that such buyers engage in securitization transactions or other structured finance techniques in order to fund their purchases, conditions in the asset-backed securities markets. There can be no assurance that such purchasers will continue to purchase loans or equipment leases or that the purchase terms will be similar to those obtained by the Company to date. To the extent that the Company cannot successfully replace such purchasers or negotiate favorable terms for such purchases, the Company's results of operations and financial condition could be materially adversely affected. See "Risk Factors - Real Estate Finance Considerations - Note Received in Sale of Certain Residential Loans" and "- Equipment Leasing Considerations - Sale of Equipment Leases." For a discussion of the Company's revenue recognition and accounting policies pertaining to its equipment leasing operations, see "Business - Equipment Leasing - Revenue Recognition and Lease Accounting." Risks Related to Representations and Warranties in Residential Loan and Equipment Lease Sales. The Company engages in bulk residential loan and equipment lease sales pursuant to agreements that typically require the Company to repurchase or substitute loans or equipment leases in the event of a breach of a representation or warranty made to the purchaser, any misrepresentation during the mortgage loan origination process or, in some cases, upon any fraud or first payment default on an equipment lease or mortgage loan. Any claims asserted against the Company in the future by one of its lease or loan purchasers may 16 result in liabilities or legal expenses that could have a material adverse effect on the Company's results of operations and financial condition. Fluctuations in Periodic Results. The Company may experience significant fluctuations in quarterly or other periodic operating results due to a number of factors, including variations in the volume of commercial mortgage loans purchased and in the volume of residential mortgage loans and equipment leases originated by the Company, fees obtained in connection with the Company's commercial loan activities, timing of sales of senior lien interests or borrower refinancings of commercial loans, loan prepayments, differences between the Company's cost of funds and average yield on its residential mortgage loans and leases prior to sale, default rates on loans or leases originated by the Company, variations in prices obtainable, or demand for, natural gas and oil, the degree to which the Company encounters competition in its markets and general economic conditions. In addition, both the residential ending and equipment leasing businesses are relatively young and still evolving and, accordingly, involve greater uncertainties and risk of loss. As a result, results for any one quarter or period should not be relied upon as being indicative of performance in future quarters or periods. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." Competition. In each of its business operations, the Company is subject to intense competition from numerous competitors, many of whom possess far greater financial, marketing, operational and other resources than the Company and who may have lower costs of funds than the Company. In this regard, the Company will also have to compete for the capital necessary to fund both its real estate finance and equipment leasing operations based largely upon the performance of its portfolio loans and equipment leases. Although the commercial mortgage loan acquisition and resolution business is generally competitive in virtually all of its aspects, the Company's focus on the acquisition of troubled commercial real estate 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 the Company's competitors possess greater financial and other resources than the Company. As a result, there can be no assurance that the Company will be able to effect acquisitions of discounted loans in the same manner and on the same terms as in the past or that there will not be significant variations in the profitability of the Company's commercial mortgage loan acquisition and resolution business. As an originator of residential mortgage loans and equipment leases, the Company faces intense competition, primarily from mortgage banking companies, commercial banks, credit unions, thrift institutions and finance companies and from equipment manufacturers that finance the sale or lease of their products themselves. Furthermore, the current level of gains realized by the Company and its competitors on the sale of non-conforming residential 17 mortgage loans is attracting and may continue to attract additional competitors into the non-conforming mortgage loan market. In the future, the Company may also face competition from, among others, governmental-sponsored entities who may enter the non-conforming mortgage market. Increased competition in the residential mortgage loan and equipment leasing markets could have the possible effects of (i) lowering gains that may be realized on the Company's residential mortgage loan and equipment lease sales, (ii) reducing the volume of the Company's loan and equipment lease originations and sales, (iii) increasing the demand for the Company's experienced personnel and the potential that such personnel will be recruited by the Company's competitors, and (iv) lowering the industry standard for underwriting guidelines (for example, by providing for less stringent debt service coverage or loan-to-value ratios) as competitors attempt to increase or maintain market share in the face of increased competition. See "Risk Factors - Risk of Economic Slowdown May Adversely Affect Volume of Residential Mortgage Loans and Equipment Leases" and "- Credit Risks." As the Company expands into new geographic or industry markets, it may face competition from residential mortgage lenders or equipment lessors with established positions in these markets. There can be no assurance that the Company will be able to successfully compete with such established lenders or lessors. Further, there can be no assurance that the Company will be able to continue to compete successfully in the markets it serves. Inability to compete successfully would have a material adverse effect on the Company's results of operations and financial condition. Changing Nature of Risks. The nature of the risks associated with the Company's operations have changed and are likely to continue to change over time due to a corporate strategy which emphasizes the entry into and exit from business lines based on market, economic or competitive conditions. As a result, there can be no assurance that the risks associated with an investment in the Company described in this Prospectus will not materially change in the future or that there will not be additional risks associated with the Company's future operations not described herein. Real Estate Finance Considerations Troubled Status of Acquired Commercial Loans and Underlying Properties. The Company seeks to acquire commercial real estate mortgage loans at a discount from both the unpaid principal and interest amounts of the loans and the appraised value of the underlying properties. As a consequence, the Company will frequently be involved with loans that are secured by properties that, while income producing, are unable to generate sufficient revenues to pay the full amount of debt service under the original loan terms and that are frequently the subject of contentious and often complex disputes among various parties regarding application of cash flow from the underlying properties, loan terms, lease terms or similar matters. Although prior to acquisition of a loan the Company will generally negotiate with the borrower or other parties in interest and, where appropriate, make financial accommodations 18 to take into account the operating conditions of an underlying property, resolve outstanding disputes and ensure the Company's control of the cash flow from the underlying property, there can be no assurance that the problems which existed prior to the Company's acquisition of the loan will not recur or that other problems may not arise. As a result, these loans may be subject to a higher risk of default and consequent loss to the Company than conventional loans. See "Risk Factors - General - Credit Risks." Lien Priority. Although in its commercial mortgage loan acquisition and resolution operations the Company normally acquires first mortgage loans, it is not limited as to the lien priority of a loan which it may acquire. Ten of the Company's mortgage loans were acquired as junior lien obligations. Moreover, a lender refinancing a loan in the Company's portfolio will typically require, as a condition to its refinancing (the proceeds of which generally are paid to the Company), that the Company's remaining interest in the loan be subordinated to such lender's interest or that the Company release its mortgage lien. The Company currently holds 30 junior lien loans or subordinated senior lien interests, seven of which (at an aggregate book value of $7.7 million, constituting approximately 6.6%, of the book value of the Company's loan portfolio) are not formally secured by recorded mortgages (although they are protected by judgment liens, unrecorded deeds in lieu of foreclosure, borrowers' covenants not to further encumber the property without the Company's consent, and/or similar devices). In addition, in certain circumstances, mortgage loans, including first mortgage loans, may be subject to mechanics', materialmens' or government liens which may be prior in right of payment to liens held by the Company. Subordinate or junior lien loans carry a greater credit risk, including a substantially greater risk of non-payment of interest or principal, than senior lien financing. Where, as part of a financing structure, the Company has an unsecured position, the risk of loss may be materially increased. A decline in the real estate market where the property underlying the loan is located could adversely affect the value of the property such that the aggregate outstanding balances of senior liens and the Company's loan may exceed the value of the underlying property. In the event of a default on a senior mortgage, the Company may make payments, if it has the right to do so, in order to prevent foreclosure on the senior mortgage, thereby increasing its investment cost without necessarily improving its lien position. In the event of a foreclosure, the Company will only be entitled to share in the net proceeds after the payment of all senior lienors, including senior mortgagees, and holders of mechanics', materialmens' and government liens. It is therefore possible that the total amount which may be recovered by the Company upon a foreclosure may be less than the outstanding balance of the loan or the Company's investment in the loan, with a resultant loss to the Company. It is also possible that, in some cases, a "due on sale" clause included in a senior mortgage, which accelerates the amount due under the senior mortgage in case of the sale of the property, may apply to the sale of the property upon foreclosure of a junior loan, and may accordingly increase the risks to the Company in the event of a default by the borrower on the junior loan. Disposition of Acquired Commercial Mortgage Loan Interests. In its commercial mortgage loan acquisition and resolution operations, after the Company has acquired a loan, 19 the Company will typically sell a senior lien position in the loan, or assist the borrower in obtaining third-party refinancing, while retaining a junior lien position in the loan. Although the sale of a senior lien position or a refinancing often results in the return of an amount representing a major portion of (or sometimes exceeding) the amount of Company's investment in the loan, in most such sales or refinancings a reduced portion of the Company's investment in the loan remains unrecovered. Based upon its analysis of the properties underlying the loans, the Company believes that it will recover amounts substantially in excess of the Company's remaining invested capital; however, there can be no assurance that, upon termination of the loan, the borrower will be able to repay the loan or that, if the borrower is not able to do so, the Company will be able to dispose of its remaining loan interest for an amount equal to or in excess of its remaining investment or that the property underlying the loan can be disposed of for an amount equal to or in excess of the interests of senior lienors and the Company's remaining investment. Potential Replacement, Repurchase or Repayment of Senior Lien Positions. Senior lien positions aggregating $12.0 million at December 31, 1997 in seven of the commercial mortgage loans in the Company's portfolio have been sold to an institutional investor. See "Business - Commercial Loan Acquisition and Resolution: Loan Status." Pursuant to the terms of these sales, if the borrower under any such loan defaults in the payment of debt service, the Company is required to replace the defaulted obligation with a performing one. Since the Company has sold (or intends to sell) senior positions in, or refinanced, most of its current portfolio of loans, if the Company were required to replace a defaulted loan with a performing loan, it may not be able to do so without acquiring additional commercial mortgage loans. If the Company could not fulfill its obligation, the institutional investor would have various legal remedies, including foreclosure on and sale of the underlying property (see "Risk Factors - General - Credit Risks") or requiring the Company to repay its interest. There can be no assurance that borrowers on one or more of such loans will not default or that, in such event, the Company would be able to acquire additional commercial real estate mortgage loans to substitute for the defaulted obligations or, if a replacement loan is not so acquired and substituted, that the investor would not seek repayment from the Company. Moreover, generally, interest only is paid on each senior lien obligation until maturity, at which time the entire principal amount of the senior lien obligation becomes due. Maturity dates of the senior lien obligations range from December 1999 to June 2001. If the borrower is unable to pay or refinance any senior lien obligation when it becomes due, the institutional investor may foreclose on the underlying property, or require the Company to repay its interest. The Company is also required to repurchase from other institutional investors two senior loans in the event that the senior loans are not repaid, in accordance with their terms, by June 27, and September 29, 2002 for a repurchase price equal to the unpaid principal balance of the respective loans plus accrued interest at the time of repurchase by the Company ($1.6 million and $7.3 million, respectively, at maturity, assuming all debt service payments have been made). There can be no assurance that borrowers on one or more of such loans will not default and the Company required to repurchase the loan, or that the 20 borrowers will be able to repay or refinance the senior lien interests when they become due. See "Business - Real Estate Finance - Loan Status." Lack of Geographic Diversification Exposes the Company's Investments to Higher Risk of Loss Due to Regional Economic Factors. The Company does not expect to set specific limitations on the aggregate percentage of its portfolio relating to properties located in any one area (whether by state, zip code or other geographic measure). Any lack of geographic diversification that may occur could result in the Company's investment portfolio being more sensitive to, and the Company being less able to respond to, adverse economic developments of a primarily regional nature, which may result in reduced rates of return, or higher rates of default, on the Company's mortgage loans than might be incurred with a more geographically diverse investment portfolio. At December 31, 1997, 19 of the 43 loans in the Company's commercial mortgage loan portfolio, aggregating $45.9 million (39%) of the book value of the Company's commercial loan portfolio) relate to properties located in the Philadelphia, Pennsylvania metropolitan area. Commercial Mortgage Loan Loss Reserves. The Company records its investment in its commercial mortgage loan portfolio at cost, which is significantly discounted from the face value of, and accrued interest and penalties on, the loans. The cost basis in the loans is reviewed periodically to determine whether it is greater than the sum of the projected cash flows and appraised values of the underlying properties. If the cost basis is found to be greater, the Company provides an appropriate allowance through a charge to operations. The Company did not establish any reserves with respect to its portfolio loans for fiscal years 1994, 1995 and 1996. At December 31, 1997, the Company's allowance for possible losses was $452,000 (0.4% of the book value of its commercial mortgage loan portfolio at that date), of which $52,000 was recorded in the quarter ended December 31, 1997. There can be no assurance that future provisions for loan losses will not be materially greater than the provision recorded at December 31, 1997 which could have a material adverse effect on the Company's results of operations. Compliance of Residential Mortgage Loan Operations with Applicable Law. The Company's residential mortgage loan origination business is subject to federal and state laws relating to truth in lending, equal credit opportunity, settlement procedures, mortgage disclosure, debt collection practices and similar matters. Failure to comply with these federal or state laws can lead to loss of approved status, demands for indemnification or mortgage loan repurchases, certain rights of rescission for borrowers, class action lawsuits and administrative enforcement actions. Although the Company believes that it has systems and procedures to facilitate compliance with these requirements and believes that it is in compliance in all material respects with applicable local, state and federal laws, rules and regulations, in the future more restrictive laws, rules and regulations or the judicial interpretation of existing laws, rules and regulations could make compliance more difficult or expensive. 21 Residential Mortgage Lending Is a New Business Line. The Company's residential mortgage loan business commenced lending operations in the first quarter of fiscal 1998. As a result, the Company has had only a limited amount of experience upon which an evaluation of its prospects in the business can be based. Such prospects must be assessed in light of the risks, expenses and difficulties frequently encountered in the establishment of a new business which may materially adversely affect the Company's ability to develop the business, and the Company's investment in it. Note Received in Sale of Certain Residential Loans. Although the Company's policy is to sell residential mortgage loans for cash, with servicing-released, in the first quarter of fiscal 1998 the Company sold with servicing-retained a pool of residential mortgage loans acquired and originated by it to an unrelated special purpose financing entity for a note with a face value of $8.3 million (and a book value of $8.1 million). The Company recognized a gain of $1.2 million on the sale. The note was partially prepaid, in the amount of $6.2 million, in the second quarter of fiscal 1998 through third-party financing arranged by the special purpose financing entity. The third party financing was unconditionally guaranteed by the Company. The balance of the note ($2.1 million) is due on or before December 31, 2027. The special purpose financing entity has no material assets other than the loan pool sold to it. In addition, the Company has subcontracted the servicing of the pool to Jefferson Bank. See "Management - Certain Relationships and Related Party Transactions - Relationship with Jefferson Bank." Loans included in this pool are either secured by property located in Louisiana or have loan to value ratios in excess of 100%. Although the Company believes Jefferson Bank has the expertise to service these loans, Jefferson Bank does not typically service residential loans with loan to value ratios in excess of 100%. Accordingly, to the extent that defaults under the loans in the pool are greater than anticipated by the Company, or if loan prepayments are substantially in excess of those anticipated by the Company, the Company may not receive full payment on the remaining balance of the note or, with respect to defaulted loans, may possibly be required to reacquire these loans. This would result in a charge to the Company's earnings in the amount of any unrecovered remaining balance of the note which could materially adversely affect the Company's results of operations. Moreover, if the number of defaults is sufficiently large, the Company may be required to repay some portion or all of the third party financing pursuant to its guaranty. Any such repayment could have a material adverse effect on the Company's results of operations and financial condition. See "Risk Factors - General - Credit Risks." Elimination of Deductibility of Mortgage Interest Could Adversely Affect Results of Operations. Members of Congress and government officials have from time to time suggested the elimination of the mortgage interest deduction for federal income tax purposes, either entirely or in part, based on borrower income, type of loan or principal amount. Because many of the Company's residential mortgage loans may be sought by borrowers for the purpose of consolidating consumer debt or financing other consumer needs, the competitive advantages of tax deductible interest, when compared with alternative sources of financing, could be eliminated or seriously impaired by such government action. Accordingly, the 22 reduction or elimination of these tax benefits could have a material adverse effect on the demand for the kind of residential loans offered by the Company. Environmental Liabilities. In the event of a default on a portfolio loan, the Company may acquire the underlying property through foreclosure. There is a risk that hazardous substances, wastes, contaminants or pollutants would be discovered on the foreclosed property after acquisition by the Company. In such event, the Company might be required to remove such substances at its sole cost and expense. There can be no assurance that the cost of such removal would not substantially exceed the value of the affected property or the loan secured by the property, that the Company would have adequate remedies against the prior owner or other responsible parties or that the Company would not find it difficult or impossible to sell the affected property either prior to or following any such removal. Equipment Leasing Considerations Limited Equipment Leasing Operating History. The Company acquired its equipment leasing operations in September 1995 and, in 1996, the Company expanded these leasing operations to include small ticket equipment leasing for its own account. Although the leasing business acquired by the Company has been in operation since 1986, and the executives primarily responsible for developing the Company's proprietary leasing program have had lengthy experience in the equipment leasing industry, the Company has only a limited amount of direct experience upon which an evaluation of its prospects in the equipment leasing business can be based. Such prospects must be considered in light of the expenses and difficulties frequently encountered by an acquiror in integrating a newly-acquired business with its other operations, and in expanding the scope of the newly-acquired business. Demand for Company's Equipment Leasing Services. The demand for the equipment leasing services provided by the Company is subject to numerous factors beyond the control of the Company, including general economic conditions, fluctuations in interest rate levels and fluctuations in demand for the types of equipment as to which the Company provides equipment leases. In addition, the demand for the Company's equipment lease services will be materially affected by the ability of the Company to market its services to manufacturers, regional distributors and other vendors. Dependence on Vendors. The Company currently relies upon relationships it has established with certain manufacturers and regional distributors in order to gain access to end-users who will enter into equipment leases. To date, the Company has established vendor programs with nine manufacturers or distributors and is an authorized lessor for the dealer distribution channels of two other manufacturers. Two manufacturers, Minolta Corporation and Lucent Technologies, accounted for 21% and 8%, respectively (by cost) of the equipment leased by the Company since inception of leasing operations through December 31, 1997 (and 18% and 8%, respectively, of equipment leased by the Company during the quarter ended December 31, 1997). See "Business - Equipment Leasing - Focus on Vendor Programs." In 23 the event that these vendors significantly reduce the number of leases placed with the Company, and the Company cannot replace the lost lease volume, such reduction could have a material adverse effect on the Company's financial condition and results of operations. Financing for Equipment Leasing Operations. The Company anticipates that it may be required to provide credit enhancement for debt obligations incurred under any warehouse or permanent financing utilized in its equipment leasing operations. See "Risk Factors - General - Ability to Generate Funding for Growth." These credit enhancements may include cash deposits, funding of subordinated tranches of securitizations, the pledge of additional equipment leases which are funded by the Company's capital, and/or (as is the case with the Company's existing credit facility) a guaranty by the Company and restrictive covenants concerning maintenance by the Company of minimum capital levels or debt to equity ratios. Any such requirements may reduce the Company's liquidity and require it to obtain additional capital. The Indenture pursuant to which the Senior Notes were issued contains certain restrictions which may limit the Company's ability to provide credit enhancement. See "Risk Factors - General - Ability to Generate Funding for Growth." The Company anticipates that warehouse financing (as is the case with the Company's existing credit facility) will bear interest at variable rates while its permanent funding will typically be at fixed rates set at the time the financing is provided. Accordingly, the Company will be subject to interest rate risk to the extent interest rates increase between the time a lease is funded by warehouse facilities and the time of permanent funding. Increases in interest rates during this period could narrow or eliminate the spread between the effective interest rates on the Company's equipment leases and the rates on the Company's funding, or result in a negative spread. Sale of Equipment Leases. The Company has sold its entire interest in originated equipment leases and the related equipment to unaffiliated special purpose financing entities (each, an "Intermediate Purchaser") for cash and promissory notes. See "Business - Equipment Leasing - Revenue Recognition and Lease Accounting." At December 31, 1997, the Company held $9.0 million of such notes and had recognized gains on lease sales related to such notes of $5.5 million. The Intermediate Purchaser resells the leases to a financial institution which provides the cash portion of the purchase price payable to the Company. The Company typically will provide credit enhancement in connection with a refinancing or resale, generally in the form of a guarantee of the refinancing and/or a commitment to replace defaulted leases in excess of permitted limits. The Intermediate Purchasers have no material assets other than the leases and equipment purchased from the Company. If lease defaults are greater than anticipated by the Company, the ability of an Intermediate Purchaser to repay its notes to the Company may be adversely affected. The ability of the Intermediate Purchaser to repay the notes could also be adversely effected if the realization of residuals is less than anticipated by the Company. See "Risk Factors - Equipment Leasing Considerations - Residuals." Accordingly, lease defaults that are greater than anticipated and residual earnings that are less than anticipated could result in a charge to the Company's earnings in the amount of the notes not recoverable by the Company. Moreover, if the number of lease defaults is 24 sufficiently large, the Company may be required, under the terms of any credit enhancement provided by it, to repay some portion or all of the financing arranged by the Intermediate Purchaser or to replace defaulted leases with performing leases. See "Risk Factors - Equipment Leasing Considerations - Potential Replacement of Leases." Any such repayment or replacement could have a material adverse effect on the Company's results of operations and financial condition. While the existing forward lease sale commitment among the Company, an Intermediate Purchaser and certain institutional purchasers (see "Business - - Sources of Funds - Forward Sale Commitment") does not require the Company to provide credit enhancement, if lease defaults are greater than anticipated, not only will the ability of the Intermediate Purchaser to repay its note be adversely affected, the institutional purchasers may terminate the commitment. To preserve the ability of the Intermediate Purchaser to pay its note, and/or to prevent termination of the commitment, the Company may determine to replace defaulted leases. Any such replacement could result in a charge to the Company's earnings. Residuals. "Residuals" are proceeds received upon the sale or re-leasing of equipment upon lease termination or from the extension of lease terms beyond their original expiration dates. To the date of this Prospectus, as part of its equipment lease sales the Company has sold its entire interest in the leased equipment, including residuals, to Intermediate Purchasers in exchange for cash and promissory notes. The promissory notes will typically include all of the Company's gain on the sale and a portion of its capital investment. Payment of the notes will, to a material extent, depend upon residuals realized. The Company may be required to establish an allowance for possible losses against the notes if residuals are less than anticipated at the time of sale. If the Company is required to establish an allowance, it would result in a charge to earnings; any such charge could materially adversely affect the Company's results of operations. See "Business - Equipment Leasing - Revenue Recognition and Lease Accounting." In the future, the Company anticipates that it may retain residuals for its own account in which case the gain on sale of leases would be materially reduced as the recognition of revenues, if any, from residuals would be recorded subsequently upon lease termination. Realization of residuals are subject to a number of factors including the ability or willingness of a lessee to continue to lease or to acquire the equipment, unusual wear and tear on or use of the equipment, equipment obsolescence, excessive supply of similar equipment, reductions in manufacturers' prices for similar equipment and similar matters which could materially adversely affect the amount of residuals obtainable. To the extent that the Company retains residuals, a decline in their value could adversely affect the Company's operating results and financial condition. Potential Replacement of Leases. Under the terms of certain of its lease sales, the Company may be required to replace a lease if the lessee defaults in its obligations under the lease. If the Company were required to replace a lease, the pool of leases otherwise available for sale by the Company would be reduced. In addition, the Company would have to repossess the leased equipment in order to attempt to recover the lease balance. There can be no assurance that the amount realizable from equipment subject to a defaulted lease will be 25 sufficient to recover amounts invested by the Company. See "Risk Factors - General - Credit Risks." Energy Industry Considerations Volatility of Oil and Gas Prices. Historically, the markets for natural gas and oil have been volatile and are likely to continue to be volatile in the future. Prices for natural gas and oil are subject to wide fluctuation in response to relatively minor changes in the supply of and demand for natural gas and oil, market uncertainty and other factors over which the Company has no control. These factors include the extent of domestic production and importation of foreign natural gas and/or oil, political instability in oil and gas producing countries and regions, the ability of members of the Organization of Petroleum Exporting Countries to agree upon price and production levels for oil, the effect of federal regulation on the sale of natural gas and/or oil in interstate commerce, and other governmental regulation of the production and transportation of natural gas and/or oil. Certain other factors outside the Company's control, such as operational and transportation difficulties of pipeline or oil purchasing companies, may also limit sales. In addition, the price level of natural gas obtainable by the Company depends upon the needs of the purchasers to which the producer has access. Depending on the purchasers' needs, the price obtainable for natural gas produced by the Company, or the amount of natural gas which the Company is able to sell, the revenues of the Company from its energy operations may be materially adversely affected. Possible Decline in Production. Production of oil and gas from a particular well generally declines over time until it is no longer economical to produce from the well, at which time the well is plugged and abandoned. The Company's wells have been drilled at various times from 1966 to the present. The Company's wells generally have productive lives of 15 to 20 years and have been subject to normal production declines. To date, these declines have been offset largely by the acquisition of additional wells and, to a materially lesser extent, drilling of wells. The Company cannot predict whether the Company will acquire further energy assets or drill further wells, or as to the timing or cost thereof. Operating Hazards and Uninsured Risks. The oil and natural gas business involves certain operating hazards such as well blowouts, craterings, explosions, uncontrollable flows of oil, natural gas or well fluids, fires, formations with abnormal pressures, pipeline ruptures or spills, pollution, releases of toxic gas and other environmental hazards and risks, any of which could result in substantial losses to the Company. In addition, the Company may be liable for environmental damage caused by previous owners of property purchased or leased by the Company. As a result, substantial liabilities to third parties or governmental entities may be incurred, the payment of which could materially adversely affect the Company's results of operations or financial condition. In accordance with customary industry practices, the Company maintains insurance against some, but not all, of such risks and losses. The Company may elect to self-insure if it believes that the cost of insurance, although available, is excessive relative to the risks presented. The occurrence of an event that is not covered, or not fully covered, by insurance could have a material adverse effect on the Company's 26 business, financial condition and results of operations. In addition, pollution and environmental risks generally are not fully insurable. Carrying Value of Energy Properties May Be Subject to Reduction. The Company annually reviews the carrying value of its oil and natural gas properties under the full cost accounting rules of the Commission. Under these rules, capitalized costs of proved oil and natural gas properties may not exceed the present value of estimated future net revenues from proved reserves, discounted at 10%. Application of the "ceiling" test generally requires pricing future revenue at the unescalated prices in effect as of the end of each fiscal year and requires a write-down for accounting purposes if the ceiling is exceeded, even if prices were depressed for only a short period of time. The Company may be required to write-down the carrying value of its oil and natural gas properties when oil and natural gas prices are depressed or unusually volatile. If a write-down is required, it could result in a material charge to earnings, but would not impact cash flow from operating activities. Once incurred, a write-down of oil and natural gas properties is not reversible at a later date. Uncertainty of Estimates of Oil and Natural Gas Reserves. The estimates of the Company's proved oil and natural gas reserves and the estimated future net revenues therefrom referred to immediately above are based upon reserve reports that rely upon various assumptions, including assumptions required by the Commission as to oil and natural gas prices, drilling and operating expenses, capital expenditures, taxes and availability of funds. The process of estimating oil and natural gas reserves is complex, requiring significant decisions and assumptions in the evaluation of available geological, geophysical, engineering and economic data for each reservoir. As a result, such estimates are inherently imprecise. Actual future production, oil and natural gas prices, revenues, taxes, development expenditures, operating expenses and quantities of recoverable oil and natural gas reserves may vary substantially from those estimated by the Company or contained in the reserve reports. Any significant variance in these assumptions could materially affect the estimated quantity of the Company's reserves. The Company's properties also may be susceptible to hydrocarbon drainage from production by other operators on adjacent properties. In addition, the Company's proved reserves may be subject to downward or upward revision based upon production history, results of future exploration and development, prevailing oil and natural gas prices, mechanical difficulties, governmental regulation and other factors, many of which are beyond the Company's control. Governmental Regulation and Environmental Matters. Oil and gas operations are subject to various federal, state and local government regulations that may be changed from time to time in response to economic or political conditions. Matters subject to regulation include discharge permits for drilling operations, drilling bonds, reports concerning operations, the spacing of wells, unitization and pooling of properties and taxation. From time to time, regulatory agencies have imposed price controls and limitations on production by restricting the rate of flow of oil and gas wells below actual production capacity in order to conserve supplies of oil and gas. In addition, the development, production, handling, storage, transportation and disposal of oil and gas, by-products thereof and other substances and 27 material produced or used in connection with oil and gas operations are subject to complex regulation under federal, state and local laws and regulations primarily relating to protection of human health and the environment. The Company is also subject to changing and extensive tax laws, the effects of which cannot be predicted. The Company believes that it is in compliance with applicable regulations, although there can be no assurance that this is or will remain the case. The implementation of new, or the modification of existing, laws or regulations could have a material adverse effect on the Company. No assurance can be given that existing environmental laws or regulations, as currently interpreted or reinterpreted in the future, or future laws or regulations will not materially adversely affect the Company's financial condition and results of operations. Restrictions on Payment of Dividends Under the terms of the Senior Notes, the Company may not pay dividends or make other distributions on the Common Stock in excess of 25% of aggregated consolidated net income (offset by 100% of any deficit) on a cumulative basis. See "Business - Sources of Funds - Senior Notes." Accordingly, the Company's ability in the future to pay (or increase the amount of) cash dividends on its Common Stock may be restricted, depending upon the amount of its future income. Importance of Key Employees The Company's future success will depend upon the continued services of the Company's senior management and, with respect to its leasing operations, the Chairman and Chief Executive Officer of its leasing subsidiary. The unexpected loss of the services of any of these management personnel could have a material adverse effect upon the Company. See "Management." The Company does not maintain key man life insurance on, nor (except for employment agreements with Edward E. Cohen, the Chairman, Chief Executive Officer and President of the Company, Abraham Bernstein, the Chairman and Chief Executive Officer of its small ticket leasing subsidiary, and Daniel G. Cohen, the Chairman and Chief Executive Officer of the Company's residential mortgage lending business and an Executive Vice President of the Company) does it have employment agreements with, any of its senior management. Shares Eligible for Future Sale Upon consummation of this Offering, the Company will have 6,248,537 shares of Common Stock outstanding (assuming the Underwriters do not exercise their over-allotment option). Following this Offering, sales of substantial amounts of the Common Stock in the public market pursuant to Rule 144 or otherwise, or the availability of such shares for sale, could adversely affect the prevailing market prices for the Common Stock and impair the Company's ability to raise additional capital through the sale of equity securities should it desire to do so. See "Shares Eligible for Future Sale." 28 Forward Looking Statements This Prospectus, and the information incorporated by reference herein, may include certain statements and estimates provided by the Company with respect to the Company's anticipated operations. Such statements and estimates reflect various assumptions made by the Company about circumstances and events, many of which have not yet taken place, as well as reflecting a substantial degree of judgment by management as to the scope and presentation of such information. There can be no assurance that any of such statements or estimates of anticipated operations will prove to be correct, and no representations and warranties are made as to the accuracy of such statements or estimates. Actual results may vary and such variations may be material. PRICE RANGE OF COMMON STOCK AND DIVIDEND POLICY The following table sets forth the high and low sale prices of the Common Stock, as reported by Nasdaq, on a quarterly basis for the Company's last two full fiscal years and for fiscal 1998 through March 3, 1998: High Low ---- --- Fiscal 1998 ----------- Second Quarter (through March 3, 1998)........ $49.50 $43.50 First Quarter ................................ 56.50 42.75 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 March 3, 1998, there were 4,748,537 shares of Common Stock outstanding held by 784 holders of record. 29 The Company has paid regular quarterly cash dividends on its Common Stock of $.10 per share commencing with the third quarter of fiscal 1996. The Company paid dividends of $.094 and $.089 per share during the second and first fiscal quarters of 1996, respectively. 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. The Company anticipates effecting a three-for-one stock split in the form of a 200% stock dividend in fiscal 1998, subject to the approval of its stockholders to an increase in authorized Common Stock necessary to effect the dividend. See "Description of Capital Stock - General." Under the terms of the Senior Notes, the payment of cash dividends on the Common Stock is restricted unless certain financial tests are met. See " Business - Sources of Funds - Senior Notes." 30 CAPITALIZATION The following table sets forth the consolidated capitalization of the Company as of December 31, 1997, and as adjusted as of that date to give effect to the sale of 1,500,000 shares of Common Stock by the Company in this Offering at an assumed price of $47.00 per share (the closing price of the Common Stock on Nasdaq on March 3, 1998) and after deducting underwriters' discounts and estimated offering expenses. The following data should be read in conjunction with the consolidated financial statements and notes thereto of the Company which are included elsewhere herein. See also "Selected Consolidated Financial Data" and "Management's Discussion and Analysis of Financial Condition and Results of Operations."
As of December 31, 1997 ---------------------------- Actual As Adjusted ------ ----------- (in thousands) Current portion of long-term debt $ 5,100 $ 5,100 Long-term debt: Other debt........................................... 3,116 3,116 Senior Notes......................................... 115,000 115,000 -------- -------- Total long-term debt............................... $123,216 $123,216 ======== ======== Stockholders' equity Preferred Stock, $1.00 par value, 1,000,000 shares authorized, none issued.................. $ - $ - Common Stock, $.01 par value, 8,000,000 shares authorized, 4,742,919 shares issued; 6,242,919 shares issued, as adjusted(1) 55 70 Additional paid-in capital........................... 59,343 125,150 Retained earnings.................................... 25,486 25,486 Less treasury stock, at cost(1)...................... (14,074) (14,074) Less loan receivable from Employee Stock Ownership Plan.................................... (353) (353) --------- -------- Total stockholders' equity........................... 70,457 136,279 --------- -------- Total capitalization...................................... $193,673 $259,495 ======== ========
- --------- (1) The number of issued shares of Common Stock excludes 717,682 shares held by the Company as treasury stock and excludes 5,618 shares issued pursuant to exercise of options subsequent to December 31, 1997. 31 SELECTED CONSOLIDATED FINANCIAL DATA The financial data set forth below should be read in conjunction with, and is qualified in its entirety by, the Consolidated Financial Statements of the Company, including the notes thereto, and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere herein.
As of and for the Quarter Ended As of and for the December 31, Year Ended September 30, ----------------------- -------------------------------------------------------------- 1997 1996 1997 1996 1995 1994 1993 --------- --------- --------- --------- --------- --------- --------- (in thousands, except ratios and per share data) Statement of Operations Data: Revenues: Real estate finance - Interest(1) .......................... $ 4,668 $ 1,427 $ 9,001 $ 2,853 $ 3,422 $ 1,401 $ 606 Fees ................................. 1,775 1,407 2,556 675 963 25 -- Gains on refinancings and sales of senior lien interests ...... 2,949 385 7,587 3,643 1,729 1,096 -- --------- --------- --------- --------- --------- --------- --------- Total ............................. 9,392 3,219 19,144 7,171 6,114 2,522 606 Equipment leasing ..................... 3,172 1,202 7,162 4,466 -- -- -- Energy production ..................... 1,232 950 3,936 3,421 3,452 3,442 3,409 Energy services ....................... 583 389 1,672 1,736 1,879 2,080 2,445 Interest .............................. 698 84 930 197 149 136 106 --------- --------- --------- --------- --------- --------- --------- Total revenues .................... 15,077 5,844 32,844 16,991 11,594 8,180 6,566 Costs and expenses: Real estate finance ................... 1,523 163 1,069 852 801 248 114 Equipment leasing ..................... 1,325 883 3,822 2,339 -- -- -- Energy exploration and production ..... 574 412 1,823 1,582 1,733 2,004 1,735 Energy services ....................... 309 224 909 869 1,026 1,131 1,106 General and administrative ............ 927 592 2,851 1,756 2,265 1,901 1,841 Provision for possible losses ......... 318 10 653 7 -- -- -- Interest .............................. 3,870 409 5,273 872 1,091 310 41 Other ................................. (3) (88) (101) (7) (1) 30 (383) --------- --------- --------- --------- --------- --------- --------- Total costs and expenses .......... 8,843 2,605 16,299 8,270 6,915 5,624 4,454 Income before income taxes, depreciation, depletion and amortization .......................... 6,234 3,239 16,545 8,721 4,679 2,556 2,112 Depreciation, depletion and amortization 508 379 1,614 1,368 1,335 1,347 1,478 Income before income taxes ............. 5,726 2,860 14,931 7,353 3,344 1,209 634 Net income ............................. 3,951 2,285 10,951 5,147 2,714 1,309 590 Segment Profitability (Loss):(2) Real estate finance .................... $ 7,467 $ 2,865 $ 16,546 $ 6,281 $ 5,276 $ 2,237 $ 455 Equipment leasing ...................... 1,430 214 2,457 1,916 -- -- -- Energy exploration, production and services ............................. 518 372 1,699 1,646 1,317 1,114 1,720 Corporate (excluding taxes)(3) ......... (3,692) (679) (5,845) (2,497) (3,248) (2,105) (1,393) Balance Sheet and Other Data: Assets: Current assets ........................ $ 34,343 $ 8,721 $ 72,269 $ 6,106 $ 3,924 $ 3,985 $ 2,150 Net investment in real estate loans ... 128,884 49,693 88,816 21,798 17,991 10,386 7,329 Net investment in leasing assets ...... 13,214 5,388 8,152 729 -- -- -- Net investment in energy property and equipment ............................ 12,379 11,036 11,400 11,265 11,964 12,786 13,542 Net other assets ...................... 19,099 5,573 14,482 4,061 3,671 7,639 2,210 --------- --------- --------- --------- --------- --------- --------- Total assets ...................... 207,919 80,411 195,119 43,959 37,550 34,796 25,231
32
As of and for the Quarter Ended As of and for the December 31, Year Ended September 30, ----------------------- -------------------------------------------------------------- 1997 1996 1997 1996 1995 1994 1993 --------- --------- --------- --------- --------- --------- --------- (in thousands, except ratios and per share data) Liabilities: Current liabilities ...................... $ 16,690 $ 2,449 $ 10,841 $ 1,664 $ 1,329 $ 1,355 $ 723 Long-term debt less current maturities(4) ........................... 118,116 22,496 118,786 8,966 8,523 8,627 813 Deferred income taxes and long-term liabilities ............................. 2,656 2,589 663 2,206 1,147 674 834 -------- -------- -------- -------- -------- -------- -------- Total liabilities .................... 137,462 27,534 130,290 12,836 10,999 10,656 2,370 Stockholders' equity(5) ................... 70,457 52,877 64,829 31,123 26,551 24,140 22,861 Stockholders' equity per common share(6)(7) 14.86 14.89 13.79 16.43 14.21 12.52 11.59 Assets under management: Real estate(8) ........................... 330,128 139,608 233,666 100,520 52,955 26,328 13,303 Leasing(9) ............................... 114,876 83,503 105,940 79,649 103,439 -- -- Energy(10) ............................... 38,867 32,145 37,809 32,147 33,688 36,067 38,500 -------- -------- -------- -------- -------- -------- -------- Total assets under management ........ 483,871 255,256 377,415 212,316 190,082 62,395 51,803 Selected Ratios: Operating ratios - Return on equity(11) ..................... 23% 22% 23% 18% 11% 6% 3% Yield on net real estate investment(12) .. 30% 36% 35% 36% 35% 31% 12% Balance sheet ratios: Real estate loan to value(13) ............ 82% 80% 82% 86% 78% 79% 82% Earnings to fixed charges(14) ............ 2.48 8.00 3.83 9.44 4.07 4.89 16.45 Common Share Information: Net income per common share (basic)(15) ... $ .83 $ .91 $ 3.15 $ 2.72 $ 1.43 $ .66 $ .30 Weighted average number of common shares outstanding (basic) .............. 4,733 2,507 3,478 1,890 1,904 1,970 1,975 Net income per common share (diluted)(16) . $ .81 $ .66 $ 2.51 $ 1.88 $ 1.23 $ .64 $ .30 Weighted average number of common shares (diluted) ........................ 4,906 3,476 4,358 2,757 2,235 2,076 1,990 Cash dividends per common share ........... $ .10 $ .10 $ .40 $ .38 $ .09 $ -- $ --
- --------- (1) Interest income includes accreted discounts of $1.7 million and $793,000 for the quarters ended December 31, 1997 and 1996, respectively, and $4.1 million, $954,000, $1.2 million, $602,000, and $256,000 for the fiscal years ended September 30, 1997, 1996, 1995, 1994 and 1993, respectively. (2) Represents segment revenues minus segment costs less depreciation, depletion and amortization attributable to the segment, but without allocation of corporate overhead. (3) Includes interest expense, interest income on cash not invested in operations, general and administrative expenses, and depreciation and amortization not allocated to operations of other segments. Interest expense was $3.9 million and $409,000 for the quarters ended December 31, 1997 and 1996, respectively, and $5.3 million, $872,000, $1.1 million, $310,000 and $41,000 for the years ended September 30, 1997, 1996, 1995, 1994 and 1993, respectively. (4) In July 1997, the Company completed a private offering of Senior Notes and received net proceeds (after placement and offering expenses) of $110.6 million. (5) In December 1996, the Company completed a public offering of shares of Common Stock and received net proceeds (after underwriting and offering expenses) of $19.5 million. 33 (6) Based on shares of Common Stock outstanding of 4.7 million and 3.6 million at December 31, 1997 and 1996, respectively, and 4.7 million, 1.9 million, 1.9 million, 1.9 million, and 2.0 million at September 30, 1997, 1996, 1995, 1994, 1993, respectively. (7) Giving effect to the issuance of 1.5 million shares in this Offering at an assumed price of $47.00 (the closing price of the Common Stock on Nasdaq on March 3, 1998), and after deduction of underwriting discounts and estimated offering expenses, stockholders' equity per common share would have been $21.83 on December 31, 1997. (8) Represents the stated, or face, amount of outstanding loans plus accrued interest and penalties. (9) Represents the aggregate of (i) the original cost of equipment under lease and cash held by equipment leasing limited partnerships managed by the Company, and (ii) gross lease receivables as of the end of the period under leases held in the Company's portfolio or serviced by the Company for third parties. (10) Represents the original cost of assets held by the Company and energy partnerships and joint ventures managed by the Company. (11) Calculated as net income divided by average stockholders' equity. (12) Calculated as gross real estate finance revenues (including gains on refinancings and sales of senior lien interests in commercial mortgage loans) divided by the average book cost of real estate finance assets. (13) Calculated as the aggregate book value of loans with respect to any property (including all loans with liens senior to or of the same seniority with the loan interest held by the Company) divided by the appraised value of the property. (14) Calculated by dividing income from continuing operations before income taxes, extraordinary gains and cumulative effect of a change in accounting principle plus fixed charges by fixed charges. Fixed charges represent total interest expense, including amortization of debt expense and discount relating to indebtedness. (15) Calculated as net income divided by the weighted average Common Stock outstanding during the period, in accordance with SFAS No. 128. (16) Calculated as net income divided by the weighted average number of shares of Common Stock outstanding during the period and dilutive potential Common Stock, in accordance with SFAS No. 128. Dilutive potential shares of Common Stock include shares issuable under the terms of various stock option and warrant agreements (including, during fiscal 1994 through fiscal 1997, warrants exercised during fiscal 1997) net of the number of such shares that could have been reacquired (at the weighted average price of the Common Stock during the period) with the proceeds received from the exercise of the options and warrants. 34 USE OF PROCEEDS The net proceeds to be received by the Company from the sale of the Common Stock offered hereby, after deducting the underwriting discount and estimated offering expenses, are estimated (based on the closing price of the Common Stock on _______________, 1998 as reported on Nasdaq) to be $__________ ($_____________, assuming the Underwriters exercise their over-allotment option). The Company intends to use the net proceeds primarily for the acquisition of additional commercial real estate mortgage loans and, to a lesser extent, the expansion of equipment leasing operations, the acquisition of selected energy properties and assets and for other general corporate purposes. 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 the Company's shift in focus to specialty finance businesses following substantial increases in working capital due to the sale, in December 1996, of 1.7 million shares of Common Stock (from which it received net proceeds of $19.5 million) and the issuance, in July 1997, of $115 million of Senior 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 $193.7 million as of December 31, 1997. Overview of First Quarter of Fiscal 1998. The Company's gross revenues were $15.1 million in the first quarter of fiscal 1998, an increase of $9.2 million (158%) from $5.8 million in the first quarter of fiscal 1997. As of December 31, 1997, total assets were $207.9 million, an increase of $12.8 million (7%) from $195.1 million at September 30, 1997. Of the increases in total revenues during the first quarter of fiscal 1998, the revenues from the Company's real estate finance business increased to $9.4 million, an increase of $6.2 million (192%) from $3.2 million in the first quarter of fiscal 1997. Equipment leasing revenues were $3.2 million in the first quarter of fiscal 1998, an increase of $2.0 million (164%) from $1.2 million in the first quarter of fiscal 1997. Energy revenues were $1.8 million in the first quarter of fiscal 1998, an increase of $476,000 (36%) from $1.3 million in the first quarter of fiscal 1997. Real estate finance (commercial and residential mortgage loans) and equipment leasing revenues were 83% and 76% of total revenues in the first quarter of fiscal 1998 and 1997, respectively. Energy revenues were 12% and 23% of total revenues in the first quarter of fiscal 1998 and 1997, respectively. Real estate finance and equipment leasing assets were 75% and 73% of total assets at December 31, 1997 and 1996, respectively. Energy assets were 8% and 16% of total assets at December 31, 1997 and 1996, respectively. Overview of Fiscal 1997. 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 35 an increase in fiscal 1996 of $5.4 million (47%) from $11.6 million in fiscal 1995. 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 mortgage loan acquisition and resolution business increased to $19.1 million, 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. Real estate finance and equipment leasing revenues 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 in fiscal 1997, 1996 and 1995, respectively. Real estate finance and equipment leasing assets were 53%, 57% and 51% of total assets at September 30, 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: Real Estate Finance The following table sets forth certain information relating to the revenue recognized and expenses incurred in the Company's real estate finance operations during the periods indicated:
Quarter Ended Year Ended December 31, September 30, ---------------- ------------------------ 1997 1996 1997 1996 1995 ---- ---- ---- ---- ---- (in thousands) Revenues: Commercial mortgage loan acquisition and resolution: Interest..................... $2,722 $ 634 $ 4,877 $ 1,899 $ 2,246 Accreted discount............ 1,666 793 4,124 954 1,176 Fees......................... 1,775 1,407 2,556 675 963 Gains on refinancings and sale of senior lien interests............. 1,528 385 7,587 3,643 1,729 ------ ------ ------- ------- ------- 7,691 3,219 19,144 7,171 6,114 ----- ------ ------- ------- ------- Residential mortgage lending: Gain on sale of residential mortgage loans............. 1,421 -- -- -- -- Interest..................... 280 -- -- -- -- ------ ------ ------ ------ ---- 1,701 -- -- -- -- ------ ------ ------ ------ ---- $9,392 $3,219 $19,144 $7,171 $6,114 ====== ====== ======= ====== ======
36
Quarter Ended Year Ended December 31, September 30, ------------------- ------------------------ 1997 1996 1997 1996 1995 ---- ---- ---- ---- ---- (in thousands) Expenses: Commercial mortgage loan acquisition and resolution:...................... $ 380 $ 163 $1,069 $ 852 $ 801 Residential mortgage lending.......... 1,143 -- -- -- -- ------ ----- ----- ----- --- $1,523 $163 $1,069 $ 852 $ 801 ====== ==== ====== ====== ======
Quarter Ended December 31, 1997 Compared to Quarter Ended December 31, 1996 During the first quarter of fiscal 1998, the Company purchased or originated four commercial mortgage loans for a total cost of $63.5 million (including $35.3 million of costs with respect to one loan which were reduced immediately upon loan acquisition by first mortgage financing arranged by the Company), as compared to the purchase of four loans for a total cost of $27.9 million in the first quarter of fiscal 1997. The average net investment in the four loans (excluding the $35.3 million financing referred to in the preceding sentence) purchased during the first quarter of fiscal 1998 was $7.0 million and ranged from a high of $14.5 million to a low of $1.5 million whereas in the first quarter of fiscal 1997, the average net investment in the four loans was $7.0 million and ranged from a high of $19.2 million to a low of $508,000. In addition, during the first quarter of fiscal 1998 the Company originated a construction loan with respect to a hotel property in Savannah, Georgia, in the amount of $3.6 million, of which $339,000 was drawn down during the quarter. The Company also increased its investment in certain existing loans by an aggregate of $2.0 million and $1.0 million in the first quarters of fiscal 1998 and 1997, respectively, for the purpose 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 the loans were acquired and were included in its analysis of loan costs and yields. The average balance of the Company's investments in commercial mortgage loans was $102.9 million and $35.7 million for the first quarters of fiscal 1998 and fiscal 1997, respectively. The Company purchased certain commercial mortgage loans in the fourth quarter of fiscal 1997 and the first quarter of fiscal 1998 which have not yet been refinanced or in which senior lien interests have not yet been sold. Refinancings and senior lien interests generally bear lower rates of interest and are included within the balance of the obligation owed to the Company, thereby typically increasing the Company's yield on its funds remaining invested. As a consequence of the increase in loans which have not yet been refinanced or in which senior lien interests have not yet been sold, the Company's yield on its average loan balances decreased in the first quarter of fiscal 1998 to 30% from 36% in the first quarter of fiscal 1997. 37 Revenues from commercial mortgage loan acquisition and resolution operations increased to $7.7 million in the first quarter of fiscal 1998 from $3.2 million in the first quarter of fiscal 1997, an increase of 139%. The increase in the first quarter of fiscal 1998 was attributable to (i) an increase of $3.0 million (207%) in interest income (including accretion of discount) resulting from an increase in the average amount of loans outstanding during that period as compared to the same period in the prior fiscal year; (ii) gains recognized on the refinancing or sale of senior lien interests in loans held by the Company which increased to $1.5 million in the first quarter of fiscal 1998 from $385,000 in the first quarter of fiscal 1997, an increase of $1.1 million (297%), as a result of an increased number of loans refinanced or in which senior lien interests were sold (six in the first quarter of 1998, resulting in gross proceeds of $5.3 million, as compared to three in the first quarter of fiscal 1997, resulting in gross proceeds of $2.2 million); and (iii) an increase in fee income to $1.8 million in the first quarter of fiscal 1998 from $1.4 million in first quarter of fiscal 1997, an increase of $368,000 (26%). Of these fees, $830,000 were for financial advisory and consultation services related to the organization and capitalization of RAIT. The Company also received a $900,000 fee for services to a borrower whose loan the Company later acquired. Gains on sale of senior lien interests in loans and the amount (if any) of fees received vary from transaction to transaction and there may be significant variations in the Company's gain on sale and fee income from period to period. Costs and expenses of the Company's commercial mortgage loan acquisition and resolution operations increased $217,000 (133%) in the first quarter of fiscal 1998 compared to the first quarter of fiscal 1997. 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 $7.3 million in the first quarter of fiscal 1998 from $3.1 million in the first quarter of fiscal 1997 (139%). On October 1, 1997, the Company's residential mortgage lending business commenced operations. On November 5, 1997 the Company acquired Tri-Star, an originator of residential mortgage loans, for $3.5 million of which $2.5 million was paid through the issuance of Common Stock and the remainder in cash. During the first quarter of fiscal 1998 the Company originated 263 residential mortgage loans (including residential loans originated by Tri-Star subsequent to its acquisition) for a cost of $11.8 million and acquired, from an unaffiliated third party, a portfolio of 37 loans for a cost of $2.7 million. The Company may opportunistically purchase residential mortgage loans although its focus is on loan originations. The Company sold residential mortgage loans, including the purchased loans referred to above, with a book value of $11.0 million during the first quarter of fiscal 1998 in several different transactions, receiving (in the aggregate) cash of $4.3 million and a note (from an unaffiliated third party) with a book value of $8.1 million, of which $6.2 million was paid in the second quarter of fiscal 1998. The remaining balance of the note is due in 2027. The 38 sales resulted in an aggregate gain of $1.4 million. See "Risk Factors - Real Estate Considerations - Note Received in Sale of Certain Residential Loans." Costs and expenses associated with residential mortgage lending operations were $1.1 million, reflecting the commencement of operations during the quarter. Year Ended September 30, 1997 Compared to Year Ended September 30, 1996 During fiscal 1997, the Company purchased or originated 18 commercial real estate loans, for a total cost of $71.7 million, as compared to the purchase of nine commercial real estate loans for a total of $15.1 million in fiscal 1996. The average net investment in the 18 loans was $4.0 million (with individual investments ranging from a high of $19.2 million to a low of $400,000) during fiscal 1997, as compared to an average net investment of $1.7 million in nine loans (with individual investments ranging from a high of $3.8 million to a low of $100,000) during fiscal 1996. 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 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 the loans were acquired 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 fiscal 1996; (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%); and (iii) an increase in fee income to $2.6 million in fiscal 1997 from $675,000 in fiscal 1996, an increase of $1.9 million (279%) as a result of an increase in the number of transactions in which fee income was earned. The Company sold senior lien interests in or refinanced nine loans during fiscal 1997 and eight loans during fiscal 1996, realizing proceeds of $16.5 million and $18.0 million, respectively. Costs and expenses of the Company's real estate finance operations increased 25% in fiscal 1997 compared to fiscal 1996. The increase was primarily a result of higher personnel costs associated with the expansion of the Company's commercial mortgage lending operations. 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 39 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 commercial mortgage 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 commercial mortgage 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 the loans were acquired 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 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%). 40 Results of Operations: Equipment Leasing The following table sets forth certain information relating to the revenue recognized and expenses incurred in the Company's equipment leasing operations during the periods indicated:
Quarter Ended Year Ended December 31, September 30, -------------------- -------------------- 1997 1996 1997 1996 ------ ----- ------ ------ (in thousands) Revenues: Small ticket leasing - Gain on sale of leases................. $1,788 $ 313 $3,711 $ -- Interest and fees...................... 601 76 1,081 7 Partnership management.................... 531 513 1,713 3,809 Lease finance placement and advisory services....................... 252 300 657 650 ------ ----- ------ ------ $3,172 $1,202 $7,162 $4,466 ====== ====== ====== ====== Quarter Ended Year Ended December 31, September 30, --------------------- -------------------- 1997 1996 1997 1996 ------ ----- ------ ------ (in thousands) Expenses: Small ticket leasing...................... $ 797 $353 $2,051 $ 425 Partnership management.................... 338 372 1,243 1,471 Lease finance placement and advisory services....................... 190 158 528 443 ----- ---- ------ ------ $1,325 $883 $3,822 $2,339 ====== ====== ====== ======
41 Quarter Ended December 31, 1997 Compared to Quarter Ended December 31, 1996 During the first quarter of fiscal 1998 the Company experienced continued growth in its leasing business, originating 1,551 leases having a cost of $16.0 million, as compared to 307 leases having a cost of $4.4 million during the first quarter of fiscal 1997. In the first quarter of fiscal 1998, the Company sold leases with a book value of approximately $14.4 million to an Intermediate Purchaser in return for cash of $12.3 million and a note with a face value of $3.9 million, as compared to the first quarter of fiscal 1997, where the Company sold leases with a book value of $3.0 million to an Intermediate Purchaser in exchange for a note with a face value of $3.3 million. Revenues from equipment leasing increased to $3.2 million in the first quarter of fiscal 1998 from $1.2 million in the first quarter of fiscal 1997, an increase of $2.0 million (164%). The increase in revenues in the first quarter of fiscal 1998 was attributable to (i) an increase in the gain on sale of leases of $1.5 million (471%) resulting from the increased number of leases originated by the Company and, thus, available for sale; and (ii) an increase in interest and fee income of $525,000 (691%) resulting from the increased volume of lease transactions. For a discussion of the Company's revenue recognition and accounting policies pertaining to its equipment leasing operations, see "Business - Equipment Leasing - Revenue Recognition and Lease Accounting." Equipment leasing costs and expenses increased $442,000 (50%) in the first quarter of fiscal 1998 as compared to the first quarter of fiscal 1997. This increase was primarily a result of higher operating costs associated with the increase in lease originations. Year Ended September 30, 1997 Compared to Year Ended September 30, 1996 In fiscal 1997, the Company received 8,344 lease proposals involving equipment with an aggregate cost of $113.4 million, approved 5,054 of such proposals involving equipment with an aggregate cost of $67.2 million, and entered into 3,214 transactions and acquired equipment for lease with a cost of $34.6 million. During fiscal 1997, the Company sold leases with a book value of approximately $30.2 million to Intermediate Purchasers 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 currently acts as 42 general partner for five limited partnerships which held a total of $49.8 million (original equipment cost) in leased assets at December 31, 1997. Results of Operations: Energy Quarter Ended December 31, 1997 Compared to Quarter Ended December 31, 1996 During the first quarter of fiscal 1998 oil and gas production revenues increased 30%, compared to the same period of the previous fiscal year. A comparison of the Company's revenues, daily production volumes, and average sales prices follows:
Quarter Ended December 31, --------------------------- 1997 1996 ------ ------- Revenues (in thousands) Gas .......................................................... $1,017 $755 Oil .......................................................... 201 185 Production Volumes Gas (thousands of cubic feet ("mcf")/day)..................... 4,198 3,309 Oil (barrels ("bbls")/day).................................... 124 91 Average Sales Price Gas (per mcf)................................................. $ 2.63 $ 2.48 Oil (per bbl)................................................. 17.52 22.19
Natural gas revenues increased 35% in the quarter ended December 31, 1997, compared to the same period of the prior fiscal year, due to a 27% increase in production volumes. Additionally, the average sales price per mcf increased 6% in the quarter ended December 31, 1997. Oil revenues increased 8% in the quarter ended December 31, 1997, compared to the same period of fiscal 1997, due to a 37% increase in production volumes which was partially offset by a 21% decrease in the average sales price per barrel as compared to the quarter ended December 31, 1996. Both gas and oil volumes were favorably impacted by two acquisitions of producing properties located in Ohio and New York. These acquisitions accounted for an increase of 32% and 15% in gas and oil volumes, respectively, as compared to the first quarter of fiscal 1997. The Company spent $1.8 million to acquire interests in 431 wells during the twelve months ended December 31, 1997. 43 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 the quarters ended December 31, 1997 and 1996 is as follows:
Quarter Ended December 31, -------------------------- 1997 1996 --------- -------- Production Costs As a percent of sales......................................... 42% 38% Gas (per mcf)................................................. $1.14 $1.03 Oil (per bbl)................................................. $6.79 $6.19
Production costs increased 42% ($153,000) in the quarter ended December 31, 1997 from the quarter ended December 31, 1996 as a result of the acquisition of the working interests mentioned above. Amortization of oil and gas property costs as a percentage of oil and gas revenues was 15% in the quarter ended December 31, 1997 compared to 19% in the quarter ended December 31, 1996. The variance from year to year was 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. Year Ended September 30, 1997 Compared to Year Ended September 30, 1996 and Year Ended September 30, 1995 Oil and gas revenues from production sales increased 16% in fiscal 1997 as compared to fiscal 1996, which remained essentially constant from fiscal 1995. 44 A comparison of the Company's revenues, daily production volumes, and average sales prices for the periods indicated is as follows:
Year Ended September 30, --------------------------------------- 1997 1996 1995 --------- --------- -------- Sales (in thousands) Gas(1)................................ $ 3,178 $ 2,722 $ 2,762 Oil.................................... $ 705 $ 627 $ 610 Production volumes 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. 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 $2.1 million in fiscal 1997 from $1.8 million in fiscal 1996 and $1.7 million in fiscal 1995. The Company continues to experience normally declining production from its properties located in New York State. This decline was 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 fiscal 1996. The impact on revenues from these wells was realized in the Company's financial statements commencing with fiscal 1997. In fiscal 1995, the Company participated in the drilling of three successful exploratory wells and recompleted one successful development well. The impact on revenues from these wells was realized in the Company's financial statements commencing with fiscal 1996. 45 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 the fiscal years 1997, 1996 and 1995, is as follows: Year 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 an 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 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 was 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. 46 Results of Operations: Other Income (Expense) Quarter Ended December 31, 1997 Compared to Quarter Ended December 31, 1996 Interest income increased 786% ($613,000) in the quarter ended December 31, 1997 as compared to the quarter ended December 31, 1996 as a result of the substantial increase in the Company's uncommitted cash balances ($69.3 million at the beginning of the first quarter of fiscal 1998 as compared to $4.2 million at the beginning of the first quarter of fiscal 1997), and the temporary investment of such balances. The Company deployed $41.2 million of its cash balances during the first quarter of fiscal 1998 primarily in its real estate finance and equipment leasing operations, reducing its cash balance to $28.1 million at the end of the first quarter of fiscal 1998. General and administrative expense increased 57% ($335,000) in the quarter ended December 31, 1997, as compared to the quarter ended December 31, 1996, primarily as a result of the payment of compensation and benefits to executive officers and occupancy costs. Interest expense increased to $3.9 million in the first quarter of fiscal 1998 from $409,000 in the first quarter of fiscal 1997, an increase of $3.5 million (846%) reflecting the increase in borrowings to fund the growth of the Company's real estate finance and equipment leasing operations. In July 1997, the Company issued $115.0 million of Senior Notes. The effective tax rate increased to 31% in the quarter ended December 31, 1997 from 20% in the quarter ended December 31, 1996 based upon the Company's anticipated earnings and stability in the amount of the Company's depletion, tax credits and tax exempt interest. Year Ended September 30, 1997 Compared to Year Ended September 30, 1996 and Year Ended September 30, 1995 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 finance 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 increased borrowing 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 the 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 47 Financial Statements). The purchase money financing 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 commercial mortgage 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. Liquidity and Capital Resources The Company's primary liquidity needs are for continued expansion of its real estate finance and small ticket leasing subsidiaries, activities that are the core of the Company's growth strategy. The Company will add to its commercial mortgage loan acquisition and resolution loan portfolio as economically attractive opportunities become available and will also continue to originate residential loans. In addition, it expects substantial ongoing growth in its small ticket leasing activities. In energy, the Company is seeking to increase its reserve base through selective acquisition of producing properties and other assets and further development of its mineral interests. The Company from time to time may also consider acquisitions of energy industry companies. Thus far, the Company has been able to finance each of these activities through a variety of sources, including internally generated funds, borrowings, the sales of its notes and Common Stock. See "Business - Sources of Funds." The Company expects to finance future activities in a similar manner. Quarter Ended December 31, 1997 Compared to Quarter Ended December 31, 1996 Sources and (uses) of cash for the quarters ended December 31, 1997 and 1996 were as follows: Quarter Ended December 31, -------------------------- 1997 1996 ---------- -------- (in thousands) Provided by (used in) operations......... $(2,643) $ 2,840 (Used in) investing activities........... (41,431) (32,559) Provided by financing activities......... 2,881 32,886 -------- ------- $(41,193) $ 3,167 ======== ======= 48 The Company had $28.1 million in cash and cash equivalents on hand at December 31, 1997, as compared to $69.3 million at September 30, 1997. The Company's ratio of current assets to current liabilities was 2.1 to 1 at December 31, 1997 and 6.7 to 1 at September 30, 1997. Working capital at December 31, 1997 was $17.7 million as compared to $61.4 million at September 30, 1997. The Company's ratio of earnings to fixed charges was 2.5 to 1 in the quarter ended December 31, 1997 as compared to 8.0 to 1 in the quarter ended December 31, 1996. Cash used in operating activities in the first quarter of fiscal 1998 increased $5.5 million as compared to the first quarter of fiscal 1997 primarily as a result of an increase in accounts receivable including fees earned and advances made to RAIT and the sale of a senior lien interest for an interest bearing note. The Company's cash used in investing activities increased $8.9 million in the first quarter of fiscal 1998 as compared to the first quarter of fiscal 1997. This increase resulted primarily from an increase in the amount of cash used to fund real estate finance and small ticket leasing activities. In commercial mortgage loan acquisition and resolution, the Company invested $63.5 million and $27.9 million in the acquisition or origination of five and four loans in the first quarters of fiscal years 1998 and 1997, respectively. In addition, the Company advanced funds on existing commercial mortgage loans of $2.0 million and $1.0 million, respectively, in the same periods. Proceeds received upon refinancings or sales of senior lien interests amounted to $39.6 million and $2.2 million in the first quarters of fiscal years 1998 and 1997, respectively. These proceeds reflect the sale of senior lien interests in or refinancing of six and three loans, respectively, for which gains were recognized on five and one loans, respectively. The Company invested $14.5 million in 300 residential mortgage loans during the quarter ended December 31, 1997. The Company sold 234 of these loans for $12.6 million, of which $4.3 million was in cash and $8.3 million was by a promissory note (with a book value of $8.1 million) of which $6.2 million was paid in the second quarter of fiscal 1998 with the balance of $2.1 million being payable in 2027. See "Risk Factors - Real Finance Considerations - - Note Received in Sale of Certain Residential Loans." In small ticket leasing, cost of equipment acquired for lease represents the equipment cost and initial direct costs associated with leasing operations. Proceeds received upon the sale of equipment lease receivables totaled $12.3 million in the quarter ended December 31, 1997. The increase in other assets of $974,000 during the quarter ended December 31, 1997 principally represents a note of $765,000 from the purchaser of a loan from the Company. The Company's cash flow provided by financing activities decreased $30.0 million during the first quarter of fiscal 1998 as compared to the first quarter of fiscal 1997. In the first quarter of fiscal 1998, the Company's residential mortgage loan business borrowed $6.7 49 million under its warehouse line and repaid $2.2 million. In the first quarter of fiscal 1997, the Company completed a public offering of shares of its common stock, receiving net proceeds of $19.5 million, and borrowed $14.1 million (including $13.4 million of purchase money financing) to finance its commercial mortgage loan and acquisition operations. Year Ended September 30, 1997 Compared to Year Ended September 30, 1996 The Company raised 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 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 18 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 from the sale of senior lien interests or borrower refinancings 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 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 activity 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. 50 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. Dividends In the quarter ended December 31, 1997 and fiscal years 1997, 1996 and 1995, $470,000, $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 51 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. For its commercial mortgage loan acquisition and resolution operations, the Company 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 cost of such remediation will not be material to the Company. The Company has made inquiries concerning the year 2000 issue to its significant suppliers of services and, with respect to its energy operations, to 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 that failure to achieve compatibility by such entities will not have a material adverse effect on the Company. 52 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. 53 BUSINESS General The Company operates a specialty finance business focused on real estate finance and equipment leasing. The Company was organized as a Delaware corporation in 1966. For approximately 25 years prior to 1991, the Company was principally involved in the energy industry and it continues to conduct 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 residential mortgage lending business. The Company has also sponsored RAIT, a real estate investment trust, and currently owns 15% of RAIT's common shares of beneficial interest. Within its equipment leasing business, the Company focuses primarily on small ticket equipment lease financing, although it also manages five publicly-owned equipment leasing partnerships and has a lease finance placement and advisory business. 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 fully to 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 acquiring commercial mortgage loans held by large private sector financial institutions and other entities at net investments generally ranging from $1 million to $15 million. Due to the 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. 54 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 "Business - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution - Sale of Senior Lien Interests and Refinancings." In addition, the Company has sold and anticipates further sales of whole loans and senior lien interests to RAIT (see "Business - Real Estate Finance - 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 "Business - Real Estate Finance Commercial Mortgage Loan Acquisition and Resolution - Forbearance Agreements" and "Commercial Mortgage Loan Acquisition and Dissolution - Loan Status." Market for Commercial Mortgage Loan Acquisition and Resolution Services Discounted loans acquired by the Company are, at the time of acquisition, secured by commercial properties (generally multi-family housing, office buildings, hotels or single-user retail properties) which, while income producing, are unable fully to meet debt service requirements of the original loan terms. The loans are usually acquired from banks, insurance companies, investment banks, mortgage banks or other similar financial organizations. 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 the creation of this market had been the sale of packages of under-performing and non-performing loans by government agencies, in particular the Resolution Trust Corporation 55 ("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 entities 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 loan, 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 a cash return on the Company's investment of not less than 10% per annum; (ii) the ratio of the Company's initial investment to the appraised value of the property underlying the loan (generally 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 "Business - Real Estate Finance - 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 56 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 11 loans in which the ratio of the cost of investment to the appraised value of the underlying property (both at the time of acquisition and at the date of the most recent appraisal) 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 net investment cost range of $1 million to $15 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 one loan was acquired at a greater investment cost ($19.2 million). In addition, the Company purchased a loan for $43.0 million which, as part of the acquisition, was refinanced in the amount of $35.3 million, reducing the Company's net investment to $7.7 million. 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 "Business - Real Estate Finance - 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 "Management's Discussion and Analysis of Financial Condition and Results of Operations - Results of Operations - Commercial Mortgage Loan Acquisition and Resolution." 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 57 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 60 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. 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. Where the property is being managed by Brandywine Construction & Management, Inc. ("BCMI"), a property manager affiliated with the Company (see "Business - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution: Forbearance Agreements"and "Management - Certain Relationships and Related Party Transactions"), the Company may direct that property revenues be paid to BCMI, as the Company's managing agent. As of December 31, 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 four loans (loans 24, 27, 37 and 41) to do so. (Loan number designations correspond to the designations set forth in the table included as part of "Business - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution - Loan Status.") Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings In evaluating a potential commercial 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 interest. Typically, the interest rate on the senior lien interest is less than the 58 stated rate on the Company's loan. Senior lien interests with an aggregate balance of $12 million at December 31, 1997, relating to seven 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 (one in 1999, three in 2000, two in 2001 and one in 2016). Two other senior lien interests 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 ($1.6 million and $7.3 million, respectively, assuming all debt service payments have been made). See "Business - Real Estate Finance - - 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 typically 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 aggregating $7.7 million and constituting 6.6%, 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 "Business - Real Estate Finance - 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 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 59 affiliated with him) has also acted as the general partner or trustee of the borrower; an entity affiliated with him is also the general partner of the sole limited partner of an eleventh borrower. See "Management - Certain Relationships and Related Party Transactions - Relationship with BCMI." 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 "Business - Real Estate Finance - 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 without modification when the Company sells a senior lien interest in a loan. In such instance, the purchaser's interest in the loan is subject to the terms of the Forbearance Agreement. However, when a borrower refinances a loan, the Forbearance Agreement is 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 a term specified 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 December 31, 1997, the Company's loan portfolio consisted of 43 loans of which 33 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. The Company has sold senior lien interests in 14 loans in its portfolio (including senior interests in six loans initially acquired by the Company as junior lien loans) and borrowers with respect to 12 of the Company's loans obtained refinancing. After such sales and refinancings, the Company holds subordinated interests in 30 loans of which seven interests, constituting approximately 6.6% of the book value of the Company's loan portfolio, are not 60 collateralized by recorded mortgages (see "Business - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution: Sale of Senior Lien Interests and Refinancings"). During the second quarter of fiscal 1998, the Company sold 10 of its loans, and senior lien interests in two loans, to RAIT as indicated by Note (9) to the following table. For certain information regarding this sale see "Business - Real Estate Finance - Sponsorship of Real Estate Investment Trust." 61 The following table sets forth certain information relating to the Company's investments in commercial mortgage loans as of December 31, 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 $ 8,537,276 002(9) Multifamily Pennsylvania CoreStates Bank(10) 1992 1,579,496 003 Multifamily New Jersey RAM Enterprises/Glenn Industries 1993 2,737,559 Pension Plan 004(9) Multifamily Pennsylvania St. Paul Federal Bank for Savings(12) 1993 1,486,601 005 Office Pennsylvania Shawmut Bank(10) 1993 6,408,289 006(9) Office/Retail Virginia Nationsbank(10) 1993 5,804,115 007 Single User Minnesota Prudential Insurance, Alpha 1993 5,050,886 (Retail) Petroleum Pension Fund 008(9) Multifamily Pennsylvania Nomura/Cargill/Eastdil Realty(14) 1994 5,394,281 009(9) Multifamily Pennsylvania Mellon Bank(10) 1995 1,640,973 010(9) Multifamily Pennsylvania RIVA Financial 1994 1,600,713 011 Office Washington, D.C. First Union Bank(10) 1995 1,427,447 012(9) Multifamily Pennsylvania CoreStates Bank(10)(12) 1995 3,037,884 013 Single User California California Federal Bank, FSB 1994 2,969,853 (Commercial) 014 Office Washington, D.C. Nomura/Cargill/Eastdil Realty(14) 1995 14,977,664 015 Condo/ North Carolina First Bank/South Trust Bank(15) 1995/1997 3,553,137 Multifamily 016 Single User California Mass Mutual/Alpha Petroleum 1995/1996 6,992,873 (Retail) Pension Fund 017 Single User West Virginia Triester Investments(10)(16) 1996 1,453,966 (Retail) 018 Single User California Emigrant Savings Bank/Walter 1996 2,835,687 (Retail) R. Samuels and Jay Furman(19) 019(9) Multifamily Pennsylvania Summit Bancorp(10) 1996 4,675,262 020 Office New Jersey Cargill/Eastdil Realty(13) 1996 7,114,661 021 Multifamily Pennsylvania Bruin Holdings/Berkeley Federal 1996/1997 9,260,609 Savings Bank 022 Multifamily Pennsylvania FirsTrust FSB 1996 4,655,151 023(9) Multifamily Pennsylvania Jefferson Bank 1996 718,848 (24) 024 Multifamily Pennsylvania U.S. Dept. of Housing & Urban Development 1996 3,427,028
RESTUBBED TABLE
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 $ 4,704,540 002(9) Multifamily Pennsylvania CoreStates Bank(10) 900,000 547,813 003 Multifamily New Jersey RAM Enterprises/Glenn Industries 1,350,000 1,325,081 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 1,229,417 006(9) Office/Retail Virginia Nationsbank(10) 2,800,000 2,391,040 007 Single User Minnesota Prudential Insurance, Alpha 2,515,000 1,354,382 (Retail) Petroleum Pension Fund 008(9) Multifamily Pennsylvania Nomura/Cargill/Eastdil Realty(14) 3,200,000 1,614,174 009(9) Multifamily Pennsylvania Mellon Bank(10) 2,700,000 1,393,031 010(9) Multifamily Pennsylvania RIVA Financial 800,000 457,356 011 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(14) 12,250,000 10,571,763 015 Condo/ North Carolina First Bank/South Trust Bank(15) 3,702,000 2,787,774 Multifamily 016 Single User California Mass Mutual/Alpha Petroleum 3,000,000 2,114,520 (Retail) Pension Fund 017 Single User West Virginia Triester Investments(10)(16) 1,900,000 895,113 (Retail) 018 Single User California Emigrant Savings Bank/Walter 4,555,000 2,227,199 (Retail) R. Samuels and Jay Furman(19) 019(9) Multifamily Pennsylvania Summit Bancorp(10) 5,725,000 3,758,685 020 Office New Jersey Cargill/Eastdil Realty(13) 4,600,000 3,225,589 021 Multifamily Pennsylvania Bruin Holdings/Berkeley Federal 4,222,000 2,454,437 Savings Bank 022 Multifamily Pennsylvania FirsTrust FSB 4,110,000 4,016,498 023(9) Multifamily Pennsylvania Jefferson Bank 600,000 480,643 024 Multifamily Pennsylvania U.S. Dept. of Housing & Urban Development 3,250,000 2,740,093
62
Loan Outstanding Loan Type of Acquired Loan Number Property Location Seller/Originator (Fiscal Year) Receivable(1) - ------ -------- -------- ----------------- ------------- ------------- 025 Hotel/Commercial Georgia Bankers Trust Co. 1997 $ 5,975,639 026 Office Pennsylvania FirsTrust FSB/The Metropolitan Fund 1997 8,498,640 027(9) Office Pennsylvania Lehman Brothers Holdings, Inc. 1997 53,183,775 028 Condo/ North Carolina First Bank/SouthTrust Bank(27) 1997 1,703,755 Multifamily 029 Commercial/ Pennsylvania Castine Associates, L.P.(28) 1997 7,127,386 Retail 030 Hotel Nebraska CNA Insurance 1997 7,274,234 031 Multifamily Connecticut John Hancock Mutual Life 1997 10,024,031 Insurance Company 032 Multifamily New Jersey John Hancock Mutual Life 1997 12,260,126 Insurance Company 033 Single User Virginia Brambilla, Ltd. 1997 4,015,686 (Retail) 034 Multifamily Pennsylvania Resource America, Inc.(29) 1997 398,697 035 Office Pennsylvania Jefferson Bank 1997 2,331,275 036 Office North Carolina Union Labor Life Insurance Co. 1997 4,514,732 037 Multifamily Florida Howe, Soloman & Hall 1997 6,998,319 Financial, Inc. 038(9) Office/Retail Pennsylvania Resource Asset Investment Trust(30) 1997 8,351,314 039 Hotel Georgia Resource America, Inc.(29) 1998 342,691 (31) 040 Retail Virginia Lehman Brothers Holdings 1998 45,005,722 041 Multifamily Connecticut J.E. Roberts Companies 1998 26,695,085 042 Multifamily Pennsylvania Fannie Mae(33) 1998 4,290,337 043 Multifamily Pennsylvania Downingtown National Bank/D, Ltd. 1998 1,957,557 (34) ------------ Balance as of December 31, 1997 $318,289,260 ============
RESTUBBED TABLE
Appraised Value Loan Type of of Property Cost of Number Property Location Seller/Originator Securing Loan(2) Investment(3) - ------ -------- -------- ----------------- ----------------- ------------- 025 Hotel/Commercial Georgia Bankers Trust Co. $ 8,500,000 $ 5,877,874 026 Office Pennsylvania FirsTrust FSB/The Metropolitan Fund 5,000,000 2,484,966 027(9) Office Pennsylvania Lehman Brothers Holdings, Inc. 34,000,000 19,243,749 028 Condo/ North Carolina First Bank/SouthTrust Bank(27) 1,773,000 1,028,143 Multifamily 029 Commercial/ Pennsylvania Castine Associates, L.P.(28) 4,025,000 2,986,618 Retail 030 Hotel Nebraska CNA Insurance 4,000,000 3,673,462 031 Multifamily Connecticut John Hancock Mutual Life 7,500,000 4,760,894 Insurance Company 032 Multifamily New Jersey John Hancock Mutual Life 12,425,000 7,374,894 Insurance Company 033 Single User Virginia Brambilla, Ltd. 2,650,000 2,003,684 (Retail) 034 Multifamily Pennsylvania Resource America, Inc.(29) 450,000 400,000 035 Office Pennsylvania Jefferson Bank 2,550,000 1,591,662 036 Office North Carolina Union Labor Life Insurance Co. 4,150,000 3,053,846 037 Multifamily Florida Howe, Soloman & Hall 3,500,000 2,772,641 Financial, Inc. 038(9) Office/Retail Pennsylvania Resource Asset Investment Trust(30) 10,600,000 8,580,000 039 Hotel Georgia Resource America, Inc.(29) 4,100,000 338,633 040 Retail Virginia Lehman Brothers Holdings 47,000,000 43,154,886 041 Multifamily Connecticut J.E. Roberts Companies 18,500,000 (32) 14,546,344 042 Multifamily Pennsylvania Fannie Mae(33) 5,000,000 (32) 4,234,556 043 Multifamily Pennsylvania Downingtown National Bank/D, Ltd. 2,275,000 1,518,188 ------------ ------------ Balance as of December 31, 1997 $254,977,000 $184,947,938 ============ ============
63
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 Book Value Outstanding Loan Forbearance Number Appraised Value Lien Interests Investment(4) of Investment(5) Receivables(6) Agreement(7) - ------ --------------- -------------- ------------- ---------------- -------------- ---------------- 001 89% $ 2,570,000 (8) $ 2,134,540 $ 2,580,970 $ 5,967,276 12/31/02 002 61% 0 (11) 547,813 785,295 1,579,496 10/31/98 003 98% 627,000 698,081 731,656 2,103,068 01/01/03 004 72% 0 (11) 862,356 1,134,958 1,486,601 10/31/98 005 72% 940,000 (13) 289,417 784,776 5,568,289 02/07/01 006 85% 840,000 1,551,040 1,670,669 4,928,075 07/31/98 007 54% 2,099,000 (744,618) 567,169 2,919,116 12/31/14 008 50% 934,300 679,874 1,270,541 4,296,133 07/31/98 009 52% 654,600 738,431 564,876 755,711 11/01/99 010 57% 0 (11) 457,356 734,073 1,600,713 09/02/99 011 59% 660,000 (13) 520,030 685,655 742,447 09/30/99 012 59% 1,079,000 217,565 747,650 1,781,319 12/02/99 013 71% 1,975,000 (13) (280,201) 325,972 969,853 05/01/01 014 86% 6,487,000 4,084,763 5,472,297 8,299,802 11/30/98 015 75% 2,558,000 (8) 229,774 3,553,137 1,218,418 08/25/00 016 70% 2,375,000 (13) (260,480) 481,117 4,592,873 12/31/00 017 47% 1,000,000 (17)(18) (104,887) 465,347 453,966 12/31/16 018 49% 1,969,000 (13) 258,199 833,952 866,687 12/01/00 019 66% 3,020,000 738,685 992,855 1,496,823 12/29/00 020 70% 2,562,000 663,589 1,878,059 4,715,532 02/07/01 021 58% 2,760,000 (20) (305,563) 1,034,292 6,500,609 (21) 022 98% 2,636,000 (22)(23) 1,380,498 995,483 1,992,593 10/31/98 023 80% 450,000 (25) 30,643 128,642 271,107 03/28/01 024 84% 2,318,750 421,343 814,710 933,181 11/01/22
64
(Continued) 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 Book Value Outstanding Loan Forbearance Number Appraised Value Lien Interests Investment(4) of Investment(5) Receivables(6) Agreement(7) - ------ --------------- -------------- ------------- ---------------- -------------- --------------- 025 69% $ 0 $ 5,877,874 $ 6,102,863 $ 5,975,639 12/31/15 026 50% 2,240,000 (26) 244,966 2,372,008 6,257,369 09/30/03 027 57% 7,920,000 (22) 11,323,749 17,253,179 45,209,204 01/01/02 028 58% 0 1,028,143 1,703,755 1,703,755 03/31/02 029 74% 1,000,000 (17) 1,986,618 2,312,861 6,127,386 07/01/02 030 92% 0 3,673,462 3,740,136 7,274,234 09/30/02 031 63% 0 4,760,894 4,951,443 10,024,031 09/01/05 032 59% 0 7,374,894 7,464,646 12,260,126 09/01/05 033 76% 1,383,705 (8) 619,979 633,604 2,653,184 02/01/21 034 89% 0 400,000 398,422 398,697 10/01/02 035 62% 1,000,000 (17) 591,662 928,445 1,331,275 09/25/02 036 74% 0 3,053,846 3,110,677 4,514,732 12/31/11 037 79% 2,096,000 (11)(13) 676,641 1,162,202 4,902,319 07/01/00 038 81% 0 8,580,000 8,351,314 8,351,314 12/31/02 039 8% 0 338,633 201,155 342,691 11/30/02 040 92% 35,250,000 (8) 7,904,886 8,081,017 9,806,748 12/01/02 041 79% 0 14,546,344 14,426,655 26,695,085 06/30/03 042 85% 0 4,234,556 4,262,517 4,290,337 12/31/02 043 67% 1,000,000 (35) 518,188 803,012 957,557 12/17/02 ----------- ----------- ----------- ------------- Balance as of December 31, 1997 $92,404,355 $92,543,583 $117,494,062 $225,115,371 =========== =========== ============ ============
65 (1) Consists of the stated or face value of the obligation plus accrued interest and the amount of the senior lien interest at December 31, 1997. (2) The Company generally obtains appraisals on each of its properties 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 calculated 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 $452,000. 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 senior lien interests at December 31, 1997 (excluding one senior lien interest of $2,334,719 which is included in the cost of investment carried on the books of the Company relating to loan 15). (7) With respect to loans 6, 7, 8, 14, 25, 27, 30, 31, 32, 34, 35, 38 and 39, the date given is for the maturity of the Company's interest in the loan. For loan 43, the date given is the expiration date of the Forbearance Agreement with respect to the loan in the original principal amount of $404,026 (see note (34) below). For the remaining loans, the date given is the expiration date of the related Forbearance Agreement. (8) Represents the amount of the senior lien in place on date of acquisition, except that, with respect to loan 40, it represents the amount of a senior lien interest sold contemporaneously with the Company's investment. (9) Loans 2, 4, 6, 8, 9, 10, 12, 19, 23, and one of the four loans (in the amount of $900,000) comprising loan 38 were sold to RAIT on January 23, 1998 (see note (30) below). In addition, senior lien interests in loans 27 and 38 were sold to RAIT on January 23, 1998. See "- Sponsorship of Real Estate Investment Trust." (10) Successor by merger to the Seller. (11) In December 1997, senior lien interests in loans 2, 4 and 10 were transferred to loan 37. (12) Seller was a wholly-owned subsidiary of this institution. (13) 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. (14) Seller was a partnership of these entities. (15) 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 66 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. (16) The loan acquired consists of a series of notes becoming due yearly through December 31, 2016. The notes are being paid in accordance with their terms and, accordingly, a Forbearance Agreement was not required. (17) Senior lien interest sold to Peoples Thrift Savings Bank. (18) Original senior lien interest repaid by the Company in December 1997. (19) Amounts advanced by the Company were used in part to directly repay the loan of Emigrant Savings Bank; the balance was applied to purchase a note held by Messrs. Samuels and Furman. (20) Senior lien interest sold to People's Thrift Savings Bank in 17 individual condominium units in a single building. (21) 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. (22) Two senior lien interests were sold to Commerce Bank, N.A. ("Commerce"), Philadelphia, Pennsylvania. 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. (23) 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. (24) Includes a note for $14,948 which is payable to the Company on demand. (25) Senior lien interest sold to Crusader Bank. The senior lien interest was paid off in connection with the acquisition of this loan by RAIT. (26) 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. (27) 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. (28) From 1993 to October 1997, an officer of the Company served as the General Partner. (29) Loan originated by the Company. (30) Consists of three related loans to one borrower secured by two properties. A fourth related loan, in the amount of $100,000, was repaid in the first quarter of fiscal 1998. The loans were originated by RAIT and funded by the Company pending closing of RAIT's public offering. Upon completion of that offering in the second quarter of fiscal 1998, the Company sold one of the loans (in the principal amount of $900,000) and $4.9 million of senior lien interests in the two remaining loans to RAIT, at cost. See note (9) above). (31) Construction loan with a maximum borrowing of $3,625,000. 67 (32) Company's estimate of the value of the property, pending completion of appraisal. (33) Original lending institution. (34) Consists of two related loans to one borrower secured by a single property in the original principal amounts of $1,600,000, due in October 2006, and $404,026 which is subject to a Forbearance Agreement expiring in December 2002. (35) Senior lien interest sold to Washsquare Properties Partners, L.P., a limited partnership in which officers and directors of the Company beneficially own a 17.8% limited partnership interest. 68 The following table sets forth certain information with respect to monthly cash flow from the properties underlying the Company's commercial mortgage loans, monthly debt service payable to senior lienholders and refinance lenders, monthly payments with respect to the Company's retained interest and the ratio of cash flow from the properties to debt service payable on senior lien interests. It should be noted that monthly cash flow for loans 39 through 43 is based upon estimates or historical information different than the average cash flow for the three months ended December 31, 1997 utilized for all other loans.
Monthly Monthly Debt Service Monthly Cash Debt Service on Payment to Coverage Ratio Loan Flow from Senior Lien the Company's on Senior Lien Number Property(1)(2) Interests(3) Interest Interests - ------ -------------- ------------ -------- --------- 001 $ 41,717 $ 26,425 $ 15,292 1.58 002 6,168 4,875 1,293 1.27 003 6,874 6,058 816 1.13 004 10,949 7,280 3,669 1.50 005 14,643 6,825 7,818 2.15 006 28,504 8,021 20,483 3.55 007 20,400 20,400 0 1.00 008 30,290 10,670 19,620 2.84 009 26,012 7,359 18,653 3.53 010 6,953 4,875 2,078 1.43 011 11,179 5,566 5,613 2.01 012 17,536 10,317 7,219 1.70 013 20,011 15,833 4,178 1.26 014 88,168 58,551 29,617 1.51 015 & 028 (4) 27,492 26,113 1,379 1.05 016 23,917 19,500 4,417 1.23 017 10,690 9,190 1,500 1.16 018 25,529 (5) 15,998 9,531 1.60 019 49,346 25,300 24,046 1.95 020 39,742 19,527 20,215 2.04 021 23,783 16,331 7,452 1.46 022 26,767 24,365 2,402 1.10 023 5,108 3,932 1,176 1.30 024 6,435 0 6,435 N/A 025 48,838 0 48,838 N/A 026 37,357 10,800 26,557 3.46 027 160,158 74,570 85,588 (6) 2.15 029 26,510 8,333 (7) 18,177 3.18 030 60,194 0 60,194 N/A 031 41,667 0 41,667 N/A 032 102,831 0 102,831 N/A
69
Monthly Monthly Debt Service Monthly Cash Debt Service on Payment to Coverage Ratio Loan Flow from Senior Lien the Company's on Senior Lien Number Property(1)(2) Interests(3) Interest Interests - ------ -------------- ------------ -------- --------- 033 21,940 14,985 6,955 1.46 034 5,112 0 5,112 N/A 035 27,954 8,333 (7) 19,621 3.35 036 23,950 0 23,950 N/A 037 25,000 0 25,000 N/A 038 69,013 0 69,013 (8) N/A ---------- -------- -------- $1,218,737 (9) $470,332 (9) $748,405 (9) 2.59 ---------- -------- -------- 039 $ 3,814 (10) $ 0 $ 3,814 N/A 040 375,000 (11) 249,497 125,503 1.50 041 154,699 (12) 0 154,699 N/A 042 34,080 (12) 0 34,080 N/A 043 16,418 (12) 12,854 3,564 1.28 ----------- -------- ----------- $ 584,011 $262,351 $ 321,660 2.23 ---------- -------- ---------- Total (loans 1 through 43) $1,802,748 $732,683 $1,070,065 2.46 ========== ======== ==========
- --------- (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 notes (4), (10), (11), and (12) monthly cash flow from each of the properties has been calculated as the average monthly amount during the three month period ended December 31, 1997. (3) Monthly debt service consists of required payments of principal, interest and other regularly recurring charges payable to the holder of the refinanced loan or senior lien interest. (4) Loans 15 and 28 represent 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) A senior lien interest of $4.9 million in loan 27 was sold to RAIT. (See note (9) to the previous table). As a result of this sale, the cash flow to the Company will decrease by $44,755 per month. (7) Includes additional debt service of $2,083 per month attributable to a senior lien interest sold in December 1997. (8) Loan 38 consisted of four related loans of which one was repaid in the first quarter of fiscal 1998. (See notes (9) and (30) to the previous table). One loan in the amount of $900,000 was sold to RAIT. In addition RAIT acquired senior lien interests in two of the remaining loans in the amount of $4.9 million. As a result of these sales the cash flow to the Company will decrease by $48,180 per month. 70 (9) Excludes amounts attributable to loans 39 through 43, which are referred to in the table below. (10) Monthly cash flow currently consists of interest only since loan 39 is a construction loan. (11) Based upon average cash flow for the three months ended January 31, 1998. (12) Estimate based on an historical analysis of the property's cash flow prior to the Company's purchase of the loan. 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 commercial mortgage loan portfolio at cost, which is significantly discounted from the face value of, and accrued interest and penalties on, the notes. This discount to face value and accrued interest and penalties (as adjusted to give effect to refinancings and sales of senior lien interests) totaled $110.4 million, $86.3 million, $40.0 million and $16.1 million at December 31, 1997, and 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 quarter ended December 31, 1997, the Company recorded a provision for possible losses of $52,000. 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 mortgage 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. 71 Residential Mortgage Loans The Company's residential mortgage lending business provides first and second mortgage loans on one-to-four family residences to borrowers who typically do not conform to guidelines established by Fannie Mae because of past credit impairment or other reasons. Through its subsidiaries, FMF and Tri-Star (which was acquired in November 1997 and which, following regulatory approvals regarding transfer of mortgage lending licenses, the Company anticipates merging into FMF), the Company is licensed as a residential mortgage lender in 23 states and is currently originating loans in 11 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 a targeted average loan of approximately $50,000. Currently, the average loan size is approximately $45,000. 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. Approximately 12% of the Company's residential mortgage loans for the quarter ended December 31, 1997 conform to Fannie Mae guidelines although the Company does not seek to originate these loans and does not expect to establish goals with respect to the aggregate percentage of conforming loans in its portfolio. The Company typically 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, under their names, 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. The Company (through FMF) has arranged two warehouse lines of credit, with an aggregate credit amount of $35 million, to fund its lending operations. See "Business - Sources of Funds." The Company (through FMF) is approved as a loan seller to 16 investors. The Company's policy is to sell its loans for cash. During the first quarter of fiscal 1998 however, the Company engaged in a sale of a pool of loans for a note. See "Risk Factors - Real Estate Finance Considerations - Note Received in Sale of Certain Residential Loans." 72 The Company's policy is generally to sell loans on a servicing-released basis, however, with respect to the sale of $6.8 million of originated and acquired loans, the sale was on a servicing-retained basis. The Company has subcontracted the servicing of these loans to Jefferson Bank. See "Risk Factors - Real Estate Finance Considerations - Note Received in Sale of Certain Residential Loans" and "Management - Certain Relationships and Related Party Transactions - Jefferson Bank." As FMF and Tri-Star develop their operations and increase staffing, they may retain servicing for their own account and may retain certain loans for their portfolios. Sponsorship of Real Estate Investment Trust The Company is the sponsor of RAIT, a publicly-held real estate investment trust whose common shares of beneficial interest are listed on the American Stock Exchange. RAIT's primary business is to acquire or originate commercial mortgage loans in situations that, generally, do not conform to the underwriting standards of institutional lenders or sources that provide financing through securitization. Although RAIT may acquire commercial mortgage loans at a discount, it seeks to acquire such loans where the workout process has been initiated and where, unlike the commercial mortgage loans acquired by the Company, there is no need for RAIT's active intervention. RAIT commenced operations on January 14, 1998. As sponsor of RAIT, the Company acquired 15% of RAIT's common shares of beneficial interest upon completion of the offering of such shares, at a cost of approximately $7.0 million. So long as the Company owns 5% or more of RAIT's common shares, the Company will have the right to nominate one person to RAIT's board of trustees (the "Board of Trustees"). The Company sold 10 of its mortgage loans and senior lien interests in two other loans (representing a net investment by the Company at December 31, 1997 of $17.1 million, including $2.0 million of senior lien interests acquired by the Company in connection with the sale) to RAIT, as part of RAIT's initial investments, for $20.1 million. The Company may sell further loans to RAIT, to a maximum of 30% of RAIT's investments (on a cost basis), excluding the initial investments. Betsy Z. Cohen, spouse of the Company's Chairman and Chief Executive Officer, Edward E. Cohen, and mother of Daniel G. Cohen, the Chairman and Chief Executive Officer of FMF and an Executive Vice President and director of the Company, is the Chairman and Chief Executive Officer of RAIT. Jonathan Z. Cohen, the son of Mr. and Mrs. Cohen and the Secretary and a director of Resource Energy, Inc., a wholly-owned subsidiary of the Company through which its energy operations are conducted ("Resource Energy"), is the Company's nominee to the Board of Trustees. To limit conflicts between RAIT and the Company, it has been agreed that, for two years following the completion of the RAIT offering, (i) the Company will not sponsor another real estate investment trust with investment objectives and policies which are the same as, or substantially similar to, those of RAIT; (ii) if the Company originates a proposal to provide wraparound or other junior lien or subordinated financing (as opposed to acquiring existing financing) with respect to multifamily, office or other commercial properties to a 73 borrower (other than to a borrower with an existing loan from the Company), the Company must first offer the opportunity to RAIT; and (iii) if the Company desires to sell any loan it has acquired that conforms to RAIT's investment objectives and policies with respect to acquired loans, it must first offer to sell it to RAIT. The Company anticipates that complying with these restrictions will not materially affect the Company's operations for the foreseeable future. The Company has also agreed that if, after the expiration of the two year period, the Company sponsors a real estate investment trust with investment objectives similar to those of RAIT, the Company's representative on the Board of Trustees (should the Company have a representative on the Board at that time) will recuse himself or herself from considering or voting upon matters relating to financings which may be deemed to be within the lending guidelines of both RAIT and the real estate investment trust then being sponsored by the Company. Equipment Leasing General 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 acquisition, the Company assumed the management of five publicly-held equipment leasing partnerships involving $49.8 million (original equipment cost) in leased assets at December 31, 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 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 five 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 August 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. 74 Strategy Focus on Small Ticket Leasing. The Company focuses on leasing equipment costing between $5,000 and $100,000 ("small ticket" leasing). 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 businesses thereby affording the Company a niche market with significant growth potential (see "Business - Equipment Leasing - Strategy: Focus on Leasing to Small Businesses"). 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) accounted for 21% and 8%, respectively, of the equipment (by cost) leased by the Company from the beginning of operations through December 31, 1997 (18% and 8%, respectively, for the quarter ended December 31, 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 employees). The Company has acquired and developed credit evaluation and scoring systems (based upon credit evaluation services provided by Dun & Bradstreet) which it believes significantly increases its ability to evaluate the credit risk in dealing with small business end-users (see "Business - Equipment Leasing - 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. 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 75 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. Focus on Lease Sales. The Company sells virtually all of its leases. In fiscal 1997, the Company effected four sales in which it sold discrete pools of leases and the equipment underlying the leases (including the residual interest) to Intermediate Purchasers which then sold interests in the leases to an institutional buyer. In the first quarter of fiscal 1998, the Company entered into an arrangement with an Intermediate Purchaser and a group of institutional buyers to periodically sell leases originated by the Company, to a maximum of $50.0 million of leases. The Company has sold $14.4 million of leases under this arrangement. See "Business - Sources of Funds - Forward Sale Commitment." To date, the Company has retained the servicing rights on the leases it sells. The Company anticipates that in the future it will enter into sale arrangements similar to that concluded in the first quarter of fiscal 1998; however, the Company may retain the residual interest in the equipment in the future. Selling the leases allows the Company to recover a significant amount of its investment in the leased equipment, freeing capital for further leasing activity. See "Risk Factors - Equipment Leasing Considerations - Sale of Leases." 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. 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 equipment purchased by the Company, by principal product type and percentage of dollar 76 volume of equipment purchased, during the quarters ended December 31, 1997 and 1996 and fiscal years 1997 and 1996. Equipment Volume by Product Type (% by dollar volume of equipment purchased)
Quarter Ended Year Ended December 31, September 30, ------------------ --------------------- 1997 1996 1997 1996 ---- ---- ---- ---- Document processing and storage.............. 48% 68% 49% 73% Telecommunications........................... 38% 19% 37% 21% Computer systems............................. 10% 10% 8% 6% Other........................................ 4% 3% 6% - ---- ---- ---- --- 100% 100% 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 "Business - Equipment Leasing - Strategy: Focus on Vendor Programs." The Company has currently entered into vendor program relationships with eight vendors: Minolta Corporation (copiers), Celsis Incorporated (microbial testing systems), 77 American Marbacom Communications (Teleco) (telephone systems), CSi (test equipment), Telrad Communications (telephone systems), ATI Communications (telephone systems), the National Association of College Stores (affinity program) and Millipore Corp. (test equipment). In addition, Lucent Technologies (telecommunications equipment) and Softmart (computer software) have designated the Company as an authorized lessor for their dealer distribution channels. 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 in the future the Company may retain the residual interest in leases sold by it and derive a significant portion of its leasing profits from residuals. Currently, repayment of notes received by the Company from Intermediate Purchasers of the Company's equipment leases depends, to a significant extent, on realization of residuals. See "Risk Factors - Equipment Leasing Considerations - Residuals" and "- Sale of Leases," see also "Business - Equipment Leasing - Revenue Recognition and Lease Accounting." 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. 78 Revenue Recognition and Lease Accounting General. The manner in which lease finance transactions are characterized and reported for accounting purposes has a major impact upon the Company's reported revenue, net earnings and the resulting financial measures. Lease accounting methods significant to the Company's leasing operations are discussed below. Direct Financing Leases. The Company classifies its lease transactions, as required by the Statement of Financial Accounting Standards No. 13, Accounting for Leases ("FASB No. 13") as direct financing leases (as distinguished from sales-type or operating leases). Direct financing leases transfer substantially all benefits and risks of equipment ownership to the customer. A lease is a direct financing lease if the creditworthiness of the customer and the collectibility of lease payments are reasonably certain and it meets one of the following criteria: (i) the lease transfers ownership of the equipment to the customer by the end of the lease term; (ii) the lease contains a bargain purchase option; (iii) the lease term at inception is at least 75% of the estimated economic life of the leased equipment; or (iv) the present value of the minimum lease payments is at least 90% of the fair market value of the leased equipment at inception of the lease. The Company's net investment in direct financing leases consists of the sum of the total future minimum lease payments receivable and the estimated unguaranteed residual value of leased equipment, less unearned income. Unearned lease income, which is recognized as revenue over the term of the lease by the effective interest method, 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. 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. Residual Values. Unguaranteed residual value represents the estimated amount to be received at lease termination from lease extensions or disposition of the leased equipment financed under direct financing leases. The estimates are based upon available industry data and senior management's prior experience with respect to comparable equipment. The residual values are recorded as investment in direct financing leases, on a net present value basis. The estimated residual values will vary, both in amount and as a percentage of the original equipment cost depending upon several factors including the equipment type, market conditions and the term of the lease. Amounts to be realized at lease termination depend on the 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 value is below its recorded value. Any required changes are recorded in accordance with FASB No. 13. In accordance with generally accepted accounting principles, residual values can only be adjusted downward. Sales of Leases. The Company sells a large percentage of the leases it originates (including residual values) through indirect securitization transactions and other structured finance techniques. In a securitization transaction, the Company sells and transfers a pool of 79 leases to a bankruptcy remote Intermediate Purchaser unaffiliated with the Company. Typically, the Intermediate Purchaser will have no material assets apart from the leases sold to it. The Intermediate Purchaser in turn simultaneously sells and transfers its interest in the leases (excluding the residual value) to a financial institution in return for cash equal to a percentage of the aggregate present value of the finance lease receivables being sold. The consideration paid to the Company for the lease receivables and the residuals sold to the Intermediate Purchaser consists of the cash advanced by the financial institution and an interest bearing note from the Intermediate Purchaser. Gains on the sale of leasing portfolios are recorded at the date of sale in the amount by which the sales price exceeds the book value of the underlying leases. Subsequent to a sale, the Company has no remaining interest in the pool of leases or equipment except (i) a security interest is retained in the pool when a note is received as part of the sale proceeds and (ii) under certain circumstances, the Company is obligated to replace non-performing leases in the pool. See "Risk Factors - Equipment Leasing Considerations - Sale of Leases" and "- Potential Replacement of Leases" and "- Residuals." To the extent that the Company determines to retain residuals for its own account, the Company's gain on sale from any pool of leases so sold may be materially reduced, although the Company's revenues in subsequent years from realization of residuals may be increased. For a discussion of certain risks relating to realization of residuals, see "Risk Factors Equipment Leasing Considerations - Residuals." During the fiscal year ended September 30, 1997, the Company sold leases on a servicing retained basis, with a book value of approximately $30.2 million to Intermediate Purchasers in return for cash of $20.6 million and notes with a total face value of $13.3 million resulting in a gain of $3.7 million. During the year ended September 30, 1997, $8.5 million of principal payments were made on these notes. In the first quarter of fiscal 1998 the Company sold leases with a book value of approximately $14.4 million to an Intermediate Purchaser in return for cash of $12.3 million and a note with a face value of $3.9 million. The Company accounts for the sale and servicing of lease equipment in accordance with SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities." See Note 2, Notes to Consolidated Financial Statements. Partnership Management The Company acts as the general partner and manager of five public limited partnerships formed between 1986 and 1990 with total assets at December 31, 1997 of $36.1 million, including $18.5 million (book value) of equipment with an original cost of $49.8 million. The partnerships primarily lease computers and related peripheral equipment to investment grade, middle market, and 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. 80 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 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 $252,000 and $300,000 during the quarters ended December 31, 1997 and 1996, respectively, and $657,000 and $650,000 during fiscal years 1997 and 1996, respectively. Energy Operations General The Company produces natural gas and, to a lesser extent, oil from locations principally in Ohio, Pennsylvania and New York. At December 31, 1997, the Company had (either directly or through partnerships and joint ventures managed by it) interests in 1,264 wells (including royalty or overriding interests with respect to 182 wells), of which the Company operates 908 wells, 590 miles of natural gas pipelines and 91,000 acres (net) of mineral rights. 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. From time to time, the Company receives indications of interest in the acquisition of its energy operations, and continually pursues the increase of its reserve base through selective acquisition of producing properties and other assets. Within the past nine months, the Company has acquired the assets of two small energy companies. For further information, see Note 11 to Consolidated Financial Statements. 81 Well Operations The following table sets forth information as of December 31, 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...................... 161 62 Gas Wells...................... 921 612 ----- --- 1,082 674 ===== === - ------------- (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 182 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 Period(1) Oil(bbls) Gas(mcf) per bbl per mcf mcf(2) ---------------- --------- -------- ------- ------- ---------- 1998 11,450 386,171 $17.52 $2.63 $1.14 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) All periods are fiscal years, except that 1998 is for the first fiscal quarter ended December 31, 1997. (2) Oil production is converted to mcf equivalents at the rate of six mcf per barrel. 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. 82 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 the first quarter of fiscal year 1998 and fiscal years 1997, 1996, and 1995, regardless of when drilling was initiated.
Exploratory Wells Development Wells -------------------------------------- ------------------------------------- Productive Dry Productive Dry Fiscal ---------------- --------------- --------------- -------------- Period(1) Gross Net Gross Net Gross Net Gross Net --------- ----- --- ----- --- ----- --- ----- --- 1998 -- -- -- -- -- -- -- -- 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
- --------- (1) All periods are fiscal years, except that 1998 is for the first fiscal quarter ended December 31, 1997. 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. See Note 13 to the Consolidated Financial Statements. 83 The following table sets forth information with respect to the Company's developed and undeveloped oil and gas acreage as of December 31, 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........................... 30,065 21,025 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 - - ------- ------ ------ ---- 106,902 60,832 32,987 30,907 ======= ====== ====== ======
The terms of the oil and gas leases held by the Company's for its own account and by its managed partnerships 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 in fiscal 1997 and $16,400 for the quarter ended December 31, 1997 were paid 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 December 31, 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 590 miles in length. The pipeline systems are located in Ohio, New York and Pennsylvania. 84 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 and oil is sold to various purchasers. In fiscal 1998 through January 31, 1998, gas and oil sales to three purchasers accounted for 36%, 14% and 11%, respectively, of the Company's total production revenues. 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. 85 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 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. During fiscal 1997, the Company augmented its internally generated funds by a $5.0 million credit facility (increased to $20.0 million in the first quarter of fiscal 1998) for its residential mortgage lending operations and a $5.0 million credit facility for oil and gas asset acquisitions 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 $115.0 million of the Senior Notes due 2004 to a small group of institutional investors, resulting in $110.6 million of net proceeds to the Company. In addition, during fiscal 1997 the Company entered into an initial $20.0 million credit facility for its equipment leasing operations. In the first quarter of fiscal 1998, the Company entered into a $50.0 million forward sales commitment and an additional $15.0 million warehouse credit facility for its residential mortgage lending operations. See Note 6 to Consolidated Financial Statements. 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 86 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 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. Lease Financing Credit Facility. FLI maintains a $20.0 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 bear interest at adjusted LIBOR rate plus 175 basis points, while term loans bear interest at adjusted LIBOR plus 225 basis points; (ii) the loans are 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 $2.0 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 $5.0 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 stockholders' equity of $40.0 million. The facility expires on May 29, 1998 but may be renewed annually by the lenders. The Company is 87 currently negotiating with the lenders for a renewal of the facility and believes that the facility will be renewed on similar terms. There can, however, be no assurance that the facility will be renewed or that the renewal terms will be similar to the existing terms. See "Risk Factors - General - Ability to Generate Funding for Growth." 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. There were no borrowings under this line during the quarter ended December 31, 1997. Residential Mortgage Loan Credit Facilities. FMF maintains a $20.0 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 $1.0 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. There were no borrowings outstanding under this facility at December 31, 1997. FMF has also established a $15.0 million warehouse credit facility with Morgan Stanley Mortgage Capital, Inc., bearing interest at LIBOR or, if unavailable, the 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 $1.0 million), and a ratio of total indebtedness to tangible net worth of 10.0 to 1.0. The facility expires on October 16, 1998. There were $4.4 million of borrowings outstanding under this facility at December 31, 1997. Forward Sale Commitment. In December 1997, the Company, through FLI, entered into an arrangement (the "Commitment") with SW Leasing Portfolio IV, Inc. ("SW"), as the Intermediate Purchaser, and First Union National Bank ("First Union") and Variable Funding Capital Corporation ("VFCC"), as the ultimate investors, pursuant to which (1) SW will purchase equipment leases (meeting specific eligibility requirements) and the underlying equipment from FLI for a purchase price equal to the sum of the present value of scheduled payments (the "Discounted Contract Balance") as of the date of sale and the residual value of the equipment (the "Residual Value"), (2) First Union and VFCC will purchase, for a price equal to the product of .88 multiplied by the aggregate Discounted Contract Balances on the date of sale, up to $50.0 million of equipment leases from SW from time to time on or before December 17, 1998 and (3) FLI acts as servicing agent for the equipment leases purchased by First Union and VFCC from SW. SW uses the cash received by it from First Union and VFCC to pay a portion of the purchase price of the leases and pays the balance with a promissory note in an original principal amount equal to the aggregate Residual Value and the non-advanced portion of the aggregate Discounted Contract Balances. Lease collections in excess of fees associated with the leases and a return to First Union and VFCC (equivalent to 88 LIBOR, the First Union prime rate, or the federal funds rate plus 1%, depending on the circumstances) may be reinvested in eligible leases (unless the capital limit (the product of the aggregate Discounted Contract Balances multiplied by .88) has been exceeded, in which event the amount of such excess must be paid to First Union and VFCC) or paid to SW in order to pay down the promissory note to FLI. Under the Commitment, FLI is obligated to provide a substitute equipment lease to First Union and VFCC in the event a lease is terminated or prepaid in full prior to its scheduled expiration date and the prepayment amount is less than the Discounted Contract Balance on the date of prepayment plus any outstanding servicer advances. In addition, SW and FLI are obligated to accept re-transfer of, or provide a substitute lease for, any lease which does not meet the eligibility requirements. The Commitment is subject to early termination under certain circumstances, including (i) if the ratio of the average Discounted Contract Balances (for each of the previous three months) for all leases delinquent in payments by 60 days or more to the aggregate Discounted Contract Balances (for each of the previous three months) for all non-delinquent leases exceeds 3% or (ii) if the ratio of the aggregate Discounted Contract Balances (for each of the preceding six months) for all defaulted leases (i.e., leases which the Company has determined are not collectible or subject to repossession or which are delinquent in payments by 120 days or more) to the aggregate Discounted Contract Balances (for each of the preceding six months) for all non-defaulted leases exceeds 2.75%. In the first quarter of fiscal 1998, the Company sold to SW equipment leases with an aggregate book value of $14.4 million in return for cash of $12.3 million and a promissory note for $3.9 million. Oil and Gas Credit Facility. In October 1997, the Company obtained a $5.0 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 $31.0 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. There were no borrowings under this line during the quarter ended December 31, 1997. Employees As of December 31, 1997, the Company employed 226 persons, including 8 in general corporate, 112 in real estate finance, 80 in equipment leasing and 26 in energy. 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 small ticket equipment leasing and residential mortgage loan headquarters are located in Ambler, Pennsylvania, and are leased by the Company under agreements providing for rents of 89 $355,000 per year (including space leased beginning July 1, 1997). The agreements terminate on June 30, 1998 and June 30, 2007. The Company leases space for management operations with respect to its five public leasing partnerships in Philadelphia for $87,825 per year. That lease expires on January 24, 2003. 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. 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. 90 MANAGEMENT Directors and Executive Officers The following sets forth certain information regarding the directors and executive officers of the Company:
Name Age Position with the Company - ---- --- ------------------------- Edward E. Cohen(1)................... 59 Chairman of the Board of Directors, President, Chief Executive Officer and Director Daniel G. Cohen(2)................... 28 Executive Vice President and Director Scott F. Schaeffer(1)................ 35 Executive Vice President and Director Steven J. Kessler.................... 54 Senior Vice President and Chief Financial Officer Freddie M. Kotek..................... 42 Senior Vice President Michael L. Staines(2)................ 48 Senior Vice President, Secretary and Director Nancy J. McGurk...................... 42 Vice President-Finance and Treasurer Carlos C. Campbell(1)................ 59 Director Andrew M. Lubin(3)................... 50 Director Alan D. Schreiber, M.D.(3)........... 55 Director John S. White(2)..................... 56 Director
- --------- (1) Term as director expires in 1999. (2) Term as director expires in 2000. (3) Term as director expires in 1998. Edward E. Cohen has been Chairman of the Board of Directors of the Company since 1990, its Chief Executive Officer and a director since 1988 and its President since 1995. He is Chairman of the Board of Directors and a director of BCMI, a real estate construction and management company. See "Management - Certain Relationships and Related Party Transactions." Since 1981, Mr. Cohen has been Chairman of the Executive Committee and a director of JeffBanks, Inc. (a bank holding company with total assets of approximately $1.2 billion). From 1991 to 1996, Mr. Cohen was affiliated with Ledgewood Law Firm, P.C., most recently in an of counsel capacity. See "Legal Matters." From 1969 through 1989, Mr. Cohen was Chairman of the Board or Chairman of the Executive Committee of State National Bank of Maryland (now First Union Bank of Maryland) and/or its holding company. Mr. Cohen is the father of Daniel G. Cohen. Daniel G. Cohen has been an Executive Vice President and Director of the Company since July, 1997. Prior thereto, since 1995, Mr. Cohen had been a Senior Vice President of the Company. Mr. Cohen is also Chairman, Chief Executive Officer and a director of FMF, the residential mortgage loan origination subsidiary of the Company. Prior to joining the Company in November 1995, Mr. Cohen was principally engaged in graduate studies. Mr. Cohen is the son of Edward E. Cohen. 91 Scott F. Schaeffer has been an Executive Vice President and Director of the Company since July, 1997. Prior thereto, Mr. Schaeffer had been, since 1995, a Senior Vice President of the Company. Mr. Schaeffer has been President of Resource Properties, Inc. (a wholly owned subsidiary of the Company) since 1992. Steven J. Kessler has been Senior Vice President and Chief Financial Officer of the Company since August 1997. Prior thereto, Mr. Kessler was Vice President (Finance and Acquisitions) at Kravco Company (a national shopping center developer and operator) from March 1994 until joining the Company. From 1983 through March of 1994, he was Chief Financial Officer and Chief Operating Officer at Strouse Greenberg & Co., Inc., a regional full service real estate company, and Vice President (Finance) and Chief Accounting Officer at its successor, The Rubin Organization. Prior thereto, he was a partner at the international accounting and consulting firm of Touche Ross & Co. (now Deloitte & Touche LLP), Philadelphia, Pennsylvania. Freddie M. Kotek has been a Senior Vice President of the Company since 1995 and an Executive Vice President of Resource Properties, Inc. (a wholly owned subsidiary of the Company) since 1993. Prior thereto, he was a First Vice President of Royal Alliance Associates (an investment banking and brokerage firm) from 1991 to 1993, and a Senior Vice President and Chief Financial Officer of Paine Webber Properties (a real estate investment firm) from 1990 to 1991. Michael L. Staines has been Senior Vice President, Secretary and a director of the Company since 1989 and President and a director of Resource Energy since its organization in 1993. Nancy J. McGurk has been Vice President-Finance of the Company since 1992 and Treasurer and Chief Accounting Officer of the Company since 1984. Carlos C. Campbell has been a director of the Company since 1990. He is President of C.C. Campbell and Company (a management consulting firm), Vice Chairman of the Board of Directors of Computer Dynamics, Inc. (a computer services corporation) and a director of Sensys, Inc. (a telecommunication/asset management corporation). Andrew M. Lubin has been a director of the Company since 1994. He has been President of Delaware Financial Group, Inc. (a private investment firm) since 1984. Alan D. Schreiber, M.D. has been a director of the Company since 1994. Dr. Schreiber has been a Professor of Medicine and Assistant Dean for Research and Research Training at the University of Pennsylvania School of Medicine since 1973 and Chairman of the Scientific Advisory Board of Inkine Pharmaceutical Co., Inc. since 1997. From 1993 to 1997, Dr. Schreiber was Chief Scientific Officer of CorBec Pharmaceuticals, Inc., a Company he founded. 92 John S. White has been a director of the Company since 1993. He has been Chairman of the Board and Chief Executive Officer of DCC Securities Corporation (a securities brokerage firm) since 1990. Other Significant Employees The following sets forth certain information regarding other significant employees of the Company: Abraham Bernstein, age 64, is the Chairman, Chief Executive Officer and President of the small ticket equipment leasing subsidiary of the Company. From 1982 to 1993, he was the President and Chief Executive Officer of Tokai Financial Services, Inc., the equipment leasing subsidiary of Tokai Bank of Japan. From 1993 to 1995, the contractual period during which Mr. Bernstein's restrictive covenant with Tokai was in effect, Mr. Bernstein was a Managing Director of the Rittenhouse Consulting Group (a financial consulting company). Crit DeMent, age 44, is the Executive Vice President of FLI. Prior thereto, from 1983 through 1996 he was Vice President-Marketing and Leasing Associate-Senior Account Representative for Tokai Financial Services, Inc. Joseph T. Ellis, Jr., age 36, is the Director of Vendor Services for FLI. Prior thereto, from 1985 through February 1996, he held various marketing and sales positions with Tokai Financial Services, Inc., most recently as the Director of Program Management and Strategic Market Development. Frank V. Pellegrini, age 50, has been the Chairman, Chief Executive Officer and President of Tri-Star since 1993. Prior to that, he was Senior Vice President of Home American Financial Services, Inc. (now known as Upland Mortgage Corporation), a residential mortgage lender. Kathy B. Schauer, age 46, has served since February 1997 as the President, Chief Operating Officer and a director of FMF. Immediately prior to joining FMF, Ms. Schauer served as Director of Business and Product Development at Standard & Poors Rating Services (where she was involved in the development and implementation of credit scoring and pricing models for the residential mortgage market), and, prior thereto, served in executive capacities with Smith Barney, Meridian Bancorp and J.P. Morgan. From 1985 to 1993, Ms. Schauer was a Vice President (Mortgage Products Group) of CS First Boston. Bruce R. Schmidt, age 40, is Senior Vice President of FMF. From 1993 until March 1997, Mr. Schmidt was Director of Marketing for Advanta Corp., a national consumer home equity lender. Prior thereto, from 1988 to 1993, he was Vice President, Marketing, for Nutri/System, Inc., a national weight loss program company. 93 Jeffrey C. Simmons, age 39, has been Executive Vice President and a director of Resource Energy since 1997. From 1994 to 1997 he was Vice President-Exploration of the Company and from 1988 to 1994 he was Director of Well Services of the Company. Certain Relationships and Related Party Transactions In the ordinary course of its business operations, the Company has ongoing relationships with several related entities, primarily a property management firm, a bank and RAIT. As particular opportunities have arisen, the Company has purchased commercial mortgage loans from, or involving borrowers which are, affiliated with officers of the Company. In three instances (excluding sales to RAIT) the Company has sold senior or junior lien interests in commercial loans to purchasers affiliated with officers of the Company. At December 31, 1997, loans held with respect to related borrowers or acquired from related lenders constitute 7% ($8.2 million), by book value, of the Company's commercial loan portfolio, while the senior lien interests sold to related purchasers constituted 6% ($5.9 million) of all senior lien interests with respect to the Company's commercial loan portfolio. Transactions with affiliates must be approved by the Company's Board of Directors, including a majority of the disinterested directors. In addition, acquisitions of commercial mortgage loans must be approved by the Investment Committee of the Board of Directors (which consists of two disinterested directors). The Company believes that the terms of its transactions with related parties are no less favorable than those available from unrelated third parties. A more detailed description of these relationships and transactions is set forth below. Relationship with BCMI. The Company holds commercial mortgage loans of borrowers whose underlying properties are managed by BCMI, a firm of which Edward E. Cohen is Chairman of the Board of Directors and a minority stockholder (approximately 8%). The Company has advanced funds to certain of these borrowers for improvements on their properties, which have been performed by BCMI. The President of BCMI (or an entity affiliated with him) has also acted as the general partner or trustee of ten of the borrowers; an entity affiliated with him is the general partner of the sole limited partner of an eleventh borrower. BCMI has agreed to subordinate its management fees to receipt by the Company of minimum required debt service payments under the obligations held by the Company. Relationship with Jefferson Bank. The Company maintains normal banking and borrowing relationships with Jefferson Bank, a subsidiary of JeffBanks, Inc. The Company, through FMF, subcontracts any residential mortgage loan servicing duties to Jefferson Bank. See "Business - Real Estate Finance - Residential Mortgage Loans." Edward E. Cohen and his spouse are officers and directors of JeffBanks, Inc. (and his spouse is Chairman and Chief Executive Officer of Jefferson Bank and JeffBanks, Inc.), and are principal stockholders thereof. Daniel G. Cohen is a director of Jefferson Bank. The Company anticipates that it may effect borrowings in the future from Jefferson Bank. Jefferson Bank is also a tenant at two properties which secure loans held by the Company and, at one of such properties, subleases space to RAIT. 94 Relationship with RAIT. The Company sponsored the formation and public offering of common shares of beneficial interest of RAIT. See "Business - - Real Estate Finance - Sponsorship of Real Estate Investment Trust." RAIT raised $49.3 million (including the Company's investment) in the offering which was completed in January 1998. The Company acquired 15% of RAIT's outstanding shares for an investment of approximately $7.0 million. Edward E. Cohen's spouse, Betsy Z. Cohen, is Chairman and Chief Executive Officer of RAIT. The Company has the right to nominate one person for election to the Board of Trustees until such time as its ownership of RAIT's outstanding common shares is less than 5%. One of the current trustees, Jonathan Z. Cohen, is serving as the Company's nominee. Jonathan Z. Cohen is the son of Edward E. Cohen (Chairman, Chief Executive Officer and President of the Company), the brother of Daniel G. Cohen (Executive Vice President and director of the Company and Chairman and Chief Executive Officer of FMF), and is the Secretary and a director of Resource Energy. The Company had advanced funds to RAIT for legal, accounting and filing fees and expenses, salaries of RAIT's executive officers, rent and other organizational expenses and for the expenses incurred by the Company in sponsoring RAIT including an allocation of compensation of Company employees. These advances were without interest and were repaid from the proceeds of RAIT offering. In connection with RAIT's offering, the Company, through its subsidiaries, sold ten loans and senior lien interests in two additional loans to RAIT (the "Initial Investments") at an aggregate purchase price of $20.1 million (including $2.0 million attributable to senior lien interests acquired by the Company in connection with the sales to RAIT). Two of the Initial Investments were originated for RAIT; one was sold to RAIT at cost and RAIT purchased a senior lien interest in the other at cost. The Company realized a gain on the sale of the Initial Investments of $3.0 million. The Company anticipates that, subject to certain limitations, it will sell additional investments to RAIT. Relationships with Certain Borrowers. The Company has from time to time purchased loans in which affiliates of the Company are affiliates of the borrowers, as discussed in the following paragraphs. (Loan numbers are as set forth in the table of loans in "Business - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution: Loan Status.") In August 1997, the Company, through a subsidiary, acquired a loan (loan 35) 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 Mr. Schaeffer, the Company's executive vice president and a director, is the general partner and Edward E. Cohen, together with his spouse, are limited partners. The Company leases its headquarters space at such property. The lease provides for rents of $65,000 per year through May 2000. Ledgewood Law Firm, P.C., a law firm which provides legal services to the Company, and BCMI are also tenants at such property. In June 1997, the Company acquired a loan (loan 29) with a face amount of $7.0 million from a partnership in which Mr. Schaeffer and Edward E. Cohen, together with his 95 wife, are limited partners. Mr. Schaeffer was previously the general partner of such partnership. The Company acquired such loan at a cost of $3.0 million. In December 1994, the Company acquired a loan (loan 13) with a face amount of $3.0 million from California Federal Bank, FSB at a cost of $1.7 million. The loan is secured by a property owned by a borrower whose general partner is the President of BCMI. Edward E. Cohen, together with his wife, is a limited partner in such partnership. The borrower refinanced the Company's loan in September 1995, applying $2.0 million of the proceeds to the repayment of the Company's loan. As a result, the Company obtained a gain on its investment of $300,000, while maintaining a continuing interest in the loan of approximately $1.0 million. In August 1994, the Company acquired from third parties a loan (loan 8), in the original principal amount of $ 3.4 million (and with a then-outstanding balance of $4.4 million), for an investment of $1.6 million. The borrower is a limited partnership of which Mr. Lubin, a director of the Company, is currently the general partner. Mr. Lubin assumed such position after the Company's acquisition of the loan. Previously, the general partner had been the President of BCMI. The borrower subsequently refinanced the loan with another third party and repaid the Company $934,000, leaving the Company with a net investment of $419,000. This loan was sold to RAIT in January 1998. Relationships with Certain Lienholders. The Company has sold two senior lien interests and one junior lien interest in its commercial loans to entities in which officers of the Company have minority interests as discussed in the following paragraphs. In December 1997, the Company purchased from third parties, for an aggregate of $1.51 million, two loans (loan 43) in the aggregate original principal amount of $2.0 million and with an aggregate outstanding balance at the time of purchase of $1.96 million. The loans are secured by an apartment building. The Company sold to a limited partnership in which Edward E. Cohen and Scott F. Schaeffer beneficially own a 17.8% interest a senior lien interest in one of the loans for $1.0 million, reducing the Company's net investment to $518,000 and leaving the Company with a retained interest in outstanding loan receivables of $1.0 million (at a book value of $803,000). From November 1996 to June 1997 the Company acquired from third parties loans (loan 26) relating to one property in the aggregate original principal amount of $5.8 million (and with aggregate outstanding balances at the respective times of purchase of $6.9 million) for an investment of $2.5 million. The Company sold a senior lien interest in the loan for $2.2 million reducing the Company's net investment to $245,000 and leaving the Company with a retained interest in outstanding loan receivables of $6.3 million (at a book value of $2.4 million). The purchaser was a limited partnership in which Edward E. Cohen and Scott F. Schaeffer beneficially own an 18.3% limited partnership interest. 96 In June 1996, for an investment of $2.4 million the Company acquired from third parties a loan (loan 22), in the original principal amount of $3.3 million (and with a then-outstanding balance of $3.3 million). The Company sold a junior lien interest in the loan for $875,000, leaving the Company with a net investment of $1.5 million, to a limited partnership in which Messrs. Edward E. Cohen and Scott F. Schaeffer beneficially own a 21.3% limited partnership interest. Relationship with Financing Institution. The Company has in the past obtained material amounts of financing from Physicians Insurance Company of Ohio ("PICO") by the sale to PICO, in May 1994, of an $8 million principal amount 9.5% senior note and by the sale to PICO, in fiscal years 1995 and 1996, of $12 million of senior lien interests in seven of the Company's portfolio loans, together with warrants to purchase 983,150 shares of Common Stock. In July 1997, the Company repaid the senior note in full and PICO exercised, and subsequently sold, the common shares underlying the warrants to institutional investors in private transactions pursuant to which the Company granted certain registration rights. See "Shares Eligible for Future Sale." Following such transactions, John R. Hart, an executive officer and director of PICO who had become a director of the Company in connection with the PICO financings, resigned from the Board of Directors of the Company. 97 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth the number and percentage of shares of Common Stock owned, as of March 3, 1998, by (a) each person who, to the knowledge of the Company, is the beneficial owner of 5% or more of the outstanding shares of Common Stock, (b) each of the Company's present directors, (c) each of the Company's executive officers, and (d) all of the Company's present executive officers and directors as a group. This information is reported in accordance with the beneficial ownership rules of the Securities and Exchange Commission under which a person is deemed to be the beneficial owner of a security if that person has or shares voting power or investment power with respect to such security or has the right to acquire such ownership within 60 days. Shares of Common Stock issuable pursuant to options or warrants are deemed to be outstanding for purposes of computing the percentage of the person or group holding such options or warrants but are not deemed to be outstanding for purposes of computing the percentage of any other person. See note (2) below, for information concerning outstanding options.
Common Stock ------------------------------------------------- Amount and Nature of Percent of Beneficial Owner Beneficial Ownership Class ---------------- -------------------- ----- Directors(1) Carlos C. Campbell 160 * Daniel G. Cohen 6,180 (2) * Edward E. Cohen 426,250 (2)(3)(4)(6) 8.89% Andrew M. Lubin 280 * Scott F. Schaeffer 100,183 (2)(3)(4)(5) 2.11% Alan D. Schreiber, M.D. 5,370 * Michael L. Staines 44,390 (2)(3)(4) * John S. White 0 * Executive Officers(1) Steven J. Kessler 0 * Freddie M. Kotek 26,355 (2)(3)(4) * Nancy J. McGurk 24,900 (2)(3)(4) * All present officers 579,335 (2)(3)(4)(5)(6) 11.97% and directors as a group (11 persons)
98
Common Stock ------------------------------------------------- Amount and Nature of Percent of Beneficial Owner Beneficial Ownership Class ---------------- -------------------- ----- Other owners of 5% or More of Outstanding Shares(7) Friedman, Billings, Ramsey Investment Management, Inc. 314,005 6.61% Keefe Managers, Inc. 450,000 9.48% Kramer Spellman L.P. 536,800 11.30% Wellington Management Company, LLP. 548,500 11.55%
- --------- * Less than 1% (1) The address for each director and executive officer is 1521 Locust Street, Fourth Floor, Philadelphia, Pennsylvania 19102. (2) Includes shares allocated under the Resource America, Inc. Employee Savings Plan (the Company's 401(k) plan) in the amounts of: Mr. E. Cohen - 2,792 shares; Mr. Kotek - 1,522 shares; Ms. McGurk - 4,704 shares; Mr. Schaeffer - 688 shares; Mr. Staines - 558 shares; and Mr. D. Cohen - 562 shares, as to which each has voting power. (3) Includes shares issuable on exercise of options granted in 1993 and 1995 under the 1989 Key Employee Stock Option Plan in the amounts of: Mr. E. Cohen - 47,753 shares; Mr. Schaeffer - 5,618 shares; Mr. Staines - 22,472 shares; Mr. Kotek - 9,832 shares; and Ms. McGurk - 5,618 shares. (4) Includes shares allocated under the 1989 Employee Stock Ownership Plan in the amounts of: Mr. E. Cohen - 20,089 shares; Mr. Staines - 13,624 shares; Mr. Schaeffer - 7,047 shares; Mr. Kotek - 5,170 shares; and Ms. McGurk - 8,960 shares, as to which each has voting power. (5) Includes 60,815 shares held by a limited partnership, of which Mr. Schaeffer is the general partner and in which he has a 10% interest. (6) Includes Mr. Cohen's proportionate interest (aggregating 54,733 shares) in shares held by a limited partnership in which Mr. Cohen is the limited partner. (7) Includes shares held by entities managed by the named persons. The address for Friedman, Billings, Ramsey Investment Management, Inc., an affiliate of Friedman, Billings, Ramsey & Co., Inc., is 1001 19th Street North, 18th Floor, Arlington, Virginia 22209; the address for Keefe Managers, Inc. is 375 Park Avenue, Suite 3108, New York, New York 10152; the address for Kramer Spellman L.P. is 2050 Center Avenue, Suite 300, Fort Lee, New Jersey 07024; and the address for Wellington Management Company, LLP. is 75 State Street, Boston, Massachusetts 02109. 99 DESCRIPTION OF CAPITAL STOCK General The Company is authorized to issue 50,000,000 shares of capital stock, consisting of 49,000,000 shares of Common Stock, par value $.01 per share, and 1,000,000 shares of preferred stock, par value $1.00 per share ("Preferred Stock"). As of March 3, 1998, there were 4,748,537 shares of Common Stock outstanding and no shares of Preferred Stock outstanding. Common Stock Holders of Common Stock are entitled to dividends when, as and if declared by the Company's Board of Directors and in such amounts as the Board of Directors may deem advisable. See "Price Range of Common Stock and Dividend Policy." In the event of any liquidation, dissolution or winding up of the Company, whether voluntary or involuntary, holders of Common Stock are entitled, after payment or provision for payment of the debts or other liabilities of the Company, and subject to the prior rights of holders of any Preferred Stock which may then be outstanding, to share ratably in the remaining assets of the Company. Shares of Common Stock do not possess preemptive rights. Holders of Common Stock are entitled to one vote for each share held of record on each matter submitted to a vote at a meeting of stockholders. For a description of certain provisions of the Company's Certificate of Incorporation and Delaware law which affect the voting rights of stockholders of the Company and provide for a classified board of directors, see "Description of Capital Stock - Anti-Takeover Provisions of Delaware Law" and " - Classes of Directors." Preferred Stock Preferred Stock may be issued from time to time in one or more series and the Board of Directors, without further approval of the stockholders, is authorized to fix the dividend rights and terms, conversion rights, voting rights, redemption rights and terms, liquidation preferences, sinking funds and any other rights, preferences, privileges and restrictions applicable to each such series of Preferred Stock. The issuance of Preferred Stock, while providing flexibility in connection with possible acquisitions and other corporate purposes, could, among other things, adversely affect the voting power of the holders of Common Stock and, under certain circumstances, make it more difficult for a third party to gain control of the Company. The Company has no current plan to issue any Preferred Stock. Anti-Takeover Provisions of Delaware Law The Company is a Delaware corporation and consequently is subject to certain anti-takeover provisions of the Delaware General Corporation Law (the "Delaware Law"). Under the business combination provision contained in Section 203 of the Delaware Law ("Section 203"), a Delaware corporation may not engage in any business combination with any interested stockholder for a period of three years following the date such stockholder became an interested 100 stockholder, unless (i) prior to such date the board of directors of the corporation approved either the business combination or the transaction which resulted in the stockholder becoming an interested stockholder, or (ii) upon completion of the transaction which resulted in the stockholder becoming an interested stockholder, the interested stockholder owned at least 85% of the voting stock of the corporation outstanding at the time the transaction commenced (excluding, for purposes of determining the number of shares outstanding, (a) shares owned by persons who are directors and also officers and (b) employee stock plans, in certain instances), or (iii) on or subsequent to such date the business combination is approved by the board of directors and authorized at an annual or special meeting of stockholders by at least two-thirds of the outstanding voting stock that is not owned by the interested stockholder. Section 203 defines an interested stockholder of a corporation to be any person (other than the corporation and any direct or indirect majority-owned subsidiary of the corporation) who (i) owns, directly or indirectly, 15% or more of the outstanding voting stock of the corporation or (ii) is an affiliate or associate of the corporation and was the owner of 15% or more of the outstanding voting stock of the corporation at any time within the three-year period immediately prior to the date on which it is sought to be determined whether such person (and the affiliates and the associates of such person) is an interested stockholder. Section 203 defines business combinations to include certain mergers, consolidations, asset sales, transfers and other transactions resulting in a financial benefit to the interested stockholder. The restrictions imposed by Section 203 will not apply to a corporation if (i) the corporation's original certificate of incorporation contains a provision expressly electing not to be governed by Section 203 or (ii) the corporation, by the action of stockholders holding a majority of outstanding voting stock, adopts an amendment to its certificate of incorporation or by-laws expressly electing not to be governed by Section 203 (such amendment will not be effective until 12 months after adoption and shall not apply to any business combination between such corporation and any person who became an interested stockholder of such corporation on or prior to such adoption). The Company has not opted out of Section 203. Section 203 could under certain circumstances make it more difficult for a third party to gain control of the Company, deny stockholders the receipt of a premium on their Common Stock and have a depressive effect on the market price of the Common Stock. Classes of Directors The Board of Directors is currently classified into three classes. One class of directors is elected each year and the members of such class hold office for a three-year term or until each of their successors is duly elected and qualified. The classification of directors will have the effect of making it more difficult for a third party to change the composition of the Board of Directors without the support of the incumbent Board. At least two annual stockholder meetings, instead of one, will be required to effect a change in the control of the Board, unless stockholders remove directors for cause. 101 Transfer Agent and Registrar The transfer agent and registrar for the Common Stock is American Stock Transfer & Trust Company. 102 SHARES ELIGIBLE FOR FUTURE SALE The Company's Certificate of Incorporation authorizes the issuance of 9,000,000 shares of capital stock, consisting of 8,000,000 shares of Common Stock and 1,000,000 shares of Preferred Stock. Upon completion of this offering, there will be outstanding 6,248,537 shares of Common Stock (assuming no exercise of the Underwriters' over-allotment option). The 1,500,000 shares of Common Stock to be sold in this offering (1,725,000 shares if the Underwriters' over-allotment option is exercised in full) will be available to the public without restriction or further registration under the Securities Act, except for shares purchased by affiliates of the Company (in general, any person who has a control relationship with the Company), which shares will be subject to the resale limitations of Rule 144 promulgated under the Securities Act ("Rule 144"). The Company, its executive officers and directors, and entities affiliated with Friedman, Billings, Ramsey & Co., Inc. ("FBR") have agreed to not offer, sell or contract to sell or otherwise dispose of Common Stock without the prior consent of FBR or, in the case of sale by affiliates of FBR, the Company, for a period of 120 days following the conclusion of the Offering. See "Underwriting". In general, under Rule 144 as currently in effect, any person (or persons whose shares are aggregated) who has beneficially owned shares for at least one year is entitled to sell, within any three month period, a number of shares which does not exceed the greater of 1% of the then outstanding shares of the Common Stock or the average weekly trading volume of the Common Stock during the four calendar weeks preceding the date on which notice of the sale is filed with the Commission. Sales under Rule 144 may also be subject to certain manner of sale provisions, notice requirements and the availability of current public information about the Company. Any person (or persons whose shares are aggregated) who is not deemed to have been an affiliate of the Company at any time during the three months preceding a sale, and who has beneficially owned shares within the definition of "restricted securities" under Rule 144 for at least two years, is entitled to sell such shares under Rule 144(k) without regard to the volume limitation, manner of sale provisions, public information requirements or notice requirements. In February 1998, pursuant to a contractual obligation, the Company filed a registration statement on Form S-3 with the Commission in order to register the resale of an aggregate of 983,150 shares of Common Stock by certain selling stockholders. Upon effectiveness of such registration statement, all of the shares included in the registration statement will be permitted to be sold to the public without restriction, at the discretion of the selling stockholders. The Company has agreed to maintain the effectiveness of the registration statement for two years. There are currently outstanding options held by officers and directors to purchase 262,431 shares of Common Stock. The Company has reserved an additional 207,795 shares of Common Stock for future option grants. 103 No prediction can be made as to the effect, if any, that future sales of shares of Common Stock or availability of such shares for future sale will have on the market price of the Common Stock prevailing from time to time. Sales of substantial amounts of Common Stock (including shares issued upon the exercise of outstanding options), or the perception that such sales could occur, could adversely affect prevailing market prices for the Common Stock. 104 UNDERWRITING Subject to the terms and conditions of the Underwriting Agreement, the Underwriters named below (the "Underwriters"), through Friedman, Billings, Ramsey & Co., Inc., BancAmerica Robertson Stephens and Janney Montgomery Scott Inc., as their representatives (the "Representatives"), have severally agreed to purchase from the Company the following respective number of shares of Common Stock at the offering price less the underwriting discounts and commissions set forth on the cover page of this Prospectus: Underwriter Number of Shares ----------- ---------------- Friedman, Billings, Ramsey & Co., Inc......... BancAmerica Robertson Stephens................ Janney Montgomery Scott Inc................... --------- Total...................................... 1,500,000 ========= The Underwriting Agreement provides that the obligations of the Underwriters are subject to certain conditions precedent and that the Underwriters will purchase all of the shares offered hereby (other than those covered by the over-allotment option described below), if any of such shares are purchased. The Company has been advised by the Underwriters that the Underwriters propose to offer the shares of Common Stock to the public at the offering price set forth on the cover page of this Prospectus and to certain dealers at such price less a concession not in excess of $________ per share. The Underwriters may allow, and such dealers may reallow, a concession not in excess of $_______ per share to certain other dealers. After the initial offering, the offering price and other selling terms may be changed by the Representatives. The Company has granted to the Underwriters an option, exercisable not later than 30 days after the date of this Prospectus, to purchase up to 225,000 additional shares of Common Stock at the initial offering price less the underwriting discounts and commissions set forth on the cover page of this Prospectus. To the extent that the Underwriters exercise such option, each of the Underwriters will have a firm commitment to purchase approximately the same percentage thereof that the number of shares of Common Stock to be purchased by it shown in the above table bears to 1,500,000, and the Company will be obligated, pursuant to the option, to sell such shares to the Underwriters. The Underwriters may exercise such option only to cover over-allotments made in connection with the sale of Common Stock offered hereby. If purchased, the Underwriters will offer such additional shares on the same terms as those on which the 1,500,000 shares are being offered. The Company, its executive officers and directors, and entities affiliated with FBR have agreed not to offer, sell or contract to sell or otherwise dispose of any shares of Common Stock 105 without the prior consent of FBR or, in the case of sale by affiliates of FBR, the Company, for a period of 120 days following the conclusion of the Offering. The Company has agreed to indemnify the Underwriters against certain liabilities including liabilities under the Securities Act. In connection with this offering, the Underwriters may engage in transactions that stabilize, maintain or otherwise affect the market price of the Common Stock. Such transactions may include stabilization transactions pursuant to which the Representatives may bid for or purchase Common Stock for the purpose of stabilizing its market price. The Underwriters also may create a short position for the account of the Underwriters by selling more Common Stock in connection with this offering than they are committed to purchase from the Company and in such case the Representatives may purchase Common Stock in the open market following completion of this offering to cover all or a portion of such short position. The Underwriters may also cover all or a portion of such short position by exercising the Underwriters' over-allotment option referred to above. In addition, the Representatives, on behalf of the Underwriters, may impose "penalty bids" under contractual arrangements with the Underwriters whereby they may reclaim from an Underwriter (or dealer participating in this offering), for the account of other Underwriters, the selling concession with respect to Common Stock that is distributed in this offering but subsequently purchased for the account of the Underwriters in the open market. Any of the transactions described in this paragraph may result in the maintenance of the price of the Common Stock at a level above that which might otherwise prevail in the open market. The imposition of a penalty bid might also affect the price of the Common Stock to the extent that it could discourage resales of the security. Neither the Company nor any of the Underwriters makes any representation or prediction as to the direction or magnitude of any effect that the transactions described above may have on the price of the Common Stock. In addition, neither the Company nor any of the Underwriters makes any representation that the Underwriters will engage in such transactions or that such transactions, once commenced, will not be discontinued without notice. The Underwriters and dealers may engage in passive market making transactions in the Common Stock in accordance with Rule 103 of Regulation M promulgated by the Commission. In general, a passive market maker may not bid for or purchase shares of Common Stock at a price that exceeds the highest independent bid. In addition, the net daily purchases made by any passive market maker generally may not exceed 30% of its average daily trading volume in the Common Stock during a specified two-month prior period, or 200 shares, whichever is greater. A passive market maker must identify passive market making bids as such on the Nasdaq electronic inter-dealer reporting system. Passive market making may stabilize or maintain the market price of the Common Stock above independent market levels. Underwriters and dealers are not required to engage in passive market making and may end passive market making activities at any time. 106 The Representatives have informed the Company that the Underwriters do not intend to confirm sales of the Common Stock offered hereby to any accounts over which they exercise discretionary authority. Entities associated with Friedman, Billings, Ramsey & Co., Inc. are the beneficial owners of 314,005 shares of the Common Stock, representing 6.7% of all Common Stock issued and outstanding. Friedman, Billings, Ramsey & Co., Inc. currently makes a market in the Common Stock and the Senior Notes. LEGAL MATTERS The legality of the Common Stock offered hereby is being passed upon by Ledgewood Law Firm, P.C., Philadelphia, Pennsylvania. Certain legal matters will be passed upon for the Underwriters by Silver, Freedman & Taff, L.L.P., Washington, D.C. INDEPENDENT AUDITORS The consolidated financial statements and schedules of the Company and its subsidiaries as of September 30, 1997 and 1996 and for each of the three year periods ended September 30, 1997 included in this Prospectus have been so included in reliance upon the reports of Grant Thornton LLP, independent certified public accountants, upon the authority of such firm as experts in accounting and auditing. 107 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. Grant Thornton LLP Cleveland, Ohio November 6, 1997, except for Earnings Per Share disclosures in Footnote 2 to the financial statements for which the date is February 19, 1998 F-1 RESOURCE AMERICA, INC. CONSOLIDATED BALANCE SHEETS (in thousands)
September 30, December 31, ---------------------- 1997 1997 1996 ------------ -------- ------- (Unaudited) ASSETS Current Assets Cash and cash equivalents........................................ $ 28,086 $ 69,279 $ 4,154 Accounts and notes receivable.................................... 5,309 2,414 1,479 Prepaid expenses and other current assets........................ 948 576 473 -------- -------- ------- Total current assets...................................... 34,343 72,269 6,106 Investments in Real Estate Loans (less allowance for possible losses of $468, $400, and $0)........................... 128,884 88,816 21,798 Notes Secured by Equipment Leases.................................. 9,008 4,761 - Net Investment in Direct Financing Leases (less allowance for possible losses of $492, $248 and $7)............................ 4,206 3,391 729 Property and Equipment Oil and gas properties and equipment (successful efforts)........ 25,967 24,939 24,035 Gas gathering and transmission facilities........................ 1,609 1,606 1,536 Other .......................................................... 3,652 2,874 1,666 -------- --------- -------- 31,228 29,419 27,237 Less accumulated depreciation, depletion, and amortization....... (16,073) (15,793) (14,857) -------- ---------- -------- 15,155 13,626 12,380 Other Assets (less accumulated amortization of $1,307, $1,014 and $885)....................................................... 16,323 12,256 2,946 -------- --------- -------- $207,919 $195,119 $43,959 ======== ======== ======= LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Current maturities of long-term debt............................. $ 5,100 $ 708 $ 105 Accounts payable................................................. 1,754 1,339 585 Accrued interest................................................. 6,180 2,734 253 Accrued liabilities.............................................. 2,884 1,967 344 Estimated income taxes........................................... 772 4,093 377 -------- --------- -------- Total current liabilities................................. 16,690 10,841 1,664 Long-Term Debt, less current maturities............................ 118,116 118,786 8,966 Other Long-Term Liabilities........................................ 1,830 663 -- Deferred Income Taxes.............................................. 826 -- 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........ 55 54 20 Additional paid-in capital....................................... 59,343 56,787 21,761 Retained earnings................................................ 25,486 22,005 12,458
F-2
September 30, December 31, ---------------------- 1997 1997 1996 ------------ -------- ------- (Unaudited) Less treasury stock, at cost..................................... (14,074) (13,664) (2,699) Less loan receivable from Employee Stock Ownership Plan ("ESOP") (353) (353) (417) -------- -------- -------- Total stockholders' equity................................ 70,457 64,829 31,123 ------- -------- -------- $207,919 $195,119 $43,959 ======== ======== =======
See accompanying notes to consolidated financial statements. F-3 RESOURCE AMERICA, INC. CONSOLIDATED STATEMENTS OF INCOME (in thousands, except per share data)
Quarter Ended December 31, Years Ended September 30, ---------------- ---------------------------- 1997 1996 1997 1996 1995 ------- -------- --------- --------- --------- (Unaudited) REVENUES Real Estate Finance........................................ $ 9,392 $ 3,219 $19,144 $ 7,171 $ 6,114 Equipment Leasing.......................................... 3,172 1,202 7,162 4,466 -- Energy: Production......................................... 1,232 950 3,936 3,421 3,452 Services.......................................... 583 389 1,672 1,736 1,879 Interest on Corporate Investments.......................... 698 84 930 197 149 ------- -------- --------- --------- --------- 15,077 5,844 32,844 16,991 11,594 COSTS AND EXPENSES Real Estate Finance........................................ 1,523 163 1,069 852 801 Equipment Leasing.......................................... 1,325 883 3,822 2,339 -- Energy: Exploration and Production......................... 574 412 1,823 1,582 1,733 Services......................................... 309 224 909 869 1,026 General and Administrative................................. 927 592 2,851 1,756 2,265 Depreciation, Depletion and Amortization................... 508 379 1,614 1,368 1,335 Interest .................................................. 3,870 409 5,273 872 1,091 Provision for Possible Losses............. 318 10 653 7 -- Other - Net................................................ -- -- (27) -- (2) -------- -------- -------- -------- --------- 9,354 3,072 17,987 9,645 8,249 ------- ------- ------- ------- ------- Income from Operations............................ 5,723 2,772 14,857 7,346 3,345 ------- ------- ------- ------- ------- OTHER INCOME (EXPENSE) Gain (Loss) on Sale of Property............................ 3 88 74 7 (1) ------- ------- ------- -------- --------- Income Before Income Taxes................................. 5,726 2,860 14,931 7,353 3,344 Provision for Income Taxes................................. 1,775 575 3,980 2,206 630 ------- ------- ------- ------- ------- Net Income................................................. $ 3,951 $ 2,285 $10,951 $ 5,147 $ 2,714 ======= ======= ======= ======= ======= Net Income Per Common Share - Basic........................ $ .83 $ .91 $ 3.15 $ 2.72 $ 1.43 --------- --------- --------- --------- --------- Weighted Average Common Shares Outstanding................. 4,733 2,507 3,478 1,890 1,904 ===== ===== ===== ===== ===== Net Income Per Common Share - Diluted...................... $ .81 $ .66 $ 2.51 $ 1.88 $ 1.23 --------- --------- --------- --------- --------- Weighted Average Common Shares............................. 4,906 3,476 4,358 2,757 2,235 ======= ===== ===== ===== =====
See accompanying notes to consolidated financial statements. F-4 RESOURCE AMERICA, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY YEARS ENDED SEPTEMBER 30, 1997, 1996 AND 1995 (Dollar amounts in thousands)
Common Stock Additional Treasury Stock ESOP Total ------------ Paid-In Retained ------------------- 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) $64,829 (Unaudited) Treasury shares issued 34 1,366 30 64 Issuance of common stock 49,956 1 2,522 2,523 Treasury shares acquired (10,000) (440) (440) Cash dividends ($.10 per share) (470) (470) Net Income 3,951 3,951 - ------------------------------------------------------------------------------------------------------------------------------- Balance, December 31, 1997 5,460,601 $55 $59,,343 $25,486 (717,682) $(14,074) $(353) $70,457 ========= === ======== ======= ======== ======== ===== =======
See accompanying notes to consolidated financial statements F-5 RESOURCE AMERICA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)
Quarter Ended December 31, Years Ended September 30, ------------ ------------------------- 1997 1996 1997 1996 1995 ---- ---- ---- ---- ---- (Unaudited) CASH FLOWS FROM OPERATING ACTIVITIES: Net income .................................................. $ 3,951 $ 2,285 $ 10,951 $ 5,147 $ 2,714 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization.................................... 508 379 1,614 1,368 1,335 Amortization of discount on senior note and deferred finance costs...............................................208 24 657 75 74 Provision for possible losses.................................... 318 10 653 7 -- Deferred income taxes............................................ 826 382 (2,206) 1,059 473 Accretion of discount........................................... (1,666) (793) (4,124) (954) (1,176) Gain on asset dispositions ...................................... (4,740) (785) (11,375) (3,650) (1,727) Property impairments and abandonments............................ -- -- 38 71 56 Change in operating assets and liabilities: Net of effects from purchase of subsidiaries..................... (Increase) decrease in accounts receivable....................... (3,086) 316 (935) (175) 81 (Increase) decrease in prepaid expenses and other current assets....................................... (372) 236 (103) (310) 88 Increase (decrease) in accounts payable......................... 367 377 754 (137) (291) Increase (decrease) in accrued income taxes..................... -- -- 3,716 377 (100) Increase in other liabilities.................................... 1,043 409 4,451 81 51 ------- ------ ------- ------ ------- Net cash provided by (used in) operating activities................ (2,643) 2,840 4,091 2,959 1,578 CASH FLOWS FROM INVESTING ACTIVITIES: Acquisition of business, less cash acquired......................... (997) -- (1,226) -- (877) Cost of equipment acquired for lease................................ (15,972) (4,411) (34,567) (731) -- Capital expenditures................................................ (1,811) (130) (1,791) (1,097) (817) Principal payments on notes receivable.............................. -- -- 8,514 -- -- Proceeds from sale or refinancings of assets........................ 56,305 2,323 37,713 18,577 10,348 Increase in notes receivable........................................ (355) -- -- -- -- Increase in other assets............................................ (974) (1,536) (3,319) (152) (59) Investments in real estate loans.................................... (79,232) (28,881) (69,857) (17,650) (14,708) Increase in other long-term liabilities............................. 1,168 -- -- -- -- Payments received (revenue recognized) in excess of revenue recognized (cash received) on leases...................... 437 76 1,394 (7) -- ------- ------- ------- -------- ------ Net cash used in investing activities............................... (41,431) (32,559) (63,139) (1,060) (6,113) CASH FLOWS FROM FINANCING ACTIVITIES: Long-term borrowings................................................ -- 15,570 129,320 536 2,000 Short-term borrowings............................................... 6,670 (110) -- -- 2,500 Dividends paid .................................................. (470) (190) (1,404) (756) (161) (Increase) decrease in other assets................................. (15) -- (5,376) (31) 4,864 Principal payments on long-term borrowing........................... (704) (2,043) (22,148) (27) (4,524) Principal payments on short-term borrowing.......................... (2,245) -- -- -- -- Purchase of treasury stock.......................................... (440) -- -- (17) (284) Proceeds from issuance of stock..................................... 85 19,659 23,781 93 -- ------- ------- -------- ------- ------- Net cash provided by (used in) financing activities................. 2,881 32,886 124,173 (202) 4,395 ------- ------- -------- ------- ------- Increase (decrease) in cash and cash equivalents.................... (41,193) 3,167 65,125 1,697 (140) Cash and cash equivalents at beginning of period.................... 69,279 4,154 4,154 2,457 2,597 ------- ------- -------- ------- ------- Cash and cash equivalents at end of period.......................... $28,086 $ 7,321 $ 69,279 $ 4,154 $ 2,457 ======= ======= ======== ======= =======
See accompanying notes to consolidated financial statements F-6 RESOURCE AMERICA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Information as of December 31, 1997 and for the quarters ended December 31, 1997 and 1996 is Unaudited) 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. F-7 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. In the opinion of management, all adjustments (consisting of normally recurring accruals) necessary for a fair statement of the results of operations for the interim period included herein have been made. 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. F-8 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 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 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. F-9 Other assets at December 31, 1997 and September 30, 1997 and 1996 were:
September 30, December 31, ------------- 1997 1997 1996 ---- ---- ---- (Unaudited) (in thousands) Contracts acquired....................................... $1,712 $ 1,636 $ 549 Goodwill................................................. 4,061 709 518 Deferred financing costs................................. 5,092 5,240 512 Investment in real estate partnerships................... 1,827 1,827 22 Restricted cash.......................................... 854 1,052 935 Other ................................................... 2,777 1,792 410 ------- ------- ------ $16,323 $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 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 December 31, 1997 and September 30, 1997, the Company had $27.9 million and $67.7 million, respectively, in deposits at Jefferson Bank, of which $26.9 million and $66.6 million, respectively, were over the FDIC insurance limit. No losses have been experienced on such investments. F-10 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 December 31, 1997 and September 30, 1997, the Company had guaranteed approximately $4.9 million and $5.5 million, respectively, 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). F-11 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. 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:
Quarter Ended Years Ended December 31, September 30, --------------- ------------------------------- 1997 1996 1997 1996 1995 ---- ---- ---- ---- ---- (Unaudited) (in thousands) Cash paid during the periods for: Interest.................................. $ 173 $575 $ 2,727 $797 $1,104 Income taxes.............................. 4,180 450 2,094 770 255 ------------------------------ Non-cash activities include the following: Notes received in exchange for - Sales of leases......................... $3,891 $3,260 $13,275 $-- $-- Sale of mortgages....................... 8,093 -- -- -- -- Debt assumed upon acquisition of real estate loan........................ -- -- 2,381 -- -- Receipt of note in satisfaction of real estate sale........................ 1,000 -- 3,500 -- -- Note payable issued in acquisition........ 925 -- -- Stock issued in acquisition............... 2,500 -- 315 -- -- ------------------------------ Details of acquisition: Fair value of assets acquired............. $3,545 $-- $ 2,466 $-- $1,189 Debt issued............................... -- -- (925) -- -- Stock issued.............................. (2,500) -- (315) -- -- Liabilities assumed........................ (48) -- -- -- (312) ------- ----- ------ ----- -------- Net cash paid............................... $ 997 $-- $ 1,226 $-- $ 877 ====== ===== ======= ===== ======
F-12 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. 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 quarters ended December 31, 1997 and 1996 was $880,000 and $673,000, respectively, and 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 In February 1997, the Financial Accounting Standards Board ("FASB") issued SFAS No. 128 "Earnings per Share." This statement is effective for financial statements issued for periods ending after December 15, 1997; earnings per share data included herein have been restated to reflect the new standard. Under this statement the previous calculation of primary earnings per share ("EPS") is changed to exclude the dilutive effect of stock options and is referred to as Basic EPS. Earnings per share-basic are determined by dividing net income by the weighted average number of common shares outstanding during the period. Earnings per share - diluted are computed by dividing net income by the weighted average number of shares and dilutive potential common shares outstanding during the period. Dilutive potential common shares 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 F-13 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). Reclassifications Certain reclassifications have been made to the consolidated financial statements for the quarter ended December 31, 1996 to conform with the presentation for the quarter ended December 31, 1997. In addition, certain reclassifications have been made to the consolidated financial statements for the fiscal years ended September 30, 1996 and 1995 to conform with the presentation for the fiscal year ended September 30, 1997. 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 stockholder (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 stockholder 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 F-14 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 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. In December 1997 the Company sold a senior lien interest to a limited partnership for $1,000,000 in the form of an interest bearing note, realizing a gain of $267,000. The note was repaid in February 1998. Officers and directors of the Company hold an aggregate beneficial interest in the partnership of 17.8%. 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. F-15 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 Company records as income the accretion of a portion of the discount to the underlying collateral value. For the quarters ended December 31, 1997 and 1996, the accretion of discount amounted to $1.7 millon and $793,000, respectively. 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 utilized to reduce the cumulative accretion of discount included in the carrying value of the Company's investment in real estate loans. At December 31, 1997 and at September 30, 1997 and 1996, the Company held real estate loans having aggregate face values of $330.1 million, $233.7 million and $100.5 million, respectively, which were being carried at aggregate costs of $128.9 million, $88.8 million and $21.8 million, including cumulative accretion. Amounts receivable, net of senior lien interests, were $236.9 million, $178.1 million, $61.8 million at December 31, 1997 and September 30, 1997 and 1996, respectively. F-16 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:
Years Ended Quarter Ended September 30, December 31, -------------------- 1997 1997 1996 ---- ---- ---- (Unaudited) (in thousands) Balance, beginning of period........... $ 88,816 $21,798 $17,991 New loans.............................. 63,648 71,720 15,127 Additions to existing loans............ 1,998 1,860 2,564 Reserve for possible losses............ (52) (400) -- Accretion of discount.................. 1,666 4,124 954 Collections of principal............... (35,250) (517) (9,377) Cost of loans sold..................... (3,784) (9,769) (5,461) Investment in residential loans........ 11,842 -- -- -------- ------- ------- Balance, end of period................. $128,884 $88,816 $21,798 ======== ======= =======
A summary of activity in the Company's allowance for possible losses related to real estate loans for the quarter ended December 31, 1997 and for the year ended September 30, 1997 is as follows:
Quarter Ended Year Ended December 31, September 30, 1997 1997 ---------------- ---------- (Unaudited) (in thousands) Balance, beginning of period...................... $400 $-- Provision for possible losses..................... 68 400 Writeoffs......................................... -- -- ---- --- Balance, end of period............................ $468 $400 ==== ====
F-17 NOTE 5-INVESTMENT IN DIRECT FINANCING LEASES Components of the net investment in direct financing leases as of December 31, 1997 and 1996 and September 30, 1997 and 1996, as well as future minimum lease payments receivable, including residual values, are as follows:
September 30, December 31, -------------------- 1997 1997 1996 ---- ---- ---- (Unaudited) (in thousands) Total future minimum lease payments receivable................................ $5,383 $4,186 $847 Initial direct costs, net of amortization... 95 75 67 Unguaranteed residual....................... 425 310 75 Unearned lease income....................... (1,205) (932) (253) Allowance for possible losses............... (492) (248) (7) ------ ------- ----- Net investment in direct financing leases... $4,206 $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 quarter ended December 31, 1997 and the years ended September 30, 1997 and 1996 are as follows:
Year Ended Quarter Ended September 30, December 31, ------------------------ 1997 1997 1996 ---- ---- ---- (Unaudited) (in thousands) Balance, beginning of period......................... $248 $ 7 $-- Provision for possible losses........................ 250 253 7 Write offs........................................... (6) (12) -- -------- ---- --- Balance, end of period............................... $492 $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. F-18 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. F-19 NOTE 6-LONG-TERM DEBT Long-term debt consists of the following:
September 30, December 31, ------------------------ 1997 1997 1996 ---- ---- ---- (Unaudited) (in thousands) 12% senior unsecured notes payable, interest due semi-annually, principal due August 2004.................. $115,000 $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)..................................... 353 353 418 Secured warehouse credit facility at 0.9% above LIBOR (6.62% at December 31, 1997).................................. 4,425 -- -- 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............................ 2,513 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)........................................... 925 925 -- ---------- --------- ----- 123,216 19,494 9,071 Less current maturities....................................... 5,100 708 105 ---------- --------- -------- $118,116 $118,786 $ 8,966 ======== ======== =======
F-20 As of September 30, 1997 the long-term debt maturing over the next five fiscal years is as follows: 1998 - $708,000; 1999 - $727,000; 2000 - $285,000; 2001 - $309,000; and 2002 -$712,000. 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 lenders' 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. There were no borrowings under this facility during the quarter ended December 31, 1997. 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. In December 1997, the limit was raised to $20 million. Interest on each draw under this facility is payable at FMF's 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 F-21 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 the quarter ended December 31, 1997, borrowings under this facility were $6.7 million of which $2.3 million was repaid prior to December 31, 1997. 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 this institutions 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. 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 ====== ====== ====
F-22 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 ---- ---- ---- (in thousands) 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% === === ===
The components of the net deferred tax liability are as follows:
Year Ended 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 possible losses.............................. 220 -- ------ ---- 2,574 106 Deferred tax liabilities: Depreciation............................................... (2,290) (2,160) ESOP benefits.............................................. (120) (140) Other items, net........................................... (164) (12) ------ -------- (2,574) (2,312) ------ ------- Net deferred tax liability................................. $ -- $(2,206) ======== =======
F-23 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 from the offering of $19.99 million, before offering expenses of $515,000. In September 1996, the Company's stockholders 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 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 was $12,600 for both quarters ended December 31, 1997 and 1996. 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. F-24 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 stockholders' 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 $67,900 and $17,100 for the quarters ended December 31, 1997 and 1996, respectively. 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. 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 the first quarter of fiscal 1998 and in fiscal 1997, options for 42,205 and 25,000 shares, respectively, 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. F-25 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 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 F-26 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 ========== ========== 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 F-27 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. 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 $.12 Exercised - - Cancelled - - ----------- Outstanding - end of year 2,945,000 $.12 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 $.12 -- - ========= =====
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 F-28 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 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 ($3.02 per share - basic; $2.40 per share - diluted) 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. F-29 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. Future minimum rental commitments for the next five fiscal years were as follows:
December 31, 1997 September 30, 1997 ----------------- ------------------ (Unaudited) 1998.............................. $506,801 $445,300 1999.............................. 523,825 437,000 2000.............................. 523,825 437,000 2001.............................. 501,925 415,100 2002.............................. 486,625 399,800
As of December 31, 1997 and September 30, 1997, the Company had outstanding commitments to fund the purchase of equipment which it intends to lease, with an aggregate cost of $4.1 million and $11.4 millon, respectively. The Company believes, based on its past experience, that approximately $1.8 million and $4.0 millon, respectively, will be funded. As of December 31, 1997 and September 30, 1997, subsidiaries of the Company had four and two warehouse lines of credit which allow them to borrow up to $60 million and $25 millon, respectively. As of December 31, 1997, $4.4 million was outstanding with respect to these lines of credit. No borrowings were outstanding at September 30, 1997. 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 commencement of payments under the SERP). During the first quarter of fiscal 1998, the Company accrued $87,000 with respect to these commitments. 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 F-30 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). In December 1997, the Company acquired equity interests in approximately 135 wells (representing approximately 88 net wells, together with 60 miles of natural gas pipelines and 17,000 gross acres of mineral rights, for $900,000 in cash. This acquisition was recorded as a purchase. These acquisitions were immaterial to the results of operations of the Company, and therefore pro forma information is excluded. F-31 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 quarters ended December 31, 1997 and 1996 and for years ended September 30, 1997, 1996 and 1995 are as follows:
As of and for the ----------------------------------------------------------- Quarter Ended Year Ended December 31, September 30, ---------------------- --------------------------------- 1997 1996 1997 1996 1995 --------- ------- -------- ------- ------- (Unaudited) (in thousands) Revenue: Real estate $ 9,392 $3,219 $ 19,144 $ 7,171 $ 6,114 Leasing 3,172 1,202 7,162 4,466 -- Energy 1,815 1,339 5,608 5,157 5,332 Corporate 698 84 930 197 148 --------- ------- -------- ------- ------- $ 15,077 $ 5,844 $32,844 $16,991 $11,594 ======== ======= ======= ======= ======= Depreciation, Depletion and Amortization: Real estate $ 158 $ 10 $ 36 $ 38 $ 37 Leasing 138 81 398 204 -- Energy 239 288 1,202 1,061 1,254 Corporate (27) -- (22) 65 44 -------- ------- ------ ------- ------- $ 508 $ 379 $1,614 $ 1,368 $ 1,335 ======== ======= ====== ======= ======= Operating Profit (Loss): Real estate $ 7,467 $ 2,865 $16,546 $ 6,281 $ 5,276 Leasing 1,430 214 2,457 1,916 -- Energy 518 372 1,699 1,646 1,317 Corporate (3,692) (679) (5,845) (2,497) (3,248) -------- ------- --------- -------- -------- $ 5,723 $ 2,772 $ 14,857 $ 7,346 $ 3,345 ======== ======= ======== ======= ======= Identifiable Assets: Real estate $140,280 $51,518 $ 92,287 $22,087 $18,225 Leasing 16,251 7,192 10,647 3,019 991 Energy 16,242 12,895 15,016 12,675 13,790 Corporate 35,146 8,806 77,169 6,178 4,544 -------- ------- -------- ------- ------- $207,919 $80,411 $195,119 $43,959 $37,550 ======== ======= ======== ======= ======= Capital Expenditures: Real Estate $ 561 $ 5 $ 59 $ 17 $ 172 Leasing 174 54 585 531 -- Energy 1,239 71 1,513 501 637 Corporate -- -- 507 48 8 --------- -------- -------- -------- --------- $ 1,974 $ 130 $ 2,664 $ 1,097 $ 817 ========= ======= ======== ======= ========
F-32 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:
Quarter Ended December 31, Year Ended September 30, ----------------------- ------------------------------------ 1997 1996 1997 1996 1995 ------- -------- -------- -------- ------- (Unaudited) (in thousands) Revenues........................ $1,232 $ 950 $3,936 $3,421 $3,452 Production costs................ (519) (366) (1,636) (1,421) (1,502) Exploration expenses............ (56) (46) (187) (161) (230) Depreciation, depletion, and amortization............. (185) (198) (712) (781) (922) Income taxes.................... (146) (134) (197) (96) - ----- ------ ------- ------- ---- Results of operations for producing activities......... $ 326 $ 206 $1,204 $ 962 $ 798 ====== ====== ====== ====== ======
F-33 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, $22,000, and $30,000 at September 30, 1997, 1996, and 1995, respectively and $29,000 at December 31, 1997), are as follows:
December 31, September 30, --------------- --------------------------------------- 1997 1997 1996 1995 --------------- -------- -------- -------- (Unaudited) (in thousands) Proved properties..................... $24,142 $23,254 $22,549 $22,416 Unproved properties................... 974 846 482 650 Pipelines, equipment and other interests.................... 2,460 2,445 2,540 2,488 ------- ------- ------- ------- 27,576 26,545 25,571 25,554 Accumulated depreciation, depletion and amortization.......... (15,198) (15,145) (14,306) (13,590) ------- ------- ------- ------- Net capitalized costs............. $12,378 $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 the quarters ended December 31, 1997 and 1996, and during the fiscal years 1997, 1996 and 1995 are as follows:
Quarter Ended Year Ended December 31, September 30, ---------------------- ----------------------------- 1997 1996 1997 1996 1995 ------- ------- ------- ------ ------ (Unaudited) (in thousands) Property acquisition costs: Unproved properties........... $ 5 $ 1 $321 $ 2 $ 5 Proved properties............. 990 38 782 157 388 Exploration costs............... 185 44 238 317 317 Development costs............... 73 7 144 176 211
Oil and Gas Reserve Information (unaudited) The Company's estimates of net proved developed oil and gas r eserves and the present value thereof have been verified by E.E. Templeton & Associates, Inc., an independent F-34 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 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 ========== =======
F-35 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 ======= ======== ========
F-36 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 - EVENT (UNAUDITED) SUBSEQUENT TO THE DATE OF THE INDEPENDENT AUDITORS' REPORT The Company is the sponsor of Resource Asset Investment Trust (the "REIT"), a recently formed real estate investment trust which commenced operations in January 1998. RAIT 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 chairman of RAIT 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 RAIT's board of trustees. In January 1998, the Company sold 10 loans and senior lien interests in two other loans. The aggregate price paid by RAIT for the loans and the senior lien interests was $20.1 million (including $2.0 million attributable to senior lien interests acquired by the Company F-37 and sold to RAIT, at cost, in connection with such purchase. The Company realized a gain on such sale of $3.0 million. The Company anticipates selling further loans to RAIT. F-38 No person is authorized to give any information or to make any representation not contained in this Prospectus and any information or representation not contained herein must not be relied upon as having been authorized by the Company or any Underwriter. This Prospectus does not constitute an offer of any securities other than the securities to which it relates or an offer to any person in any jurisdiction where such an offer would be unlawful. Neither the delivery of this Prospectus nor any sale made hereunder shall, under any circumstances, create any implication that there has been no change in the affairs of the Company since the date hereof. ------------------ TABLE OF CONTENTS ------------------ Page ---- Available Information.................................................... 3 Additional Information................................................... 3 Incorporation of Certain Documents by Reference........................................................... 4 Prospectus Summary....................................................... 5 Risk Factors............................................................. 12 Price Range of Common Stock and Dividend Policy......................................................... 29 Capitalization........................................................... 31 Selected Consolidated Financial Data..................................... 32 Use of Proceeds.......................................................... 35 Management's Discussion and Analysis of Financial Condition and Results of Operations.......................................................... 35 Business................................................................. 54 Management............................................................... 91 Security Ownership of Certain Beneficial Owners and Management....................................... 98 Description of Capital Stock............................................. 100 Shares Eligible for Future Sale.......................................... 103 Underwriting............................................................. 105 Legal Matters............................................................ 107 Independent Auditors..................................................... 107 Consolidated Financial Statements........................................ F-1 1,500,000 Shares [LOGO] RESOURCE AMERICA, INC. Common Stock ------------ PROSPECTUS ------------ FRIEDMAN, BILLINGS, RAMSEY & CO., INC. BANCAMERICA ROBERTSON STEPHENS JANNEY MONTGOMERY SCOTT INC. ____________, 1998 PART II. INFORMATION NOT REQUIRED IN PROSPECTUS Item 14. Other Expenses of Issuance and Distribution. Registration and Filing Fees: Securities and Exchange Commission....................... $23,987.73 NASD .................................................... 17,500.00 ---------- Total Registration and Filing Fees....................... $41,487.73 Printing and Engraving*........................................... Legal*............................................................ Blue Sky*......................................................... Accounting*....................................................... Transfer Agent.................................................... Total Other Expenses*............................................. ---------- Total Expenses.................................................... ========== - --------- *Estimate Item 15. Indemnification of Directors and Officers As permitted by Section 102(b)(7) of the Delaware General Corporation Law, the Company's Certificate of Incorporation provides that directors of the Company shall not be personally liable to the Company or its stockholders for monetary damages for breach of fiduciary duty as a director, except for liability (i) for any breach of the director's duty of loyalty to the Company or its stockholders, (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (iii) under Section 174 of the Delaware General Corporation Law, relating to prohibited dividends or distributions or the repurchase or redemption of stock, or (iv) for any transaction from which the director derives an improper personal benefit. In addition, the Company's By-laws provide for indemnification of the Company's officers and directors to the fullest extent permitted under Delaware law. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers or persons controlling the Company pursuant to the foregoing provisions, or otherwise, the Company has been informed that in the opinion of the Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. The Company maintains directors' and officers' liability insurance against any actual or alleged error, misstatement, misleading statement, act, omission, neglect or breach of duty by any director or officer, excluding certain matters including fraudulent, dishonest or criminal acts or self-dealing. Item 16. Exhibits and Financial Statement Schedules. a. Exhibits. 1.* Form of Underwriting Agreement. 2. Agreement and Plan of Merger among Tri-Star Financial Services, Inc. Frank Pellegrini, Resource Tri-Star Acquisition Corp. and the Registrant(1) 3.1 Restated Certificate of Incorporation of the Registrant.(2) 3.2 Bylaws of the Registrant, as amended.(2) 4. Form of certificate for Common Stock.(2) 4.2 Indenture with respect to 12% senior notes due 2004 (including form of note).(3) 5.* Opinion of Ledgewood Law Firm, P.C., as to the legality of the securities being registered (including consent). 10.1 Receivables Purchase Agreement (lease sales) 10.2 Purchase and Sale Agreement (lease sales) 12. Statement regarding computation of ratios.(1) 23.1 Consent of E. E. Templeton & Associates, Inc. 23.2 Consent of Grant Thornton LLP 23.3 Consent of Ledgewood Law Firm, P.C. (included in Exhibit 5) 24. Power of Attorney (included as part of signature pages to this registration statement). - --------- * To be filed by amendment. (1) Filed previously as an Exhibit to the Company's Annual Report on Form 10-K for the year ended September 30, 1997. (2) 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. (3) 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. Item 17. Undertakings. The undersigned registrant hereby undertakes that, for purposes of determining any liability under the Securities Act, each filing of the registrant's annual report pursuant to section 13(a) or section 15(d) of the Exchange Act (and, where applicable, each filing of an employee benefit plan's annual report pursuant to section 15(d) of the Exchange Act) that is incorporated by reference in the registration statement shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of the registrant pursuant to the provisions of registrant's Certificate of Incorporation, Bylaws or otherwise, the registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the registrant of expenses incurred or paid by a director, officer or controlling person of the registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue. The undersigned registrant undertakes that: 1. For purposes of determining any liability under the Securities Act, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4), or 497(h) under the Securities Act shall be deemed to be part of this registration statement as of the time it was declared effective. 2. For the purposes of determining any liability under the Securities Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. SIGNATURES Pursuant to the requirements of the Securities Act of 1933, the registrant certifies that it has reasonable grounds to believe that it meets all of the requirements for filing on Form S-3 and has duly caused this registration statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Philadelphia, Commonwealth of Pennsylvania, on March 3, 1998. RESOURCE AMERICA, INC. By: /s/ Edward E. Cohen ----------------------------------- Edward E. Cohen, Chairman of the Board of Directors, Chief Executive Officer and President POWER OF ATTORNEY Each person whose signature appears below in so signing also makes, constitutes and appoints Edward E. Cohen, Steven J. Kessler, Michael L. Staines, and each of them acting alone, his true and lawful attorney-in-fact, with full power of substitution, for him in any and all capacities to execute and cause to be filed with the Securities and Exchange Commission any and all amendments and post-effective amendments to this registration statement with exhibits thereto and other documents in connection therewith, and hereby ratifies and confirms all that said attorney-in-fact or said attorney-in-fact's substitute or substitutes may do or cause to be done by virtue hereof. SIGNATURES Pursuant to the requirements of the Securities Act of 1933, this registration statement has been signed by the following persons in the capacities and on the dates indicated. /s/ Edward E. Cohen - ------------------------------- Date: March 3, 1998 EDWARD E. COHEN, Chairman of the Board of Directors, Chief Executive Officer, President and Director (Chief Executive Officer) /s/ Carlos C. Campbell - ------------------------------- Date: March 3, 1998 CARLOS C. CAMPBELL, Director /s/ Daniel G. Cohen - ------------------------------- Date: March 3, 1998 DANIEL G. COHEN, Executive Vice President and Director /s/ Andrew M. Lubin - ------------------------------- Date: March 3, 1998 ANDREW M. LUBIN, Director /s/ Scott F. Schaeffer - ------------------------------- Date: March 3, 1998 SCOTT F. SCHAEFFER, Executive Vice President and Director [SIGNATURES CONTINUED ON FOLLOWING PAGE] [SIGNATURES CONTINUED FROM PRIOR PAGE] /s/ Alan D. Schreiber, M.D. - ------------------------------- Date: March 3, 1998 ALAN D. SCHREIBER, M.D., Director /s/ Michael L. Staines - ------------------------------- Date: March 3, 1998 MICHAEL L. STAINES, Senior Vice President, Secretary and Director /s/ John S. White - ------------------------------- Date: March 3, 1998 JOHN S. WHITE, Director /s/ Steven Kessler - ------------------------------- Date: March 3, 1998 STEVEN J. KESSLER, Senior Vice President - - Finance and Chief Financial Officer /s/ Nancy J. McGurk - ------------------------------- Date: March 3, 1998 NANCY J. MCGURK, Vice President - Finance (Chief Accounting Officer) Exhibit Index 1.* Form of Underwriting Agreement. 2. Agreement and Plan of Merger among Tri-Star Financial Services, Inc. Frank Pellegrini, Resource Tri-Star Acquisition Corp. and the Registrant(1) 3.1 Restated Certificate of Incorporation of the Registrant.(2) 3.2 Bylaws of the Registrant, as amended.(2) 4. Form of certificate for Common Stock.(2) 4.2 Indenture with respect to 12% senior notes due 2004 (including form of note).(3) 5.* Opinion of Ledgewood Law Firm, P.C., as to the legality of the securities being registered (including consent). 10.1 Receivables Purchase Agreement (lease sales) 10.2 Purchase and Sale Agreement (lease sales) 12. Statement regarding computation of ratios.(1) 23.1 Consent of E. E. Templeton & Associates, Inc. 23.2 Consent of Grant Thornton LLP 23.3 Consent of Ledgewood Law Firm, P.C. (included in Exhibit 5) 24. Power of Attorney (included as part of signature pages to this registration statement). - --------- * To be filed by amendment. (1) Filed previously as an Exhibit to the Company's Annual Report on Form 10-K for the year ended September 30, 1997. (2) 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. (3) 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. EX-10.1 2 RECEIVABLES PURCHASE AGREEMENT EXECUTION COPY ============================================================================== U.S. $50,000,000 RECEIVABLES PURCHASE AGREEMENT Dated as of December 18, 1997 Among SW LEASING PORTFOLIO IV, INC. as the Seller ------------- FIDELITY LEASING, INC. as the Servicer --------------- the INVESTORS named herein ------------ VARIABLE FUNDING CAPITAL CORPORATION as the Purchaser ---------------- FIRST UNION CAPITAL MARKETS CORP. as the Deal Agent ----------------- FIRST UNION NATIONAL BANK as the Liquidity Agent ---------------------- and HARRIS TRUST AND SAVINGS BANK as the Collateral Custodian and Backup Servicer ----------------------------------------------- ============================================================================== TABLE OF CONTENTS
Page ARTICLE I DEFINITIONS............................................................................................1 Section 1.1 Certain Defined Terms........................................................................1 Section 1.2 Other Terms.................................................................................23 Section 1.3 Computation of Time Periods.................................................................23 ARTICLE II THE PURCHASE FACILITY................................................................................23 Section 2.1 Purchases of Asset Interests................................................................23 Section 2.2 The Initial Purchase, Subsequent Purchases and Incremental Purchases........................24 Section 2.3 Reduction of the Purchase Limit; Repurchase.................................................25 Section 2.4 Determination of Yield......................................................................25 Section 2.5 [reserved]..................................................................................25 Section 2.6 Dividing or Combining Asset Interests.......................................................25 Section 2.7 Non-Liquidation Settlement Procedures.......................................................26 Section 2.8 Settlement Procedures Following a Termination Date..........................................27 Section 2.9 Settlement Procedures Following a Restricting Event.........................................28 Section 2.10 Collections and Allocations................................................................30 Section 2.11 Payments, Computations, Etc................................................................30 Section 2.12 Optional Repurchase........................................................................31 Section 2.13 Fees.......................................................................................31 Section 2.14 Increased Costs; Capital Adequacy; Illegality..............................................32 Section 2.15 Taxes......................................................................................33 Section 2.16 Assignment of the Purchase Agreement.......................................................35 Section 2.17 Substitution of Contracts..................................................................35 ARTICLE III CONDITIONS OF PURCHASES.............................................................................37 Section 3.1 Conditions Precedent to Initial Purchase....................................................37 Section 3.2 Conditions Precedent to All Purchases and Remittances of Collections........................37 Section 3.3 Delivery of Contract Files..................................................................38 ARTICLE IV REPRESENTATIONS AND WARRANTIES.......................................................................38 Section 4.1 Representations and Warranties of the Seller................................................38 Section 4.2 Representations and Warranties of Seller Relating to the Agreement and the Contracts........42 Section 4.3 Representations and Warranties of the Seller Relating to the Purchase Limit and Capital Limit.................................................................................44 ARTICLE V GENERAL COVENANTS OF THE SELLER.......................................................................44 Section 5.1 General Covenants...........................................................................44 Section 5.2 Covenants of Seller.........................................................................44 Section 5.3 Release of Lien on Equipment................................................................48 Section 5.4 Hedging of Contracts........................................................................49 Section 5.5 Retransfer of Ineligible Contracts..........................................................49 Section 5.6 Retransfer of Assets........................................................................50
i ARTICLE VI ADMINISTRATION AND SERVICING OF CONTRACTS............................................................51 Section 6.1 Appointment and Acceptance; Duties..........................................................51 Section 6.2 Collection of Payments......................................................................54 Section 6.3 Servicer Advances...........................................................................55 Section 6.4 Realization Upon Defaulted Contract.........................................................56 Section 6.5 Maintenance of Insurance Policies...........................................................56 Section 6.6 Representations and Warranties of Servicer..................................................57 Section 6.7 Representations and Warranties of Backup Servicer and Collateral Custodian..................58 Section 6.8 Covenants of Servicer.......................................................................60 Section 6.9 Covenants of Backup Servicer and Collateral Custodian.......................................60 Section 6.10 Servicing Compensation.....................................................................61 Section 6.11 Custodial Compensation.....................................................................61 Section 6.12 Payment of Certain Expenses by Servicer....................................................61 Section 6.13 Reports....................................................................................62 Section 6.14 Annual Statement as to Compliance..........................................................62 Section 6.15 Annual Independent Public Accountant's Servicing Reports...................................62 Section 6.16 Adjustments................................................................................63 Section 6.17 Merger or Consolidation of the Servicer....................................................63 Section 6.18 Limitation on Liability of the Servicer and Others.........................................64 Section 6.19 Indemnification of the Seller, the Backup Servicer, the....................................64 Collateral Custodian, the Deal Agent and the Purchasers.................................................64 Section 6.20 The Servicer Not to Resign.................................................................65 Section 6.21 Access to Certain Documentation and Information Regarding the Contracts.................................................................................65 Section 6.22 Backup Servicer............................................................................66 Section 6.23 Identification of Records..................................................................68 Section 6.24 Servicer Defaults..........................................................................68 Section 6.25 Appointment of Successor Servicer..........................................................70 Section 6.26 Notification...............................................................................71 Section 6.27 Protection of Right, Title and Interest to Assets..........................................71 Section 6.28 Release of Contract Files..................................................................72 ARTICLE VII PAYOUT AND RESTRICTING EVENTS.......................................................................72 Section 7.1 Payout Events...............................................................................72 Section 7.2 Restricting Events..........................................................................72 ARTICLE VIII INDEMNIFICATION....................................................................................74 Section 8.1 Indemnities by the Seller...................................................................74 ARTICLE IX THE DEAL AGENT AND THE LIQUIDITY AGENT...............................................................77 Section 9.1 Authorization and Action....................................................................77 Section 9.2 Delegation of Duties........................................................................77 Section 9.3 Exculpatory Provisions......................................................................78 Section 9.4 Reliance....................................................................................79 Section 9.5 Non-Reliance on Deal Agent, Liquidity Agent and Other Purchasers............................79 Section 9.6 Reimbursement and Indemnification...........................................................80 Section 9.7 Deal Agent and Liquidity Agent in their Individual Capacities...............................80
ii Section 9.8 Successor Deal Agent or Liquidity Agent.....................................................80 ARTICLE X ASSIGNMENTS; PARTICIPATIONS...........................................................................81 Section 10.1 Assignments and Participations.............................................................81 ARTICLE XI MISCELLANEOUS........................................................................................84 Section 11.1 Amendments and Waivers.....................................................................84 Section 11.2 Notices, Etc...............................................................................85 Section 11.3 Ratable Payments...........................................................................85 Section 11.4 No Waiver, Rights and Remedies.............................................................86 Section 11.5 Binding Effect.............................................................................86 Section 11.6 Term of this Agreement.....................................................................86 Section 11.7 GOVERNING LAW; CONSENT TO JURISDICTION; WAIVER OF OBJECTION TO VENUE.......................86 Section 11.8 WAIVER OF JURY TRIAL.......................................................................87 Section 11.9 Costs, Expenses and Taxes..................................................................87 Section 11.10 No Proceedings............................................................................88 Section 11.11 Recourse Against Certain Parties..........................................................88 Section 11.12 Protection of Ownership Interests of the Purchasers; Intent of Parties; Security Interest; Third Party Beneficiary.................................................................................88 Section 11.13 Confidentiality...........................................................................89 Section 11.14 Execution in Counterparts; Severability; Integration......................................91
EXHIBITS EXHIBIT A Form of Notice of Sale EXHIBIT B Form of Lock-Box Notices EXHIBIT C "Limited Purpose" provisions of Seller's Certificate of Incorporation EXHIBIT D Form of Assignment and Acceptance EXHIBIT E Form of Monthly Report EXHIBIT F Form of Servicer's Certificate EXHIBIT G Form of Purchase Certificate EXHIBIT H Form of Hedging Agreement (including Schedule and Confirmation) SCHEDULES SCHEDULE I Condition Precedent Documents SCHEDULE II Lock-Box Banks and Lock-box Accounts SCHEDULE III Tradenames, Fictitious Names and "Doing Business As" Names SCHEDULE IV Location of Contract Files SCHEDULE V List of Contracts
iii THIS RECEIVABLES PURCHASE AGREEMENT (the "Agreement") is made as of December 18, 1997, among: (1) SW LEASING PORTFOLIO IV, INC., a Pennsylvania corporation, as seller (the "Seller"); (2) FIDELITY LEASING, INC., a Pennsylvania corporation ("Fidelity"), as servicer (the "Servicer"); (3) the financial institutions listed on the signature pages of this Agreement under the heading "Investors" and their respective successors and assigns (the "Investors"); (4) VARIABLE FUNDING CAPITAL CORPORATION, a Delaware corporation ("VFCC"); (5) FIRST UNION CAPITAL MARKETS CORP. ("FCMC"), as deal agent (the "Deal Agent") and as documentation agent (the "Documentation Agent"); (6) FIRST UNION NATIONAL BANK ("First Union"), as liquidity agent (the "Liquidity Agent"); and (7) HARRIS TRUST AND SAVINGS BANK, as collateral custodian (the "Collateral Custodian") and backup servicer (the "Backup Servicer"). IT IS AGREED as follows: ARTICLE I DEFINITIONS Section 1.1 Certain Defined Terms. (a) Certain capitalized terms used throughout this Agreement are defined above or in this Section 1. 1. (b) As used in this Agreement and its exhibits, the following terms shall have the following meanings (such meanings to be equally applicable to both the singular and plural forms of the terms defined). ADCB: On any date of determination, the sum of the Discounted Contract Balance of each Eligible Contract (excluding all Defaulted Contracts, Casualty Loss Contracts, Early Termination Contracts and Contracts subject to a Warranty Event) included in the Asset Pool as of the date of such determination. Addition Date: With respect to any Additional Contracts, the date on which such Additional Contracts become Pool Assets. Additional Contracts: All Contracts that become Pool Assets after the Closing Date. Additional Cut Off Date: Each date on and after which Collections on an Additional Contract are to be transferred to the Asset Pool. Adjusted Eurodollar Rate: On any day, an interest rate per annum equal to the quotient, expressed as a percentage and rounded upwards (if necessary), to the nearest 1/100 of 1%, obtained by dividing (i) the LIBOR Rate on such day by (ii) decimal equivalent of 100% minus the Eurodollar Reserve Percentage on such day. Administration Agreement: That certain Administration Agreement executed between VFCC and First Union Capital Markets Corp., as the same may be amended, supplemented, or otherwise modified from time to time. Adverse Claim: A lien, security interest, charge, encumbrance or other right or claim of any Person. Affected Party: As defined in Section 2.14(a). Affiliate: With respect to a Person means any other Person controlling, controlled by or under common control with such Person. For purposes of this definition, "control" when used with respect to any specified Person means the power to direct the management and policies of such Person, directly or indirectly, whether through the ownership of voting securities, by contract or otherwise; and the terms "controlling" or "controlled" have meanings correlative to the foregoing. Agent's Account: A special account (account number 01 41 96 47) in the name of the Deal Agent or, so long as VFCC is the sole Purchaser hereunder, in the name of VFCC maintained at Bankers Trust Company. Aggregate Unpaids: At any time, an amount, equal to the sum of all Yield (accrued and to accrue), Capital and all other amounts owed hereunder, under any Hedging Agreement (including, without limitation, payments in respect of the termination of any such Hedging Agreement) or under any fee letter delivered by the Originator to the Deal Agent and the Purchasers at such time (whether due or accrued). Agreement: This Receivables Purchase Agreement, dated as of December 18, 1997, as amended, modified, supplemented or restated from time to time. Alternative Rate: An interest rate per annum equal to the Adjusted Eurodollar Rate or the Base Rate, as the Deal Agent shall select in accordance with the terms of the Agreement; provided, however, that the "Alternative Rate" shall 2 be the Base Rate if the relevant Purchaser shall have notified the Deal Agent that a Eurodollar Disruption Event has occurred. Asset: All right, title and interest of the transferring party in, to and under any and all of the following: (i) the Existing Contracts and Additional Contracts, and all monies due or to become due in payment of such Contracts on and after the related Cut Off Date, including but not limited to any Prepayment Amounts, any payments in respect of a casualty or early termination, and any Recoveries received with respect thereto, but excluding any Scheduled Payments due prior to the related Cut Off Date and any Excluded Amounts; (ii) the Equipment related to such Contracts including all proceeds from any sale or other disposition of such Equipment; (iii) the Contract Files, (iv) all payments made or to be made in the future with respect to such Contracts or the obligor thereunder and under any guarantee or similar credit enhancement with respect to such Contracts; (v) all Insurance Proceeds with respect to each such Contract; and (vi) all income and proceeds of the foregoing. Asset Interest: At any time, an undivided variable percentage ownership interest in all Assets. The undivided percentage interest of an Asset Interest shall equal C + C x R ------- AC ---------------------- ADCB where: C = equals the Capital in respect of such Asset Interest. AC = equals the aggregate Capital on such date. R = equals the Overcollateralization on such date. Asset Pool: At any time, all then outstanding Assets. Assignment and Acceptance: An assignment and acceptance entered into by an Investor and an Eligible Assignee, and accepted by the Deal Agent, in substantially the form of Exhibit D hereto. 3 Backup Servicer: Harris Trust and Savings Bank and its permitted successors and assigns. Backup Servicer and Collateral Custodian Fee Letter: The letter dated as of the Closing Date, among Fidelity, the Deal Agent, the Backup Servicer and Collateral Custodian setting forth among other things the Backup Servicer Fee and the Collateral Custodial Fee. Backup Servicer Fee Rate: The rate per annum set forth in the Backup Servicer and Collateral Custodian Fee Letter, dated as of the Closing Date. Backup Servicing Fee: As defined in Section 6.22. Bankruptcy Code: The Federal Bankruptcy Code, as amended from time to time (Title 11 of the United States Code). Base Rate: On any date, a fluctuating rate of interest per annum equal to the higher of (a) the Prime Rate or (b) the Federal Funds Rate plus 1.0%. Benefit Plan: Any employee benefit plan as defined in Section 3(3) of ERISA in respect of which the Seller or any ERISA Affiliate of the Seller is, or at any time during the immediately preceding six years was, an "employer" as defined in Section 3(5) of ERISA. Blended Discount Rate: For any Determination Date, a rate per annum equal to the weighted average (calculated based on the applicable Outstanding Balances) of (i) the Blended Discount Rate as of the immediately preceding Determination Date and (ii) the Sale Discount Rate, if any, for any Contract transferred to the Asset Pool on the most recent Purchase Date, if any, occurring on or after the immediately preceding Determination Date; provided, however, that the Blended Discount Rate for the first Determination Date following the Closing Date shall be the Sale Discount Rate applicable to the Original Contracts. Business Day: Any day of the year other than a Saturday or a Sunday on which (a) banks are not required or authorized to be closed in New York City, Philadelphia, Pennsylvania, Charlotte, North Carolina and Chicago, Illinois, and (b) if the term "Business Day" is used in connection with the Adjusted Eurodollar Rate, dealings in United States dollar deposits are carried on in the London interbank market. Capital: For each Asset Interest, the amount paid to the Seller for such Asset Interest at the time of its purchase by the Purchaser pursuant to this Agreement, reduced from time to time by Collections distributed on account of such Capital pursuant to Sections 2.7, 2.8 or 2.9; provided, however, that such Capital shall not be reduced by any distribution or any portion of Collections if at any time such distribution is rescinded or must be returned for any reason. Capital Limit: At any time, the product of (i) the ADCB and (ii) the lesser of (a) 88% and (b) 100% - (three and a half (3 1/2) multiplied by the Net Loss to Liquidation Ratio). 4 Casualty Loss: With respect to any item of Equipment, the loss, theft, damage beyond repair or governmental condemnation or seizure of such item of Equipment. Casualty Loss Contract: Any Contract that is subject to a Casualty Loss. Closing Date: December 18, 1997. Code: The Internal Revenue Code of 1986, as amended. Collateral Custodian: Harris Trust and Savings Bank and its permitted successors and assigns. Collection Account: As defined in Section 6.2(f). Collection Date: The date following the Termination Date on which the aggregate outstanding Capital has been reduced to zero, the Purchasers have received all Yield and other amounts due to the Purchasers in connection with this Agreement and the Deal Agent has received all amounts due to it in connection with this Agreement. Collections: (a) All cash collections and other cash proceeds of any Asset, including, without limitation, Scheduled Payments, Prepayments, Insurance Proceeds and Recoveries, all as related to amounts attributable to the Contracts in the Asset Pool or the related Equipment, but excluding any Excluded Amounts, (b) Residual Proceeds and (c) any other funds received by the Seller or the Servicer with respect to any Contract or related Equipment. Commercial Paper Notes: On any day, any short-term promissory notes issued by VFCC with respect to financing its purchase of an Asset Interest hereunder. Commitment: For each Investor, the commitment of such Investor to make purchases from the Seller in an amount not to exceed the amount set forth opposite such Investor's name on the signature pages of this Agreement, as such amount may be modified in accordance with the terms hereof. Commitment Fee: As defined in Section 2.13(a) hereof. Commitment Fee Rate: The rate per annum set forth in the Program Fee Agreement. Commitment Termination Date: December 17, 1998 or such later date to which the Commitment Termination Date may be extended (if extended) in the sole discretion of VFCC and each Investor in accordance with the terms of Section 2.1(b). Contract: Any lease of Equipment by the Originator or by a third party, in each case as lessor, to an Obligor. 5 Contract Files: With respect to each Contract, the fully executed original counterpart (for UCC purposes) of the Contract, the original certificate of title or other title document with respect to the related Equipment (if applicable), and otherwise such documents, if any, that the Collateral Custodian holds, evidencing ownership of such Equipment (if applicable) and all other documents originally delivered to the Seller or held by the Collateral Custodian with respect to any Contract. Contract List: The contract list provided by the Seller to the Deal Agent and the Collateral Custodian, in the form of Schedule V hereto. CP Disruption Event: The inability of a Purchaser, at any time, whether as a result of a prohibition, a contractual restriction or any other event or circumstance whatsoever, to raise funds through the issuance of its commercial paper notes (whether or not constituting commercial paper notes issued to fund Purchases hereunder) in the United States commercial paper market. CP Rate: For any Fixed Period, the per annum rate equivalent to the weighted average of the per annum rates paid or payable by VFCC from time to time as interest on or otherwise (by means of interest rate hedges or otherwise) in respect of the promissory notes issued by VFCC that are allocated, in whole or in part, by the Deal Agent (on behalf of VFCC) to fund or maintain the Asset Interest during such period, as determined by the Deal Agent (on behalf of VFCC) and reported to the Seller and the Servicer, which rates shall reflect and give effect to the commissions of placement agents and dealers in respect of such promissory notes, to the extent such commissions are allocated, in whole or in part, to such promissory notes by the Deal Agent (on behalf of VFCC); provided, however, that if any component of such rate is a discount rate, in calculating the "CP Rate", the Deal Agent shall for such component use the rate resulting from converting such discount rate to an interest bearing equivalent rate per annum. Credit and Collection Policy: The written credit and collection policies of the Originator and Servicer in effect on the date hereof, as amended or supplemented from time to time in accordance with Section 4.1(j). Custodial Fee: As defined in Section 6.11. Cut Off Date: With respect to each Existing Contract, the date on and after which Collections on such Existing Contract are to be transferred to the Asset Pool, and with respect to each Additional Contract, the related Additional Cut Off Date. Default Ratio: As of any Determination Date, the percentage equivalent of a fraction, the numerator of which is equal to twice the sum of the Discounted Contract Balance of Contracts that became Defaulted Contracts (net of Recoveries related thereto) during the immediately preceding six calendar months and the denominator of which is the average of the ADCB as of each of the current Determination Date and each of the immediately preceding five Determination Dates. 6 Defaulted Contract: (i) A Contract in the Asset Pool as to which the Servicer has determined or should have determined in accordance with its Credit and Collection Policy that such Contract is not collectible or is subject to repossession, or (ii) a Contract in the Asset Pool as to which all or a portion of any one or more Scheduled Payments is more than 120 days past due in an aggregate amount equal to the higher of (A) ten dollars or more or (B) ten percent or more of any Scheduled Payment. Delinquency Ratio: As of any Determination Date, the percentage equivalent of a fraction, the numerator of which is the average of the Discounted Contract Balance of Delinquent Contracts as of such Determination Date and each of the immediately preceding two Determination Dates and the denominator of which is the average of the ADCB as of such Determination Date and each of the immediately preceding two Determination Dates. Delinquent Contract: A Contract in the Asset Pool as to which all or a portion of any one or more Scheduled Payments is 60 days or more past due. Determination Date: The last Business Day of each calendar month. Discounted Contract Balance: With respect to any Contract, (i) as of the related Cut Off Date, the present value of all remaining Scheduled Payments becoming due under such Contract after the applicable Cut Off Date discounted monthly at the Sale Discount Rate and (ii) as of any other date of determination, the present value of all remaining Scheduled Payments becoming due under such Contract after such Determination Date discounted monthly at the applicable Blended Discount Rate. The "Discounted Contract Balance" for each Contract shall be calculated assuming: (a) all payments due in any Monthly Period as due on the last day of the Monthly Period; (b) payments are discounted on a monthly basis using a 30 day month and a 360 day year; and (c) all security deposits and drawings under letters of credit, if any, issued in support of a Contract are applied to reduce Scheduled Payments in inverse order of the due date thereof. Early Termination Contracts: Any Contract that the Servicer has allowed the related Obligor to terminate prior to the date on which the final Scheduled Payment is due thereunder. Eligible Assignee: (a) A Person whose short-term rating is at least A-1 from S&P and P-1 from Moody's, or whose obligations under this Agreement are guaranteed by a Person whose short-term rating is at least A-1 from S&P and P-1 from Moody's, or (b) such other Person satisfactory to VFCC, the Deal 7 Agent and each of the rating agencies rating the Commercial Paper and approved, in writing, by the Seller; provided, however, that no such approval shall be required in the event any Investor is required by any rating agency rating VFCC's commercial paper notes or by any regulatory agency to make an assignment. Eligible Contract: On any Determination Date, each Contract with respect to which each of the following is true: (a) the information with respect to the Contract and the Equipment subject to the Contract is true and correct in all material respects; (b) immediately prior to the transfer hereunder of the Contract and any related Equipment (or security interest therein), the Contract was owned by the Seller free and clear of any Adverse Claim; (c) no Scheduled Payment related to the Contract is (i) more than 60 days delinquent, (ii) a payment as to which the Servicer has failed to make a Servicer Advance, (iii) a payment as to which the related Equipment has been repossessed or (iv) a payment as to which the related Equipment has been charged-off in accordance with the credit and collection policies of the Servicer; (d) the Contract is not a Defaulted Contract; (e) no provision of the Contract has been waived, altered or modified in any respect except as allowed under the Credit and Collection Policy of the Servicer; (f) the Contract is a valid and binding payment obligation of the Obligor and is enforceable in accordance with its terms (except as may be limited by applicable Insolvency Laws and the availability of equitable remedies); (g) the Contract is not and will not be subject to rights of rescission, setoff, counterclaim or defense and no such rights have been asserted or threatened with respect to the Contract; (h) the Contract, at the time it is sold to VFCC does not violate the laws of the United States or any state in any manner which would create liability for any Purchaser or which would materially and adversely affect the enforceability or collectibility of such Contract; (i) (i) the Contract and any related Equipment have not been sold, transferred, assigned or pledged by the Seller to any other Person and, with respect to a Contract that is a "true lease," any Equipment related to such true lease is owned by the Seller free and clear of any Liens of any third parties (except for any Permitted Liens) and (ii) such Contract is secured by a fully perfected Lien of the first priority on the related Equipment but only to the extent that the Contract has (i) a $1.00 purchase option exercisable at 8 the expiration of its term and the Equipment has a residual value in excess of $10,000,00 at such time; (ii) a fixed price purchase option exercisable at the expiration of its term and the Equipment has a residual value in excess of $10,000.00 at such time; or (iii) a fair market value purchase price option exercisable at the expiration of its term and the residual value of the Equipment exceeds $50,000.00 at such time; (j) the Contract constitutes chattel paper, an account, an instrument or a general intangible as defined under the UCC and if the Contract constitutes "chattel paper" for purposes of the UCC, there is not more than one "secured party's original" counterpart of the Contract; (k) all filings necessary to evidence the conveyance or transfer to the Deal Agent of the Contract and all right, title and interest in the related Equipment have been made in all appropriate Jurisdictions; (l the Obligor is not the subject of bankruptcy or other insolvency proceedings; (m) the Obligor's billing address is in the United States and the Contract is a U.S. dollar-denominated obligation; (n) the Contract does not require the prior written consent of an Obligor or contain any other restriction on the transfer or assignment of the Contract (other than a consent or waiver of such restriction that has been obtained prior to the Closing Date, with respect to an Existing Contract, or the Addition Date, with respect to an Additional Contract); (o) the obligations of the related Obligor under the Contract are irrevocable, unconditional and non-cancelable (without the right to set off for any reason and net of any maintenance or cost per copy charges); (p) the Contract has a remaining term to maturity of not greater than 60 months, provided, however, that up to 10% (by ADCB) may have a remaining term to maturity of not greater than 72 months; (q) no adverse selection procedure was used in selecting the Contract for the Asset Pool; (r) the Obligor under the Contract is required to maintain casualty insurance or to self-insure with respect to the related Equipment in accordance with the Servicer's normal requirements; (s) the Contract is not a "consumer lease" as defined In Section 2A-103(l)(e) of the UCC; (t) the Contract is not subject to any guarantee by the Servicer nor has the Seller or the Originator established any specific credit reserve with respect to the related Obligor; 9 (u) the Contract provides that (i) the Originator, the Seller or the Servicer may accelerate all remaining Scheduled Payments if the Obligor is in default under any of its obligations under such Contract and (ii) the Obligor thereof may not elect to utilize its security deposit to offset any remaining Scheduled Payment; (v) the Obligor under the Contract is required to maintain the Equipment in good working order and bear all costs of operating the Equipment (including the payment of Taxes); (w) no provision of such Contract provides for a Prepayment Amount less than the amount calculated in accordance with the definition of Prepayment Amount; (x) the Contract has not been terminated as a result of a Casualty Loss to the related Equipment or for any other reason; (y) the Discounted Contract Balance of such Contract, when aggregated with the Discounted Contract Balance of each other Contract having the same Obligor, does not exceed the Portfolio Concentration Criteria; (z) the Discounted Contract Balance of such Contract does not include the amount of any security deposit held by the Servicer or the Seller; (aa) such Contract provides that in the event of a Casualty Loss, the Obligor is required to pay an amount not less than the present value of all remaining Scheduled Payments discounted at the applicable Sale Discount Rate plus any past due amounts as of the date of determination; (bb) the Obligor thereunder has represented to the Originator that such Obligor has accepted the related Equipment and has had a reasonable opportunity to inspect and test such Equipment and the Originator has not been notified of any defects therein; and (cc) all payments in respect of a Contract will be made free and clear of, and without deduction or withholding for or on account of, any Taxes, unless such withholding or deduction is required by law. Equipment: The tangible assets financed or leased by an Obligor pursuant to a Contract and/or, unless the context otherwise requires, a security interest in such assets, such tangible assets to consist of small ticket equipment, including without limitation small manufacturing, automotive repair, printing, information and document processing and storage, telecommunications and office equipment. ERISA: The U.S. Employee Retirement Income Security Act of 1974, as amended from time to time, and the regulations promulgated and rulings issued thereunder. 10 ERISA Affiliate: (a) Any corporation which is a member of the same controlled group of corporations (within the meaning of Section 414(b) of the Code) as the Seller; (b) A trade or business (whether or not incorporated) under common control (within the meaning of Section 414(c) of the Code) with the Seller or (c) A member of the same affiliated service group (within the meaning of Section 414(m) of the Code) as the Seller, any corporation described in clause (a) above or any trade or business described in clause (b) above. Eurocurrency Liabilities: As defined in Regulation D of the Board of Governors of the Federal Reserve System, as in effect from time to time. Eurodollar Disruption Event: The occurrence of any of the following: (a) a determination by a Purchaser that it would be contrary to law or to the directive of any central bank or other governmental authority (whether or not having the force of law) to obtain United States dollars in the London interbank market to make, fund or maintain any Purchase, (b) the failure of one or more of the Reference Banks to furnish timely information for purposes of determining the Adjusted Eurodollar Rate, (c) a determination by a Purchaser that the rate at which deposits of United States dollars are being offered to such Purchaser in the London interbank market does not accurately reflect the cost to such Purchaser of making, funding or maintaining any Purchase or (d) the inability of a Purchaser to obtain United States dollars in the London interbank market to make, fund or maintain any Purchase. Eurodollar Reserve Percentage: Of any Reference Bank for any period, for any Capital means the percentage applicable during such period (or, if more than one such percentage shall be so applicable, the daily average of such percentages for those days in such 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 such Reference Bank with respect to liabilities or assets consisting of or including Eurocurrency Liabilities having a term of one, two or three months, as applicable based upon the related LIBOR Rate. Excess Funds: On any Payment Date, any amount payable to the Seller pursuant to Sections 2.7(a)(x), 2.8(b)(x) or 2.9(b)(x), as the case may be. Excluded Amounts: (a) Any collections on deposit in the Collection Account or otherwise received by the Servicer on or with respect to the Asset Pool or related Equipment, which collections are attributable to any Taxes, fees or other charges imposed by any Governmental Authority, (b) any collections representing reimbursements of insurance premiums or payments for services that were not financed by the Originator, (c) any collections with respect to Contracts retransferred or substituted for with respect to a Warranty Event, or otherwise replaced by a Substitute Contract and (d) any late fees, insufficient funds charges, inspection charges, collection fees, delinquency fees, repossession fees or UCC fees, extension fees, documentation fees, maintenance fees and insurance fees. 11 Existing Contracts: The Contracts purchased by the Seller under the Purchase Agreement and owned by the Seller on the Closing Date. Facility Financing Statement: As defined in Schedule I. Fee Letter: The letter, dated as of the Closing Date, among the Seller, the Servicer, and the Deal Agent setting forth, among other things, the Servicer Fee. Federal Funds Rate: For any period, a fluctuating interest rate per annum equal for each day during such period to the weighted average of the federal funds rates as quoted by First Union and confirmed in Federal Reserve Board Statistical Release H.15(519) or any successor or substitute publication selected by First Union (or, if such day is not a Business Day, for the next preceding Business Day), or, if, for any reason, such rate is not available on any day, the rate determined, in the sole opinion of First Union, to be the rate at which federal funds are being offered for sale in the national federal funds market at 9:00 A.M. Charlotte, North Carolina time. First Union: First Union National Bank, in its individual capacity, and its successors or assigns. Fixed Period: For any Payment Date the period beginning on, and including the 13th day of the immediately preceding calendar month (or, with respect to the first Fixed Period, the Closing Date) and ending on, but excluding the 13th day of the current calendar month. GAAP: Generally accepted accounting principles as in effect from time to time the United States. Governmental Authority: With respect to any Person, 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 such Person. H.15: As defined in Section 5.4. Hedge Counterparty: An entity (i) (A) whose commercial paper or short-term deposit rating is at least P-1 from Moody's and at least A-1 from S & P and (B) who shall agree that, in the event that its commercial paper or short-term deposit rating is reduced below A-1 by S&P or P-1 by Moody's, it shall secure its obligations in a manner as the Deal Agent may reasonably request or assign its obligations to a Person meeting the requirements of clauses (i)(A) and (ii) hereof, and (ii) which shall be rated at least A and A2 by S&P and Moody's, respectively and (iii) which has entered into a Hedging Agreement. Hedged Amount: As defined in Section 5.4. 12 Hedged Costs: With respect to any Payment Date, the amount of hedging costs, including, without limitation, payments to the Hedge Counterparty, as payable out of funds in the Collection Account on such Payment Date as provided by Section 2.7. Hedged Level: As defined in Section 5.4. Hedging Agreement: With respect to this Agreement, each hedging agreement entered into by the Seller and a Hedge Counterparty. Increased Costs: Any amounts required to be paid by the Seller to an Affected Party pursuant to Section 2.12. Incremental Purchase: Any Purchase that increases the aggregate outstanding Capital hereunder. Indebtedness: With respect to any Person at any date, (a) all indebtedness of such Person for borrowed money or for the deferred purchase price of property or services (other than current liabilities incurred in the ordinary course of business and payable in accordance with customary trade practices) or which is evidenced by a note, bond, debenture or similar instrument, (b) all obligations of such Person under capital leases, (c) all obligations of such Person in respect of acceptances issued or created for the account of such Person and (d) all liabilities secured by any Lien on any property owned by such Person even though such Person has not assumed or otherwise become liable for the payment thereof. Indemnified Amounts: As defined in Section 8. 1 Indemnified Persons: As defined in Section 6.19. Ineligible Contract: As defined in Section 5.5. Insolvency Event: With respect to a specified Person, (a) the filing of a decree or order for relief by a court having jurisdiction in the premises in respect of such Person or any substantial part of its property in an involuntary case under any applicable Insolvency Law now or hereafter in effect, or appointing a receiver, liquidator, assignee, custodian, trustee, sequestrator or similar official for such Person or for any substantial part of its property, or ordering the winding-up or liquidation of such Person's affairs, and such decree or order shall remain unstayed and in effect for a period of 60 consecutive days; or (b) the commencement by such Person of a voluntary case under any applicable Insolvency Law now or hereafter in effect, or the consent by such Person to the entry of an order for relief in an involuntary case under any such law, or the consent by such Person to the appointment of or taking possession by a receiver, liquidator, assignee, custodian, trustee, sequestrator or similar official for such Person or for any substantial part of its property, or the making by such Person of any general assignment for the benefit of creditors, or the failure by such Person generally to pay its debts as such debts become due, or the taking of action by such Person in furtherance of any of the foregoing. 13 Insolvency Laws: The Bankruptcy Code of the United States of America and all other applicable liquidation, conservatorship, bankruptcy, moratorium, rearrangement, receivership, insolvency, reorganization, suspension of payments, or similar debtor relief laws from time to time in effect affecting the rights of creditors generally. Instrument: Any "instrument" (as defined in Article 9 of the UCC), other than an instrument which constitutes part of chattel paper. Insurance Policy: With respect to any Contract, an insurance policy covering physical damage to or loss of the related Equipment. Insurance Proceeds: Depending on the context, any amounts payable or any payments made, to the Servicer under any Insurance Policy. Investment: With respect to any Person, any direct or indirect loan, advance or investment by such Person in any other Person, whether by means of share purchase, capital contribution, loan or otherwise, excluding the acquisition of Assets pursuant to the Purchase Agreement and excluding commission, travel and similar advances to officers, employees and directors made in the ordinary course of business. Issuer: VFCC and any other Purchaser whose principal business consists of issuing commercial paper or other securities to fund its acquisition and maintenance of receivables, accounts, instruments, chattel paper, general intangibles and other similar assets. LIBOR Rate: For any period of one, two or three months chosen by the Deal Agent (the "LIBOR Period"), an interest rate per annum equal the rate appearing on the Telerate Page 3750 as of 11:00 a.m. (London time) on the Business Day which is the second Business Day immediately preceding the first day of such LIBOR Period for a term equal to such LIBOR Period or, if no such rate appears on such day, the average (rounded upward to the nearest one-sixteenth (1/16) of one percent) per annum rate of interest determined by First Union at its principal office in Charlotte, North Carolina (each such determination, absent manifest error, to be conclusive and binding) as of two Business Days prior to the first day of the applicable LIBOR Period, to be the rate at which deposits in immediately available funds in U.S. dollars are being, have been, or would be offered or quoted by First Union to major banks in the interbank market for Eurodollar deposits at or about 11:00 A.M. (Charlotte, North Carolina time) on such day, for a term comparable to such LIBOR Period and in an amount approximately equal to the Capital allocated to such LIBOR Period by the Deal Agent. Lien: With respect to any Asset, (a) any mortgage, lien, pledge, charge security interest or encumbrance of any kind in respect of such Asset or (b) the interest of a vendor or lessor under any conditional sale agreement, financing lease or other title retention agreement relating to such Asset. 14 Liquidation Expenses: With respect to any Contract, the aggregate amount of all out-of-pocket expenses reasonably incurred by the Servicer (including amounts paid to any subservicer) and any reasonably allocated costs of internal counsel, in each case in accordance with the Servicer's customary procedures in connection with the repossession, refurbishing and disposition of any related Equipment upon or after the expiration or earlier termination of such Contract and other out-of-pocket costs related to the liquidation of any such Equipment, including the attempted collection of any amount owing pursuant to such Contract if it is a Defaulted Contract. Liquidity Bank: Each liquidity bank that is a party to the Liquidity Purchase Agreement dated as of December 18, 1997, among the Purchaser, First Union, as liquidity agent, and each other liquidity bank a party thereto. Lock-Box: A post office box to which Collections are remitted for retrieval by a Lock-Box Bank and deposited by such Lock-Box Bank into a Lock-Box Account. Lock-Box Account: An account maintained for the purpose of receiving Collections at a bank or other financial institution which has executed a Lock-Box Notice for the purpose of receiving Collections. Lock-Box Bank: Any of the banks or other financial institutions holding one or more Lock-Box Accounts. Lock-Box Notice: A notice, in substantially the form of Exhibit B, among the Seller, the Originator (if applicable) and a Lock-Box Bank. Monthly Period: As to any Determination Date, the calendar month ended on such Determination Date. Monthly Report: As defined in Section 6.13(a). Moody's: Moody's Investors Service, Inc., and any successor thereto. Multiemployer Plan: A "multiemployer plan" as defined in Section 4001(a)(3) of ERISA which is or was at any time during the current year or the immediately preceding five years contributed to by the Seller or any ERISA Affiliate on behalf of its employees. Net Loss to Liquidation Ratio: At any time, the product of the Default Ratio and the weighted average life (in years, rounded upwards to the nearest tenth of a year) of the Asset Pool. Notice of Sale: A notice, substantially in the form of Exhibit A hereto, delivered pursuant to Section 2.2. Obligor: A Person obligated to make payments pursuant to a Contract including any guarantor thereof. 15 Officer's Certificate: A certificate signed by any officer of the Seller or the Servicer and delivered to the Collateral Custodian, as the case may be. Opinion of Counsel: A written opinion of counsel, who may be counsel for Seller or the Servicer and who shall be reasonably acceptable to the Deal Agent. Original Contract: Each Contract identified by account number and Outstanding Balance as of the related Cut Off Date in the Contract List. Originator: Fidelity Leasing, Inc. or any wholly owned subsidiary thereof. Originator Assets: Any Asset that was transferred to the Seller by the Originator. Outstanding Balance: Of any Asset at any time, the then outstanding principal balance thereof. Overcollateralization: On any day, the difference between the (i) the ADCB on such day and (ii) the aggregate Capital on such day. Payment Date: The 20th day of each calendar month or, if such day is not a Business Day, the next succeeding Business Day. Payout Event: As defined in Section 7. 1. Permitted Investments: Any one or more of the following types of investments: (a) marketable obligations of the United States of America, the full and timely payment of which are backed by the full faith and credit of the United States of America and which have a maturity of not more than 270 days from the date of acquisition; (b marketable obligations, the full and timely payment of which are directly and fully guaranteed by the full faith and credit of the United States of America and which have a maturity of not more than 270 days from the date of acquisition; (c) bankers' acceptances and certificates of deposit and other interest-bearing obligations (in each case having a maturity of not more than 270 days from the date of acquisition) denominated in dollars and issued by any bank with capital, surplus and undivided profits aggregating at least $100,000,000, the short-term obligations of which are rated A-1 by S&P and P-1 by Moody's; (d) repurchase obligations with a term of not more than ten days for underlying securities of the types described in clauses (a), (b) and (c) above entered into with any bank of the type described in clause (c) above; 16 (e) commercial paper rated at least A-1 by S&P and P-1 by Moody's; and, (f) demand deposits, time deposits or certificates of deposit (having original maturities of no more than 365 days) of depository institutions or trust companies incorporated under the laws of the United States of America or any state thereof (or domestic branches of any foreign bank) and subject to supervision and examination by federal or state banking or depository institution authorities; provided, however that at the time such investment, or the commitment to make such investment, is entered into, the short-term debt rating of such depository institution or trust company shall be at least A-1 by S&P and P-1 by Moody's. Permitted Liens: (a) shall mean, with respect to Contracts in the Asset Pool: (i) Liens for state, municipal or other local taxes if such taxes shall not at the time be due and payable, (ii) Liens in favor of the Seller created pursuant to a Purchase Agreement and transferred to the Asset Pool hereunder and (iii) Liens in favor of the Deal Agent as agent for the Purchasers created pursuant to this Agreement; and (b) with respect to the related Equipment: (i) materialmen's, warehousemen's and mechanics' liens and other Liens arising by operation of law in the ordinary course of business for sums not due, (ii) Liens for state, municipal or other local taxes if such taxes shall not at the time be due and payable, (iii) Liens in favor of the Seller created pursuant to a Purchase Agreement and transferred to the Asset Pool hereunder and (iv) Liens in favor of the Deal Agent as agent for the Purchasers created pursuant to this Agreement. Person: An individual, partnership, corporation (including a business trust), limited liability company, joint stock company, trust, unincorporated association, sole proprietorship, joint venture, government (or any agency or political subdivision thereof) or other entity. Pool Assets: On any day any Asset in the Asset Pool. Portfolio Concentration Criteria: The following concentration limitations at all times measured on the basis of percentage of ADCB: (a) the sum of the Discounted Contract Balances of Contracts relating to any one individual Obligor is limited to the greater of 1.5% of the ADCB, (b the sum of the Discounted Contract Balance of the 25 obligors with the largest aggregate Discounted Contract Balances is limited to 15% of the ADCB; (c) the sum of the Discounted Contract Balances of Obligors located in any one state is limited to 10% of the ADCB; 17 (d) the sum of the Discounted Contract Balances of Contracts whose Obligors are municipalities or other government related organizations is limited to 1% of the ADCB; and (e) the sum of the Discounted Contract Balances of which the payment terms are non-monthly is limited to 10% of the ADCB. Prepaid Contract: Any Contract that has terminated or been prepaid in full prior to its scheduled expiration date (including because of a Casualty Loss), other than a Defaulted Contract. Prepayment Amount: As specified in Section 6.2(b). Prepayments: Any and all (i) partial and full prepayments on a Contract (including, with respect to any Contract and any Monthly Period, any Scheduled Payment or portion thereof which is due in a subsequent Monthly Period which the Servicer has received, and expressly permitted the related Obligor to make, in advance of its scheduled due date, and which will be applied to such Scheduled Payment on such due date), (ii) cash proceeds or rents realized from the sale, lease, re-lease or re-financing of Equipment under a Prepaid Contract, net of Liquidation Expenses, and (iii) Recoveries. Prime Rate: The rate announced by First Union from time to time as its prime rate in the United States, such rate to change as and when such designated rate changes. The Prime Rate is not intended to be the lowest rate of interest charged by First Union in connection with extensions of credit to debtors. Program Fee: As defined in Section 2.13(b). Program Fee Agreement: The letter agreement, the Closing Date, among the Seller, the Servicer and the Deal Agent, setting forth, among other things, the Commitment Fee, the Program Fee and the Servicing Fee. Program Fee Rate: The rate per annum set forth in the Program Fee Agreement. Purchase: A purchase by a Purchaser of an undivided interest in the Assets from the Seller pursuant to Article II, including without limitation, the remittance by the Servicer to the Seller of Collections of Pool Assets pursuant to Section 2.7(b). Purchase Agreement: The Purchase and Sale Agreement dated as of the date hereof, between the Originator and the Seller, as amended, modified, supplemented or restated from time to time. Purchase Certificate: Each certificate, in the Form of Exhibit G, delivered on the date of the Initial Purchase and on the date of each Incremental Purchase. Purchase Date: The Closing Date, and as to any Incremental Purchase, any Business Day that is (i) at least one (1) calendar week following the immediately preceding Purchase Date and (ii) two (2) Business Days immediately 18 following the receipt by the Deal Agent of a written request by the Seller to sell an Asset Interest, such notice to be in the form of Exhibit A hereto and to conform to requirements of Section 3.2 hereof. Purchase Limit: At any time, $50,000,000, on or after the Termination Date, the "Purchase Limit" shall mean the aggregate outstanding Capital. Purchasers: Collectively, VFCC and the Investors and any other Person that agrees, pursuant to the pertinent Assignment and Acceptance, to purchase an Asset Interest pursuant to this Agreement. Qualified Institution: As defined in Section 6.2. Rating Agency: Each of Standard & Poor's, Moody's and any other rating agency that has been requested to issue a rating with respect to the commercial paper notes issued by the Issuer. Records: All Contracts and other documents, books, records and other information (including without limitation, computer programs, tapes, disks, punch cards, data processing software and related property and rights) maintained with respect to Assets and the related Obligors which the Seller has itself generated, in which the Seller has acquired an interest pursuant to the Purchase Agreement or in which the Seller has otherwise obtained all interest. Recoveries: With respect to a Defaulted Contract, proceeds from the sale, lease, re-lease or refinancing of the Equipment, proceeds of any related Insurance Policy and any other recoveries with respect to such Defaulted Contract and the related Equipment and related property, and other amounts representing late fees and penalties net of Liquidation Expenses and amounts, if any, so received that are required to be refunded to the Obligor on such Contract. Reference Bank: Any bank which furnishes information for purposes of determining the Adjusted Eurodollar Rate. Register: As defined in Section 10. 1(c). Reinvestment Termination Date: The Business Day that the Seller designates as the Reinvestment Termination Date by notice to the Deal Agent at least ten Business Days prior to such Business Day or, if any of the conditions precedent in Section 3.2 are not satisfied, the Business Day that the Deal Agent designates as the Reinvestment Termination Date by notice to the Seller at least one Business Day prior to such Business Day. Replaced Contract: As defined in Section 2.17(a). Reporting Date: The 16th day of the month or the first Business Day thereafter. 19 Required Investors: At a particular time, Investors with Commitments in excess of 66 2/3 % of the Purchase Limit. Required Reports: Collectively, the Monthly Report, the Servicer's Certificate and the quarterly financial statement of the Servicer required to be delivered to the Deal Agent pursuant to Section 6.13(c) hereof. Requirements of Law: For any Person shall mean the certificate of incorporation or articles of association and by-laws or other organizational or governing documents of such Person, and any law, treaty, rule or regulation, or order or determination of an arbitrator or Governmental Authority, in each case applicable to or binding upon such Person or to which such Person is subject, whether Federal, state or local (including, without limitation, usury laws, the Federal Truth in Lending Act, and Regulation Z and Regulation B of the Board of Governors of the Federal Reserve System). Residual Proceeds: With respect to any Contract or any item of Equipment, the net proceeds for the sale, re-lease or other disposition of the equipment upon the expiration, or early termination, of the term of such Contract. Responsible Officer: As to any Person (other than the Collateral Custodian and Backup Servicer), any officer of such Person with direct responsibility for the administration of this Agreement and also, with respect to a particular matter, any other officer to whom such matter is referred because of such officer's knowledge of and familiarity with the particular subject, and with respect to the Collateral Custodian and Backup Servicer it shall mean any officer within the office at the address set forth under its name on the signature pages hereof including any Vice President, Managing Director, Assistant Vice President, Secretary, Assistant Secretary or Assistant Treasurer or any other officer of the Collateral Custodian and Backup Servicer customarily performing functions similar to those performed by any of the above designated officers and, with respect to a particular matter, any other officer to whom such matter is referred because of such officer's knowledge and familiarity with the particular subject. Restricting Event: As defined in Section 7.2. Retransfer Date: As defined in Section 5.6. S&P: Standard & Poor's Ratings Services, a division of The McGraw-Hill Companies, Inc. and any successor thereto. Sale Discount Rate: For any Contract to be transferred to the Asset Pool by the Seller, a rate per annum, calculated on the Business Day immediately preceding such transfer, equal to the sum of (i) the fixed interest rate associated with the Hedge Agreement related to such purchase, (ii) the Program Fee Rate, (iii) .05% and (iv) the Servicing Fee Rate. 20 Scheduled Payments: On any Determination Date with respect to any Contract, (a) each monthly, quarterly, annual or seasonal rent or financing (whether principal or principal and interest) payment scheduled to be made by the Obligor thereof after such Determination Date under the terms of such Contract, reduced by a number of such scheduled payments equal to a number (rounding upwards to the next highest integer if such number is not an integer) obtained by dividing (i) the dollar amount of any security deposit related to such Contract by (ii) the amount of a single scheduled payment under such Contract, (b) any payment due from the Obligor of such Contract at the expiration or other termination of such Contract and (c) any payments in connection with a Warranty Event. Seller: SW Leasing Portfolio IV, Inc., or any permitted successor thereto. Seller Note: As defined in the Purchase Agreement. Servicer: Fidelity Leasing, Inc. and its permitted successors and assigns. Servicer Advance: An advance of Scheduled Payments made by the Servicer pursuant to Section 6.3. Servicer Default: As specified in Section 6.24. Servicer's Certificate: As defined in Section 6.13(b). Servicing Fee: As specified in Section 2.13(c). Servicing Fee Rate: The rate per annum set forth in the Fee Letter. Solvent: As to any Person at any time, having a state of affairs such that all of the following conditions are met: (a) the fair value of the property of such Person is greater than the amount of such Person's liabilities (including disputed, contingent and unliquidated liabilities) as such value is established and liabilities evaluated for purposes of Section 101(31) of the Bankruptcy Code; (b) the present fair salable value of the property of such Person in an orderly liquidation of such Person is not less than the amount that will be required to pay the probable liability of such Person on its debts as they become absolute and matured; (c) such Person is able to realize upon its property and pay its debts and other liabilities (including disputed, contingent and unliquidated liabilities) as they mature in the normal course of business; (d) such Person does not intend to, and does not believe that it will, incur debts or liabilities beyond such Person's ability to pay as such debts and liabilities mature; and (e) such Person is not engaged in business or a transaction, and is not about to engage in a business or a transaction, for which such Person's property would constitute unreasonably small capital. Structuring Fee: The structuring fee agreed to between the Seller and the Deal Agent in the Program Fee Agreement. 21 Substitute Contract: On any day, an Eligible Contract which meets each of the conditions for substitution set forth in Schedule IV hereto. Successor Servicer: As defined in Section 6.25(a). Swap Rate: As defined in Section 5.4. Taxes: Any present or future taxes, levies, imposts, duties, charges, assessments or fees of any nature (including interest, penalties, and additions thereto) that are imposed by any government or other taxing authority. Termination Date: The earliest of (a) the date of termination of the Purchase Limit pursuant to Section 2.3, (b) the date of the occurrence of a Payout Event pursuant to Section 7. 1, (c) the Reinvestment Termination Date and (d) Commitment Termination Date. Termination Notice: As defined in Section 6.24. Transaction: As defined in Section 3.2. Transaction Documents: This Agreement, the Purchase Agreement, the Liquidity Purchase Agreement, dated as of the date hereof between VFCC and First Union, and the Custodial Agreement, dated as of the date hereof between the Seller, the Servicer, the Deal Agent and the Collateral Custodian, and any additional document the execution of which is necessary or incidental to carrying out the terms of the foregoing documents. UCC: The Uniform Commercial Code as from time to time in effect in the specified jurisdiction. United States: The United States of America. Unreimbursed Servicer Advances: At any time, the amount of all previous Servicer Advances (or portions thereof) as to which the Servicer has not been reimbursed as of such time pursuant to Section 2.7 and which the Servicer has determined in its sole discretion will not be recoverable from Collections with respect to the related Contract. Warranty Event: As to any Pool Asset, the occurrence and continuance of a material breach of any representation or warranty relating to such Contract. Yield: For each Asset Interest for any Fixed Period, the product of: YR x C x ED --- 360 where: 22 C = the Capital of such Asset Interest. YR = the weighted average of the Yield Rates applicable during such Fixed Period. ED = the actual number of days elapsed during such Fixed Period. provided, however that (i) no provision of this Agreement shall require the payment or permit the collection of Yield in excess of the maximum permitted by applicable law and (ii) Yield shall not be considered paid by any distribution if at any time such distribution is rescinded or must otherwise be returned for any reason. Yield Rate: For any Asset Interest for any Fixed Period: (a) to the extent the relevant Purchaser funded the applicable Asset Interest through the issuance of commercial paper, a rate equal to the CP Rate, or (b) to the extent the relevant Purchaser did not fund the applicable Asset Interest through the issuance of commercial paper, a rate equal to the Alternative Rate or such other rate as the Deal Agent and the Seller shall agree to in writing. Section 1.2 Other Terms. All accounting terms not specifically defined herein shall be construed in accordance with GAAP. All terms used in Article 9 of the UCC in the State of New York, and not specifically defined herein, are used herein as defined in such Article 9. Section 1.3 Computation of Time Periods. Unless otherwise stated in this Agreement, in the computation of a period of time from a specified date to a later specified date, the word "from" means "from and including" and the words "to" and "until" each mean "to but excluding." ARTICLE II THE PURCHASE FACILITY Section 2.1 Purchases of Asset Interests. (a) On the terms and conditions hereinafter set forth, the Seller may on any Purchase Date, at its option, sell and assign Asset Interests to the Purchasers. The Deal Agent may act on behalf of and for the benefit of the 23 Purchasers in this regard. VFCC may, in its sole discretion, purchase, or if VFCC shall decline to purchase, the Liquidity Agent shall purchase on behalf of the Investors, Asset Interests from time to time during the period from the date hereof to but not including the Termination Date. Under no circumstances shall any Purchaser make the initial Purchase or any Incremental Purchase if, after giving effect to such Purchase or Incremental Purchase, the aggregate Capital outstanding hereunder would exceed the lesser of (i) the Purchase Limit or (ii) the Capital Limit. (b) The Seller may, within 60 days, but no later than 45 days, prior to the then existing Commitment Termination Date, by written notice to the Deal Agent, make written request for VFCC and the Investors to extend the Commitment Termination Date for an additional period of 364 days. The Deal Agent will give prompt notice to VFCC and each of the Investors of its receipt of such request for extension of the Commitment Termination Date. VFCC and each Investor shall make a determination, in their sole discretion and after a full credit review, not less than 15 days prior to the then applicable Commitment Termination Date as to whether or not it will agree to extend the Commitment Termination Date; provided, however, that the failure of VFCC or any Investor to make a timely response to the Seller's request for extension of the Commitment Termination Date shall be deemed to constitute a refusal by VFCC or the Investor, as the case may be, to extend the Commitment Termination Date. The Commitment Termination Date shall only be extended upon the consent of both (i) VFCC and (ii) 100% of the Investors. Section 2.2 The Initial Purchase, Subsequent Purchases and Incremental Purchases. (a) Subject to the conditions described in Section 2.1, the initial Purchase and each Incremental Purchase shall be made in accordance with the procedures described in Section 2.2(b). After the Collection Date has occurred, each of the Purchasers and the Deal Agent, in accordance with their respective interests, shall assign and transfer to the Seller their respective remaining interest in Asset Interests to the Seller free and clear of any Adverse Claim resulting solely from an act or omission by a Purchaser or the Deal Agent, but without any other representation or warranty, express or implied. (b) The initial Purchase and each Incremental Purchase shall be made pursuant to the terms of a Purchase Certificate in the form of Exhibit G hereto, after receipt by the Purchaser of a Notice of Sale delivered by the Seller to the Deal Agent (with a copy to the Collateral Custodian) at least two Business Days prior to such proposed Purchase Date and each such notice shall specify (i) the aggregate amount of such initial Purchase or Incremental Purchase which amount must satisfy the applicable minimum requirement set forth in the following sentence and (ii) the date of such Purchase or Incremental Purchase. The Seller shall deliver no more than two such notices in any calendar month, and each amount specified in any such notice must satisfy the following minimum requirements, as applicable, as a condition to the related Purchase: (i) the initial Purchase shall be in an amount equal to $10,000,000 or an integral multiple of $10,000 in excess thereof; (ii) each Incremental Purchase hereunder shall be in an amount equal to $5,000,000 or an integral multiple of $10,000 in excess thereof; provided, however, that if such Incremental Purchase is to be made hereunder at a time when there are no 24 outstanding Commercial Paper Notes issued in respect of a Purchase of $5,000,000 or an integral multiple of $10,000 in excess thereof, then such Incremental Purchase shall be in an amount equal to $10,000,000 or an integral multiple of $10,000 in excess thereof. Following receipt of such notice, the Deal Agent will consult with VFCC in order to assist VFCC in determining whether or not to make the purchase. If VFCC declines to make a proposed purchase, the initial Purchase or Incremental Purchase will be made by the Investors. On the date of such Purchase or Incremental Purchase, as the case may be, VFCC or each Investor shall, upon satisfaction of the applicable conditions set forth in Article III, make available to the Seller in same day funds, at such bank or other location reasonably designated by Seller in its Notice of Sale given pursuant to this Section 2.2(b), an amount equal to (i) the Capital of the Asset Interest related to such initial Purchase or Incremental Purchase, as the case may be, in the case of a purchase by VFCC or (ii) such Investor's pro rata share of the Capital related to such Asset Interest, in the case of a purchase by the Investors. Section 2.3 Reduction of the Purchase Limit; Repurchase. (a) The Seller may, upon at least five Business Days' notice to the Deal Agent, terminate in whole or reduce in part the portion of the Purchase Limit that exceeds the sum of the aggregate Capital and Yield accrued and to accrue thereon, and the Commitments of the Investors shall be reduced proportionately; provided, however, that each partial reduction of the Purchase Limit shall be in an aggregate amount equal to $1,000,000 or an integral multiple thereof. Each notice of reduction or termination pursuant to this Section 2.3(a) shall be irrevocable. (b) Pursuant to the provisions of Section 2.7(b), Section 2.8(c) and Section 2.9(c), the Seller may, at any time prior to the occurrence of the Termination Date, reduce the aggregate outstanding Capital by remitting to the Deal Agent, for application by the Deal Agent to reduce the Capital of each (i) cash and (ii) instructions to apply such cash to the reduction of Capital. Section 2.4 Determination of Yield. The Deal Agent shall determine the Yield (including unpaid Yield, if any, due and payable on a prior Payment Date) to be paid on each Payment Date for the Fixed Period and shall advise the Servicer thereof on the first Business Day after the Fixed Period. Section 2.5 [reserved]. Section 2.6 Dividing or Combining Asset Interests. The Deal Agent may, with the consent of a Purchaser, take any of the following actions at the end of such Fixed Period with respect to any Asset Interest: (i) divide the Asset Interest owned by a Purchaser into two or more portions of Asset Interests having aggregate Capital equal to the Capital of such divided Asset Interest, (ii) combine one portion of an Asset Interest of a Purchaser with another portion of an Asset Interest of such Purchaser with a 25 Fixed Period ending on the same day, creating a new portion of an Asset Interest having Capital equal to the Capital of the two portions of Asset Interest combined or (iii) combine the Asset Interest of a Purchaser with the Asset Interest to be purchased on such day by such Purchaser, creating a new Asset Interest having Capital equal to the Capital of the two Asset Interests combined; provided, that an Asset Interest of VFCC may not be combined with an Asset Interest of the Investors. Section 2.7 Non-Liquidation Settlement Procedures. The provisions of this Section 2.7 shall apply during the term of this Agreement prior to the occurrence of the Payout Event. (a) On each Payment Date, the Servicer shall pay to the following Persons, from (i) the Collection Account, to the extent of available funds, and (ii) a Servicer Advance if made or required pursuant to Section 6.3, the following amounts in the following order of priority: (i) FIRST, to any Hedging Counterparty, an amount equal to any accrued and unpaid amounts under any Hedge Agreement, for the payment thereof; (ii) SECOND, to the Servicer, in an amount equal to any Unreimbursed Servicer Advances, for the payment thereof; (iii) THIRD, to the Servicer, in an amount equal to any accrued and unpaid Servicing Fee arrearage, for the payment thereof; (iv) FOURTH, to the Servicer, in amount equal to any accrued and unpaid Servicing Fee, for the payment thereof; (v) FIFTH, to the extent not paid for by Fidelity, to the Backup Servicer, in an amount equal to any accrued and unpaid Backup Servicing Fee, for the payment thereof; (vi) SIXTH, to the extent not paid for by Fidelity, to the Collateral Custodian, in an amount equal to any accrued and unpaid Custodial Fee, for the payment thereof; (vii) SEVENTH, to the Deal Agent for the ratable payment to each Purchaser, in an amount equal to any accrued and unpaid Program Fee and Yield for such Payment Date; (viii) EIGHTH, to the Deal Agent, in the amount of unpaid Increased Costs and/or Taxes, for payment to the Purchasers in respect thereof; (ix) NINTH, to the extent that funds are available, any remaining amounts may be reinvested in Eligible Contracts; provided, however, that if the aggregate Capital exceeds the lesser of (i) the Capital Limit; or (ii) the Purchase Limit an amount equal to such excess shall be paid to the Deal Agent to pay down Capital outstanding; 26 (x) TENTH, to the extent funds are available to satisfy any unpaid Indemnified Amounts, amounts required to be paid by the Seller pursuant to the indemnification provisions of Section 8.1 and any other amounts due hereunder; and (xi) ELEVENTH, any remaining amount shall be distributed to the Seller for application to the payment, in the following order of priority, of interest accrued and unpaid on, and the reduction to zero of the principal amount of, the Seller Note. (b) Notwithstanding anything to the contrary contained in this Section 2.7 or any other provision in this Agreement, if on any Business Day prior to the Payout Event the aggregate outstanding amount of Capital shall exceed the lesser of (i) the Purchase Limit or (ii) the Capital Limit, then the Seller shall remit to the Deal Agent, prior to any reinvestment of funds as set forth in item NINTH of Section 2.7(a) and in any event no later than the close of business of the Deal Agent on the next succeeding Business Day, a payment (to be applied by the Deal Agent to outstanding Capital allocated to Monthly Periods selected by the Deal Agent, in its reasonable discretion) in such amount as may be necessary to reduce outstanding Capital to an amount less than or equal to the lesser of (i) the Purchase Limit or (ii) the Capital Limit. Section 2.8 Settlement Procedures Following a Termination Date. The provisions of this Section 2.8 shall apply during the term of this Agreement after the occurrence of a Payout Event provided that no Restricting Event has occurred. (a) [reserved]. (b) On each Payment Date, the Servicer shall pay to the following Persons, from (i) the Collection Account, to the extent available funds and (ii) a Servicer Advance if made or required pursuant to Section 6.3, the following amounts in the following order of priority: (i) FIRST, to any Hedging Counterparty, an amount equal to any accrued and unpaid amounts under any Hedging Agreement, for the payment thereof; (ii) SECOND, to the Servicer, in an amount equal to any Unreimbursed Servicer Advances, for the payment thereof; (iii) THIRD, to the Servicer, in an amount equal to any accrued and unpaid Servicing Fee arrearage, for the payment thereof; (iv) FOURTH, to the Servicer, in an amount equal to any accrued and unpaid Servicing Fee, for the payment thereof; (v) FIFTH, to the extent not paid for by Fidelity, to the Backup Servicer, in an amount equal to any accrued and unpaid Backup Servicing Fee, for the payment thereof; 27 (vi) SIXTH, to the extent not paid for by Fidelity, to the Collateral Custodian, in an amount equal to any accrued and unpaid Custodial Fee, for the payment thereof; (vii) SEVENTH, to the Deal Agent, in an amount equal to any accrued and unpaid Program Fee and Yield for such Payment Date; (viii) EIGHTH, to the Deal Agent, in the amount of unpaid Increased Costs and/or Taxes, for payment to the Purchasers in respect thereof; (ix) NINTH, to the Deal Agent for payment to the Purchasers in an amount necessary to reduce the aggregate Capital to an amount equal to the product of (i) the Asset Interest and (ii) the ADCB as of the current Determination Date; (x) TENTH, to the extent funds are available to satisfy any unpaid Indemnified Amounts required to be paid by the Seller pursuant to the indemnification provisions of Section 8.1, and any other amounts due hereunder; and (xi) ELEVENTH, any remaining amount shall be distributed to the Seller for application to the payment, in the following order of priority, of interest accrued and unpaid on, and the reduction to zero of the principal amount of, the Seller Note, provided, however, that if the Overcollateralization is less than or equal to the product of (i) 0.05 and (ii) the Purchase Limit as of the day immediately preceding the occurrence of a Termination Date, the amount which would have been distributed to the Seller will be distributed to the Purchaser in reduction, to zero, of the aggregate Capital. (c) If at any time on or after the occurrence of a Payout Event, the Deal Agent or the Seller determines that as of the close of business on the day immediately preceding the Termination Date the outstanding amount of Capital exceeded the lesser of (i) the Purchase Limit, or (ii) the Capital Limit, then the Seller shall immediately remit to the Deal Agent, for the benefit of the Purchaser, a payment (to be applied by the Deal Agent to outstanding Capital allocated to Monthly Periods selected by the Deal Agent, in its reasonable discretion) in such amount as may be necessary to reduce the amount of Capital to the lesser of (i) the Purchase Limit, or (ii) the Capital Limit as of the close of business on the date immediately preceding the Payout Event. Section 2.9 Settlement Procedures Following a Restricting Event. The provisions of this Section 2.9 shall apply during the term of this Agreement after the occurrence of a Restricting Event. (a) [reserved]. 28 (b) On each Payment Date, the Servicer shall pay to the following Persons, from (i) the Collection Account, to the extent of available funds and (ii) a Servicer Advance if made or required pursuant to Section 6.3, the following amounts in the following order of priority: (i) FIRST, to any Hedging Counterparty, an amount equal to any accrued and unpaid amounts under any Hedge Agreement, for the payment thereof; (ii) SECOND, to the Servicer, in an amount equal to any Unreimbursed Servicer Advances, for the payment thereof; (iii) THIRD, to the Servicer, in an amount equal to any accrued and unpaid Servicing Fee arrearage, for the payment thereof; (iv) FOURTH, to the Servicer, in an amount equal to any accrued and unpaid Servicing Fee, for the payment thereof; (v) FIFTH, to the extent not paid for by Fidelity, to the Backup Servicer, in an amount equal to any accrued and unpaid Backup Servicing Fee, for the payment thereof; (vi) SIXTH, to the extent not paid for by Fidelity, to the Collateral Custodian, in an amount equal to any accrued and unpaid Custodial Fee, for the payment thereof; (vii) SEVENTH, to the Deal Agent, for the ratable payment to each Purchaser in an amount equal to any accrued and unpaid Program Fee and Yield for such Payment Date; (viii) EIGHTH, to the Deal Agent, in the amount of unpaid Increased Costs and/or Taxes, for payment to the Purchasers in respect thereof; (ix) NINTH, to the extent that funds are available, to the Deal Agent for the Purchasers in reduction of aggregate Capital; (x) TENTH, to the extent funds are available to satisfy any unpaid Indemnified Amounts, amounts required to be paid by the Seller pursuant to the indemnification provisions of Section 8.1, and other amounts due hereunder; and (xi) ELEVENTH, upon the reduction of the Capital to zero and the payment in full of the Aggregate Unpaids, any remaining amount shall be distributed to the Seller for application to the payment, in the following order of priority, of interest accrued and unpaid on, and the reduction to zero of the principal amount of, the Seller Note. (c) If at any time on or after the Restricting Event, the Deal Agent or the Seller determines that as of the close of business on the day immediately preceding Termination Date the outstanding amount of Capital exceeded the lesser of (i) the Purchase Limit, or (ii) the Capital Limit, then 29 the Seller shall immediately remit to the Deal Agent, for the benefit of the Purchaser, a payment (to be applied by the Deal Agent to outstanding Capital allocated to Monthly Periods selected by the Deal Agent, in its reasonable discretion) in such amount as may be necessary to reduce the amount of Capital to the lesser of (i) the Purchase Limit, or (ii) the Capital Limit as of the close of business on the date immediately preceding the Restricting Event. Section 2.10 Collections and Allocations. (a) Collections. The Servicer shall transfer, or cause to be transferred, all Collections on deposit in the form of available funds in the Lock Box Account to the Collection Account by the close of business on the Business Day such Collections are received in the Lock Box Account. The Servicer shall promptly (but in no event later than two Business Days after the receipt thereof) deposit all Collections received directly by it in the Collection Account. The Servicer shall make such deposits or payments on the date indicated therein by electronic funds transfer through the Automated Clearing House system, or by wire transfer, in immediately available funds. (b) Initial Deposits. On the Closing Date and on each Addition Date thereafter, the Servicer will deposit (in immediately available funds) into the Collection Account all Collections received after the applicable Cut Off Date and through and including the Closing Date or Addition Date, as the case may be, in respect of Contracts being transferred to the Asset Pool on such date. (c) Excluded Amounts. The Servicer may withdraw from the Collection Account any Collections constituting Excluded Amounts if the Servicer has, prior to such withdrawal, delivered to the Deal Agent a report setting forth the calculation of such Excluded Amounts in a format reasonably satisfactory to the Deal Agent. Section 2.11 Payments, Computations, Etc. (a) Unless otherwise expressly provided herein, all amounts to be paid or deposited by the Seller or the Servicer hereunder shall be paid or deposited in accordance with the terms hereof no later than 11:00 A.M. (Charlotte, North Carolina time) on the day when due in lawful money of the United States in immediately available funds to the Agent's Account. The Seller shall, to the extent permitted by law, pay to the Purchaser interest on all amounts not paid or deposited when due hereunder at 1% per annum above the Base Rate, payable on demand; provided, however, that such interest rate shall not at any time exceed the maximum rate permitted by applicable law. Such interest shall be retained by the Deal Agent except to the extent that such failure to make a timely payment or deposit has continued beyond the date for distribution by the Deal Agent of such overdue amount to the Purchasers, in which case such interest accruing after such date shall be for the account of, and distributed by the Deal Agent to the Purchasers. All computations of 30 interest and all computations of Yield and other fees hereunder shall be made on the basis of a year of 360 days for the actual number of days (including the first but excluding the last day) elapsed. (b) Whenever any payment hereunder shall be stated to be due on a day other than a Business Day, such payment shall be made on the next succeeding Business Day, and such extension of time shall in such case be included in the computation of payment of Yield, interest or any fee payable hereunder, as the case may be. (c) If any Purchase or Incremental Purchase requested by the Seller and approved by a Purchaser and the Deal Agent pursuant to Section 2.2, is not, for any reason whatsoever related to a default or nonperformance by the Seller, made or effectuated, as the case may be, on the date specified therefor, the Seller shall indemnify the Purchaser against any reasonable loss, cost or expense incurred by the Purchaser, including, without limitation, any loss (including loss of anticipated profits, net of anticipated profits in the reemployment of such funds in the manner determined by the Purchaser), cost or expense incurred by reason of the liquidation or reemployment of deposits or other funds acquired by the Purchaser to fund or maintain such Purchase or Incremental Purchase, as the case may be, during such Monthly Period. Section 2.12 Optional Repurchase. At any time following the Termination Date when the ADCB is less than ten percent of the ADCB as of the Termination Date, the Servicer may notify the Deal Agent in writing of its intent to purchase all remaining Assets in the Asset Pool. On the Payment Date next succeeding any such notice, the Servicer shall purchase all such Assets for a price equal to the sum of (i) the Aggregate Unpaids, (ii) all Yield accrued and to accrue, as reasonably determined by the Deal Agent, and (iii) all accrued and unpaid Commitment Fees, Program Fees, Backup Servicing Fees, Custodial Fees, Increased Costs, Taxes, hedging costs, breakage fees and any other amounts payable by the Seller hereunder or under or with respect to any Hedging Agreement. Section 2.13 Fees. (a) Fidelity, in its individual capacity, shall pay to the Deal Agent from its own funds on each Payment Date, monthly in arrears, a fee (the "Commitment Fee"), as set forth in the Program Fee Agreement. (b) Fidelity, in its individual capacity, shall pay to the Deal Agent from the Collection Account on each Payment Date, monthly in arrears, a fee (the "Program Fee") agreed to between Fidelity and the Deal Agent in the fee letter agreement between such parties dated the date hereof (the "Program Fee Agreement"). (c) The Servicer shall be entitled to receive a fee (the "Servicing Fee"), monthly in arrears in accordance with Section 2.7(a), 2.8(b) or 2.9(b), as applicable, which fee shall be equal to the product of (i) the Servicing Fee Rate agreed to between the Servicer and the Deal Agent in the Program Fee Agreement and (ii) ADCB for the immediately preceding Determination Date. 31 (d) The Backup Servicer shall be entitled to receive the Backup Servicing Fee in accordance with Section 2.7(a), 2.8(b) or 2.9(b) as applicable. (e) The Collateral Custodian shall be entitled to receive the Custodial Fee in accordance with Section 2.7(a), 2.8(b) or 2.9(b), as applicable. (f) The Seller shall pay to the Deal Agent, on the Closing Date, the Structuring Fee in immediately available funds. Section 2.14 Increased Costs; Capital Adequacy; Illegality. (a) If either (i) the introduction of or any change (including, without limitation, any change by way of imposition or increase of reserve requirements) in or in the interpretation of any law or regulation or (ii) the compliance by a Purchaser or any Affiliate thereof (each of which, an "Affected Party") with any guideline or request from any central bank or other governmental agency or authority (whether or not having the force of law), (A) shall subject an Affected Party to any Tax (except for Taxes on the overall net income of such Affected Party), duty or other charge with respect to an Asset Interest, or any right to make Purchases hereunder, or on any payment made hereunder or (B) shall impose, modify or deem applicable any reserve requirement (including, without limitation, any reserve requirement imposed by the Board of Governors of the Federal Reserve System, but excluding any reserve requirement, if any, included in the determination of Yield), special deposit or similar requirement against assets of, deposits with or for the amount of, or credit extended by, any Affected Party or (C) shall impose any other condition affecting an Asset Interest or a Purchaser's rights hereunder, the result of which is to increase the cost to any Affected Party or to reduce the amount of any sum received or receivable by an Affected Party under this Agreement, then within ten days after demand by such Affected Party (which demand shall be accompanied by a statement setting forth the basis for such demand), the Seller shall pay directly to such Affected Party such additional amount or amounts as will compensate such Affected Party for such additional or increased cost incurred or such reduction suffered. (b) If either (i) the introduction of or any change in or in the interpretation of any law, guideline, rule, regulation, directive or request or (ii) compliance by any Affected Party with any law, guideline, rule, regulation, directive or request from any central bank or other governmental authority or agency (whether or not having the force of law), including, without limitation, compliance by an Affected Party with any request or directive regarding capital adequacy, has or would have the effect of reducing the rate of return on the capital of any Affected Party as a consequence of its obligations hereunder or arising in connection herewith to a level below that which any such Affected Party could have achieved but for such introduction, change or compliance (taking into consideration the policies of such Affected Party with respect to capital adequacy) by an amount deemed by such Affected Party to be material, then from time to time, within ten days after demand by such Affected Party (which demand shall be accompanied by a statement setting forth the basis for such demand), the Seller shall pay directly to such Affected Party such additional amount or amounts as will compensate such Affected Party for such reduction. 32 (c) If as a result of any event or circumstance similar to those described in clauses (a) or (b) of this section, any Affected Party is required to compensate a bank or other financial institution providing liquidity support, credit enhancement or other similar support to such Affected Party in connection with this Agreement or the funding or maintenance of Purchases hereunder, then within ten days after demand by such Affected Party, the Seller shall pay to such Affected Party such additional amount or amounts as may be necessary to reimburse such Affected Party for any amounts paid by it. (d) In determining any amount provided for in this section, the Affected Party may use any reasonable averaging and attribution methods. Any Affected Party making a claim under this section shall submit to the Seller a certificate as to such additional or increased cost or reduction, which certificate shall be conclusive absent demonstrable error. (e) If a Purchaser shall notify the Deal Agent that a Eurodollar Disruption Event as described in clause (a) of the definition of "Eurodollar Disruption Event" has occurred, the Deal Agent shall in turn so notify the Seller, whereupon all Capital in respect of which Yield accrues at the Adjusted Eurodollar Rate shall immediately be converted into Capital in respect of which Yield accrues at the Base Rate. Section 2.15 Taxes. (a) All payments made by an Obligor in respect of a Contract and all payments made by the Seller or the Servicer under this Agreement will be made free and clear of and without deduction or withholding for or on account of any Taxes, unless such withholding or deduction is required by law. In such event, the Obligor, Seller, or Servicer (as the case may be) shall pay to the appropriate taxing authority any such Taxes required to be deducted or withheld and the amount payable to each Purchaser or the Deal Agent (as the case may be) will be increased (such increase, the "Additional Amount") such that every net payment made under this Agreement after deduction or withholding for or on account of any Taxes (including, without limitation, any Taxes on such increase) is not less than the amount that would have been paid had no such deduction or withholding been deducted or withheld. The foregoing obligation to pay Additional Amounts, however, will not apply with respect to net income or franchise taxes imposed on a Purchaser or the Deal Agent, respectively, with respect to payments required to be made by the Seller or Servicer under this Agreement, by a taxing jurisdiction in which such Purchaser or Deal Agent is organized, conducts business or is paying taxes as of the Closing Date (as the case may be). If a Purchaser or the Deal Agent pays any Taxes in respect of which the Seller is obligated to pay Additional Amounts under this Section 2.14(a), the Seller shall promptly reimburse such Purchaser or Deal Agent in full. (b) The Seller will indemnify each Purchaser and the Deal Agent for the full amount of Taxes in respect of which the Seller is required to pay Additional Amounts (including, without limitation, any Taxes imposed by any 33 jurisdiction on such Additional Amounts) paid by such Purchaser or the Deal Agent (as the case may be) and any liability (including penalties, interest and expenses) arising therefrom or with respect thereto; provided, however, that such Purchaser or the Deal Agent, as appropriate, making a demand for indemnity payment shall provide the Seller, at its address set forth under its name on the signature pages hereof, with a certificate from the relevant taxing authority or from a responsible officer of such Purchaser or the Deal Agent stating or otherwise evidencing that response such Purchaser or the Deal Agent has made payment of such Taxes and will provide a copy of or extract from documentation, if available, furnished by such taxing authority evidencing assertion or payment of such Taxes. This indemnification shall be made within ten days from the date the Purchaser or the Deal Agent (as the case may be) makes written demand therefor. (c) Within 30 days after the date of any payment by the Seller of any Taxes, the Seller will furnish to the Deal Agent, at its address set forth under its name on the signature pages hereof, appropriate evidence of payment thereof. (d) If a Purchaser is not created or organized under the laws of the United States or a political subdivision thereof, such Purchaser shall, to the extent that it may then do so under applicable laws and regulations, deliver to the Seller with a copy to the Deal Agent (i) within 15 days after the date hereof, or, if later, the date on which such Purchaser becomes a Purchaser hereof two (or such other number as may from time to time be prescribed by applicable laws or regulations) duly completed copies of IRS Form 4224 or Form 1001 (or any successor forms or other certificates or statements which may be required from time to time by the relevant United States taxing authorities or applicable laws or regulations), as appropriate, to permit the Seller to make payments hereunder for the account of such Purchaser, as the case may be, without deduction or withholding of United States federal income or similar Taxes and (ii) upon the obsolescence of or after the occurrence of any event requiring a change in, any form or certificate previously delivered pursuant to this Section 2.14(d), copies (in such numbers as may from time to time be prescribed by applicable laws or regulations) of such additional, amended or successor forms, certificates or statements as may be required under applicable laws or regulations to permit the Seller to make payments hereunder for the account of such Purchaser, without deduction or withholding of United States federal income or similar Taxes. (e) For any period with respect to which a Purchaser or the Deal Agent has failed to provide the Seller with the appropriate form, certificate or statement described in clause (d) of this section (other than if such failure is due to a change in law occurring after the date of this Agreement), the Deal Agent or such Purchaser, as the case may be, shall not be entitled to indemnification under clauses (a) or (b) of this section with respect to any Taxes. (f) Within 30 days of the written request of the Seller therefor, the Deal Agent and the Purchaser, as appropriate, shall execute and deliver to the Seller such certificates, forms or other documents which can be furnished consistent with the facts and which are reasonably necessary to assist the Seller in applying for refunds of Taxes remitted hereunder; provided, however, that the Deal Agent and the Purchaser shall not be required to deliver such 34 certificates forms or other documents if in their respective sole discretion it is determined that the deliverance of such certificate, form or other document would have a material adverse affect on the Deal Agent or Purchaser and provided further, however, that the Seller shall reimburse the Deal Agent or Purchaser for any reasonable expenses incurred in the delivery of such certificate, form or other document. (g) If, in connection with an agreement or other document providing liquidity support, credit enhancement or other similar support to the Purchasers in connection with this Agreement or the funding or maintenance of Purchases hereunder, the Purchasers are required to compensate a bank or other financial institution in respect of Taxes under circumstances similar to those described in this section then within ten days after demand by the Purchasers, the Seller shall pay to the Purchasers such additional amount or amounts as may be necessary to reimburse the Purchasers for any amounts paid by them. (h) Without prejudice to the survival of any other agreement of the Seller hereunder, the agreements and obligations of the Seller contained in this section shall survive the termination of this Agreement. Section 2.16 Assignment of the Purchase Agreement. The Seller hereby represents, warrants and confirms to the Deal Agent that the Seller has assigned to the Deal Agent, for the ratable benefit of the Purchasers hereunder, all of the Seller's right and title to and interest in the Purchase Agreement. The Seller confirms that following a Payout Event the Deal Agent shall have the sole right to enforce the Seller's rights and remedies under the Purchase Agreement for the benefit of the Purchasers, but without any obligation on the part of the Deal Agent, the Purchasers or any of their respective Affiliates, to perform any of the obligations of the Seller under the Purchase Agreement. The Seller further confirms and agrees that such assignment to the Deal Agent shall terminate upon the Collection Date; provided, however, that the rights of the Deal Agent and the Purchasers pursuant to such assignment with respect to rights and remedies in connection with any indemnities and any breach of any representation, warranty or covenants made by the Originator pursuant to the Purchase Agreement, which rights and remedies survive the Termination of the Purchase Agreement, shall be continuing and shall survive any termination of such assignment. Section 2.17 Substitution of Contracts. On any day prior to the occurrence of a Restricting Event, the Seller may, and upon the request of the Deal Agent shall, subject to the conditions set forth in this Section 2.16, replace any Contract subject to a Warranty Event or in respect of which the Obligor thereunder has requested the rewriting and/or restructuring of such Contract with one or more other Contracts (each, a "Substitute Contract"), provided that no such replacement shall occur unless each of the following conditions is satisfied as of the date of such replacement and substitution: 35 (a) the Seller has previously recommended to the Deal Agent (with a copy to the Collateral Custodian) in writing that the Contract to be replaced should be replaced (each a "Replaced Contract"); (b) each Substitute Contract is an Eligible Contract on the date of substitution; (c) after giving effect to any such substitution, the aggregate of all outstanding Capital does not exceed the lesser of the (i) Purchase Limit and (ii) the Capital Limit; (d) the aggregate Discounted Contract Balance (at the applicable Sale Discount Rate) of such Substitute Contracts shall be equal to or greater than the aggregate Discounted Contract Balances (at the applicable Sale Discount Rate as of the date of the inclusion of such Contract in the Asset Pool) of Contracts being replaced; (e) such Substitute Contracts, at the time of substitution by the Seller, shall have approximately the same weighted average life as the replaced Contracts; (f) all representations and warranties of the Seller contained in Sections 4.1 and 4.2 shall be true and correct as of the date of substitution of any such Substitute Contract; (g) the substitution of any Substitute Contract does not cause a Payout Event to occur; and (h) the Seller shall deliver to the Deal Agent on the date of such substitution a certificate of a Responsible Officer certifying that each of the foregoing is true and correct as of such date. In addition, the Seller shall deliver to the Collateral Custodian the related Contract File as required by Section 3.3. In connection with any such substitution, the Deal Agent as agent for the Purchasers shall, automatically and without further action, be deemed to transfer to the Seller, free and clear of any Lien created pursuant to this Agreement, all of the right, title and interest of the Deal Agent as Agent for the Purchasers in, to and under such Replaced Contract, and the Deal Agent as agent for the Purchasers shall be deemed to represent and warrant that it has the corporate authority and has taken all necessary corporate action to accomplish such transfer, but without any other representation and warranty, express or implied. Any right of the Deal Agent as agent for the Purchasers to substitute any Contract in the Asset Pool pursuant to this Section 2.16 shall be in addition to, and without limitation of, any other rights and remedies that the Deal Agent as agent for the Purchasers or any Purchaser may have to require the Seller or the Servicer, as applicable, to substitute for, or accept retransfer of, any Contract pursuant to the terms of this Agreement. 36 ARTICLE III CONDITIONS OF PURCHASES Section 3.1 Conditions Precedent to Initial Purchase. The initial Purchase hereunder is subject to the condition precedent that the Deal Agent shall have received on or before the date of such purchase the items listed in Schedule I, each (unless otherwise indicated) dated such date, in form and substance satisfactory to the Deal Agent and the Purchasers. Section 3.2 Conditions Precedent to All Purchases and Remittances of Collections. Each Purchase (including the Initial Purchase) from the Seller by a Purchaser, the right of the Servicer to remit Collections to the Seller pursuant to Section 2.7(b) and each Incremental Purchase (each, a "Transaction") shall be subject to the further conditions precedent that (a) with respect to any Purchase (including the Initial Purchase) or Incremental Purchase, the Servicer shall have delivered to the Deal Agent, on or prior to the date of such Purchase or Incremental Purchase in form and substance satisfactory to the Deal Agent, (i) a Purchase Notice (Exhibit A), (ii) a Purchase Certificate (Exhibit G), and (iii) a Certificate of Assignment (Exhibit A to the Purchase and Sale Agreement) including Schedule I, thereto dated within 10 days prior to the date of such Purchase (other than the Initial Purchase, in which case such items shall be dated within 5 days prior to the date of such Initial Purchase) or Incremental Purchase and containing such additional information as may be reasonably requested by the Deal Agent; (b) on the date of such Transaction the following statements shall be true and the Seller shall be deemed to have certified that: (i) The representations and warranties contained in Sections 4.1 and 4.2 are true and correct on and as of such day as though made on and as of such date, (ii) No event has occurred and is continuing, or would result from such Transaction which constitutes a Payout Event, (iii) On and as of such day, after giving effect to such Transaction, the outstanding Capital does not exceed the lesser of (x) the Purchase Limit, or (y) the Capital Limit, (iv) On and as of such day, the Seller and the Servicer each has performed all of the agreements contained in this Agreement to be performed by such person at or prior to such day, and (v) No law or regulation shall prohibit, and no order, judgment or decree of any federal, state or local court or governmental body, agency or instrumentality shall prohibit or 37 enjoin, the making of such Purchase, remittance of Collections or Incremental Purchase by the Purchaser in accordance with the provisions hereof; and (c) on the date of such Transaction, the Deal Agent shall have received such other approvals, opinions or documents as the Deal Agent may reasonably require. Section 3.3 Delivery of Contract Files. As a condition subsequent to each Purchase or substitution of Substitute Contracts made hereunder, the Seller shall deliver to the Collateral Custodian, within 10 calendar days after such Purchase or substitution, the related Contract Files. ARTICLE IV REPRESENTATIONS AND WARRANTIES Section 4.1 Representations and Warranties of the Seller. The Seller represents and warrants as follows: (a) Organization and Good Standing. The Seller is a corporation duly organized and validly existing in good standing under the laws of the Commonwealth of Pennsylvania, and has full corporate power, authority and legal right to own or lease its properties and conduct its business as such properties are presently owned or leased and such business is presently conducted, and to execute, deliver and perform its obligations under this Agreement and the Purchase Agreement. (b) Due Qualification. The Seller is duly qualified to do business and is in good standing as a corporation, and has obtained or will obtain all necessary licenses and approvals, in each jurisdiction in which failure to so qualify or to obtain such licenses and approvals would have a material adverse effect on its ability to perform its obligations hereunder. (c) Due Authorization. The execution and delivery of this Agreement and the Purchase Agreement and the consummation of the transactions provided for herein and therein have been duly authorized by the Seller by all necessary corporate action on the part of the Seller. (d) No Conflict. The execution and delivery of this Agreement and the Purchase Agreement, the performance by the Seller of the transactions contemplated hereby and thereby and the fulfillment of the terms hereof and thereof will not conflict with or result in any breach of any of the material terms and provisions of, and will not constitute (with or without notice or lapse of time or both) a default under, any indenture, contract, agreement, mortgage, deed of trust, or other instrument to which the Seller is a party or by which it or any of its property is bound. 38 (e) No Violation. The execution and delivery of this Agreement and the Purchase Agreement, the performance of the transactions contemplated hereby and thereby and the fulfillment of the terms hereof and thereof will not conflict with or violate, in any material respect, any Requirements of Law applicable to the Seller. (f) No Proceedings. There are no proceedings or investigations pending or, to the best knowledge of the Seller, threatened against the Seller, before any court, regulatory body, administrative agency, or other tribunal or governmental instrumentality (i) asserting the invalidity of this Agreement or the Purchase Agreement, (ii) seeking to prevent the consummation of any of the transactions contemplated by this Agreement or the Purchase Agreement or (iii) seeking any determination or ruling that could reasonably be expected to be adversely determined, and if adversely determined, would materially and adversely affect the performance by the Seller of its obligations under this Agreement or the Purchase Agreement. (g) All Consents Required. All approvals, authorizations, consents, orders or other actions of any Person or of any Governmental Authority required in connection with the execution and delivery by the Seller of this Agreement and the Purchase Agreement, the performance by the Seller of the transactions contemplated by this Agreement and the Purchase Agreement, and the fulfillment of the terms hereof and thereof by the Seller, have been obtained unless the failure to obtain such shall not materially and adversely affect the Seller's performance of its obligations thereunder. (h) Bulk Sales. The execution, delivery and performance of this Agreement do not require compliance with any "bulk sales" law by Seller. (i) Solvency. The transactions under this Agreement and/or the Purchase Agreement do not and will not render the Seller not Solvent. (j) Selection Procedures; Credit and Collection Policy. No procedures believed by the Seller to be materially adverse to the interests of VFCC or the Purchasers were utilized by the Seller in identifying and/or selecting the Contracts in the Asset Pool. In addition, each Contract shall have been underwritten in accordance with and satisfy the standards of any Credit and Collection Policy which has been established by the Seller or the Originator and is then in effect. Such Credit and Collection Policy or procedure may be amended from time to time in the Seller's or the Originator's normal course of business provided that the Seller shall not materially change such credit and collection policy or procedure without the prior written consent of the Deal Agent. (k) Taxes. The Seller has filed or caused to be filed all Tax returns which, to its knowledge, are required to be filed. The Seller has paid or made adequate provisions for the payment of all Taxes and all assessments made against it or any of its property (other than any amount of Tax the validity of which is currently being contested in good faith by appropriate proceedings and with respect to which reserves in accordance with generally accepted 39 accounting principles have been provided on the books of the Seller), and no Tax lien has been filed and, to the Seller's knowledge, no claim is being asserted, with respect to any such Tax, fee or other charge. (l) Agreements Enforceable. This Agreement and the Purchase Agreement constitute the legal, valid and binding obligation of the Seller enforceable against the Seller in accordance with their respective terms, except as such enforceability may be limited by Insolvency Laws and except as such enforceability may be limited by general principles of equity (whether considered in a suit at law or in equity). (m) Exchange Act Compliance. No proceeds of any Purchase or Incremental Purchase will be used by the Seller to acquire any security in any transaction which is subject to Section 13 or 14 of the Securities Exchange Act of 1934, as amended. (n) No Liens. Each Asset, together with the Contract related thereto, shall, at all times, be owned by the Seller free and clear of any Adverse Claim except as provided herein, and upon each Purchase, remittance of Collections or Incremental Purchase, the relevant Purchaser shall acquire (subject to recordation where necessary) a valid and perfected first priority undivided ownership interest in each Asset then existing or thereafter arising and Collections with respect thereto, free and clear of any Adverse Claim except as provided hereunder. No effective financing statement or other instrument similar in effect covering any Asset or Collections with respect thereto shall at any time be on file in any recording office except such as may be filed in favor of the Deal Agent relating to this Agreement. (o) Reports Accurate. No Monthly Report (if prepared by the Seller, or to the extent that information contained therein is supplied by the Seller), information, exhibit, financial statement, document, book, record or report furnished or to be furnished by the Seller to the Deal Agent or a Purchaser in connection with this Agreement is or will be inaccurate in any material respect as of the date it is or shall be dated or (except as otherwise disclosed to the Deal Agent or such Purchaser, as the case may be, at such time) as of the date so furnished, and no such document contains or will contain any material misstatement of fact or omits or shall omit to state a material fact or any fact necessary to make the statements contained therein not misleading. (p) Location of Offices. The principal place of business and chief executive office of the Seller and the office where the Seller keeps all the Records are located at the address of the Seller referred to in Section 11.2 hereof (or at such other locations as to which the notice and other requirements specified in Section 5.2(m) shall have been satisfied). (q) Lock-Boxes. The names and addresses of all the Lock-Box Banks, together, with the account numbers of the Lock-Box Accounts of the Seller at such Lock-Box Banks and the names, addresses and account numbers of all accounts to which Collections of the Assets outstanding before the initial Purchase hereunder have been sent, are specified in Schedule II (which shall be deemed to be amended in respect of terminating or adding any Lock-Box 40 Account or Lock-Box Bank upon satisfaction of the notice and other requirements specified in respect thereof). (r) Tradenames. Except as described in Schedule III, the Seller has no trade names, fictitious names, assumed names or "doing business as" names or other names under which it has done or is doing business. (s) Purchase Agreement. The Purchase Agreement is the only agreement pursuant to which the Seller purchases Assets. (t) Value Given. The Seller shall have given reasonably equivalent value to the Originator in consideration for the transfer to the Seller of the Assets under the Purchase Agreement, no such transfer shall have been made for or on account of an antecedent debt owed by the Originator to the Seller, and no such transfer is or may be voidable or subject to avoidance under any section of the Bankruptcy Code; no event or circumstance has occurred that would constitute a Payout Event pursuant to Section 7. 1. (u) Special Purpose Entity. The Certificate of Incorporation of the Seller includes substantially the provisions set forth on Exhibit C hereto, and the Originator has confirmed in writing to the Seller that, so long as the Seller is not "insolvent" within the meaning of the Bankruptcy Code, the Originator will not cause the Seller to file a voluntary petition under the Bankruptcy Code or any other bankruptcy or insolvency laws. Each of the Seller and the Originator is aware that in light of the circumstances described in the preceding sentence and other relevant facts, the filing of a voluntary petition under the Bankruptcy Code for the purpose of making the assets of the Seller available to satisfy claims of the creditors of the Originator would not result in making such assets available to satisfy such creditors under the Bankruptcy Code. (v) Accounting. The Seller accounts for the transfers to it from the Originator of interests in Assets and Collections under the Purchase Agreement as sales of such Assets and transfers of Asset Interests as sales of such Asset Interests in its books, records and financial statements, in each case consistent with GAAP and with the requirements set forth herein. (w) Separate Entity. The Seller is operated as an entity with assets and liabilities distinct from those of the Originator and any Affiliates thereof (other than the Seller), and the Seller hereby acknowledges that the Deal Agent and the Purchasers are entering into the transactions contemplated by this Agreement in reliance upon the Seller's identity as a separate legal entity from the Originator and from each such other Affiliate of the Originator. (x) Security Interest. The Seller has granted a security interest (as defined in the UCC) to the Deal Agent, as agent for the Purchasers, in the Assets and Collections, which is enforceable in accordance with applicable law upon execution and delivery of this Agreement. Upon the filing of UCC-1 financing statements naming the Deal Agent as secured party and the Seller as debtor, the Deal Agent, as agent for the Purchasers, shall have a first 41 priority perfected security interest in the Assets and Collections (except for any Permitted Liens). All filings (including, without limitation, such UCC filings) as are necessary in any Jurisdiction to perfect the interest of the Deal Agent as agent for the Purchasers, in the Assets and Collections have been (or prior to the applicable Purchase will be) made. (y) Investments. The Seller does not own or hold directly or indirectly, any capital stock or equity security of, or any equity interest in, any Person. (z) Business. Since its incorporation, the Seller has conducted no business other than the purchase and receipt of Contracts and related assets from the Originator under the Purchase Agreement, the sale of Contracts under this Agreement and such other activities as are incidental to the foregoing. (aa) Investment Company Act. The Seller is not an "investment company" within the meaning of the Investment Company Act of 1940, as amended. (bb) Accuracy of Representations and Warranties. Each representation or warranty by the Seller contained herein or in any certificate or other document furnished by the Seller pursuant hereto or in connection herewith is true and correct in all material respects. The representations and warranties set forth in this section shall survive the transfer of the Assets to the Deal Agent as agent for the Purchasers. Upon discovery by the Seller, the Servicer, any Purchaser, the Liquidity Agent or the Deal Agent of a breach of any of the foregoing representations and warranties, the party discovering such breach shall give prompt written notice to the others. Section 4.2 Representations and Warranties of Seller Relating to the Agreement and the Contracts. The Seller hereby represents and warrants to the Deal Agent, each Purchaser, the Liquidity Agent and each Investor that, as of the Closing Date and as of each Addition Date: (a) Binding, Obligation, Valid Transfer and Security Interest. (i) This Agreement and the Purchase Agreement each constitute legal, valid and binding obligations of the Seller, enforceable against the Seller in accordance with its terms, except as such enforceability may be limited by Insolvency Laws and except as such enforceability may be limited by general principles of equity (whether considered in a suit at law or in equity). (ii) This Agreement constitutes either (A) a valid transfer to the Deal Agent as agent for the Purchasers of all right, title and interest of the Seller in, to and under all Assets in the Asset Pool to the extent of the Asset Interest, and such transfer will be free and clear of any Lien of any Person claiming through or under the Seller or its Affiliates, except for Permitted Liens, or (B) a grant 42 of a security interest in all Assets in the Asset Pool to the Deal Agent as agent for the Purchasers. Upon the filing of the financing statements described in Section 6.8(c) and, in the case of Additional Contracts on the applicable Addition Date, the Deal Agent as agent for the Purchasers shall have a first priority perfected security interest in all Assets in the Asset Pool, subject only to Permitted Liens. Neither the Seller nor any Person claiming through or under Seller shall have any claim to or interest in the Collection Account and, if this Agreement constitutes the grant of a security interest in such property, except for the interest of Seller in such property as a debtor for purposes of the UCC. (b) Eligibility of Contracts. As of the Closing Date, (i) Schedule I to this Agreement and the information contained in the Purchase Certificate delivered pursuant to Section 2.2(b) is an accurate and complete listing in all material respects of all the Existing Contracts in the Asset Pool as of the Closing Date and the information contained therein with respect to the identity of such Contracts and the amounts owing thereunder is true and correct in all material respects as of the related Cut Off Date, (ii) each such Contract is an Eligible Contract, (iii) each such Contract and the related Equipment is free and clear of any Lien of any Person (other than Permitted Liens) and in compliance with all Requirements of Law applicable to the Seller and (iv) with respect to each such Contract, all consents, licenses, approvals or authorizations of or registrations or declarations with any Governmental Authority required to be obtained, effected or given by the Seller in connection with the transfer of an interest in such Contract and the related Equipment to the Deal Agent as agent for the Purchasers have been duly obtained, effected or given and are in full force and effect. On each Addition Date on which Additional Contracts are added by the Seller to the Asset Pool, the Seller shall be deemed to represent and warrant that (i) such Additional Contract referenced on the related Purchase Certificate delivered pursuant to Section 2.2(b) hereof is an Eligible Contract, (ii) each such Additional Contract and the related Equipment is free and clear of any Lien of any Person (other than Permitted Liens) and in compliance with all Requirements of Law applicable to Seller and/or the Originator, (iii) with respect to each such Additional Contract, all consents, licenses, approvals, authorizations, registrations or declarations with any Governmental Authority required to be obtained, effected or given by the Seller in connection with the addition of such Contract and the related Equipment to the Asset Pool have been duly obtained, effected or given and are in full force and effect and (iv) the representations and warranties set forth in Section 4.2(a) are true and correct with respect to each Contract transferred on such day as if made on such day. (c) Notice of Breach. The representations and warranties set forth in this Section 4.2 shall survive the transfer of an interest in the respective Contracts and related Equipment, or interests therein, to the Deal Agent as agent for the Purchasers. Upon discovery by the Seller, the Servicer, any Purchaser, the Deal Agent, the Liquidity Agent of any Investor of a breach of any of the foregoing representations and warranties, the party discovering such breach shall give prompt written notice to the others. 43 Section 4. 3 Representations and Warranties of the Seller Relating to the Purchase Limit and Capital Limit. The Seller is hereby deemed to represent and warrant that on each day prior to the Termination Date, the amount of Capital outstanding on such day shall not exceed the lesser of (x) the Purchase Limit or (y) the Capital Limit. ARTICLE V GENERAL COVENANTS OF THE SELLER Section 5.1 General Covenants. Until the date on which all Aggregate Unpaids have been indefeasibly paid in full, the Seller hereby covenants that: (a) Compliance with Laws, Preservation of Corporate Existence. The Seller will comply in all material respects with all applicable laws, rules, regulations and orders and preserve and maintain its corporate existence, rights, franchises, qualifications and privileges. Section 5.2 Covenants of Seller. The Seller hereby covenants that: (a) Contracts Not to be Evidenced by Instruments. The Seller will take no action to cause any Contract which is not, as of the Closing Date or the related Addition Date, as the case may be, evidenced by an Instrument, to be so evidenced except in connection with the enforcement or collection of such Contract. (b) Security Interests. The Seller will not sell, pledge, assign or transfer to any other Person, or grant, create, incur, assume or suffer to exist any Lien on any Contract in the Asset Pool or related Equipment, whether now existing or hereafter transferred hereunder, or any interest therein, and the Seller will not sell, pledge, assign or suffer to exist any Lien on its interest, if any, hereunder. The Seller will promptly notify the Deal Agent of the existence of any Lien on any Contract in the Asset Pool or related Equipment and the Seller shall defend the right, title and interest of the Deal Agent as agent for the Purchasers in, to and under the Contracts in the Asset Pool and the related Equipment, against all claims of third parties, provided, however, that nothing in this section 5.2(b) shall prevent or be deemed to prohibit the Seller from suffering to exist Permitted Liens upon any of the Contracts in the Asset Pool or any related Equipment. (c) Delivery of Collections. The Seller agrees to pay to the Servicer promptly (but in no event later than two Business Days after receipt) all Collections received by Seller in respect of the Contracts in the Asset Pool. 44 (d) Compliance with the Law. Seller hereby agrees to comply in all material respects with all Requirements of Law applicable to Seller, the Contracts and the Equipment. (e) Activities of Seller. The Seller shall not engage in any business or activity of any kind, or enter into any transaction or indenture, mortgage, instrument, agreement, contract, lease or other undertaking, which is not incidental to the transactions contemplated and authorized by this Agreement or the Purchase Agreements. (f) Indebtedness; Investments. The Seller shall not create, incur, assume or suffer to exist any Indebtedness or other liability whatsoever, except (i) obligations incurred under this Agreement, or (ii) liabilities incident to the maintenance of its corporate existence in good standing. (g) Guarantees. The Seller shall not become or remain liable, directly or indirectly, in connection with any Indebtedness or other liability of any other Person, whether by guarantee, endorsement (other than endorsements of negotiable instruments for deposit or collection in the ordinary course of business), agreement to purchase or repurchase, agreement to supply or advance funds, or otherwise. (h) Investments. The Seller shall not make or suffer to exist any loans or advances to, or extend any credit to, or make any investments (by way of transfer of property, contributions to capital, purchase of stock or securities or evidences of indebtedness, acquisition of the business or assets, or otherwise) in, any Person except for purchases of Contracts pursuant to the Purchase Agreements, or for investments in Permitted Investments in accordance with the terms of this Agreement. (i) Merger; Sales. The Seller shall not enter into any transaction of merger or consolidation, or liquidate or dissolve itself (or suffer any liquidation or dissolution), or acquire or be acquired by any Person, or convey, sell, lease or otherwise dispose of all or substantially all of its property or business, except as provided for in this Agreement. (j) Distributions. The Seller shall not declare or pay, directly or indirectly, any dividend or make any other distribution (whether in cash or other property) with respect to the profits, assets or capital of the Seller or any Person's interest therein, or purchase, redeem or otherwise acquire for value any of its capital stock now or hereafter outstanding, except that so long as no Payout Event has occurred and is continuing and no Payout Event would occur as a result thereof or after giving effect thereto and the Seller would continue to be Solvent as a result thereof and after giving effect thereto, the Seller may declare and pay cash or stock dividends on its capital stock. (k) Agreements. The Seller shall not become a party to, or permit any of its properties to be bound by, any indenture, mortgage, instrument, contract, agreement, lease or other undertaking, except this Agreement and the 45 Purchase Agreements, or amend or modify the provisions of its Certificate of Incorporation without the consent of the Deal Agent or issue any power of attorney except to the Deal Agent or the Servicer. (l) Separate Corporate Existence. The Seller shall: (i) Maintain its own deposit account or accounts, separate from those of any Affiliate, with commercial banking institutions. The funds of the Seller will not be diverted to any other Person or for other than corporate uses of the Seller. (ii) Ensure that, to the extent that it shares the same officers or other employees as any of its stockholders or Affiliates, the salaries of and the expenses related to providing benefits to such officers and other employees shall be fairly allocated among such entities, and each such entity shall bear its fair share of the salary and benefit costs associated with all such common officers and employees. (iii) Ensure that, to the extent that it jointly contracts with any of its stockholders or Affiliates to do business with vendors or service providers or to share overhead expenses, the costs incurred in so doing shall be allocated fairly among such entities, and each such entity shall bear its fair share of such costs. To the extent that the Seller contracts or does business with vendors or service providers when the goods and services provided are partially for the benefit of any other Person, the costs incurred in so doing shall be fairly allocated to or among such entities for whose benefit the goods and services are provided, and each such entity shall bear its fair share of such costs. All material transactions between Seller and any of its Affiliates shall be only on an arm's length basis. (iv) Maintain a principal executive and administrative office through which its business is conducted separate from those of its Affiliates. To the extent that Seller and any of its stockholders or Affiliates have offices in the same location, there shall be a fair and appropriate allocation of overhead costs among them, and each such entity shall bear its fair share of such expenses. (v) Conduct its affairs strictly in accordance with its Certificate of Incorporation and observe all necessary, appropriate and customary corporate formalities, including, but not limited to, holding all regular and special stockholders, and directors' meetings appropriate to authorize all corporate action, keeping separate and accurate minutes of its meetings, passing all resolutions or consents necessary to authorize actions taken or to be taken, and maintaining accurate and separate books, records and accounts, including, but not limited to, payroll and intercompany transaction accounts. (vi) Take or refrain from taking, as applicable, each of the activities specified in the "non-substantive consolidation" opinion of Morgan, Lewis & Bockius LLP delivered on the Closing Date, upon which the conclusions expressed therein are based. 46 (m) Location of Seller, Records; Instruments. The Seller (x) shall not move outside the Commonwealth of Pennsylvania, the location of its chief executive office, without 30 days' prior written notice to the Deal Agent and (y) shall not move, or consent to the Collateral Custodian or Servicer moving, the Contract Files from the possession of the Collateral Custodian thereof on the Closing Date, without 30 days' prior written notice to the Deal Agent and (z) will promptly take all actions required of each relevant jurisdiction in order to continue the first priority perfected security interest of the Deal Agent as agent for the Purchasers in all Assets in the Asset Pool. The Seller will give the Deal Agent prompt notice of a change within the Commonwealth of Pennsylvania of the location of its chief executive office. (n) Accounting of Purchases. Other than for federal, state and local income tax purposes, the Seller will not account for or treat (whether in financial statements or otherwise) the transactions contemplated hereby in any manner other than as the sale, or absolute assignment, of Assets by the Seller to a Purchaser. The Seller will not account for or treat (whether in financial statements or otherwise) the transaction contemplated by the Purchase Agreement in any manner other than as the sale, or absolute assignment, of the Originator Assets by the Originator to the Seller, as the case may be. (o) ERISA Matters. The Seller will not (a) engage or permit any ERISA Affiliate to engage in any prohibited transaction for which an exemption is not available or has not previously been obtained from the United States Department of Labor; (b) permit to exist any accumulated funding deficiency, as defined in Section 302(a) of ERISA and Section 412(a) of the Code, or funding deficiency with respect to any Benefit Plan other than a Multiemployer Plan; (c) fail to make any payments to a Multiemployer Plan that the Seller or any ERISA Affiliate may be required to make under the agreement relating to such Multiemployer Plan or any law pertaining thereto; (d) terminate any Benefit Plan so as to result in any liability; or (e) permit to exist any occurrence of any reportable event described in Title IV of ERISA. (p) Originator Assets. With respect to each Asset acquired by the Seller, the Seller will (i) acquire such Asset pursuant to and in accordance with the terms of the Purchase Agreement, (ii) take all action necessary to perfect, protect and more fully evidence the Seller's ownership of such Asset, including, without limitation, (A) filing and maintaining, effective financing statements (Form UCC-1) against the Originator in all necessary or appropriate filing offices, and filing continuation statements, amendments or assignments with respect thereto in such filing offices and (B) executing or causing to be executed such other instruments or notices as may be necessary or appropriate and (iii) take all additional action that the Deal Agent may reasonably request to perfect, protect and more fully evidence the respective interests of the parties to this Agreement in the Assets and interest therein represented by the Asset Interest. (q) Transactions with Affiliates. The Seller will not enter into, or be a party to, any transaction with any of its Affiliates, except (i) the transactions permitted or contemplated by this Agreement and the Purchase Agreement, and (ii) other transactions (including, without limitation, the lease of office space or computer equipment or software by the Seller to or from an Affiliate) (A) in the ordinary course of business, (B) pursuant to the 47 reasonable requirements of the Seller's business, (C) upon fair and reasonable terms that are no less favorable to the Seller than could be obtained in a comparable arm's-length transaction with a Person not an Affiliate of the Seller, and (D) not inconsistent with the factual assumptions set forth in the opinion letters issued by Morgan, Lewis & Bockius LLP and delivered to the Deal Agent as a condition to the initial Purchase as such assumptions may be modified in any subsequent opinion letters delivered to the Deal Agent hereunder pursuant to Section 3.2(c) or otherwise. It is understood that any compensation arrangement for officers shall be permitted under clause (ii)(A) through (C) above if such arrangement has been expressly approved by the board of directors of the Seller. (r) Investments. The Seller will not make any Investments other than Permitted Investments. (s) Change in the Purchase Agreement. The Seller will not amend, modify, waive or terminate any terms or conditions of the Purchase Agreement, without the consent of Deal Agent. (t) Amendment to Certificate of Incorporation. The Seller will not amend, modify or otherwise make any change to its Certificate of Incorporation which would delete or otherwise nullify or circumvent the provisions set forth on Exhibit C hereto. (u) Credit and Collection Policy. The Seller shall not cause or permit any changes to be made to the Credit and Collection Policy in any manner that would materially and adversely affect the collectibility of the Contracts sold hereunder without the prior written consent of the Deal Agent, which consent shall not be unreasonably withheld. Section 5.3 Release of Lien on Equipment. At the same time as (i) any Contract in the Asset Pool expires by its terms and all amounts in respect thereof have been paid by the related Obligor and deposited in the Collection Account or (ii) any Contract becomes a Prepaid Contract and all amounts in respect thereof have been paid by the related Obligor and deposited in the Collection Account, the Deal Agent as agent for the Purchasers will, to the extent requested by the Servicer, release its interest in such Contract; provided, however, that such release will not constitute a release of their respective interests in the Equipment or the proceeds of such Contract or Equipment. In connection with any sale of such Equipment on or after the occurrence of (i) or (ii) above, the Deal Agent as agent for the Purchasers will after the deposit by the Servicer of the proceeds of such sale into the Collection Account, at the sole expense of the Servicer, execute and deliver to the Servicer any assignments, bills of sale, termination statements and any other releases and instruments as the Servicer may reasonably request in order to effect the release and transfer of such Equipment; provided that the Deal Agent as agent for the Purchasers will make no representation or warranty, express or implied, with respect to any such Equipment in connection with such sale or transfer and assignment. Nothing in this section shall diminish the Servicer's obligations pursuant to Section 6.1(c) with respect to the proceeds of any such sale. 48 Section 5.4 Hedging of Contracts. On or prior to the Purchase Date, the Seller shall have entered into the Hedging Agreement with the Hedge Counterparty. On each Purchase Date the Seller shall assign to the Deal Agent on behalf of VFCC all of the Seller's rights under the Hedging Agreements relating to the Contracts conveyed on such Purchase Date. Each Hedging Agreement shall (i) have a scheduled Termination Date that coincides with the last Scheduled Payment due to occur for the Contracts conveyed on such Purchase Date; (ii) provide for a notional amount from time to time equal to one hundred percent (100%) of the aggregate Capital on such Purchase Date, after giving effect to any increase in the aggregate Capital to be made on such Purchase Date, (the "Hedged Level"), of the aggregate amount (discounted to the present value at the "Swap Rate" defined below) of all remaining Scheduled Payments on the Contracts on such Purchase Date (the "Hedged Amount"); (iii) provide that the Hedge Counterparty's payment obligations shall be calculated by reference to the Hedged Amount and a per annum rate determined by reference to USD-CP-H. 15, as defined in the 1991 ISDA Definitions published by the International Swap Dealers Association, Inc. and as determined in accordance with the procedures in effect on the date of this Agreement (the "H.15"), for a period of 30 days, as determined on the immediately preceding Payment Date; (iv) provide that the Seller's payment obligations shall be calculated by reference to the Hedged Amount and a per annum fixed rate agreed to between the Seller and the Hedge Counterparty (the "Swap Rate"); (v) provide for net payments to be paid on each Payment Date and any early termination date thereunder (A) on behalf of the Seller, solely out of funds in the Collection Account and (B) by the Hedge Counterparty for deposit into the Collection Account, for distribution in accordance with the Agreement, (vi) provide for early termination at the option of the Required Investors upon the disposition of the related Contracts and (vii) include other provisions requested by the Required Investors and be in a form acceptable to the Required Investors, which form shall be substantially the same as set forth in Exhibit H hereto. In the event the H.15 is no longer available, then the rate described in clause (iii) above shall be determined by reference to such other publication or method of calculation as shall be reasonably agreed between the Seller and the Purchaser in order to effect an economically equivalent business deal between such parties. The Servicer will provide the Deal Agent with written notice confirming the amounts, if any, to be paid by or to the Hedge Counterparty on each Payment Date and any early termination date. Section 5.5 Retransfer of Ineligible Contracts. In the event of a breach of any representation or warranty set forth in Section 4.2 with respect to a Contract in the Asset Pool (each such Contract, an "Ineligible Contract"), no later than the earlier of (i) knowledge by the Seller of such Contract becoming an Ineligible Contract and (ii) receipt by the Seller from the Deal Agent or Servicer of written notice thereof, the Seller shall either (a) accept the retransfer of each such Ineligible Contract and any related Equipment selected by the Servicer as to which such breach related, and the Deal Agent as agent for the Purchasers shall convey to the Seller, without recourse, representation or warranty, all of its right, title and interest in such Ineligible Contract; or (b) subject to the satisfaction of the conditions in Section 2.16, substitute for such Ineligible Contract a Substitute Contract. In any of the foregoing instances, 49 the Seller shall accept the retransfer of each such Ineligible Contract, and the ADCB shall be reduced by the Discounted Contract Balance (calculated using the applicable Blended Discount Rate as of the most recent Determination Date) of each such Ineligible Contract and, if applicable, increased by the Discounted Contract Balance of each such Substitute Contract. On and after the date of retransfer, the Ineligible Contract so retransferred shall not be included in the Asset Pool and, as applicable, the Substitute Contract shall be included in the Asset Pool. In consideration of such retransfer, without substitution, the Seller shall, on the date of retransfer of such Ineligible Contract, make a deposit to the Collection Account (for allocation pursuant to Section 2.7 , 2.8 or 2.9, as applicable) in immediately available funds in an amount equal to the Discounted Contract Balance of such Ineligible Contract (calculated using the applicable Blended Discount Rate as of the most recent Determination Date). Upon each retransfer to the Seller of such Ineligible Contract, the Deal Agent, as agent for the Purchasers, shall automatically and without further action be deemed to transfer, assign and set-over to the Seller, without recourse, representation or warranty, all the right, title and interest of the Deal Agent, as agent for the Purchasers, in, to and under such Ineligible Contract and all monies due or to become due with respect thereto, the related Equipment and all proceeds of such Ineligible Contract and Recoveries and Insurance Proceeds relating thereto and all rights to security for any such Ineligible Contract, and all proceeds and products of the foregoing. The Deal Agent, as agent for the Purchasers, shall, at the sole expense of the Servicer execute such documents and instruments of transfer as may be prepared by the Servicer on behalf of the Seller and take other such actions as shall reasonably be requested by the Seller to effect the transfer of such Ineligible Contract pursuant to this subsection. Section 5.6 Retransfer of Assets. In the event of a breach of any representation or warranty set forth in Section 4.2 hereof which breach could reasonably be expected to have a material adverse affect on the rights of the Purchasers or the Deal Agent, as agent of the Purchasers, or on the ability of the Seller to perform its obligations hereunder, by notice then given in writing to the Seller, the Deal Agent may direct the Seller to accept the retransfer of all of the Assets and the Seller shall be obligated to accept retransfer of such Assets on a Payment Date specified by the Seller (such date, the "Retransfer Date"). The Seller shall deposit on the Retransfer Date an amount equal to the deposit amount provided below for such Assets in the Collection Account for distribution to the Purchasers. The deposit amount (the "Retransfer Amount") for such retransfer will be equal to the (A) sum of (i) the aggregate outstanding Capital at the end of the Business Day preceding the Payment Date on which the retransfer is scheduled to be made, (ii) an amount equal to all amounts accrued and to accrue with respect to unpaid Program Fees, Commitment Fees and Yield in respect of such Capital at the applicable Yield Rate through the maturity date of latest maturing Commercial Paper Notes and (iii) any and all costs associated with the termination, in whole or in part, of any Hedging Agreement minus (B) the amount, if any, available in the Collection Account on such Payment Date. On the Retransfer Date, provided that full Retransfer Amount has been deposited into the Collection Account, the Assets shall be transferred to the Seller; and the Deal Agent as agent for the Purchasers shall, at the sole expense of the Servicer, execute and deliver such instruments of transfer, in each case without recourse, representation or 50 warranty, as shall be prepared and reasonably requested by the Servicer on behalf of the Seller to vest in the Seller, or its designee or assignee, all right, title and interest of the Deal Agent as agent for the Purchasers in, to and under the Assets. If the Deal Agent gives a notice directing the Seller to accept such a retransfer as provided above, the obligation of Seller to accept a retransfer pursuant to this Section 5.6 shall constitute the sole remedy respecting a breach of the representations and warranties contained in Section 4.2 available to the Purchasers and the Deal Agent on behalf of the Purchasers. ARTICLE VI ADMINISTRATION AND SERVICING OF CONTRACTS Section 6.1 Appointment and Acceptance; Duties. (a) Appointment of Initial Servicer and Collateral Custodian. Fidelity Leasing, Inc. is hereby appointed as Servicer pursuant to this Agreement. Fidelity Leasing, Inc. accepts the appointment and agrees to act as the Servicer pursuant to this Agreement. Harris Trust and Savings Bank is hereby appointed as Collateral Custodian pursuant to this Agreement. Harris Trust and Savings Bank accepts the appointment and agrees to act as the Collateral Custodian pursuant to this Agreement. (b) General Duties. The Servicer will manage, service, administer, collect and enforce the Assets in the Asset Pool on behalf of the Purchasers (the "Servicing Duties") and will have full power and authority to do any and all things in connection with the performance of the Servicing Duties which it deems necessary or desirable provided, however, nothing it does may contravene the provisions of this Agreement. The Servicer will perform the Servicing Duties with reasonable care, using that degree of skill and attention that a prudent person engaging in such activities would exercise, but in any event shall not act with less care than the Servicer exercises with respect to all comparable contracts that it services for itself or others. The Servicing Duties will include, without limitation, collection and posting of all payments, responding to inquiries of Obligors regarding the Assets in the Asset Pool, investigating delinquencies and making Servicer Advances, remitting payments to the Deal Agent in a timely manner, furnishing monthly, quarterly and annual statements with respect to collections and payments in accordance with the provisions of this Agreement, and using its best efforts to maintain the perfected first priority security interest of the Deal Agent as agent for the Purchasers in the Assets. The Servicer will follow customary standards, policies, and procedures and will have full power and authority, acting alone, to do any and all things in connection with the performance of the Servicing Duties that it deems necessary or desirable. If the Servicer commences a legal proceeding to enforce a Defaulted Contract or commences or participates in a legal proceeding (including a bankruptcy proceeding) relating to or involving an Asset in the Asset Pool, the Deal Agent as agent for the Purchasers will be deemed to have automatically assigned the related Contract to the Servicer for purposes of commencing or participating in any such proceeding as a party or claimant, and the Servicer is authorized and 51 empowered by the Purchasers, pursuant to this Section 6.1(b), to execute and deliver, on behalf of itself and the Deal Agent as agent for the Purchasers, any and all instruments of satisfaction or cancellation, or partial or full release or discharge, and all other notices, demands, claims, complaints, responses, affidavits or other documents or instruments in connection with any such proceedings. If in any enforcement suit or legal proceeding it is held that the Servicer may not enforce a Contract on the ground that it is not a real party in interest or a holder entitled to enforce the Contract, then the Deal Agent will, at the Servicer's expense and direction, take steps on behalf of the Deal Agent as agent for the Purchasers to enforce the Contract, including bringing suit in the name of the Deal Agent as agent for the Purchasers. (c) Disposition Upon Termination of Contract. Upon the termination of a Contract included in the Asset Pool as a result of a default by the Obligor thereunder the Servicer will use commercially reasonable efforts to dispose of any related Equipment. Without limiting the generality of the foregoing, the Servicer may dispose of any such Equipment by purchasing such Equipment or by selling such Equipment to any of its Affiliates for a purchase price equal to the fair market value thereof, any such sale to be evidenced by a certificate of a Responsible Officer of the Servicer delivered to the Deal Agent setting forth the Contract, the Equipment, the sale price of the Equipment and certifying that such sale price is the fair market value of such Equipment. (d) Further Assurances. The Deal Agent will, at the sole expense of the Servicer, furnish the Servicer with any powers of attorney and other documents necessary or appropriate to enable the Servicer to carry out its servicing and administrative duties under this Agreement. (e) Custodial Duties. The Collateral Custodian shall take and retain custody of the Contract Files delivered by the Seller pursuant to Section 3.3 hereof in accordance with the terms and conditions of this Agreement, all for the benefit of the Purchasers and subject to the Lien thereon in favor of the Deal Agent as agent for the Purchasers. Within five Business Days of its receipt of any Contract File, the Collateral Custodian shall review the related Contract to verify that such Contract has been executed and has no missing or mutilated pages and to confirm (in reliance on the related contract number and Lessee name) that such Contract is referenced on the related list of Contracts. In order to facilitate the foregoing review by the Collateral Custodian, in connection with each delivery of Contract Files hereunder to the Collateral Custodian, the Servicer shall provide to the Collateral Custodian an electronic file (in EXCEL or a comparable format) that contains the related list of Contracts or which otherwise contains the Contract number and the name of the Lessee with respect to each related Contract. If, at the conclusion of such review, the Collateral Custodian shall determine that such Contract is not executed or in proper form on its face, or that it is not referenced on such list of Contracts, the Collateral Custodian shall promptly notify the Seller and the Deal Agent of such determination by providing a written report to such Persons setting forth, with particularity, the lack of execution of such Contract, that such Contract has missing or mutilated pages, or the fact that such Contract was not referenced on the related list of Contracts. In addition, unless instructed otherwise in writing by the Seller or the Deal Agent within 10 days of the Collateral Custodian's delivery of such report, the Collateral Custodian shall return any Contract not referenced on such list 52 of Contracts to the Seller. Other than the foregoing, the Collateral Custodian shall not have any responsibility for reviewing any Contract File. In taking and retaining custody of the Contract Files, the Collateral Custodian shall be deemed to be acting as the agent of the Deal Agent as agent for the Purchasers, provided, however, that the Collateral Custodian makes no representations as to the existence, perfection or priority of any Lien on the Contract Files or the instruments therein, and provided, further, that the Collateral Custodian's duties as agent shall be limited to those expressly contemplated herein. All Contract Files shall be kept in fireproof vaults or cabinets at the locations specified on Schedule IV attached hereto, or at such other office as shall be specified to the Deal Agent by the Collateral Custodian in a written notice delivered at least 45 days prior to such change. All Contract Files shall be placed together in a separate file cabinet with an appropriate identifying label and maintained in such a manner so as to permit retrieval and access. All Contract Files shall be clearly segregated from any other documents or instruments maintained by the Collateral Custodian. The Collateral Custodian shall clearly indicate that such Contract Files are the sole property of the Seller and that the Seller has granted an interest therein to the Deal Agent on behalf of the Purchasers. In performing its duties, the Collateral Custodian shall use the same degree of care and attention as it employs with respect to similar Contracts which it holds as Collateral Custodian. (f) Concerning the Collateral Custodian. (i) The Collateral Custodian may conclusively rely on and shall be fully protected in acting upon any certificate, instrument, opinion, notice, letter, telegram or other document delivered to it and which in good faith it reasonably believes to be genuine and which has been signed by the proper party or parties. The Collateral Custodian may rely conclusively on and shall be fully protected by in acting upon (A) the written instructions of any designated officer of the Deal Agent or (B) the verbal instructions of the Deal Agent. (ii) The Collateral Custodian may consult counsel satisfactory to it and the advice or opinion of such counsel shall be full and complete authorization and protection in respect of any action taken, suffered or omitted by it hereunder in good faith and in accordance with the advice or opinion of such counsel. (iii) The Collateral Custodian shall not be liable for any error of judgment, or for any act done or step taken or omitted by it, in good faith, or for any mistakes of fact or law, or for anything which it may do or refrain from doing in connection herewith except in the case of its willful misconduct or grossly negligent performance or omission. (iv) The Collateral Custodian makes no warranty or representation and shall have no responsibility (except as expressly set forth in this Agreement) as to the content, enforceability, completeness, validity, sufficiency, value, genuineness, ownership or transferability of the Contracts, and will not be required to and 53 will not make any representations as to the validity or value (except as expressly set forth in this Agreement) of any of the Contracts. The Collateral Custodian shall not be obligated to take any legal action hereunder which might in its judgment involve any expense or liability unless it has been furnished with an indemnity reasonably satisfactory to it. (v) The Collateral Custodian shall have no duties or responsibilities except such duties and responsibilities as are specifically set forth in this Agreement and no covenants or obligations shall be implied in this Agreement against the Collateral Custodian. (vi) The Collateral Custodian shall not be required to expend or risk its own funds in the performance of its duties hereunder. (vii) It is expressly agreed and acknowledged that the Collateral Custodian is not guaranteeing performance of or assuming any liability for the obligations of the other parties hereto or any parties to the Contracts. Section 6.2 Collection of Payments. (a) Collection Efforts, Modification of Contracts. The Servicer will make reasonable efforts to collect all payments called for under the terms and provisions of the Contracts in the Asset Pool as and when the same become due, and will follow those collection procedures which it follows with respect to all comparable Contracts that it services for itself or others. The Servicer may not waive, modify or otherwise vary any provision of a Contract. The Servicer may in its discretion waive any late payment charge or any other fees that may be collected in the ordinary course of servicing any Contract in the Asset Pool. (b) Prepaid Contract. The Servicer may not permit a Contract in the Asset Pool to become a Prepaid Contract (which shall not include a Contract that becomes a Prepaid Contract due to a Casualty Loss), unless (x) the Servicer provides an Additional Contract or (y) such prepayment will not result in the Collection Account receiving an amount (the "Prepayment Amount") less than the sum of (A) the Discounted Contract Balance on the date of such prepayment calculated using the applicable Blended Discount Rate in effect on the date of such payment and (B) any outstanding Servicer Advances thereon. After a Payout Event has occurred, the Servicer may not permit a Contract in the Asset Pool to become a Prepaid Contract (which shall not include a Contract that becomes a Prepaid Contract due to a Casualty Loss), unless the Servicer collects an amount equal to the sum of the Discounted Contract Balance plus accrued and unpaid interest and any outstanding Servicer Advances thereon plus any swap breakage costs associated with the prepayment. (c) Acceleration. The Servicer shall accelerate the maturity of all or any Scheduled Payments under any Contract in the Asset Pool under which a default under the terms thereof has occurred and is continuing (after the lapse of any applicable grace period) promptly after such Contract becomes a Defaulted Contract. 54 (d) Taxes and other Amounts. To the extent provided for in any Contract in the Asset Pool, the Servicer will use its best efforts to collect all payments with respect to amounts due for taxes, assessments and insurance premiums relating to such Contracts or the Equipment and remit such amounts to the appropriate Governmental Authority or insurer on or prior to the date such payments are due. (e) Payments to Lock-Box Account. On or before the Closing Date with respect to the Existing Contracts and on or before the relevant Addition Date, with respect to Additional Contracts, the Servicer shall have instructed all Obligors to make all payments in respect of the Contracts in the Asset Pool to a Lock-Box or directly to a Lock-Box Account. (f) Establishment of the Collection Account. The Servicer shall cause to be established, on or before the Closing Date, and maintained in the name of the Deal Agent as agent for the Purchasers, with an office or branch of a depository institution or trust company organized under the laws of the United States of America or any one of the States thereof or the District of Columbia (or any domestic branch of a foreign bank) a segregated corporate trust account (the "Collection Account"); provided, however, that at all times such depository institution or trust company shall be a depository institution organized under the laws of the United States of America or any one of the States thereof or the District of Columbia (or any domestic branch of a foreign bank), (i) (A) which has either (1) a long-term unsecured debt rating of A- or better by S&P and A-3 or better by Moody's or (2) a short-term unsecured debt rating or certificate of deposit rating of A-1 or better by S&P or P-1 or better by Moody's, (B) the parent corporation of which has either (1) a long-term unsecured debt rating of A- or better by S&P and A-3 or better by Moody's or (2) a short-term unsecured debt rating or certificate of deposit rating of A-1 or better by S&P and P-1 or better by Moody's or (C) is otherwise acceptable to the Deal Agent and (ii) whose deposits are insured by the Federal Deposit Insurance Corporation (any such depository institution or trust company, a "Qualified Institution"). Section 6.3 Servicer Advances. For each Monthly Period, if the Servicer determines that any Scheduled Payment (or portion thereof) which was due and payable pursuant to a Contract in the Asset Pool during such Monthly Period was not received prior to the end of such Monthly Period, the Servicer may make an advance in an amount up to the amount of such delinquent Scheduled Payment (or portion thereof); in addition, if on any day there are not sufficient funds on deposit in the Collection Account to pay accrued Yield of any Asset Interest the Monthly Period of which ends on such day, the Servicer shall make an advance in the amount necessary to pay such Yield (in either case, any such advance, a "Servicer Advance"). Notwithstanding the preceding sentence, (i) the Servicer shall be required to make a Servicer Advance with respect to any Contract if, and only if, the Servicer determines (such determination to be conclusive and binding) in good faith that such Servicer Advance will ultimately be recoverable from future collections on, or the liquidation of, the Asset Pool and payments under any Hedging Agreement, (ii) the Servicer's obligation to make a Servicer Advance for any Contract shall cease on the day such Contract 55 becomes a Defaulted Contract or is charged-off pursuant to the Servicer's Credit and Collection Policies and (iii) any successor Servicer, including the Backup Servicer, will not be obligated to make any Servicer Advances. The Servicer will deposit any Servicer Advances into the Collection Account on or prior to 11:00 a.m. (Charlotte, North Carolina time) on the related Payment Date, in immediately available funds. Section 6.4 Realization Upon Defaulted Contract. The Servicer will use reasonable efforts to repossess or otherwise comparably convert the ownership of any Equipment relating to a Defaulted Contract and will act as sales and processing agent for Equipment which it repossesses. The Servicer will follow such other practices and procedures as it deems necessary or advisable and as are customary and usual in its servicing of contracts and other actions by the Servicer in order to realize upon such Equipment, which practices and procedures may include reasonable efforts to enforce all obligations of Obligors and repossessing and selling such Equipment at public or private sale in circumstances other than those described in the preceding sentence. Without limiting the generality of the foregoing, the Servicer may sell any such Equipment to the Servicer or its Affiliates for a purchase price equal to the then fair market value thereof, any such sale to be evidenced by a certificate of a Responsible Officer of the Servicer delivered to the Deal Agent setting forth the Contract, the Equipment, the sale price of the Equipment and certifying that such sale price is the fair market value of such Equipment. In any case in which any such Equipment has suffered damage, the Servicer will not expend funds in connection with any repair or toward the repossession of such Equipment unless it reasonably determines that such repair and/or repossession will increase the Recoveries by an amount greater than the amount of such expenses. The Servicer will remit to the Collection Account the Recoveries received in connection with the sale or disposition of Equipment relating to a Defaulted Contract. Section 6.5 Maintenance of Insurance Policies. The Servicer will use its best efforts to ensure that each Obligor maintains an Insurance Policy with respect to the related Equipment in an amount at least equal to the sum of the Discounted Contract Balance of the related Contract and shall ensure that each such Insurance Policy names the Deal Agent, as agent for the Purchasers, as loss payee and as an insured thereunder; provided that the Servicer, in accordance with its Credit and Collection Policy, may allow Obligors to self-insure. Additionally, the Servicer will require that each Obligor maintain property damage liability insurance during the term of each Contract in amounts and against risks customarily insured against by the Obligor on equipment owned by it. If an Obligor fails to maintain property damage insurance, the Servicer may purchase and maintain such insurance on behalf of, and at the expense of, the Obligor. In connection with its activities as Servicer, the Servicer agrees to present, on behalf of the Deal Agent as agent for the Purchasers, claims to the insurer under each Insurance Policy and any such liability policy, and to settle, adjust and compromise such claims, in each case, consistent with the terms of each Contract. The Servicer's Insurance Policies with respect to the related Equipment will insure against liability for personal injury and property damage relating to such Equipment, will name the Deal Agent as agent for the Purchasers as loss payee and as an insured thereunder and will contain a breach of warranty clause. 56 Section 6.6 Representations and Warranties of Servicer. The Servicer represents and warrants to the Deal Agent, as agent for the Purchasers, the Purchasers, the Collateral Custodian and Backup Servicer that, as of the Closing Date and on each Addition Date, insofar as any of the following affects the Servicer's ability to perform its obligations pursuant to this Agreement in any material respect: (a) Organization and Good Standing. The Servicer is a corporation duly organized, validly existing and in good standing under the laws of Pennsylvania with all requisite corporate power and authority to own its properties and to conduct its business as presently conducted and to enter into and perform its obligations pursuant to this Agreement. (b) Due Qualification. The Servicer is qualified to do business as a corporation, is in good standing, and has obtained all licenses and approvals as required under the laws of all jurisdictions in which the ownership or lease of its property and or the conduct of its business (other than the performance of its obligations hereunder) requires such qualification, standing, license or approval, except to the extent that the failure to so qualify, maintain such standing or be so licensed or approved would not have an adverse effect on the interests of the Seller or of the Purchasers. The Servicer is qualified to do business as a corporation, is in good standing, and has obtained all licenses and approvals as required under the laws of all states in which the performance of its obligations pursuant to this Agreement requires such qualification, standing, license or approval and where the failure to qualify or obtain such license or approval would have material adverse effect on its ability to perform hereunder. (c) Power and Authority. The Servicer has the corporate power and authority to execute and deliver this Agreement and to carry out its terms. The Servicer has duly authorized the execution, delivery and performance of this Agreement by all requisite corporate action. The execution, delivery and performance of this Agreement does not contravene the Servicer's Certificate of Incorporation or by-laws. (d) No Violation. The consummation of the transactions contemplated by, and the fulfillment of the terms of, this Agreement by the Servicer (with or without notice or lapse of time) will not (i) conflict with, result in any breach of any of the terms or provisions of, or constitute a default under, the articles of incorporation or by-laws of the Servicer, or any term of any agreement, indenture, mortgage, deed of trust or other instrument to which the Servicer is a party or by which it or any of its property is bound, (ii) result in the creation or imposition of any Lien upon any of its properties pursuant to the terms of any such indenture, agreement, mortgage, deed of trust or other instrument, or (iii) violate any law, regulation, order, writ, judgment, injunction, decree, determination or award of any Governmental Authority applicable to the Servicer or any of its properties. 57 (e) No Consent. No consent, approval, authorization, order, registration, filing, qualification, license or permit of or with any Governmental Authority having jurisdiction over the Servicer or any of its properties is required to be obtained by or with respect to the Servicer in order for the Servicer to enter into this Agreement or perform its obligations hereunder. (f) Binding Obligation. This Agreement constitutes a legal, valid and binding obligation of the Servicer, enforceable against the Servicer in accordance with its terms, except as such enforceability may be limited by (i) applicable Insolvency Laws and (ii) general principles of equity (whether considered in a suit at law or in equity). (g) No Proceeding. There are no proceedings or investigations pending or threatened against the Servicer, before any Governmental Authority (i) asserting the invalidity of this Agreement, (ii) seeking to prevent the consummation of any of the transactions contemplated by this Agreement or (iii) seeking any determination or ruling that might (in the reasonable judgment of the Servicer) materially and adversely affect the performance by the Servicer of its obligations under, or the validity or enforceability of, this Agreement. (h) Reports Accurate. No Servicer Certificate, information, exhibit, financial statement, document, book, record or report furnished or to be furnished by the Servicer to the Deal Agent or a Purchaser in connection with this Agreement is or will be inaccurate in any material respect as of the date it is or shall be dated or (except as otherwise disclosed to the Deal Agent or such Purchaser, as the case may be, at such time) as of the date so furnished, and no such document contains or will contain any material misstatement of fact or omits or shall omit to state a material fact or any fact necessary to make the statements contained therein not misleading. Section 6.7 Representations and Warranties of Backup Servicer and Collateral Custodian. Each of the Backup Servicer and the Collateral Custodian represents and warrants to the Deal Agent, as agent for the Purchasers, and the Purchasers that, as of the Closing Date and on each Addition Date, insofar as any of the following affects the Backup Servicer's or the Collateral Custodian's, as the case may be, ability to perform its obligations pursuant to this Agreement in any material respect: (a) Organization and Good Standing. Harris Trust and Savings Bank is an Illinois banking corporation duly organized, validly existing and in good standing under the laws of the State of Illinois with all requisite corporate power and authority to own its properties and to conduct its business as presently conducted and to enter into and perform its obligations pursuant to this Agreement. (b) Power and Authority. Each of the Backup Servicer and the Collateral Custodian has the corporate power and authority to execute and deliver this Agreement and to carry out its terms. Each of the Backup Servicer 58 and the Collateral Custodian has duly authorized the execution, delivery and performance of this Agreement by all requisite corporate action. (c) No Violation. The consummation of the transactions contemplated by, and the fulfillment of the terms of, this Agreement by the Backup Servicer and the Collateral Custodian will not (i) conflict with, result in any breach of any of the terms or provisions of, or constitute a default under, the articles of incorporation or bylaws of the Backup Servicer or the Collateral Custodian, or any term of any material agreement, indenture, mortgage, deed of trust or other instrument to which the Backup Servicer or the Collateral Custodian is a party or by which it or any of its property is bound, (ii) result in the creation or imposition of any Lien upon any of its properties pursuant to the terms of any such indenture, agreement, mortgage, deed of trust or other instrument, or (iii) violate any law, regulation, order, writ, judgment, injunction, decree, determination or award of any Governmental Authority applicable to Harris Trust and Savings Bank or any of its properties that might (in the reasonable judgment of the Backup Servicer or the Collateral Custodian, as the case may be) materially and adversely affect the performance by the Backup Servicer or the Collateral Custodian of its obligations under, or the validity or enforceability of, this Agreement. (d) No Consent. No consent, approval, authorization, order, registration, filing, qualification, license or permit (collectively, the "Consents") of or with any Governmental Authority having jurisdiction over the Backup Servicer or the Collateral Custodian or any of its respective properties is required to be obtained by or with respect to the Backup Servicer or the Collateral Custodian in order for the Backup Servicer or the Collateral Custodian, as the case may be, to enter into this Agreement or perform its obligations hereunder (except with respect to performance only, such Consents as the Backup Servicer or the Collateral Custodian, as the case may be, may need to obtain prior to the commencement of its performance of its duties hereunder in the certain jurisdictions outside of Illinois, provided that in lieu of obtaining for itself the requisite Consents, the Backup Servicer or the Collateral Custodian, as the case may be, may and shall be permitted to delegate the performance of its duties to parties having the requisite Consents in such jurisdictions; provided, however, in the case of such delegation of performance the Backup Servicer or the Collateral Custodian, as the case may be, shall not be relieved of their responsibility under this Agreement with respect to such duties). (e) Binding Obligation. This Agreement constitutes a legal, valid and binding obligation of Harris Trust and Savings Bank, enforceable against the Backup Servicer and the Collateral Custodian in accordance with its terms, except as such enforceability may be limited by (i) applicable Insolvency Laws and (ii) general principles of equity (whether considered in a suit at law or in equity). (f) No Proceeding. There are no proceedings or investigations pending or, to the best of its knowledge, threatened, against the Backup Servicer or the Collateral Custodian, before any Governmental Authority (i) asserting the invalidity of this Agreement, (ii) seeking to prevent the consummation of any of the transactions contemplated by this Agreement or (iii) seeking any determination or ruling that might (in the reasonable judgment of the Backup 59 Servicer or the Collateral Custodian, as the case may be) materially and adversely affect the performance by the Backup Servicer or the Collateral Custodian of its obligations under, or the validity or enforceability of, this Agreement. Section 6.8 Covenants of Servicer. The Servicer hereby covenants that: (a) Compliance with Law. The Servicer will comply with all laws and regulations of any Governmental Authority applicable to the Servicer or the Contracts in the Asset Pool and related Equipment and Contract Files or any part thereof. (b) Obligations with Respect to Contracts; Modifications. The Servicer will duly fulfill and comply with all obligations on the part of the Seller to be fulfilled or complied with under or in connection with each Contract in the Asset Pool and will do nothing to impair the rights of the Deal Agent as agent for the Purchasers or of the Purchasers in, to and under the Assets. The Servicer will perform such obligations under the Contracts in the Asset Pool and will not change or modify the Contracts. (c) Preservation of Security Interest. The Servicer will execute and file such financing and continuation statements and any other documents which may be required by any law or regulation of any Governmental Authority to preserve and protect fully the interest of the Deal Agent as agent for the Purchasers in, to and under the Assets. (d) No Bankruptcy Petition. Prior to the date that is one year and one day after the payment in full of all amounts owing in respect of all outstanding commercial paper issued by VFCC, the Servicer will not institute against the Seller or VFCC, or join any other Person in instituting against the Seller or VFCC, any bankruptcy, reorganization, arrangement, insolvency or liquidation proceedings or other similar proceedings under the laws of the United States or any state of the United States. This Section 6.9(d) will survive the termination of this Agreement. Section 6.9 Covenants of Backup Servicer and Collateral Custodian. Each of the Backup Servicer and the Collateral Custodian hereby covenants that: (a) Contract Files. The Collateral Custodian will not dispose of any documents constituting the Contract Files in any manner which is inconsistent with the performance of its obligations as the Collateral Custodian pursuant to this Agreement and will not dispose of any Contract except as contemplated by this Agreement. 60 (b) Compliance with Law. Each of the Backup Servicer and the Collateral Custodian will comply with all laws and regulations of any Governmental Authority applicable to the Backup Servicer and the Collateral Custodian. (c) No Bankruptcy Petition. Prior to the date that is one year and one day after the payment in full of all amounts owing in respect of all outstanding commercial paper issued by VFCC, neither the Backup Servicer nor the Collateral Custodian will institute against the Seller or VFCC, or join any other Person in instituting against the Seller or VFCC, any bankruptcy, reorganization, arrangement, insolvency or liquidation proceedings or other similar proceedings under the laws of the United States or any state of the United States. This Section 6.9(d) will survive the termination of this Agreement. (d) Location of Contract Files. The Contract Files shall remain at all times in the possession of the Collateral Custodian at the address set forth herein unless notice of a different address is given in accordance with the terms hereof. (e) No Changes in Backup Servicer and Collateral Custodian Fee. The Backup Servicer and Collateral Custodian will not make any changes to the fees set forth in the Backup Servicer and Collateral Custodian Fee Letter without the prior written approval of the Deal Agent. Section 6.10 Servicing Compensation. As compensation for its servicing activities hereunder and reimbursement for its expenses, the Servicer shall be entitled to receive a servicing fee (the "Servicing Fee") in respect of each Monthly Period (or portion thereof) equal to one-twelfth of the product of (A) the Servicing Fee Rate and (B) the ADCB as on the most recent Determination Date, such Servicing Fee to be payable monthly in arrears on each Payment Date to the extent of funds available therefor pursuant to the provisions of Section 2.7, 2.8 or 2.9, as applicable. Section 6.11 Custodial Compensation. As compensation for its custodial activities hereunder and reimbursement for its expenses, the Collateral Custodian shall be entitled to receive a custodial fee (the "Custodial Fee") as provided in the Backup Servicer and Collateral Custodian Fee Letter. Section 6.12 Payment of Certain Expenses by Servicer. The Servicer will be required to pay all expenses incurred by it in connection with its activities under this Agreement, including fees and disbursements of independent accountants, Taxes imposed on the Servicer, expenses incurred in connection with payments and reports pursuant to this Agreement, and all other fees and expenses not expressly stated under this Agreement for the account of the Seller, but excluding Liquidation Expenses incurred as a result of activities contemplated by Section 6.4. The Servicer 61 will be required to pay all reasonable fees and expenses owing to any bank or trust company in connection with the maintenance of the Collection Account and the Lock-Box Account. The Servicer shall be required to pay such expenses for its own account and shall not be entitled to any payment therefor other than the Servicing Fee. Section 6.13 Reports. (a) Monthly Report. With respect to each Determination Date and the related Monthly Period, the Servicer will provide to the Seller, the Deal Agent and the Backup Servicer, on the related Reporting Date, a monthly statement (a "Monthly Report"), signed by a Responsible Officer of the Servicer and substantially in the form of Exhibit E. (b) Servicer's Certificate. Together with each Monthly Report, the Servicer shall submit to the Purchaser a certificate (a "Servicer's Certificate"), signed by a Responsible Officer of the Servicer and substantially in the form of Exhibit F. (c) Financial Statements. The Servicer will submit to the Purchaser and the Backup Servicer, within 45 days of the end of each of its fiscal quarters, commencing February 15, 1998 unaudited financial statements (including an analysis of delinquencies and losses for each fiscal quarter) as of the end of each such fiscal quarter. The Servicer will submit to the Purchaser, within 90 days of the end of each of its fiscal years, commencing December 31, 1997 audited financial statements (including an analysis of delinquencies and losses for each fiscal year describing the causes thereof and sufficient to determine whether a Payout Event has occurred or is reasonably likely to occur and otherwise reasonably satisfactory to the Deal Agent) as of the end of each such fiscal year. Section 6.14 Annual Statement as to Compliance. The Servicer will provide to the Deal Agent and the Backup Servicer, on or prior to December 31 of each year, commencing December 31, 1997, an annual report signed by a Responsible Officer of the Servicer certifying that (a) a review of the activities of the Servicer, and the Servicer's performance pursuant to this Agreement, for the period ending on the last day of the immediately preceding fiscal year has been made under such Person's supervision and (b) the Servicer has performed or has caused to be performed in all material respects all of its obligations under this Agreement throughout such year and no Servicer Default has occurred and is continuing (or if a Servicer Default has so occurred and is continuing, specifying each such event, the nature and status thereof and the steps necessary to remedy such event, and, if a Servicer Default occurred during such year and no notice thereof has been given to the Deal Agent, specifying such Servicer Default and the steps taken to remedy such event). Section 6.15 Annual Independent Public Accountant's Servicing Reports. The Servicer will cause a firm of nationally recognized independent public accountants (who may also render other services to the Servicer) to furnish to the Deal Agent and the Backup Servicer, on or prior to September 30 62 of each year, commencing September 30, 1998, (i) a report relating to the previous fiscal year to the effect that (A) such firm has reviewed certain documents and records relating to the servicing of the Contracts in the Asset Pool, and (B) based on such examination, such firm is of the opinion that the Monthly Reports for such year were prepared in compliance with this Agreement, except for such exceptions as it believes to be immaterial and such other exceptions as will be set forth in such firm's report and (ii) a report covering the preceding fiscal year to the effect that such accountants have applied certain agreed-upon procedures to certain documents and records relating to the servicing of Contracts under this Agreement, compared the information contained in the Servicer's Certificates delivered during the period covered by such report with such documents and records and that no matters came to the attention of such accountants that caused them to believe that such servicing was not conducted in compliance with this Article VI of this Agreement, except for such exceptions as such accountants shall believe to be immaterial and such other exceptions as shall be set forth in such statement. In the event such firm requires the Backup Servicer to agree to the procedures performed by such firm, the Servicer shall direct the Backup Servicer in writing to so agree; it being understood and agreed that the Backup Servicer will deliver such letter of agreement in conclusive reliance upon the direction of the Servicer, and the Backup Servicer makes no independent inquiry or investigation as to, and shall have no obligation or liability in respect of, the sufficiency, validity or correctness of such procedures. Section 6.16 Adjustments. If (i) the Servicer makes a deposit into the Collection Account in respect of a Collection of a Contract in the Asset Pool and such Collection was received by the Servicer in the form of a check which is not honored for any reason or (ii) the Servicer makes a mistake with respect to the amount of any Collection and deposits an amount that is less than or more than the actual amount of such Collection, the Servicer shall appropriately adjust the amount subsequently deposited into the Collection Account to reflect such dishonored check or mistake. Any Scheduled Payment in respect of which a dishonored check is received shall be deemed not to have been paid. Section 6.17 Merger or Consolidation of the Servicer. The Servicer shall not consolidate with or merge into any other Person or convey or transfer its properties and assets substantially as an entirety to any Person, unless the Servicer is the surviving entity and unless: (i) the Servicer has delivered to the Deal Agent and the Backup Servicer an Officer's Certificate and an Opinion of Counsel each stating that any consolidation, merger, conveyance or transfer and such supplemental agreement comply with this Section 6.17 and that all conditions precedent herein provided for relating to such transaction have been complied with and, in the case of the Opinion of Counsel, that such supplemental agreement is legal, valid and binding with respect to the Servicer and such other matters as the Deal Agent may reasonably request; 63 (ii) the Servicer shall have delivered notice of such consolidation, merger, conveyance or transfer to the Deal Agent; and (iii) after giving effect thereto, no Payout Event or event which with notice or lapse of time would constitute a Payout Event shall have occurred. Section 6.18 Limitation on Liability of the Servicer and Others. Except as provided herein, neither the Servicer nor any of the directors or officers or employees or agents of the Servicer shall be under any liability to the Deal Agent, the Purchasers or any other Person for any action taken or for refraining from the taking of any action pursuant to this Agreement whether arising from express or implied duties under this Agreement; provided, however, that this provision shall not protect the Servicer or any such Person against any liability which would otherwise be imposed by reason of its willful misfeasance, bad faith or gross negligence in the performance of duties or by reason of its willful misconduct hereunder. Section 6.19 Indemnification of the Seller, the Backup Servicer, the Collateral Custodian, the Deal Agent and the Purchasers. The Servicer shall indemnify and hold harmless the Seller, the Backup Servicer, the Collateral Custodian, the Deal Agent, the Liquidity Agent and each Purchaser and their respective officers, directors, employees and agents (collectively, the "Indemnified Persons") from and against any loss, liability, expense, damage or injury suffered or sustained by any Indemnified Person by reason of any acts, omissions or alleged acts or omissions of the Servicer, including, but not limited to any judgment, award, settlement, reasonable attorneys' fees and other costs or expenses incurred in connection with the defense of any actual or threatened action, proceeding or claim, but excluding allocations of overhead expenses of any such Indemnified Party or other non-monetary damages of any such Indemnified Party. Notwithstanding the foregoing, the Servicer shall not indemnify an Indemnified Person if such loss, liability, expense, damage or injury results or arises (i) as a result of fraud, gross negligence or breach of fiduciary duty by such Indemnified Person; and (ii) under any Tax law, including without limitation any federal, state or local income or franchise taxes or any other Tax imposed on or measured by income (or any interest or penalties with respect thereto or arising from a failure to comply therewith) required to be paid by the Seller, the Backup Servicer, the Collateral Custodian, the Deal Agent, the Liquidity Agent or the Purchasers in connection herewith to any taxing authority. The provisions of this indemnity shall run directly to and be enforceable by an injured party subject to the limitations hereof. If the Servicer has made any indemnity payment pursuant to this Section 8.1 and such payment fully indemnified the recipient thereof and the recipient thereafter collects any payments from others in respect of such Indemnified Amounts, the recipient shall repay to the Servicer an amount equal to the amount it has collected from others in respect of such indemnified amounts. 64 If for any reason the indemnification provided above in this Section 6.19 is unavailable to the Indemnified Person or is insufficient to hold an Indemnified Person harmless, then Servicer shall contribute to the amount paid or payable by such Indemnified Person as a result of such loss, claim, damage or liability in such proportion as is appropriate to reflect not only the relative benefits received by such Indemnified Person on the one hand and Servicer on the other hand but also the relative fault of such Indemnified Person as well as any other relevant equitable considerations. The parties hereto agree that the provisions of this Section 6.19 shall not be interpreted to provide recourse to the Seller against loss by reason of the bankruptcy or insolvency (or other credit condition) of, or default by, related Obligor on, any Pool Asset. Any indemnification pursuant to this Section shall not be payable from the Assets. The obligations of the Servicer under this Section 6.19 shall survive the resignation or removal of the Deal Agent, the Liquidity Agent, the Backup Servicer or the Collateral Custodian and the termination of this Agreement. Section 6.20 The Servicer Not to Resign. The Servicer shall not resign from the obligations and duties hereby imposed on it except upon the Servicer's determination that (i) the performance of its duties hereunder is or becomes impermissible under applicable law and (ii) there is no reasonable action which the Servicer could take to make the performance of its duties hereunder permissible under applicable law. Any such determination permitting the resignation of the Servicer shall be evidenced as to clause (i) above by an Opinion of Counsel to such effect delivered to the Deal Agent and the Backup Servicer. No such resignation shall become effective until a Successor Servicer shall have assumed the responsibilities and obligations of the Servicer in accordance with Section 6.25. Section 6.21 Access to Certain Documentation and Information Regarding the Contracts. The Collateral Custodian shall provide to the Deal Agent access to the Contract Files and all other documentation regarding the Contracts in the Asset Pool and the related Equipment in such cases where the Deal Agent is required in connection with the enforcement of the rights or interests of the Purchasers, or by applicable statutes or regulations to review such documentation, such access being afforded without charge but only (i) upon two business days prior written request, (ii) during normal business hours and (iii) subject to the Servicer's and Collateral Custodian's normal security and confidentiality procedures. Prior to the Closing Date and periodically thereafter at the discretion of the Deal Agent, the Deal Agent may review the Servicer's collection and administration of the Contracts in order to assess compliance by the Servicer with the Servicer's written policies and procedures, as well as with this Agreement and may conduct an audit of the Contracts and Contract Files in conjunction with such a review. Such review shall be reasonable in scope and shall be completed in a reasonable period of time. 65 Section 6.22 Backup Servicer. (a) On or before the date on which the initial Purchase occurs, until the receipt by the Servicer of a Termination Notice, the Backup Servicer shall perform, on behalf of the Deal Agent and the Purchaser, the following duties and obligations: (i) On or before the Closing Date, the Backup Servicer shall accept from the Servicer delivery of the information required to be set forth in the Monthly Reports in hard copy and on computer tape; provided, however, the computer tape is in an MS-DOS, PC readable ASCII format or format to be agreed upon by the Backup Servicer and the Servicer on or prior to closing. (ii) Not later than 12:00 noon New York time two Business Days prior to each Reporting Date, the Backup Servicer shall accept delivery of tape from the Servicer, which shall include but not be limited to the following information: the name, number and name of the related Lessee for each Contract, the collection status, the contract status, the principal balance and the ADCB (the "Tape"). The Servicer shall provide, or cause the Subservicer to provide, the Tape on each Reporting Date as described above. (b) On or before the date on which the initial Purchase occurs, and until the receipt by the Servicer of a Termination Notice, the Backup Servicer shall perform, on behalf of the Purchaser and the Deal Agent, the following duties and obligations: (i) Prior to the related Payment Date, the Backup Servicer shall review the Monthly Report to ensure that it is complete on its face and that the following items in such Monthly Report have been accurately calculated, if applicable, and reported: (A) the ADCB, (B) the Backup Servicing Fee, (C) the Average ADCB, (D) the accounts that are 30-60 days past due, (E) the accounts that are 61-90 days past due, (E) the accounts that are 90+ days past due, (F) the accounts that are Defaulted Contracts, (G) the Delinquency Ratio and (H) the Default Ratio. The Backup Servicer shall notify the Deal Agent and the Servicer of any disagreements with the Monthly Report based on such review not later than the Business Day preceding such Payment Date to such Persons. (ii) If the Servicer disagrees with the report provided under paragraph (i) above by the Backup Servicer or if the Servicer or any subservicer has not reconciled such discrepancy, the Backup Servicer agrees to confer with the Servicer to resolve such disagreement on or prior to the next succeeding Determination Date and shall settle such discrepancy with the Servicer if possible, and notify the Deal Agent of the resolution thereof. The Servicer hereby agrees to cooperate at its own expense, with the Backup Servicer in reconciling any discrepancies herein. If within 20 days after the delivery of the report provided under paragraph (i) above by the 66 Backup Servicer, such discrepancy is not resolved, the Backup Servicer shall promptly notify the Deal Agent of the continued existence of such discrepancy. Following receipt of such notice by the Deal Agent, the Servicer shall deliver to the Deal Agent, the Purchasers, and the Backup Servicer no later than the related Payment Date a certificate describing the nature and amount of such discrepancies and the actions the Servicer proposes to take with respect thereto. With respect to the foregoing, the Backup Servicer, in the performance of its duties and obligations hereunder, is entitled to rely conclusively, and shall be fully protected in so relying, on the contents of each Tape, including, but not limited to, the completeness and accuracy thereof, provided by the Servicer. (c) After the receipt of an effective Termination Notice by the Servicer in accordance with this Agreement, all authority, power, rights and responsibilities of the Servicer, under this Agreement, whether with respect to the Contracts or otherwise shall pass to and be vested in the Backup Servicer, subject to and in accordance with the provisions of Section 6.25, as long as the Backup Servicer is not prohibited by an applicable provision of law from fulfilling the same, as evidenced by an Opinion of Counsel. (d) Any Person (i) into which the Backup Servicer may be merged or consolidated, (ii) which may result from any merger or consolidation to which the Backup Servicer shall be a party, or (iii) which may succeed to the properties and assets of the Backup Servicer substantially as a whole, which Person in any of the foregoing cases executes an agreement of assumption to perform every obligation of the Backup Servicer hereunder, shall be the successor to the Backup Servicer under this Agreement without further act on the part of any of the parties to this Agreement. (e) As compensation for its back-up servicing obligations hereunder, the Backup Servicer shall be entitled to receive the Backup Servicing Fee in respect of each Monthly Period (or portion thereof) until the first to occur of the date on which the Backup Servicer becomes a Successor Servicer, resigns or is removed as Backup Servicer or termination of this Agreement. (f) The Backup Servicer may resign at any time by not less than 120 days notice to the Deal Agent, the Liquidity Agent, the Servicer, the Seller and the Originator. In addition, the Backup Servicer may be removed without cause by the Deal Agent by notice then given in writing to the Servicer, the Seller and the Backup Servicer. In the event of any such resignation or removal, the Backup Servicer may be replaced by (i) the Servicer, acting with the consent of the Deal Agent or (ii) if no such replacement is appointed within 30 days following such removal or resignation, by the Deal Agent. (g) The Backup Servicer undertakes to perform only such duties and obligations as are specifically set forth in this Agreement, it being expressly understood by all parties hereto that there are no implied duties or obligations of the Backup Servicer hereunder. Without limiting the generality of the foregoing, the Backup Servicer, except as expressly set forth herein, 67 shall have no obligation to supervise, verify, monitor or administer the performance of the Servicer. The Backup Servicer may act through its agents, attorneys and custodians in performing any of its duties and obligations under this Agreement, it being understood by the parties hereto that the Backup Servicer will be responsible for any misconduct or negligence on the part of such agents, attorneys or custodians acting on the routine and ordinary day-to-day operations for and on behalf of the Backup Servicer. Neither the Backup Servicer nor any of its officers, directors, employees or agents shall be liable, directly or indirectly, for any damages or expenses arising out of the services performed under this Agreement other than damages or expenses which result from the gross negligence or willful misconduct of it or them or the failure to perform materially in accordance with this Agreement. (h) The Backup Servicer shall not be liable for any obligation of the Servicer contained in this Agreement or for any errors of the Servicer contained in any computer tape, certificate or other data or document delivered to the Backup Servicer hereunder or on which the Backup Servicer must rely in order to perform its obligations hereunder, and the Seller, Purchaser, Deal Agent, Liquidity Agent, Collateral Custodian and Backup Servicer, shall look only to the Servicer to perform such obligations. The Backup Servicer, and the Collateral Custodian shall have no responsibility and shall not be in default hereunder or incur any liability for any failure, error, malfunction or any delay in carrying out any of their respective duties under this Agreement if such failure or delay results from the Backup Servicer acting in accordance with information prepared or supplied by a Person other than the Backup Servicer or the failure of any such other Person to prepare or provide such information. The Backup Servicer shall have no responsibility, shall not be in default and shall incur no liability for (i) any act or failure to act of any third party, including the Servicer (ii) any inaccuracy or omission in a notice or communication received by the Backup Servicer from any third party, (iii) the invalidity or unenforceability of any Asset or Contract under applicable law, (iv) the breach or inaccuracy of any representation or warranty made with respect to any Asset, Contract or any item of Equipment, or (v) the acts or omissions of any successor Backup Servicer. Section 6.23 Identification of Records. The Servicer shall clearly and unambiguously identify each Contract in the Asset Pool and the related Equipment in its computer or other records to reflect that such Contracts and Equipment have been transferred to and are owned by the Seller and that an interest therein has been transferred by the Seller pursuant to this Agreement. Section 6.24 Servicer Defaults. If any one of the following events (a "Servicer Default") shall occur and be continuing: (a) any failure by the Servicer to make any payment, transfer or deposit or to give instructions or notice to the Deal Agent as required by this Agreement including, without limitation, while Fidelity is Servicer, any payment required to be made under the Backup Servicer and Collateral Custodian Fee Letter, or to deliver any required Monthly Report or other Required 68 Reports hereunder on or before the date occurring two Business Days after the date such payment, transfer, deposit, instruction of notice or report is required to be made or given, as the case may be, under the terms of this Agreement; (b) any failure on the part of the Servicer duly to observe or perform in any material respect any other covenants or agreements of the Servicer set forth in this Agreement or the Purchase Agreement which has a material adverse effect on the Purchasers, which continues unremedied for a period of 30 days after the first to occur of (i) the date on which written notice of such failure requiring the same to be remedied shall have been given to the Servicer by the Deal Agent and (ii) the date on which the Servicer becomes aware thereof; (c) any representation, warranty or certification made by the Servicer in this Agreement or in any certificate delivered pursuant to this Agreement shall prove to have been incorrect when made, which has a material adverse effect on the Purchasers and which continues to be unremedied for a period of 30 days after the first to occur of (i) the date on which written notice of such incorrectness requiring the same to be remedied shall have been given to the Servicer by the Deal Agent and (ii) the date on which the Servicer becomes aware thereof; (d) an Insolvency Event shall occur with respect to the Servicer; (e) any material delegation of the Servicer's duties which is not permitted by Section 7.1; (f) any financial or Asset information reasonably requested by the Deal Agent or the Purchaser as provided herein is not reasonably provided as requested; (g) the rendering against the Servicer of a final judgment, decree or order for the payment of money in excess of U.S. $1,000,000 and the continuance of such judgment, decree or order unsatisfied and in effect for any period of 61 consecutive days without a stay of execution; (h) the failure of the Servicer to make any payment due with respect to aggregate recourse debt or other obligations with an aggregate principal amount exceeding U.S. $1,000,000 or the occurrence of any event or condition which would permit acceleration of such recourse debt or other obligations if such event or condition has not been waived; (i) any change in the management of the Servicer relating to the positions of President, CEO, Chairman of the Board and Executive Vice President; or (j) any change in the control of the Servicer which takes the form of either a merger or consolidation in which the Servicer is not the surviving entity. Notwithstanding anything herein to the contrary, so long as any such Servicer Default shall not have been remedied, the Deal Agent, by written notice to the Servicer (with a copy to the Backup Servicer) (a "Termination Notice"), may terminate all of the rights and obligations of the Servicer as Servicer under this Agreement. 69 Section 6.25 Appointment of Successor Servicer. (a) On and after the receipt by the Servicer of a Termination Notice pursuant to Section 6.24, the Servicer shall continue to perform all servicing functions under this Agreement until the date specified in the Termination Notice or otherwise specified by the Deal Agent in writing or, if no such date is specified in such Termination Notice or otherwise specified by the Deal Agent, until a date mutually agreed upon by the Servicer and the Deal Agent. The Deal Agent may at the time described in the immediately preceding sentence in its sole discretion, appoint the Backup Servicer as the Servicer hereunder, and the Backup Servicer shall on such date assume all obligations of the Servicer hereunder, and all authority and power of the Servicer under this Agreement shall pass to and be vested in the Backup Servicer; provided, however, that the Successor Servicer shall not (i) be responsible or liable for any past actions or omissions of the outgoing Servicer or (ii) be obligated to make Servicer Advances. In the event that the Deal Agent does not so appoint the Backup Servicer, there is no Backup Servicer or the Backup Servicer is unwilling or unable to assume such obligations on such date, the Deal Agent shall as promptly as possible appoint a successor servicer (the Backup Servicer or any such other successor, the "Successor Servicer"), and such Successor Servicer shall accept its appointment by a written assumption in a form acceptable to the Deal Agent. If the Deal Agent within 60 days of receipt of a Termination Notice is unable to obtain any bids from Eligible Servicers and the Servicer delivers an Officer's Certificate to the effect that it cannot in good faith cure the Servicer Default which gave rise to a transfer of servicing, then the Deal Agent shall offer the Seller the right to accept retransfer of all the Assets and the Seller may accept re-transfer of all the Assets, provided, however, that if the long-term unsecured debt obligations of the Seller are not rated at the time of such purchase at least investment grade by each rating agency providing a rating in respect of such long-term unsecured debt obligations, no such re-transfer shall occur unless the Seller shall deliver an Opinion of Counsel reasonably acceptable to the Deal Agent that such re-transfer would not constitute a fraudulent conveyance of the Seller. The amount to be paid and deposited in respect of such re-transfer shall be equal to the sum of the Capital outstanding plus all Yield that has accrued thereon and that will accrue thereon. In the event that a Successor Servicer has not been appointed and has not accepted its appointment at the time when the Servicer ceases to act as Servicer, the Deal Agent shall petition a court of competent Jurisdiction to appoint any established financial institution having a net worth of not less than U.S. $50,000,000 and whose regular business includes the servicing of Contracts as the Successor Servicer hereunder. (b) Upon its appointment, the Backup Servicer (subject to Section 6.25(a)) or the Successor Servicer, as applicable, shall be the successor in all respects to the Servicer with respect to servicing functions under this Agreement and shall be subject to all the responsibilities, duties and liabilities relating thereto placed on the Servicer by the terms and provisions hereof, and all references in this Agreement to the Servicer shall be deemed to refer to the Backup Servicer or the Successor Servicer, as applicable. 70 (c) All authority and power granted to the Servicer under this Agreement shall automatically cease and terminate upon termination of this Agreement and shall pass to and be vested in the Seller and, without limitation, the Seller is hereby authorized and empowered to execute and deliver, on behalf of the Servicer, as attorney-in-fact or otherwise, all documents and other instruments, and to do and accomplish all other acts or things necessary or appropriate to effect the purposes of such transfer of servicing rights. The Servicer agrees to cooperate with the Seller in effecting the termination of the responsibilities and rights of the Servicer to conduct servicing on the Contracts in the Asset Pool. (d) Upon the Backup Servicer receiving notice that it is required to serve as the Servicer hereunder pursuant to the foregoing provisions of this Section 6.25, the Backup Servicer will promptly begin the transition to its role as Servicer. (e) The Backup Servicer shall be entitled to receive its reasonable costs incurred in transitioning to Servicer. Section 6.26 Notification. Upon the Servicer becoming aware of the occurrence of any Servicer Default, the Servicer shall promptly give written notice thereof to the Deal Agent and the Backup Servicer. Section 6.27 Protection of Right, Title and Interest to Assets. (a) The Servicer shall cause this Agreement, all amendments hereto and/or all financing statements and continuation statements and any other necessary documents covering the right, title and interest of the Deal Agent as agent for the Purchaser and of the Purchasers to the Assets to be promptly recorded, registered and filed, and at all times to be kept recorded, registered and filed, all in such manner and in such places as may be required by law fully to preserve and protect the right, title and interest of the Deal Agent as agent for the Purchasers hereunder to all property comprising the Assets. The Servicer shall deliver to the Deal Agent file-stamped copies of, or filing receipts for, any document recorded, registered or filed as provided above, as soon as available following such recording, registration or filing. The Seller shall cooperate fully with the Servicer in connection with the obligations set forth above and will execute any and all documents reasonably required to fulfill the intent of this subsection 6.27(a). (b) The Servicer will give the Deal Agent at least 30 days' prior written notice of any relocation of any office from which it services Contracts in the Asset Pool or keeps the Contract Files or of its principal executive office and whether, as a result of such relocation, the applicable provisions of the UCC or any other applicable law governing the perfection of interests in property would require the filing of any amendment of any previously filed financing or continuation statement or of any new financing statement and shall file such financing statements or amendments as may be necessary to continue the perfection of the security interest of the Deal Agent as agent for the Purchasers in the Contracts in the Asset Pool and the proceeds thereof. The Servicer will at all times maintain each office from which it services Contracts in the Asset Pool within the United States of America. 71 Section 6.28 Release of Contract Files. The Seller may, with the prior written consent of the Deal Agent (such consent not to be unreasonably withheld), require that the Collateral Custodian release each Contract File (a) delivered to the Collateral Custodian in error, (b) for which a Substitute Contract has been substituted in accordance with Section 2.16, (c) as to which the lien on the related Equipment has been so released pursuant to Section 5.3, (d) which has been retransferred to the Seller pursuant to Section 5.5 or 5.6, or (e) which is required to be redelivered to the Seller in connection with the termination of this Agreement, in each case by submitting to the Collateral Custodian and the Deal Agent a written request in the form of Exhibit H hereto (signed by both the Seller and the Deal Agent) specifying the Contracts to be so released and reciting that the conditions to such release have been met (and specifying the section or sections of this Agreement being relied upon for such release). The Collateral Custodian shall upon its receipt of each such request for release executed by the Seller and the Deal Agent promptly, but in any event within 5 Business Days, release the Contract Files so requested to the Seller. ARTICLE VII PAYOUT AND RESTRICTING EVENTS Section 7.1 Payout Events. If any of the following events ("Payout Events") shall occur: (a) as of any Reporting Date, the Delinquency Ratio for the preceding Determination Date exceeds 3.0%; (b) as of any Reporting Date, the Default Ratio for the preceding Determination Date exceeds 2.75%; (c) the passage of 60 days following receipt by the Purchaser of a written notification of the Seller's intent to terminate the revolving period; (d) a Restricting Event has occurred. Section 7.2 Restricting Events. If any of the following events ("Restricting Events") shall occur: (a) as of any Reporting Date, the Delinquency Ratio for the preceding Determination Date exceeds 4.0%; 72 (b) as of any Reporting Date, the Default Ratio for the preceding Determination Date exceeds 3.25%; (c) the Termination Date shall have occurred; (d) the level of Capital exceeds the Capital Limit and the Seller does not, within one Business Day, contribute Eligible Contracts and/or cash collateral sufficient to cause the Capital to comply with the Capital Limit; (e) the Seller is not in compliance with the Portfolio Concentration Criteria, and such noncompliance is not cured within 5 Business Days; (f) a Servicer Default occurs and is continuing; (g) (i) failure on the part of the Seller to make any payment or deposit required by the terms of this Agreement on the day such payment or deposit is required to be made or (ii) failure on the part of the Seller to observe or perform any of its covenants or agreements set forth in this Agreement, which failure has a material adverse effect on the interests of the Deal Agent, any Purchaser, the Liquidity Agent or any Investor and which continues unremedied for a period of 30 days or more after written notice to Seller; provided, that only a five Business Day cure period shall apply in the case of a failure by the Seller to observe its covenants not to grant a security interest or otherwise intentionally create a Lien on the Contracts; (h) any representation or warranty made by the Seller in this Agreement or any information required to be given by the Seller to the Deal Agent to identify Contracts pursuant to this Agreement, shall prove to have been incorrect in any material respect when made or delivered and which continues to be incorrect in any material respect for a period of 30 days after written notice or actual knowledge thereof; (i) the occurrence of an Insolvency Event relating to the Originator, the Seller or the Servicer; (j) the Seller shall become an "investment company" within the meaning of the Investment Company Act of 1940, as amended (the "40 Act") or the arrangements contemplated by this Agreement shall require registration as an `investment company" within the meaning of the 40 Act; (k) a regulatory, tax or accounting body has ordered that the activities of the Seller or any Affiliate of the Seller, contemplated hereby be terminated or, as a result of any other event or circumstance, the activities of the Seller contemplated hereby may reasonably be expected to cause the Seller or any of its respective Affiliates to suffer materially adverse regulatory, accounting or tax consequences; or 73 (l) on any day, less than 100% of the Capital is subject to Hedging Agreements. then, and in any such event, the Termination Date shall be deemed to have occurred automatically upon the occurrence of such event. Upon any such occurrence, the Deal Agent and the Purchasers shall have, in addition to all other rights and remedies under this Agreement or otherwise, all other rights and remedies provided under the UCC of the applicable jurisdiction and other applicable laws, which rights shall be cumulative. ARTICLE VIII INDEMNIFICATION Section 8.1 Indemnities by the Seller. Without limiting any other rights which the Deal Agent, the Backup Servicer, the Collateral Custodian, the Liquidity Agent, the Purchasers or any of their respective Affiliates may have hereunder or under applicable law, the Seller hereby agrees to indemnify the Deal Agent, the Backup Servicer, the Collateral Custodian, the Liquidity Agent, the Purchasers, and each of their respective Affiliates and officers, directors, employees and agents thereof from and against any and all damages, losses, claims, liabilities and related costs and expenses, including reasonable attorneys' fees and disbursements (all of the foregoing being collectively referred to as "Indemnified Amounts") awarded against or incurred by, but excluding allocations of overhead expenses of any such Indemnified Party or other non-monetary damages of any such Indemnified Party any of them arising out of or as a result of this Agreement or the ownership of the Asset Interest or in respect of any Asset or any Contract, excluding, however, (a) Indemnified Amounts to the extent resulting from negligence or willful misconduct on the part of the Deal Agent, the Backup Servicer, the Collateral Custodian, the Liquidity Agent, such Purchaser or such Affiliate and (b) recourse (except with respect to payment and performance of obligations provided for in this Agreement) for Defaulted Contracts. If the Seller has made any indemnity payment pursuant to this Section 8.1 and such payment fully indemnified the recipient thereof and the recipient thereafter collects any payments from others in respect of such Indemnified Amounts then, the recipient shall repay to the Seller an amount equal to the amount it has collected from others in respect of such indemnified amounts. Without limiting the foregoing, the Seller shall indemnify the Deal Agent, the Backup Servicer, the Collateral Custodian, the Liquidity Agent, the Purchasers and each of their respective Affiliates and officers, directors, employees and agents thereof for Indemnified Amounts relating to or resulting from: (i) any Purchased Asset treated as or represented by the Seller to be an Eligible Contract which is not at the applicable time an Eligible Contract; 74 (ii) reliance on any representation or warranty made or deemed made by the Seller, the Servicer (if the Originator or one of its Affiliates) or any of their respective officers under or in connection with this Agreement, which shall have been false or incorrect in any material respect when made or deemed made or delivered; (iii) the failure by the Seller or the Servicer (if the Originator or one of its Affiliates) to comply with any term, provision or covenant contained in this Agreement or any agreement executed in connection with this Agreement, or with any applicable law, rule or regulation with respect to any Asset, the related Contract, or the nonconformity of any Asset, the related Contract with any such applicable law, rule or regulation; (iv) the failure to vest and maintain vested in the relevant Purchaser or to transfer to such Purchaser, an undivided ownership interest in the Assets, together with all Collections, free and clear of any Adverse Claim whether existing at the time of any Purchase or at any time thereafter; (v) the failure to maintain, as of the close of business on each Business Day prior to the Termination Date, an amount of Capital outstanding which is less than or equal to the lesser of (x) the Purchase Limit on such Business Day, or (y) the Capital Limit on such Business Day; (vi) the failure to file, or any delay in filing, financing statements or other similar instruments or documents under the UCC of any applicable jurisdiction or other applicable laws with respect to any Assets which are, or are purported to be, Pool Assets, whether at the time of any Purchase or at any subsequent time; (vii) any dispute, claim, offset or defense (other than the discharge in bankruptcy of the Obligor) of the Obligor to the payment of any Asset which is, or is purported to be, a Purchased Asset (including, without limitation, a defense based on such Asset or the related Contract not being a legal, valid and binding obligation of such Obligor enforceable against it in accordance with its terms), or any other claim resulting from the sale of the merchandise or services related to such Asset or the furnishing or failure to furnish such merchandise or services; (viii) any failure of the Seller or the Servicer (if the Originator or one of its Affiliates) to perform its duties or obligations in accordance with the provisions of this Agreement or any failure by the Originator, the Seller or any Affiliate thereof to perform its respective duties under the Contracts; (ix) any products liability claim or personal injury or property damage suit or other similar or related claim or action of whatever sort arising out of or in connection with merchandise or services which are the subject of any Asset or Contract; 75 (x) the failure by Seller to pay when due any Taxes for which the Seller is liable, including without limitation, sales, excise or personal property taxes payable in connection with the Pool Assets; (xi) any repayment by the Deal Agent, the Liquidity Agent or a Purchaser of any amount previously distributed in reduction of Capital or payment of Yield or any other amount due hereunder, in each case which amount the Deal Agent, the Liquidity Agent or a Purchaser believes in good faith is required to be repaid; (xii) the commingling of Collections of Pool Assets at any time with other funds; (xiii) any investigation, litigation or proceeding related to this Agreement or the use of proceeds of Purchases or reinvestments or the ownership of the Asset Interest or in respect of any Asset or Contract; (xiv) any failure by the Seller to give reasonably equivalent value to the Originator in consideration for the transfer by the Originator to the Seller of any Assets or any attempt by any Person to void or otherwise avoid any such transfer under any statutory provision or common law or equitable action, including, without limitation, any provision of the Bankruptcy Code; or (xv) the failure of the Seller, the Originator or any of their respective agents or representatives to remit to the Servicer or the Deal Agent, Collections of Pool Assets remitted to the Seller or any such agent or representative. Any amounts subject to the indemnification provisions of this Section 8.1 shall be paid by the Seller solely pursuant to the provisions of Sections 2.7, 2.8 and 2.9 hereof as the case may be to the Deal Agent within two Business Days following the Deal Agent's demand therefor. If for any reason the indemnification provided above in this Section 8.1 is unavailable to the Indemnified Person or is insufficient to hold an Indemnified Person harmless, then Servicer shall contribute to the amount paid or payable by such Indemnified Person as a result of such loss, claim, damage or liability in such proportion as is appropriate to reflect not only the relative benefits received by such Indemnified Person on the one hand and the Seller on the other hand but also the relative fault of such Indemnified Person as well as any other relevant equitable considerations. The parties hereto agree that the provisions of Section 8.1 shall not be interpreted to provide recourse to the Seller against loss by reason of the bankruptcy or insolvency (or other credit condition) of, or default by, related Obligor on, any Pool Asset. 76 ARTICLE IX THE DEAL AGENT AND THE LIQUIDITY AGENT Section 9.1 Authorization and Action. (a) Each Purchaser hereby designates and appoints the Deal Agent as Deal Agent hereunder, and authorizes the Deal Agent to take such actions as agent on its behalf and to exercise such powers as are delegated to the Deal Agent by the terms of this Agreement together with such powers as are reasonably incidental thereto. The Deal Agent shall not have any duties or responsibilities, except those expressly set forth herein, or any fiduciary relationship with any Purchaser, and no implied covenants, functions, responsibilities, duties, obligations or liabilities on the part of the Deal Agent shall be read into this Agreement or otherwise exist for the Deal Agent. In performing its functions and duties hereunder, the Deal Agent shall act solely as agent for the Purchasers and does not assume nor shall be deemed to have assumed any obligation or relationship of trust or agency with or for the Seller or any of its successors or assigns. The Deal Agent shall not be required to take any action which exposes the Deal Agent to personal liability or which is contrary to this Agreement or applicable law. The appointment and authority of the Deal Agent hereunder shall terminate at the indefeasible payment in full of the Aggregate Unpaids. (b) Each Investor hereby designates and appoints FUNB as Liquidity Agent hereunder, and authorizes the Liquidity Agent to take such actions as agent on its behalf and to exercise such powers as are delegated to the Liquidity Agent by the terms of this Agreement together with such powers as are reasonably incidental thereto. The Liquidity Agent shall not have any duties or responsibilities, except those expressly set forth herein, or any fiduciary relationship with any Investor, and no implied covenants, functions, responsibilities, duties, obligations or liabilities on the part of the Liquidity Agent shall be read into this Agreement or otherwise exist for the Liquidity Agent. In performing its functions and duties hereunder, the Liquidity Agent shall act solely as agent for the Investors and does not assume nor shall be deemed to have assumed any obligation or relationship of trust or agency with or for the Seller or any of its successors or assigns. The Liquidity Agent shall not be required to take any action which exposes the Liquidity Agent to personal liability or which is contrary to this Agreement or applicable law. The appointment and authority of the Liquidity Agent hereunder shall terminate at the indefeasible payment in full of the Aggregate Unpaids. Section 9.2 Delegation of Duties. (a) The Deal Agent may execute any of its duties under this Agreement by or through agents or attorneys-in-fact and shall be entitled to advice of counsel concerning all matters pertaining to such duties. The Deal Agent shall not be responsible for the negligence or misconduct of any agents or attorneys-in-fact selected by it with reasonable care. 77 (b) The Liquidity Agent may execute any of its duties under this Agreement by or through agents or attorneys-in-fact and shall be entitled to advice of counsel concerning all matters pertaining to such duties. The Liquidity Agent shall not be responsible for the negligence or misconduct of any agents or attorneys-in-fact selected by it with reasonable care. Section 9.3 Exculpatory Provisions. (a) Neither the Deal Agent nor any of its directors, officers, agents or employees shall be (i) liable for any action lawfully taken or omitted to be taken by it or them under or in connection with this Agreement (except for its, their or such Person's own gross negligence or willful misconduct or, in the case of the Deal Agent, the breach of its obligations expressly set forth in this Agreement), or (ii) responsible in any manner to any of the Purchasers for any recitals, statements, representations or warranties made by the Seller contained in this Agreement or in any certificate, report, statement or other document referred to or provided for in, or received under or in connection with, this Agreement for the value, validity, effectiveness, genuineness, enforceability or sufficiency of this Agreement or any other document furnished in connection herewith, or for any failure of the Seller to perform its obligations hereunder, or for the satisfaction of any condition specified in Article III. The Deal Agent shall not be under any obligation to any Purchaser to ascertain or to inquire as to the observance or performance of any of the agreements or covenants contained in, or conditions of, this Agreement, or to inspect the properties, books or records of the Seller. The Deal Agent shall not be deemed to have knowledge of any Payout Event unless the Deal Agent has received notice from the Seller or a Purchaser. (b) Neither the Liquidity Agent nor any of its directors, officers, agents or employees shall be (i) liable for any action lawfully taken or omitted to be taken by it or them under or in connection with this Agreement (except for its, their or such Person's own gross negligence or willful misconduct or, in the case of the Liquidity Agent, the breach of its obligations expressly set forth in this Agreement), or (ii) responsible in any manner to the Deal Agent or any of the Purchasers for any recitals, statements, representations or warranties made by the Seller contained in this Agreement or in any certificate, report, statement or other document referred to or provided for in, or received under or in connection with, this Agreement or for the value, validity, effectiveness, genuineness, enforceability or sufficiency of this Agreement or any other document furnished in connection herewith, or for any failure of the Seller to perform its obligations hereunder, or for the satisfaction of any condition specified in Article III. The Liquidity Agent shall not be under any obligation to the Deal Agent or any Purchaser to ascertain or to inquire as to the observance or performance of any of the agreements or covenants contained in, or conditions of, this Agreement, or to inspect the properties, books or records of the Seller. The Liquidity Agent shall not be deemed to have knowledge of any Payout Event unless the Liquidity Agent has received notice from the Seller, the Deal Agent or a Purchaser. 78 Section 9.4 Reliance. (a) The Deal Agent shall in all cases be entitled to rely, and shall be fully protected in relying, upon any document or conversation believed by it to be genuine and correct and to have been signed, sent or made by the proper Person or Persons and upon advice and statements of legal counsel (including, without limitation, counsel to the Seller), independent accountants and other experts selected by the Deal Agent. The Deal Agent shall in all cases be fully justified in failing or refusing to take any action under this Agreement or any other document furnished in connection herewith unless it shall first receive such advice or concurrence of VFCC or the Required Investors or all of the Purchasers, as applicable, as it deems appropriate or it shall first be indemnified to its satisfaction by the Purchasers, provided that unless and until the Deal Agent shall have received such advice, the Deal Agent may take or refrain from taking any action, as the Deal Agent shall deem advisable and in the best interests of the Purchasers. The Deal Agent shall in all cases be fully protected in acting, or in refraining from acting, in accordance with a request of VFCC or the Required Investors or all of the Purchasers, as applicable, and such request and any action taken or failure to act pursuant thereto shall be binding upon all the Purchasers. (b) The Liquidity Agent shall in all cases be entitled to rely, and shall be fully protected in relying, upon any document or conversation believed by it to be genuine and correct and to have been signed, sent or made by the proper Person or Persons and upon advice and statements of legal counsel (including, without limitation, counsel to the Seller), independent accountants and other experts selected by the Liquidity Agent. The Liquidity Agent shall in all cases be fully justified in failing or refusing to take any action under this Agreement or any other document furnished in connection herewith unless it shall first receive such advice or concurrence of Required Investors as it deems appropriate or it shall first be indemnified to its satisfaction by the Investors, provided that unless and until the Liquidity Agent shall have received such advice, the Liquidity Agent may take or refrain from taking any action, as the Liquidity Agent shall deem advisable and in the best interests of the Investors. The Liquidity Agent shall in all cases be fully protected in acting, or in refraining from acting, in accordance with a request of the Required Investors and such request and any action taken or failure to act pursuant thereto shall be binding upon all the Investors. Section 9.5 Non-Reliance on Deal Agent, Liquidity Agent and Other Purchasers. Each Purchaser expressly acknowledges that neither the Deal Agent, the Liquidity Agent nor any of their respective officers, directors, employees, agents, attorneys-in-fact or affiliates has made any representations or warranties to it and that no act by the Deal Agent or the Liquidity Agent hereafter taken, including, without limitation, any review of the affairs of the Seller, shall be deemed to constitute any representation or warranty by the Deal Agent or the Liquidity Agent. Each Purchaser represents and warrants to the Deal Agent and to the Liquidity Agent that it has and will, independently and without reliance upon the Deal Agent, the Liquidity Agent or any other Purchaser and based on such documents and information as it 79 has deemed appropriate, made its own appraisal of and investigation into the business, operations, property, prospects, financial and other conditions and creditworthiness of the Seller and made its own decision to enter into this Agreement. Section 9.6 Reimbursement and Indemnification. The Investors agree to reimburse and indemnify VFCC, the Deal Agent, the Liquidity Agent and each of their respective officers, directors, employees, representatives and agents ratably according to their pro rata shares, to the extent not paid or reimbursed by the Seller (i) for any amounts for which VFCC, the Liquidity Agent, acting in its capacity as Liquidity Agent, or the Deal Agent, acting in its capacity as Deal Agent, is entitled to reimbursement by the Seller hereunder and (ii) for any other expenses incurred by VFCC, the Liquidity Agent, acting in its capacity as Liquidity Agent, or the Deal Agent, in its capacity as Deal Agent and acting on behalf of the Purchasers, in connection with the administration and enforcement of this Agreement. Section 9.7 Deal Agent and Liquidity Agent in their Individual Capacities. The Deal Agent, the Liquidity Agent and each of their respective Affiliates may make loans to, accept deposits from and generally engage in any kind of business with the Seller or any Affiliate of the Seller as though the Deal Agent or the Liquidity Agent, as the case may be, were not the Deal Agent or the Liquidity Agent, as the case may be, hereunder. With respect to the acquisition of Asset Interests pursuant to this Agreement, the Deal Agent, the Liquidity Agent and each of their respective Affiliates shall have the same rights and powers under this Agreement as any Purchaser and may exercise the same as though it were not the Deal Agent or the Liquidity Agent, as the case may be, and the terms "Investor," "Purchaser," "Investors" and "Purchasers" shall include the Deal Agent or the Liquidity Agent, as the case may be, in its individual capacity. Section 9.8 Successor Deal Agent or Liquidity Agent. (a) The Deal Agent may, upon 5 days' notice to the Seller and the Purchasers, and the Deal Agent will, upon the direction of all of the Purchasers (other than the Deal Agent, in its individual capacity) resign as Deal Agent. If the Deal Agent shall resign, then the Required Investors during such 5-day period shall appoint from among the Purchasers a successor agent. If for any reason no successor Deal Agent is appointed by the Required Investors during such 5-day period, then effective upon the expiration of such 5-day period, the Purchasers shall perform all of the duties of the Deal Agent hereunder and the Seller shall make all payments in respect of the Aggregate Unpaids or under any fee letter delivered by the Originator to the Deal Agent and the Purchasers directly to the applicable Purchaser and for all purposes shall deal directly with the Purchasers. After any retiring Deal Agent's resignation hereunder as Deal Agent, the provisions of this Article VIII and Article IX shall inure to its benefit as to any actions taken or omitted to be taken by it while it was Deal Agent under this Agreement. 80 (b) The Liquidity Agent may, upon 5 days' notice to the Seller, the Deal Agent and the Investors, and the Liquidity Agent will, upon the direction of all of the Investors (other than the Liquidity Agent, in its individual capacity) resign as Liquidity Agent. If the Liquidity Agent shall resign, then the Required Investors during such 5-day period shall appoint from among the Investors a successor Liquidity Agent. If for any reason no successor Liquidity Agent is appointed by the Required Investors during such 5-day period, then effective upon the expiration of such 5-day period, the Investors shall perform all of the duties of the Liquidity Agent hereunder and all payments in respect of the Aggregate Unpaids. After any retiring Liquidity Agent's resignation hereunder as Liquidity Agent, the provisions of this Article VIII and Article IX shall inure to its benefit as to any actions taken or omitted to be taken by it while it was Liquidity Agent under this Agreement. ARTICLE X ASSIGNMENTS; PARTICIPATIONS Section 10.1 Assignments and Participations. (a) Each Investor may upon at least 30 days' notice to VFCC, the Deal Agent, the Liquidity Agent and S&P and Moody's, assign to one or more banks or other entities all or a portion of its rights and obligations under this Agreement; provided, however, that (i) each such assignment shall be of a constant, and not a varying percentage of all of the assigning Investor's rights and obligations under this Agreement, (ii) the amount of the Commitment of the assigning Investor being assigned pursuant to each such assignment (determined as of the date of the Assignment and Acceptance with respect to such assignment) shall in no event be less than the lesser of (A) $15,000,000 or an integral multiple of $1,000,000 in excess of that amount and (B) the full amount of the assigning Investor's Commitment, (iii) each such assignment shall be to an Eligible Assignee, (iv) the parties to each such assignment shall execute and deliver to the Deal Agent, for its acceptance and recording in the Register, an Assignment and Acceptance, together with a processing and recordation fee of $3,500 or such lesser amount as shall be approved by the Deal Agent, (v) the parties to each such assignment shall have agreed to reimburse the Deal Agent, the Liquidity Agent and VFCC for all fees, costs and expenses (including, without limitation, the reasonable fees and out-of-pocket expenses of counsel for each of the Deal Agent, the Liquidity Agent and VFCC) incurred by the Deal Agent, the Liquidity Agent and VFCC, respectively, in connection with such assignment and (vi) there shall be no increased costs, expenses or taxes incurred by the Deal Agent, the Liquidity Agent or VFCC upon such assignment or participation, and provided further that upon the effective date of such assignment the provisions of Section 3.03(f) of the Administration Agreement shall be satisfied. Upon such execution, delivery and acceptance by the Deal Agent and the Liquidity Agent and the recording by the Deal Agent, from and after the effective date specified in each Assignment and Acceptance, which effective date shall be the date of acceptance thereof by the Deal Agent and the Liquidity Agent, unless a later date is specified therein, (i) the assignee thereunder shall be a party hereto and, to the extent that rights and obligations hereunder have been assigned to it pursuant 81 to such Assignment and Acceptance, have the rights and obligations of an Investor hereunder and (ii) the Investor assignor thereunder shall, to the extent that rights and obligations hereunder have been assigned by it pursuant to such Assignment and Acceptance, relinquish its rights and be released from its obligations under this Agreement (and, in the case of an Assignment and Acceptance covering all or the remaining portion of an assigning Investor's rights and obligations under this Agreement, such Investor shall cease to be a party hereto). (b) By executing and delivering an Assignment and Acceptance, the Investor assignor thereunder and the assignee thereunder confirm to and agree with each other and the other parties hereto as follows: (i) other than as provided in such Assignment and Acceptance, such assigning Investor makes no representation or warranty and assumes no responsibility with respect to any statements, warranties or representations made in or in connection with this Agreement or the execution, legality, validity, enforceability, genuineness, sufficiency or value of this Agreement or any other instrument or document furnished pursuant hereto; (ii) such assigning Investor makes no representation or warranty and assumes no responsibility with respect to the financial condition of VFCC or the performance or observance by VFCC of any of its obligations under this Agreement or any other instrument or document furnished pursuant hereto; (iii) such assignee confirms that it has received a copy of this Agreement, together with copies of such financial statements and other documents and information as it has deemed appropriate to make its own credit analysis and decision to enter into such Assignment and Acceptance; (iv) such assignee will, independently and without reliance upon the Deal Agent or the Liquidity Agent, such assigning Investor or any other Investor and based on such documents and information as it shall deem appropriate at the time, continue to make its own credit decisions in taking or not taking action under this Agreement; (v) such assigning Investor and such assignee confirm that such assignee is an Eligible Assignee; (vi) such assignee appoints and authorizes each of the Deal Agent and the Liquidity Agent to take such action as agent on its behalf and to exercise such powers under this Agreement as are delegated to such agent by the terms hereof, together with such powers as are reasonably incidental thereto; and (vii) such assignee agrees that it will perform in accordance with their terms all of the obligations which by the terms of this Agreement are required to be performed by it as an Investor. (c) The Deal Agent shall maintain at its address referred to herein a copy of each Assignment and Acceptance delivered to and accepted by it and a register for the recordation of the names and addresses of the Investors and the Commitment of, and the Capital of, each Asset interest owned by each investor from time to time (the "Register"). The entries in the Register shall be conclusive and binding for all purposes, absent manifest error, and VFCC, the Seller and the Investors may treat each Person whose name is recorded in the Register as an Investor hereunder for all purposes of this Agreement. The Register shall be available for inspection by VFCC, the Liquidity Agent or any Investor at any reasonable time and from time to time upon reasonable prior notice. (d) Subject to the provisions of Section 10.1(a), upon its receipt of an Assignment and Acceptance executed by an assigning Investor and an assignee, the Deal Agent and the Liquidity Agent shall each, if such Assignment and Acceptance has been completed and is in substantially the form 82 of Exhibit D hereto, accept such Assignment and Acceptance, and the Deal Agent shall then (i) record the information contained therein in the Register and (ii) give prompt notice thereof to VFCC. (e) Each Investor may sell participations to one or more banks or other entities in or to all or a portion of its rights and obligations under this Agreement (including, without limitation, all or a portion of its Commitment and each Asset Interest owned by it); provided, however, that (i) such Investor's obligations under this Agreement (including, without limitation, its Commitment hereunder) shall remain unchanged, (ii) such Investor shall remain solely responsible to the other parties hereto for the performance of such obligations and (iii) the Deal Agent and the other Investors shall continue to deal solely and directly with such Investor in connection with such Investor's rights and obligations under this Agreement, and provided further that the Deal Agent shall have confirmed that upon the effective date of such participation the provisions of Section 3.03(f) of the Administration Agreement shall be satisfied. Notwithstanding anything herein to the contrary, each participant shall have the rights of an Investor (including any right to receive payment) under Sections 2.12 and 2.13; provided, however, that no participant shall be entitled to receive payment under either such Section in excess of the amount that would have been payable under such Section by the Seller to the Investor granting its participation had such participation not been granted, and no Investor granting a participation shall be entitled to receive payment under either such Section in an amount which exceeds the sum of (i) the amount to which such Investor is entitled under such Section with respect to any portion of any Asset Interest owned by such Investor which is not subject to any participation plus (ii) the aggregate amount to which its participants are entitled under such Sections with respect to the amounts of their respective participations. With respect to any participation described in this Section 10.1, the participant's rights as set forth in the agreement between such participant and the applicable Investor to agree to or to restrict such Investor's ability to agree to any modification, waiver or release of any of the terms of this Agreement or to exercise or refrain from exercising any powers or rights which such Investor may have under or in respect of this Agreement shall be limited to the right to consent to any of the matters set forth in Section 11.1 of this Agreement. (f) Each Investor may, in connection with any assignment or participation or proposed assignment or participation pursuant to this Section 10.1, disclose to the assignee or participant or proposed assignee or participant any information relating to the Seller or VFCC furnished to such Investor by or on behalf of the Seller or VFCC. (g) In the event (i) an Investor ceases to qualify as an Eligible Assignee, or (ii) an Investor makes demand for compensation pursuant to Section 2.12 or Section 2.13, VFCC may, and, upon the direction of the Seller and prior to the occurrence of a Restricting Event, shall, in any such case, notwithstanding any provision to the contrary herein, replace such Investor with an Eligible Assignee by giving three Business Days' prior written notice to such Investor. In the event of the replacement of an Investor, such Investor agrees (i) to assign all of its rights and obligations hereunder to an Eligible Assignee selected by VFCC upon payment to such Investor of the amount of such Investor's Asset Interests together with any accrued and unpaid 83 Yield thereon, all accrued and unpaid commitment fees owing to such Investor and all other amounts owing to such Investor hereunder and (ii) to execute and deliver an Assignment and Acceptance and such other documents evidencing such assignment as shall be necessary or reasonably requested by VFCC or the Deal Agent. In the event that any Investor ceases to qualify as an Eligible Assignee, such affected Investor agrees (1) to give the Deal Agent, the Seller and VFCC prompt written notice thereof and (2) subject to the following proviso, to reimburse the Deal Agent, the Liquidity Agent, the Seller, VFCC and the relevant assignee for all fees, costs and expenses (including, without limitation, the reasonable fees and out-of-pocket expenses of counsel for each of the Deal Agent, the Liquidity Agent, the Seller and VFCC and such assignee) incurred by the Deal Agent, the Liquidity Agent, the Seller, VFCC and such assignee, respectively, in connection with any assignment made pursuant to this Section 10.1(g) by such affected Investor; provided, however, that such affected Investor's liability for such costs, fees and expenses shall be limited to the amount of any up-front fees paid to such affected Investor at the time that it became a party to this Agreement. (h) Nothing herein shall prohibit any Investor from pledging or assigning as collateral any of its rights under this Agreement to any Federal Reserve Bank in accordance with applicable law and any such pledge or collateral assignment may be made without compliance with Section 10.1(a) or Section 10.1(b). (i) In the event any Investor causes increased costs, expenses or taxes to be incurred by the Deal Agent, Liquidity Agreement or VFCC in connection with the assignment or participation of such Investor's rights and obligations under this Agreement to an Eligible Assignee then such Investor agrees that it will make reasonable efforts to assign such increased costs, expenses or taxes to such Eligible Assignee in accordance with the provisions of this Agreement. ARTICLE XI MISCELLANEOUS Section 11.1 Amendments and Waivers. (a) Except as provided in this Section 11.1, no amendment, waiver or other modification of any provision of this Agreement shall be effective without the written agreement of the Seller, the Deal Agent and the Required Investors; provided, however, that no such amendment, waiver or modification affecting the rights or obligations of any Hedge Counterparty, the Backup Servicer or the Collateral Custodian shall be effective as against the Backup Servicer and/or the Collateral Custodian, as the case may be, without the written agreement of such Persons. Any waiver or consent shall be effective only in the specific instance and for the specific purpose for which given. 84 (b) No amendment, waiver or other modification of this Agreement shall: (i) without the consent of each affected Purchaser, (A) extend the Commitment Termination Date or the date of any payment or deposit of Collections by the Seller or the Servicer, (B) reduce the rate or extend the time of payment of Yield (or any component thereof), (C) reduce any fee payable to the Deal Agent for the benefit of the Purchasers, (D) except pursuant to Article X hereof, change the amount of the Capital of any Purchaser, an Investor's pro rata share or an Investor's Commitment, (E) amend, modify or waive any provision of the definition of Required Investors or this Section 11.1(b), (F) consent to or permit the assignment or transfer by the Seller of any of its rights and obligations under this Agreement or (G) amend or modify any defined term (or any defined term used directly or indirectly in such defined term) used in clauses (A) through (E) above in a manner which would circumvent the intention of the restrictions set forth in such clauses; or (ii) without the written consent of the Deal Agent, amend, modify or waive any provision of this Agreement if the effect thereof is to affect the rights or duties of such Agent. (c) Notwithstanding the foregoing provisions of this Section 11.1, without the consent of the Investors, the Deal Agent may, with the consent of the Seller amend this Agreement solely to add additional Persons as Investors hereunder. Any modification or waiver shall apply to each of the Purchasers equally and shall be binding upon the Seller, the Purchasers and the Deal Agent. Section 11.2 Notices, Etc. All notices and other communications provided for hereunder shall, unless otherwise stated herein, be in writing (including telex communication and communication by facsimile copy) and mailed, telexed, transmitted or delivered, as to each party hereto, at its address set forth under its name on the signature pages hereof or specified in such party's Assignment and Acceptance or at such other address as shall be designated by such party in a written notice to the other parties hereto. All such notices and communications shall be effective, upon receipt, or in the case of (a) notice by mail, five days after being deposited in the United States mail, first class postage prepaid, (b) notice by telex, when telexed against receipt of answer back, or (c) notice by facsimile copy, when verbal communication of receipt is obtained, except that notices and communications pursuant to Article 11 shall not be effective until received with respect to any notice sent by mail or telex. Section 11.3 Ratable Payments. If any Purchaser, whether by setoff or otherwise, has payment made to it with respect to any portion of the Aggregate Unpaids owing to such Purchaser (other than payments received pursuant to Section 8.1 in a greater proportion than that received by any other Purchaser), such Purchaser agrees, 85 promptly upon demand, to purchase for cash without recourse or warranty a portion of the Aggregate Unpaids held by the other Purchasers so that after such purchase each Purchaser will hold its ratable proportion of the Aggregate Unpaids; provided, however, that if all or any portion of such excess amount is thereafter recovered from such Purchaser, such purchase shall be rescinded and the purchase price restored to the extent of such recovery, but without interest. Section 11.4 No Waiver, Rights and Remedies. No failure on the part of the Deal Agent, the Collateral Custodian, the Backup Servicer or a Purchaser to exercise, and no delay in exercising, any right or remedy hereunder shall operate as a waiver thereof; nor shall any single or partial exercise of any right or remedy hereunder preclude any other or further exercise thereof or the exercise of any other right. The rights and remedies herein provided are cumulative and not exclusive of any rights and remedies provided by law. Section 11.5 Binding Effect. This Agreement shall be binding upon and inure to the benefit of the Seller, the Deal Agent, the Backup Servicer, the Collateral Custodian, the Purchasers and their respective successors and permitted assigns. Section 11.6 Term of this Agreement. This Agreement, including, without limitation, the Seller's obligation to observe its covenants set forth in Article V, and the Servicer's obligation to observe its covenants set forth in Article VI, shall remain in full force and effect until the Collection Date; provided, however, that the rights and remedies with respect to any breach of any representation and warranty made or deemed made by the Seller pursuant to Articles III and IV and the indemnification and payment provisions of Article VIII and Article IX and the provisions of Section 11.9 and Section 11.10 shall be continuing and shall survive any termination of this Agreement. Section 11.7 GOVERNING LAW; CONSENT TO JURISDICTION; WAIVER OF OBJECTION TO VENUE. THIS AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK. EACH OF THE PURCHASERS, THE SELLER, THE LIQUIDITY AGENT AND THE DEAL AGENT HEREBY AGREES TO THE NON-EXCLUSIVE JURISDICTION OF ANY FEDERAL COURT LOCATED WITHIN THE STATE OF NEW YORK. EACH OF THE PARTIES HERETO HEREBY WAIVES ANY OBJECTION BASED ON FORUM NON CONVENIENS, AND ANY OBJECTION TO VENUE OF ANY ACTION INSTITUTED HEREUNDER IN ANY OF THE AFOREMENTIONED COURTS AND CONSENTS TO THE GRANTING OF SUCH LEGAL OR EQUITABLE RELIEF AS IS DEEMED APPROPRIATE BY SUCH COURT. 86 Section 11.8 WAIVER OF JURY TRIAL. TO THE EXTENT PERMITTED BY APPLICABLE LAW, EACH OF THE PURCHASERS, THE SELLER AND THE DEAL AGENT WAIVES ANY RIGHT TO HAVE A JURY PARTICIPATE IN RESOLVING ANY DISPUTE, WHETHER SOUNDING IN CONTRACT, TORT, OR OTHERWISE BETWEEN THE PARTIES HERETO ARISING OUT OF, CONNECTED WITH, RELATED TO, OR INCIDENTAL TO THE RELATIONSHIP BETWEEN ANY OF THEM IN CONNECTION WITH THIS AGREEMENT OR THE TRANSACTIONS CONTEMPLATED HEREBY. INSTEAD, ANY SUCH DISPUTE RESOLVED IN COURT WILL BE RESOLVED IN A BENCH TRIAL WITHOUT A JURY. Section 11.9 Costs, Expenses and Taxes. (a) In addition to the rights of indemnification granted to the Deal Agent, the Liquidity Agent, the Backup Servicer, the Collateral Custodian, the Purchasers and its or their Affiliates and officers, directors, employees and agents thereof under Article VIII hereof, the Seller agrees to pay on demand all costs and expenses of the Deal Agent, the Liquidity Agent, the Backup Servicer, the Collateral Custodian and the Purchasers incurred in connection with the preparation, execution, delivery, administration (including periodic auditing), amendment or modification of, or any waiver or consent issued in connection with, this Agreement and the other documents to be delivered hereunder or in connection herewith, including, without limitation, the reasonable fees and out-of-pocket expenses of counsel for the Deal Agent, the Liquidity Agent, the Backup Servicer, the Collateral Custodian and the Purchasers with respect thereto and with respect to advising the Deal Agent, the Liquidity Agent, the Backup Servicer, the Collateral Custodian and the Purchasers as to their respective rights and remedies under this Agreement and the other documents to be delivered hereunder or in connection herewith, and all costs and expenses, if any (including reasonable counsel fees and expenses), incurred by the Deal Agent, the Liquidity Agent, the Backup Servicer, the Collateral Custodian or the Purchasers in connection with the enforcement of this Agreement and the other documents to be delivered hereunder or in connection herewith. (b) The Seller shall pay on demand any and all stamp, sales, excise and other taxes and fees payable or determined to be payable in connection with the execution, delivery, filing and recording of this Agreement, the other documents to be delivered hereunder or any agreement or other document providing liquidity support, credit enhancement or other similar support to the Purchaser in connection with this Agreement or the funding or maintenance of Purchases hereunder. (c) The Seller shall pay on demand all other costs, expenses and Taxes (excluding income taxes) incurred by any Issuer or any shareholder of such Issuer ("Other Costs"), including, without limitation, all costs and expenses incurred by the Deal Agent in connection with periodic audits of the 87 Seller's or the Servicer's books and records and the cost of rating such Issuer's commercial paper with respect to financing its purchase of Asset Interests hereunder by independent financial rating agencies. Section 11.10 No Proceedings. Each of the Seller, the Deal Agent, the Liquidity Agent, the Servicer, the Backup Servicer, the Collateral Custodian and the Purchasers hereby agrees that it will not institute against, or join any other Person in instituting against VFCC any proceedings of the type referred to in Section 6.8(d) and 6.9(c) so long as any commercial paper issued by VFCC shall be outstanding and there shall not have elapsed one year and one day since the last day on which any such commercial paper shall have been outstanding. Section 11.11 Recourse Against Certain Parties. No recourse under or with respect to any obligation, covenant or agreement (including, without limitation, the payment of any fees or any other obligations) of any Purchaser as contained in this Agreement or any other agreement, instrument or document entered into by it pursuant hereto or in connection herewith shall be had against any administrator of such Purchaser or any incorporator, affiliate, stockholder, officer, employee or director of such Purchaser or of any such administrator, as such, by the enforcement of any assessment or by any legal or equitable proceeding, by virtue of any statute or otherwise; it being expressly agreed and understood that the agreements of such Purchaser contained in this Agreement and all of the other agreements, instruments and documents entered into by it pursuant hereto or in connection herewith are, in each case, solely the corporate obligations of such Purchaser, and that no personal liability whatsoever shall attach to or be incurred by any administrator of such Purchaser or any incorporator, stockholder, affiliate, officer, employee or director of such Purchaser or of any such administrator, as such, or any other of them, under or by reason of any of the obligations, covenants or agreements of such Purchaser contained in this Agreement or in any other such instruments, documents or agreements, or which are implied therefrom, and that any and all personal liability of every such administrator of such Purchaser and each incorporator, stockholder, affiliate, officer, employee or director of such Purchaser or of any such administrator, or any of them, for breaches by such Purchaser of any such obligations, covenants or agreements, which liability may arise either at common law or at equity, by statute or constitution, or otherwise, is hereby expressly waived as a condition of and in consideration for the execution of this Agreement. The provisions of this Section 11.11 shall survive the termination of this Agreement. Section 11.12 Protection of Ownership Interests of the Purchasers; Intent of Parties; Security Interest; Third Party Beneficiary. (a) The Seller agrees that from time to time, at its expense, it will promptly execute and deliver all instruments and documents, and take all actions, that may reasonably be necessary or desirable, or that the Deal Agent may reasonably request, to perfect, protect or more fully evidence the Asset 88 Interests and the undivided ownership interest in the Assets in the Asset Pool represented by such Asset Interests, or to enable the Deal Agent or the Purchasers to exercise and enforce their rights and remedies hereunder. (b) If the Seller or the Servicer fails to perform any of its obligations hereunder after five Business Days' notice from the Deal Agent, the Deal Agent or any Purchaser may (but shall not be required to) perform, or cause performance of, such obligation; and the Deal Agent's or such Purchaser's costs and expenses incurred in connection therewith shall be payable by the Seller (if the Servicer that fails to so perform is the Seller or an Affiliate thereof) as provided in Article VIII, as applicable. The Seller irrevocably authorizes the Deal Agent and appoints the Deal Agent as its attorney-in-fact to act on behalf of the Seller (i) to execute on behalf of the Seller as debtor and to file financing statements necessary or desirable in the Deal Agent's sole discretion to perfect and to maintain the perfection and priority of the interest of the Purchasers in the Assets and (ii) to file a carbon, photographic or other reproduction of this Agreement or any financing statement with respect to the Assets as a financing statement in such offices as the Deal Agent in its sole discretion deems necessary or desirable to perfect and to maintain the perfection and priority of the interests of the Purchasers in the Assets. This appointment is coupled with an interest and is irrevocable. (c) The parties hereto intend that the conveyance of Asset Interests by the Seller to the Purchasers shall be treated as sales for all purposes. If, despite such intention, a determination is made that such transactions shall not be treated as sales, then the parties hereto intend that this Agreement constitutes a security agreement and the transactions effected hereby constitute secured loans by the Purchasers to the Seller under applicable law. For such purpose, the Seller hereby transfers, conveys, assigns and grants to the Deal Agent, for the benefit of the Purchasers and the Hedge Counterparties, a continuing security interest in all Assets, all Collections and the proceeds of the foregoing to secure the repayment of all Capital, all payments at any time due or accrued in respect of the Yield on any Asset Interest and all other payments at any time due (whether accrued or due) by the Seller hereunder (including without limit any amount owing under Article VIII hereof), under any Hedging Agreement (including, without limitation, payments in respect of the termination of any such Hedging Agreement) or under any fee letter to the Deal Agent and each Purchaser. (d) Each of the parties hereto agree that the Hedge Counterparties shall be third party beneficiaries hereunder with respect to the rights specifically granted to such Hedge Counterparties, including, without limitation, the priorities set forth in Section 2.7, 2.8 and 2.9. Section 11.13 Confidentiality (a) Each of the Deal Agent, the Purchasers, the Liquidity Agent, the Servicer, the Collateral Custodian, the Backup Servicer and the Seller shall maintain and shall cause each of its employees and officers to maintain the confidentiality of the Agreement and all information with respect to the other parties, including all information regarding the business of the Seller and the Servicer hereto and their respective businesses obtained by it or them in 89 connection with the structuring, negotiating and execution of the transactions contemplated herein, except that each such party and its officers and employees may (i) disclose such information to its external accountants, attorneys, investors, potential investors and the agents of such Persons ("Excepted Persons"), provided, however, that each Excepted Person shall, as a condition to any such disclosure, agree for the benefit of the Deal Agent, the Seller and the Investors that such information shall be used solely in connection with such Excepted Person's evaluation of, or relationship with, the Seller and its affiliates, (ii) disclose the existence of the Agreement, but not the financial terms thereof and (iii) disclose such information as is required by an applicable law or an order of an judicial or administrative proceeding. It is understood that the financial terms that may not be disclosed except in compliance with this Section 11.13(a) include, without limitation, all fees and other pricing terms, and all Payout Events, Restricting Events, Servicer Defaults, and priority of payment provisions (b) Anything herein to the contrary notwithstanding, the Seller hereby consents to the disclosure of any nonpublic information with respect to it (i) to the Deal Agent, the Liquidity Agent, the Collateral Custodian, the Backup Servicer or the Purchasers by each other, (ii) by the Deal Agent or the Purchasers to any prospective or actual assignee or participant of any of them or (iii) by the Deal Agent, the Liquidity Agent or a Purchaser to any Rating Agency, Commercial Paper dealer or provider of a surety, guaranty or credit or liquidity enhancement to a Purchaser and to any officers, directors, employees, outside accountants and attorneys of any of the foregoing, provided each such Person is informed of the confidential nature of such information. In addition, the Purchasers, the Liquidity Agent and the Deal Agent may disclose any such nonpublic information as required pursuant to any law, rule, regulation, direction, request or order of any judicial, administrative or regulatory authority or proceedings (whether or not having the force or effect of law). (c) Notwithstanding anything herein to the contrary, the foregoing shall not be construed to prohibit (i) disclosure of any and all information that is or becomes publicly known, (ii) disclosure of any and all information (A) if required to do so by any applicable statute, law, rule or regulation, (B) to any government agency or regulatory body having or claiming authority to regulate or oversee any respects of the Collateral Custodian's or Backup Servicer's business or that of their affiliates, (C) pursuant to any subpoena, civil investigative demand or similar demand or request of any court, regulatory authority, arbitrator or arbitration to which the Collateral Custodian or Backup Servicer or an affiliate or an officer, director, employer or shareholder thereof is a party, (D) in any preliminary or final offering circular, registration statement or contract or other document pertaining to the transactions contemplated herein approved in advance by the Seller or Servicer or (E) to any affiliate, independent or internal auditor, agent, employee or attorney of the Collateral Custodian or Backup Servicer having a need to know the same, provided that the Collateral Custodian or Backup Servicer advises such recipient of the confidential nature of the information being disclosed, or (iii) any other disclosure authorized by the Seller or Servicer. 90 Section 11.14 Execution in Counterparts; Severability; Integration. This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which when taken together shall constitute one and the same agreement. In case any provision in or obligation under this Agreement shall be invalid, illegal or unenforceable in any jurisdiction, the validity, legality and enforceability of the remaining provisions or obligations, or of such provision or obligation in any other jurisdiction, shall not in any way be affected or impaired thereby. This Agreement contains the final and complete integration of all prior expressions by the parties hereto with respect to the subject matter hereof and shall constitute the entire agreement among the parties hereto with respect to the subject matter hereof, superseding all prior oral or written understandings other than any fee letter delivered by the Originator to the Deal Agent and the Purchasers. 91 IN WITNESS WHEREOF, the parties have caused this Agreement to be executed by their respective officers thereunto duly authorized, as of the date first above written. THE SELLER: SW LEASING PORTFOLIO IV, INC. By______________________________ Title: THE SERVICER: FIDELITY LEASING, INC. By______________________________ Title: THE INVESTORS: FIRST UNION NATIONAL BANK By______________________________ Title: Commitment: $50,000,000 First Union National Bank One First Union Center, TW-6 Charlotte, North Carolina 28288 Attention: Mr. Bill A. Shirley Facsimile No.: (704) 374-3254 Confirmation No: (704) 374-4001 VFCC: VARIABLE FUNDING CAPITAL CORPORATION By First Union Capital Markets Corp., as attorney-in-fact By______________________________ Title: Variable Funding Capital Corporation c/o First Union Capital Markets Corp. One First Union Center, TW-6 Attention: Mr. Darrell Baber Facsimile No.: (704) 383-6036 Confirmation No.: (704) 383-9343 92 With a copy to: Lord Securities Corp. Attention: Facsimile No.: (____) __________ Confirmation No.: (____) __________ THE DEAL AGENT: FIRST UNION CAPITAL MARKETS CORP. By Title:________________________ First Union Capital Markets Corp. One First Union Center, TW-6 Charlotte, North Carolina 28288 Attention: Mr. Darrell Baber Facsimile No.: (704) 383-6036 Telephone No.: (704) 383-9343 THE LIQUIDITY AGENT: FIRST UNION NATIONAL BANK By______________________________ Title: First Union National Bank One First Union Center, TW-6 Charlotte, North Carolina 28288 Attention: Mr. Bill A. Shirley Facsimile No.: (704) 374-3254 Telephone No.: (704) 374-4001 93 THE COLLATERAL CUSTODIAN: HARRIS TRUST AND SAVINGS BANK By______________________________ Title: Harris Trust and Savings Bank 311 West Monroe Street, 12th Floor Chicago, Illinois 60606 Attention: Indenture Trust Administrator Facsimile: (312) 461-3525 Telephone: (312) 461-2532 THE BACKUP SERVICER: HARRIS TRUST AND SAVINGS BANK By___________________________ Title: Harris Trust and Savings Bank 311 West Monroe Street, 12th Floor Chicago, Illinois 60606 Attention: Indenture Trust Administrator Facsimile: (312) 461-3525 Telephone: (312) 461-2532 94 FIDELITY LEASING, INC.: FIDELITY LEASING, INC. By______________________________ Title: 95 EX-10.2 3 PURCHASE AND SALE AGREEMENT EXECUTION COPY ============================================================================== SW LEASING PORTFOLIO IV, INC., as Buyer and FIDELITY LEASING, INC., as Seller ============================================================================== PURCHASE AND SALE AGREEMENT Dated as of December 18, 1997 ============================================================================== TABLE OF CONTENTS ARTICLE I GENERAL................................................................................................1 Section 1.1 Certain Defined Terms........................................................................1 Section 1.2 Other Definitional Provisions................................................................3 ARTICLE II SALE AND CONVEYANCE...................................................................................3 Section 2.1 Sale.........................................................................................3 Section 2.2 Subsequent Contracts.........................................................................5 ARTICLE III PURCHASE PRICE AND PAYMENT; MONTHLY REPORT...........................................................6 Section 3.1 Purchase Price...............................................................................6 Section 3.2 Payment of Purchase Price....................................................................6 ARTICLE IV REPRESENTATIONS AND WARRANTIES........................................................................7 Section 4.1 Seller's Representations and Warranties......................................................7 Section 4.2 Seller's Representations and Warranties Regarding the Agreement and the Contracts...........11 Section 4.3 Representations and Warranties of the Buyer.................................................12 ARTICLE V COVENANTS.............................................................................................13 Section 5.1 Seller Covenants............................................................................13 ARTICLE VI REPURCHASE OBLIGATION................................................................................15 Section 6.1 Retransfer of Ineligible Contracts..........................................................15 Section 6.2 Retransfer of Purchased Assets..............................................................16 Section 6.3 Adjustments.................................................................................17 Section 6.4 Substitution of Contracts...................................................................17 ARTICLE VII CONDITIONS PRECEDENT................................................................................18 Section 7.1 Conditions to the Buyer's Obligations Regarding Contracts...................................18 ARTICLE VIII TERM AND TERMINATION...............................................................................19 Section 8.1 Termination.................................................................................19 ARTICLE IX MISCELLANEOUS PROVISIONS.............................................................................19 Section 9.1 Amendment...................................................................................19 Section 9.2 Governing Law...............................................................................19 Section 9.3 Notices.....................................................................................19 Section 9.4 Severability of Provisions..................................................................20 Section 9.5 Assignment..................................................................................20 Section 9.6 Further Assurances..........................................................................21 Section 9.7 No Waiver; Cumulative Remedies..............................................................21 Section 9.8 Counterparts................................................................................22 Section 9.9 Binding Effect; Third-Party Beneficiaries...................................................22 Section 9.10 Merger and Integration.....................................................................22 Section 9.11 Headings...................................................................................22 Section 9.12 Schedules and Exhibits.....................................................................22 Section 9.13 No Proceedings.............................................................................22 Section 9.14 Merger or Consolidation of, or Assumption of the Obligations of, the Seller................22 Section 9.15 Costs, Expenses and Taxes..................................................................23 Section 9.16 Recourse Against Certain Parties..........................................................24
Schedule I List of Contracts Schedule II Tradenames, Fictitious Names and "Doing Business As" Names Exhibit A Form of Assignment Exhibit B Form of Seller Funding Note -i- PURCHASE AND SALE AGREEMENT PURCHASE AND SALE AGREEMENT, dated as of December 18, 1997 by and between FIDELITY LEASING, INC., a Pennsylvania corporation (the "Seller"), and SW LEASING PORTFOLIO IV, INC., a Pennsylvania corporation (the "Buyer"). W I T N E S S E T H : WHEREAS, the Buyer desires to purchase from the Seller and the Seller desires to sell to the Buyer certain contracts originated or purchased by the Seller in its normal course of business, together with, among other things the related rights of payment thereunder and the interest of the Seller in the related equipment and other interests securing the payments to be made under such contracts. NOW, THEREFORE, it is hereby agreed by and between the Buyer and the Seller as follows: ARTICLE I GENERAL Section 1.1 Certain Defined Terms. Certain capitalized terms used throughout this Agreement are defined above or in this Section 1.1. In addition, capitalized terms used but not defined herein have the meanings given to such terms in the Receivables Purchase Agreement. Agreement: Shall mean this Purchase and Sale Agreement, as the same shall be amended, supplemented, restated or replaced from time to time. Excess Amount: Shall have the meaning specified in Section 3.2 hereof Purchase: Any purchase made hereunder pursuant to Section 2.1. Purchase Date: Any day on which any Purchased Asset is acquired by the Buyer pursuant to the terms of this Agreement. Purchase Price: Shall have the meaning specified in Section 3.1 hereof. Purchased Assets: The interests and property purchased pursuant to Sections 2.1(a) and (b). Purchased Contracts: The Contracts listed on Schedule I hereto. Receivables Purchase Agreement: The Receivables Purchase Agreement dated as of December 18, 1997 by and among the Buyer, as seller thereunder, Fidelity Leasing, Inc., as servicer, the investors named therein, Variable Funding Capital Corporation, as a purchaser, Harris Trust and Savings Bank, as collateral custodian and backup servicer, First Union Capital Markets Corp., as deal agent and First Union National Bank, as liquidity agent, as the same may be amended, supplemented, restated or replaced from time to time. Required Lease Cancellation Payment: Shall have the meaning set forth in Section 6.3(b) hereof. Residual Value: With respect to any Purchased Contract, the residual value of any unit of equipment related to such Contract, as agreed to between the Purchaser and the Seller on the date such Contract becomes a Purchased Contract; provided, however, such residual value shall not be less than zero; such Residual Value to be set forth on Schedule I hereto. Residual Value Adjustment Amount: With respect to any Purchased Contract, the excess of (a) Residual Value of such Purchased Contract over (b) net proceeds from the sale, re-lease or other disposition of the equipment related to such Purchased Contract upon the expiration, or earlier termination, of the term of such Purchased Contract. Sale Papers: Shall have the meaning set forth in Section 4.1(a) hereof. Seller Note: The promissory note, in the form of Exhibit B hereto, issued to the Seller by the Purchaser pursuant to Section 3.2(a) hereof, which note shall have a principal balance at all times equal to the Seller Note Principal Balance and shall bear interest at a rate per annum equal to the Seller Note Interest Rate. Seller Note Interest Rate: On any day, the rate per annum equal to 9.0%. Seller Note Maturity Date: The day that is one year and one day following the date on which the Aggregate Unpaids have been indefeasibly paid in full in cash. Seller Note Principal Balance: On any day an amount equal to (i) the sum of (a) the Excess Amount on the Closing Date, (b) the aggregate of the Excess Amounts on each Subsequent Purchase Date and (c) the aggregate of the Residual Values, minus (ii) the sum of (a) the aggregate Residual Value Adjustment Amount and (b) all other amounts from time to time received by the Seller in reduction of the Seller Note Principal Balance; provided, however, that the Seller Note Principal Balance shall never be less than zero. Servicer: Initially Fidelity Leasing , Inc., in its capacity as the Servicer under the Receivables Purchase Agreement, and its permitted successors and assigns, and thereafter any Person appointed as successor as provided therein to service the Assets thereunder. Subsequent Contract List: The list of Contracts to be sold by the Seller to the Buyer on a Subsequent Purchase Date. -2- Subsequent Contracts: On any Subsequent Purchase Date, the Contracts sold by the Seller to the Buyer on such date as listed on the Subsequent Contact List. Subsequent Purchase Date: Each Purchase Date other than the Closing Date. Substitution Date: Any date on which the Seller transfers a Substitute Contract to the Buyer. Section 1.2 Other Definitional Provisions. The words "hereof," "herein" and "hereunder" and words of similar import when used in this Agreement or any Sale Paper shall refer to this Agreement as a whole and not to any particular provision of this Agreement; and Section, Subsection, Schedule and Exhibit references contained in this Agreement are references to Sections, Subsections, Schedules and Exhibits in or to this Agreement unless otherwise specified. In the event that any term or provision contained herein shall conflict with or be inconsistent with any term or provision contained in the Receivables Purchase Agreement, the terms and provisions contained herein shall govern with respect to this Agreement. ARTICLE II SALE AND CONVEYANCE Section 2.1 Sale. (a) On the Closing Date, the Seller hereby sells, transfers, assigns, sets over and otherwise conveys to the Buyer as of the Closing Date, and the Buyer hereby purchases from the Seller, without recourse, all right, title and interest of the Seller in, to and under the following property, whether now existing or hereafter created or acquired: (i) the Contracts that are owned by the Seller on the Closing Date and that are listed on the Contract List, together with all Collections and all monies due or to become due in payment of such Contracts after the related Cut Off Date, and any payments in respect of a Casualty Loss or Early Termination, but excluding any Scheduled Payments due on or prior to the related Cut Off Date and any Excluded Amounts; (ii) the Equipment related to such Contracts, including all proceeds from any sale or other disposition of such Equipment; (iii) the Contract Files; (iv) all payments made or to be made in the future specifically with respect to such Contracts or the Obligor thereunder under any guarantee or similar credit enhancement with respect to such Contracts; -3- (v) all Insurance Proceeds with respect to each such Contract; and (vii) all income and proceeds of the foregoing. (b) On each Subsequent Purchase Date, the Seller will sell, transfer, assign and set over and otherwise convey to the Buyer and the Buyer will purchase from the Seller, without recourse, all right, title and interest of the Seller in, to and under the following property, whether now existing or hereafter created or acquired: (i) the Subsequent Contracts identified on the Subsequent Contract List delivered by the Seller to the Buyer two Business Days before the applicable Subsequent Purchase Date, together with all Collections and all monies due or to become due in payment of such Contracts after the related Cut Off Date, and any payments in respect of a casualty or early termination, but excluding any Scheduled Payments due on or prior to the related Cut Off Date and any Excluded Amounts; (ii) the Equipment related to such Contracts, including all proceeds from any sale or other disposition of such Equipment; (iii) the Contract Files; (iv) all payments made or to be made in the future specifically with respect to such Contracts or the Obligor thereunder under any guarantee or similar credit enhancement with respect to such Contracts; (v) all Insurance Proceeds with respect to each such Contract; and (vii) all income and proceeds of the foregoing. The foregoing sale, transfer, assignment, set-over and conveyance does not constitute and is not intended to result in a creation or an assumption by the Buyer of any obligation of the Seller or any other Person in connection with the Contracts or under any agreement or instrument relating thereto including, without limitation, any obligation to any Obligors. (c) In connection with the sale of the Purchased Assets, the Seller agrees (i) to record and file, at its own expense, any financing statements (and continuation statements with respect to such financing statements when applicable) with respect to the Purchased Assets, meeting the requirements of applicable state law in such manner and in such jurisdictions as are necessary to perfect, and maintain the perfection of, the sale of the Purchased Assets from the Seller to the Buyer on and after the Closing Date, (ii) that such financing statements shall name the Seller, as seller, and the Buyer, as purchaser, of the Purchased Assets and (iii) to deliver a file-stamped copy of such financing statements or other evidence of such filings (excluding continuation statements, which shall be delivered as filed) to the Buyer on or prior to the Closing Date, in the case of the Original Contracts and (if any additional filing is necessary) on or prior to the related Subsequent Purchase Date, in the case of Subsequent Contracts. -4- (d) In connection with the sale of the Purchased Assets, the Seller further agrees that it will, at its own expense, indicate clearly and unambiguously in its computer files, on or prior to the Closing Date in the case of the Original Contracts and on or prior to the related Subsequent Purchase Date in the case of each Subsequent Contract, that such Contracts have been sold to the Buyer pursuant to this Agreement. The Seller further agrees to deliver to the Buyer (i) on the Closing Date, a computer file or microfiche list containing a true and complete list of all Original Contracts, identified by account number and Outstanding Balance as of the Cut Off Date and (ii) on any Subsequent Purchase Date with respect to Subsequent Contracts, a computer file or microfiche list containing a true and complete list of all Subsequent Contracts transferred on such date identified by account number and Outstanding Balance as of the related Additional Cut Off Date. Such file or list shall be marked as Schedule I to this Agreement, shall be delivered to the Buyer as confidential and proprietary, and is hereby incorporated into and made a part of this Agreement. (e) It is the intention of the parties hereto that the conveyance of the Contracts and the other Purchased Assets by the Seller to the Buyer as provided in this Section 2.1 be, and be construed as, an absolute sale, without recourse, of the Contracts and the other Purchased Assets by the Seller to the Buyer. Furthermore, it is not intended that such conveyance be deemed a pledge of the Contracts and the other Purchased Assets by the Seller to the Buyer to secure a debt or other obligation of the Seller. If, however, notwithstanding the intention of the parties, the conveyance provided for in this Section 2.1 is determined to be a transfer for security, then this Agreement shall also be deemed to be a "security agreement" within the meaning of Article 9 of the UCC and the Seller hereby grants to the Buyer a "security interest" within the meaning of Article 9 of the UCC in all of the Seller's right, title and interest in and to the Contracts and the other Purchased Assets, now existing and hereafter created, to secure a loan in an amount equal to the aggregate Purchase Price and each of the Seller's other payment obligations under this Agreement. Section 2.2 Subsequent Contracts. (a) The Seller shall on or prior to any Subsequent Purchase Date with respect to any Contracts execute and deliver to the Buyer a written assignment from Seller to the Buyer substantially the form of Exhibit A hereto. From and after such Subsequent Purchase Date, such Subsequent Contracts shall be deemed to be Contracts hereunder. (a) Covenants of the Seller In Connection With Additions. On or before any Subsequent Purchase Date with respect to any Contracts acquired by the Buyer as described in subsection 2.1(b), the Seller shall: (i) clearly indicate in its files that such Contracts have been sold to the Buyer and deliver to the Buyer a computer file or microfiche list which the Seller shall represent to contain a true and complete list of such Subsequent Contracts, identified by account number as of the related Cut Off Date, which computer file or microfiche list shall be as of such date incorporated into and made apart of this Agreement; -5- (ii) provide the Buyer with an Officer's Certificate certifying as follows: (A) each such Contract was, as of the related Subsequent Purchase Date, an Eligible Contract, (B) no selection procedures believed by the Seller to be materially adverse to the interest of the Buyer were utilized in selecting such Contracts from the available Eligible Contracts in the Seller's portfolio, (C) such Contracts and all proceeds thereof will be conveyed to the Buyer free and clear of any Lien of any Person claiming through or under the Seller or any of its Affiliates, except for Liens permitted hereunder and (D) as of the related Subsequent Purchase Date, (x) no Insolvency Event with respect to the Seller has occurred, (y) the Buyer is not insolvent and (z) the sale of such Contracts to the Buyer has not been made in contemplation of the occurrence of any Insolvency Event with respect to the Seller, and (E) as of the related Subsequent Purchase Date, no Restricting Event with respect to the Seller has occurred; (iii) record and file financing statements with respect to such Contracts meeting the requirements of applicable state law in such manner and in such jurisdictions as are necessary to perfect the sale of such Contracts by the Seller to the Buyer. ARTICLE III PURCHASE PRICE AND PAYMENT; MONTHLY REPORT Section 3.1 Purchase Price. The purchase price for each Contract sold to the Buyer by the Seller under this Agreement (the "Purchase Price") shall be a dollar amount equal to the sum of a Residual Value and (b) Discounted Contract Balance determined as of the related Cut Off Date. Section 3.2 Payment of Purchase Price. (a) Each Purchase Price payment shall be paid on the date of such Purchase by the Purchaser to the Seller in the manner provided below: (i) in cash, in an amount equal to the lesser of (A) the amount (such amount being referred to herein as the "Available Funds") of funds available to the Purchaser on the date of such Purchase pursuant to the terms of the Receivables Purchase Agreement and (B) the aggregate Purchase Price of such Contracts; and (ii) to the extent that the aggregate Purchase Price of Contracts to be sold to the Buyer on any day exceeds (such excess being hereinafter referred to as the "Excess Amount") the amount of the cash payment in (i)(A) above, such excess shall be paid (A) on the Closing Date, by the issuance to the Seller of the Seller Note in a principal amount equal to the Excess Amount as of the Closing Date and (B) on each Subsequent Purchase Date, by increasing the principal balance of the Seller Note by an amount equal to the Excess Amount for such Purchase Date. -6- (b) Unless otherwise specified herein, all payments of the Purchase Price of any Contract sold hereunder shall be made not later than 3:00 p.m. (New York City time) on the date specified therefor in lawful money of the United States of America in same day funds by depositing such amounts in the bank account designated in writing by the Seller to the Purchaser. (c) The Seller Note shall bear interest at a rate per annum equal, from time to time, to the Seller Note Interest Rate. ARTICLE IV REPRESENTATIONS AND WARRANTIES Section 4.1 Seller's Representations and Warranties. The Seller hereby represents and warrants to the Buyer, as of the Closing Date and each Subsequent Purchase Date, that: (a) Organization and Good Standing. The Seller is a corporation duly organized and validly existing in good standing under the laws of the jurisdiction of its formation and has full corporate power, authority and legal right to own its properties and conduct its business as such properties are presently owned and as such business is presently conducted and to execute, deliver and perform its obligations under this Agreement and each other document or instrument to be delivered by the Seller hereunder (collectively, the "Sale Papers"). (b) Due Qualification. The Seller is duly qualified to do business and is in good standing as a foreign corporation (or is exempt from such requirements), and has obtained all necessary licenses and approvals, in each jurisdiction in which failure to so qualify or to obtain such licenses and approvals would have a material adverse effect on its ability to perform its obligations hereunder or under the Sale Papers. (c) Due Authorization. The execution and delivery of this Agreement and each of the Sale Papers, and the consummation of the transactions provided for herein and therein have been duly authorized by the Seller by all necessary corporate action on the part of the Seller. (d) No Conflict. The execution and delivery of this Agreement and each of the Sale Papers, the performance of the transactions contemplated hereby and thereby and the fulfillment of the terms hereof and thereof, will not conflict with, result in any breach of any of the material terms and provisions of, or constitute (with or without notice or lapse of time or both) a material default under, any material indenture, contract, agreement, mortgage, deed of trust, or other instrument to which the Seller is a party or by which it or any of its property is bound. -7- (e) No Violation. The execution and delivery of this Agreement and each of the Sale Papers, the performance of the transactions contemplated hereby and thereby and the fulfillment of the terms hereof and thereof (including, without limitation, the sale of Purchased Assets by the Seller or remittance of Collections in accordance with the provisions of this Agreement), will not conflict with or violate, in any material respect, any Requirements of Law applicable to the Seller. (f) No Proceedings. There are no proceedings or investigations pending or, to the best knowledge of the Seller, threatened against the Seller before any court, regulatory body, administrative agency, or other tribunal or governmental instrumentality (i) asserting the invalidity of this Agreement or any of the Sale Papers, (ii) seeking to prevent the consummation of any of the transactions contemplated by this Agreement or any of the Sale Papers, or (iii) seeking any determination or ruling that could reasonably be expected to be adversely determined, and if adversely determined, would materially and adversely affect the performance by the Seller of its obligations under this Agreement or any of the Sale Papers. (g) All Consents Required. All approvals, authorizations, consents, orders or other actions of any Person or of any Governmental Authority required in connection with the execution and delivery of this Agreement and the Sale Papers, the performance of the transactions contemplated by this Agreement and the Sale Papers and the fulfillment of or terms hereof and thereof, have been obtained. (h) Bulk Sales. The execution, delivery and performance of this Agreement do not require compliance with any "bulk sales" law by the Seller. (i) Solvency. The transactions contemplated under this Agreement and the Sale Papers do not and will not render the Seller insolvent. (j) Selection Procedures. No selection procedures believed by the Seller to be materially adverse to the interests of the Buyer were utilized by the Seller in selecting the Contracts to be sold, assigned, transferred, set-over and otherwise conveyed hereunder. (k) Use of Proceeds. No proceeds of the sale of any Contract hereunder received by the Seller will be used by the Seller to purchase or carry any margin security. (l) Not an Investment Company. The Seller is not an "investment company" within the meaning of the Investment Company Act of 1940, as amended, or is exempt from all provisions of such Act. (m) Other Names. The legal name of the Seller is as set forth in this Agreement and within the preceding five years the Seller has not used, and the Seller currently does not use, any tradenames, fictitious names, assumed names or "doing business as" names other than those set forth on Schedule II hereto. -8- (n) Taxes. The Seller has filed or caused to be filed all tax returns which, to its knowledge, are required to be filed and has paid all taxes shown to be due and payable on such returns or on any assessments made against it or any of its property and all other taxes, fees or other charges imposed on it or any of its property by any Governmental Authority (other than any amount of tax due the validity of which is currently being contested in good faith by appropriate proceedings and with respect to which reserves in accordance with generally accepted accounting principles have been provided on the books of the Seller); no tax lien has been filed and, to the Seller's knowledge, no claim is being asserted, with respect to any such tax, fee or other charge. (o) Place of Business. The principal executive offices of the Seller are in Ambler, Pennsylvania and the offices where the Seller keeps its records concerning the Contracts are in Ambler, Pennsylvania. (p) No Liens. Each Purchased Asset, together with the Contract related thereto, shall, at all times, be owned by the Seller free and clear of any Lien except as provided herein, and upon the sale, transfer or assignment hereunder, the Buyer shall acquire a valid and perfected first priority undivided ownership interest in each Purchased Asset then existing or thereafter arising and in the Collections with respect thereto, free and clear of any Lien except as provided herein. No effective financing statement or other instrument similar in effect covering any Purchased Asset or the Collections with respect thereto shall at any time be on file in any recording office except such as may be filed in favor of the Buyer relating to this Agreement. (q) Special Purpose Entity. The Seller agrees that, for a period of one year and one day after the Aggregate Unpaids have been paid in full, the Seller will not cause the Buyer to file a voluntary petition or institute, cause to be instituted or join in any involuntary petition or proceeding under the Bankruptcy Code or any other bankruptcy or insolvency laws. Each of the Buyer and the Seller is aware that in light of the circumstances described in the preceding sentence and other relevant facts, the filing of a voluntary petition under the Bankruptcy Code for the purpose of making the assets of the Buyer available to satisfy claims of the creditors of the Seller would not result in making such assets available to satisfy such creditors under the Bankruptcy Code. (r) Security Interest. The Seller has granted a security interest (as defined in the UCC) to the Buyer in the Purchased Assets and Collections, which is enforceable in accordance with the UCC upon execution and delivery of this Agreement. Upon the filing of UCC-1 financing statements naming the Buyer as secured party and the Seller as debtor, the Buyer shall have a first priority perfected security interest in the Purchased Assets and Collections. All filings (including, without limitation, such UCC filings) as are necessary in any jurisdiction to perfect the interest of the Buyer in the Purchased Assets and Collections have been (or prior to the applicable purchase hereunder will be) made; provided, however, that filings as to related Equipment have been (or prior to the applicable purchase hereunder will be) made solely in the Filing Locations and such Equipment filings have been (or prior to the applicable purchase hereunder will be) made by filing in each such Filing Location one financing statement listing all Equipment, without the necessity of making individual filings for each item of Equipment. -9- (s) Accounting. The Seller will account for the transfers by it to the Buyer of interests in Purchased Assets and Collections under this Agreement as sales of such Purchased Assets in its books, records and financial statements, in each case consistent with GAAP, as applicable, and with the requirements set forth herein. (t) Separate Entity. The Buyer is operated as an entity with assets and liabilities distinct from those of the Seller and any Affiliates thereof, and the Seller hereby acknowledges that the Deal Agent and the Purchasers under the Receivables Purchase Agreement are entering into the transactions contemplated by the Receivables Purchase Agreement in reliance upon the Buyer's identity as a separate legal entity from the Seller and from each such Affiliate of the Seller. (u) Value Given. The cash payments received by the Seller in respect of the Purchase Price of each Contract sold hereunder constitutes reasonably equivalent value in consideration for the transfer to the Buyer of such Contract under this Agreement, such transfer was not made for or on account of an antecedent debt owed by the Seller to the Buyer, and such transfer was not and is not voidable or subject to avoidance under any section of the Bankruptcy Code. (v) Reports Accurate. No report (if prepared by the Seller, or to the extent that information contained therein is supplied by the Seller), information, exhibit, financial statement, document, book, record or report furnished or to be furnished by the Seller to the Buyer in connection with this Agreement is or will be inaccurate in any material respect as of the date it is or shall be dated or (except as otherwise disclosed to the Buyer at such time) as of the date so furnished, and no such document contains or will contain any material misstatement of fact or omits or shall omit to state a material fact or any fact necessary to make the statements contained therein not misleading. (w) Exchange Act Compliance. No proceeds of the sale of any Purchased Assets will be used by the Seller to acquire any security in any transaction which is subject to Section 13 or 14 of the Securities Exchange Act of 1934, as amended. (x) Accuracy of Representations and Warranties. Each representation or warranty by the Seller contained herein or in any certificate or other document furnished by the Seller pursuant hereto or in connection herewith is true and correct in all material respects. The representations and warranties set forth in this Section 4.1 shall survive the sale, transfer and assignment of the Purchased Assets to the Buyer. Upon discovery by the Seller or the Buyer of a breach of any of the foregoing representations and warranties, the party discovering such breach shall give prompt written notice thereof to the other and to the Deal Agent immediately upon obtaining knowledge of such breach. -10- Section 4.2 Seller's Representations and Warranties Regarding the Agreement and the Contracts. The Seller hereby represents and warrants to the Buyer, as of the Closing Date and each Subsequent Purchase Date that: (a) Binding Obligation; Valid Transfer and Security Interest. (i) This Agreement and each of the Sale Papers constitutes a legal, valid and binding obligation of the Seller, enforceable against the Seller in accordance with its terms, except as such enforceability may be limited by Insolvency Laws and except as such enforceability may be limited by general principles of equity (whether considered in a suit at law or in equity) or by an implied covenant of good faith and fair dealing. (ii) This Agreement constitutes a valid transfer to the Buyer of all right, title and interest of the Seller in, to and under the Purchased Assets, and such transfer will be free and clear of any Lien of any Person claiming through or under the Seller or its Affiliates, except for Permitted Liens. Upon the filing of the financing statements described in Section 4.1(r) and, in the case of Subsequent Contracts on the applicable Subsequent Purchase Date, the Buyer shall have a first priority perfected security interest in such property, subject only to Permitted Liens. (b) Eligibility of Contracts. As of the Cut Off Date, (i) the Contract List and the computer file or microfiche or written list delivered in connection therewith is an accurate and complete listing in all material respects of all the Contracts transferred hereunder as of the Cut Off Date and the information contained therein with respect to the identity of such Contracts and the amounts owing thereunder is true and correct in all material respects as of the Cut Off Date, (ii) each such Contract is an Eligible Contract, (iii) each such Contract and the Seller's interest in the related Equipment and Applicable Security, as appropriate, has been transferred to the Buyer free and clear of any Lien of any Person (other than Permitted Liens) and in compliance, in all material respects, with all Requirements of Law applicable to the Seller and (iv) with respect to each such Contract, all material consents, licenses, approvals or authorizations of or registrations or declarations with any Governmental Authority required to be obtained, effected or given by the Seller in connection with the transfer of such Contract and the related Equipment to the Buyer have been duly obtained, effected or given and are in full force and effect. On each Subsequent Purchase Date on which Subsequent Contracts are transferred by the Seller to the Buyer, the Seller shall be deemed to represent and warrant to the Buyer that (I) each Subsequent Contract transferred on such day is an Eligible Contract, (II) each such Subsequent Contract and the Seller's interest in the related Equipment, as appropriate, has been transferred to the Buyer free and clear of any Lien of any Person (other than Permitted Liens) and in compliance, in all material respects, with all Requirements of Law applicable to the Seller or the originator thereof, (III) with respect to each such Subsequent Contract, all material consents, licenses, approvals or authorizations of or registrations or declarations with any Governmental Authority required to be obtained, effected or given by the Seller in connection with the transfer of such Contract and the related Equipment to the Buyer have been duly obtained, effected or given and are in full force and effect and (IV) the representations and warranties set forth in Section 4.2(b) clauses (i) through (iv), inclusive, are true and correct with respect to each Contract transferred on such day as if made on such day. -11- (c) Notice of Breach. The representations and warranties set forth in this Section 4.2 shall survive the transfer and assignment of the respective Contracts and Related Equipment, or interests therein, to the Buyer. Upon discovery by the Seller or the Buyer of a breach of any of the foregoing representations and warranties, the party discovering such breach shall give written notice thereof to the other and to the Deal Agent under the Receivables Purchase Agreement immediately upon obtaining knowledge of such breach. Section 4.3 Representations and Warranties of the Buyer. The Buyer hereby represents and warrants to the Seller, as of the Closing Date and each Subsequent Purchase Date, that: (a) Organization and Good Standing. The Buyer is a corporation duly organized and validly existing in good standing under the laws of the State of Delaware, and has full corporate power, authority and legal right to own its properties and conduct its business as such properties are presently owned and such business is presently conducted, and to execute, deliver and perform its obligations under this Agreement and each of the Sale Papers. (b) Due Qualification. The Buyer is duly qualified to do business and is in good standing as a foreign corporation (or is exempt from such requirements), and has obtained or will obtain all necessary licenses and approvals, in each jurisdiction in which failure to so qualify or to obtain such licenses and approvals would have a material adverse effect on its ability to perform its obligations hereunder or under the Sale Papers. (c) Due Authorization. The execution and delivery of this Agreement and each of the Sale Papers and the consummation of the transactions provided for herein or therein have been duly authorized by the Buyer by all necessary corporate action on the part of the Buyer. (d) No Conflicts. The execution and delivery of this Agreement and each of the Sale Papers, the performance of the transactions contemplated hereby or thereby and the fulfillment of the terms hereof and thereof will not conflict with, result in any breach of any of the material terms and provisions of, or constitute (with or without notice or lapse of time or both) a material default under, any material indenture, contract, agreement, mortgage, deed of trust, or other instrument to which the Buyer is a party or by which it or any of its property is bound. (e) No Violation. The execution and delivery of this Agreement and each of the Sale Papers, the performance of the transactions contemplated hereby and thereby, and the fulfillment of the terms hereof and thereof (including, without limitation, the purchase of Purchased Assets by the Buyer in accordance with the provisions of this Agreement) will not conflict with or violate, in any material respect, any Requirements of Law applicable to the Buyer. -12- (f) No Proceedings. There are no proceedings or investigations pending or, to the best knowledge of the Buyer, threatened against the Buyer, before any court, regulatory body, administrative agency, or other tribunal or governmental instrumentality (i) asserting the invalidity of this Agreement or any of the Sale Papers, (ii) seeking to prevent the consummation of any of the transactions contemplated by this Agreement or any of the Sale Papers, or (iii) seeking any determination or ruling that could reasonably be expected to be adversely determined, and if adversely determined, would materially and adversely affect the performance by the Buyer of its obligations under this Agreement or any of the Sale Papers. ARTICLE V COVENANTS Section 5.1 Seller Covenants. The Seller hereby covenants with respect to each Contract, that: (a) Compliance with Laws; Preservation of Corporate Existence. The Seller will comply in all material respects with all applicable laws, rules, regulations and orders and preserve and maintain its corporate existence, rights, franchises, qualifications and privileges. (b) Contracts Not to be Evidenced by Promissory Notes. Except to the extent the provisions of Section 6.4 are satisfied, the Seller will take no action to cause any Contract which is not, as of the Closing Date or the related Subsequent Purchase Date, as the case may be, evidenced by an Instrument, to be so evidenced except in connection with the enforcement or collection of such Contract. (c) Security Interests. Except for the transfers hereunder, the Seller will not sell, pledge, assign or transfer to any other Person, or grant, create, incur, assume or suffer to exist any Lien on any Contract transferred hereunder or related Equipment, whether now existing or hereafter transferred hereunder, or any interest therein, and Seller will not sell, pledge, assign or suffer to exist any Lien on its interest, if any, hereunder, other than Liens arising by operation of law in the ordinary course of business for sums not due and which are released or extinguished within fifteen (15) days (or such longer period as the Buyer may approve in its sole discretion) of the Seller becoming aware thereof. The Seller will immediately notify the Buyer of the existence of any Lien on any Contract transferred hereunder or related Equipment; and the Seller shall defend the right, title and interest of the Buyer in, to and under the Contracts transferred hereunder and the related Equipment, against all claims of third parties; provided, however, that nothing in this Section 5.1(c) shall prevent or be deemed to prohibit the Seller from suffering to exist Permitted Liens upon any of the Contracts transferred hereunder or any related Equipment. (d) Delivery of Collections. The Seller agrees to pay to the Buyer promptly (but in no event later than two Business Days after receipt) all Collections received by the Seller in respect of the Contracts transferred hereunder. -13- (e) Compliance with Law. The Seller hereby agrees to comply in all material respects with all Requirements of Law applicable to the Seller, the Contracts and the Equipment. (f) Activities of the Seller. The Seller shall not engage in any business or activity of any kind with the Buyer, or enter into any transaction or indenture, mortgage, instrument, agreement, contract, lease or other undertaking with the Buyer, which is not directly related to the transactions contemplated and authorized by this Agreement, the Receivables Purchase Agreement and the Certificate of Incorporation of the Buyer. (g) Guarantees. The Seller shall not become or remain liable, directly or contingently, in connection with any Indebtedness or other liability of the Buyer, whether by guarantee, endorsement (other than endorsements of negotiable instruments for deposit or collection in the ordinary course of business), agreement to purchase or repurchase, agreement to supply or advance funds, or otherwise. (h) Merger; Sales. The Seller shall not enter into any transaction of merger or consolidation, or liquidate or dissolve itself (or suffer any liquidation or dissolution), or acquire or be acquired by any Person, or convey, sell, lease or otherwise dispose of all or substantially all of its property or business, except as provided for in this Agreement. (i) Location of Seller, Records; Instruments. The Seller (x) shall not move outside the Commonwealth of Pennsylvania, the location of its chief executive office, without 30 days' prior written notice to the Buyer and the Deal Agent and (y) shall not move the location of the Contract Files from the locations thereof on the Closing Date, without 30 days' prior written notice to the Buyer and the Deal Agent and (z) will promptly take all actions required (including, but not limited to, all filings and other acts necessary or advisable under the UCC, if applicable, of each relevant jurisdiction in order to continue the first priority perfected security interest of the Buyer in all Contracts transferred hereunder. The Seller will give the Buyer and the Deal Agent prompt notice of a change within the Commonwealth of Pennsylvania of the location of its chief executive office. (j) Accounting of Purchases. The Seller will not account for or treat (whether in financial statements or otherwise) the transactions contemplated hereby in any manner other than the sale of Purchased Assets by the Seller to the Buyer. (k) ERISA Matters. The Seller will not (a) engage in any prohibited transaction for which an exemption is not available or has not previously been obtained from the United States Department of Labor; (b) permit to exist any accumulated funding deficiency, as defined in Section 302(a) of ERISA and Section 412(a) of the Code, or funding deficiency with respect to any Benefit Plan other than a Multiemployer Plan; (c) fail to make any payments to an Multiemployer Plan that the Seller may be required to make under the agreement relating to such Multiemployer Plan or any law pertaining thereto; (d) terminate any Benefit Plan so as to result in any liability; or (e) permit to exist any occurrence of any reportable event described in Title IV of ERISA which represents a material risk of a liability of the Seller under ERISA or the Code. -14- (l) Nature of Business. The Seller will engage in no business with the Buyer other than the sale and transfer of Purchased Assets hereunder and the other transactions permitted or contemplated by this Agreement. (m) Change in the Purchase and Sale Agreement. The Seller will not amend, modify, waive or terminate any terms or conditions of this Agreement except as provided herein. ARTICLE VI REPURCHASE OBLIGATION Section 6.1 Retransfer of Ineligible Contracts. In the event of a breach of any representation or warranty set forth in Section 4.2 with respect to a Contract transferred hereunder (each such Contract, an "Ineligible Contract"), no later than 30 days after the earlier of (i) knowledge of such breach on the part of the Seller and (ii) receipt by the Seller of written notice thereof given by the Buyer, the Seller shall accept a retransfer of each such Contract (and any related Equipment or Applicable Security) selected by the Buyer to which such breach relates at such time as there is a breach of any such representation or warranty on the terms and conditions set forth below; provided, however, that no such retransfer shall be required to be made with respect to such Ineligible Contract (and such Contract shall cease to be an Ineligible Contract) if, on or before the expiration of such 30-day period, the representations and warranties in Section 4.2 with respect to such Contract shall be made true and correct in all material respects with respect to such Contract as if such Contract had been transferred to the Buyer on such day. Notwithstanding anything contained in this Section 6.1 to the contrary, in the event of breach of any representation and warranty set forth in Section 4.2, with respect to each Original Contract or Subsequent Contract and the related Equipment having been conveyed to the Buyer free and clear of any Lien of any Person claiming through or under the Seller and its Affiliates (other than Permitted Liens) and in compliance in all material respects, with all Requirements of Law applicable to the Seller, immediately upon the earlier to occur of the discovery of such breach by the Seller or receipt by the Seller of written notice of such breach given by the Buyer, the Seller shall repurchase and the Buyer shall convey, free and clear of any Lien created pursuant to this Agreement, all of its right, title and interest in such Ineligible Contract, and the Buyer shall, in connection with such conveyance and without further action, be deemed to represent and warrant that it has the corporate authority and has taken all necessary corporate action to accomplish such conveyance, but without any other representation or warranty, express or implied. In any of the foregoing instances, the Seller shall accept a retransfer of each such Ineligible Contract, and there shall be deducted from the ADCB of the Asset Pool the Discounted Contract Balance (calculated using the Blended Discount Rate as of the most recent Determination Date) of each such Ineligible Contract. On and after the date of such retransfer, each Ineligible Contract so retransferred shall not be included in the pool of Purchased Assets. In consideration of such retransfer the Seller shall, on the date of retransfer of such Ineligible Contract, make a deposit in the Collection Account (for -15- allocation pursuant to Section 2.7, 2.8 or 2.9 of the Receivables Purchase Agreement, as applicable,) in immediately available funds in an amount equal to the Discounted Contract Balance, plus interest thereon from the most recent Payment Date to and including the date of repurchase at a rate per annum equal to the weighted average of the Yield Rates. Upon each retransfer to the Seller of such Ineligible Contract, the Buyer shall automatically and without further action be deemed to transfer, assign and set-over to the Seller, free and clear of any Lien created pursuant to this Agreement, all the right, title and interest of the Buyer in, to and under such Contract and all monies due or to become due with respect thereto, the related Equipment and all proceeds of such Contract and Liquidation Proceeds and Insurance Proceeds relating thereto and all rights to security for any such Contract, and all proceeds and products of the foregoing, and the Buyer shall, in connection with such transfer, assignment and set-over and without further action, be deemed to represent and warrant that it has the corporate authority and has taken all necessary corporate action to accomplish such transfer, assignment and set-over, but without any other representation or warranty, express or implied.. The Buyer shall, at the sole expense of the Seller, execute such documents and instruments of transfer as may be prepared by the Seller and take such other actions as shall reasonably be requested by the Seller to effect the transfer of such Ineligible Contract pursuant to this Section 6.1. Section 6.2 Retransfer of Purchased Assets. In the event of a breach of any of the representations and warranties set forth in Section 4.2 hereof affecting the Contracts, which breach could reasonably be expected to have a material adverse affect on the rights of the Purchasers under the Receivables Purchase Agreement or the Deal Agent as agent for the Purchasers under the Receivables Purchase Agreement under the Receivables Purchase Agreement or on the ability of the Buyer to perform its obligations under the Receivables Purchase Agreement, the Buyer, by notice then given in writing to the Seller may direct the Seller to accept retransfer of all of the Contracts purchased from the Seller and the Seller shall be obligated to accept retransfer of such Contracts on a Payment Date specified by the Seller (such date, the "Retransfer Date") after such notice on the terms and conditions set forth below; provided, however, that no such retransfer shall be required to be made if, on or before expiration of such applicable period, the representations and warranties contained in Section 4.2 shall then be true and correct in all material respects. The Seller shall deposit on the Retransfer Date an amount equal to the deposit amount provided in the next sentence for such Contracts in the Collection Account for distribution to the Purchasers under the Receivables Purchase Agreement. The deposit amount for such retransfer will be equal to (x) the sum of (i) the outstanding Capital at the end of the Business Day preceding the Payment Date on which the retransfer is scheduled to be made and (ii) an amount equal to all accrued, and to accrue, but unpaid Yield on such Capital at the applicable Yield Rate through the latest maturing Fixed Period minus (y) the amount, if any, available in the Collection Account on such Payment Date. On the Retransfer Date, provided that such amount has been deposited in full into the Collection Account, the Contracts transferred hereunder (or security interests therein) and all monies due or to become due with respect thereto, the related Equipment (or security interests therein) and all proceeds thereof, all rights to security for any such Contracts, and all proceeds and products of the foregoing, shall be transferred to the Seller, and the Buyer shall, at the sole expense of the Seller, execute and deliver such instruments of transfer, -16- in each case without recourse, representation or warranty, as shall be prepared and reasonably requested by the Seller to vest in the Seller, or its designee or assignee, all right, title and interest of the Buyer in, to and under the Contracts transferred hereunder, all monies due or to become due with respect thereto, the related Equipment and all proceeds thereof and Insurance Proceeds relating thereto. Section 6.3 Adjustments. The Seller hereby agrees that, with respect to each Contract transferred hereunder which provides for any payment constituting a Prepayment, which amount is less than an amount equal to the aggregate remaining Scheduled Payments related to such Contract, the Seller shall indemnify the Buyer in an amount equal to the amount equal to the aggregate remaining Scheduled Payments related to such Contract. Section 6.4 Substitution of Contracts. On any day prior to the occurrence of the Termination Date, the Buyer may, in its sole discretion, by written notice to the Seller, request that any Contract be replaced by one or more other Contracts (each, a "Substitute Contract"), provided that no such replacement shall occur unless each of the following conditions is satisfied as of the date of such replacement and substitution: (a) the Seller has previously recommended to the Buyer in writing that the Contract to be replaced should be replaced (each, a "Replaced Contract"); (b) each Substitute Contract is an Eligible Contract on the date of such substitution; (c) after giving effect to any such substitution, the aggregate of all outstanding Capital does not exceed the lesser of (A) the Purchase Limit and (B) the Capital Limit; (d) such Substitute Contracts, at the time of substitution by the Seller, shall have approximately the same weighted average life as the remaining Scheduled Payments of Assets in the Asset Pool and shall not materially exceed the last Scheduled Payment of any Asset in the Asset Pool; (e) all representations and warranties of the Seller contained in Section 5.1 and 5.2 shall be true and correct as of the date of substitution of any such Substitute Contract; (f) the substitution of any Substitute Contract does not cause a Payout Event to occur under the Receivables Purchase Agreement; and (g) the Seller shall deliver to the Deal Agent on the date of such substitution a certificate of a Responsible Officer certifying that each of the foregoing is true and correct as of such date. -17- In connection with any such substitution, the Buyer shall, automatically and without further action, be deemed to transfer to the Seller, free and clear of any Lien created pursuant to this Agreement, all of the right, title and interest of the Buyer in, to and under such Replaced Contract, and the Buyer shall be deemed to represent and warrant that it has the corporate authority and has taken all necessary corporate action to accomplish such transfer, but without any other representation or warranty, express or implied. Any right of the Buyer to substitute any Contract pursuant to this Section 6.5 shall be in addition to, and without limitation of, any other rights or remedies that the Buyer may have to require the Seller to substitute for, or accept retransfer of, any Contract pursuant to the terms of this Agreement. ARTICLE VII CONDITIONS PRECEDENT Section 7.1 Conditions to the Buyer's Obligations Regarding Contracts. The obligations of the Buyer to purchase Purchased Assets from the Seller on the Closing Date and on any Subsequent Purchase Date shall be subject to the satisfaction of the following conditions: (a) all representations and warranties of the Seller contained in Sections 4.1 and 4.2 shall be true and correct on and as of such day as though made on and as of such date; (b) on and as of such day, the Seller shall have performed all obligations required to be performed by it on or prior to such day pursuant to the provisions of this Agreement; (c) no event has occurred and is continuing, or would result from such purchase which constitutes a Payout Event under the Receivables Purchase Agreement; (d) no law or regulation shall prohibit, and no order, judgment or decree of any federal, state or local court or governmental body, agency or instrumentality shall prohibit or enjoin, the making of any such purchase by the Buyer in accordance with the provisions hereof; and (e) all corporate and legal proceedings and all instruments in connection with the transactions contemplated by this Agreement shall be satisfactory in form and substance to the Buyer, and the Buyer shall have received from the Seller copies of all documents (including, without limitation, records of corporate proceedings, approvals and opinions) relevant to the transactions herein contemplated as the Buyer may reasonably have requested. -18- ARTICLE VIII TERM AND TERMINATION Section 8.1 Termination. This Agreement shall commence as of the date of execution and delivery hereof and shall continue in full force and effect until the occurrence of the Collection Date pursuant to the Receivables Purchase Agreement; provided, however, that the termination of this Agreement pursuant to this Section 8.1 shall not discharge any Person from obligations incurred prior to any such termination of this Agreement, including, without limitation, any obligations to repurchase Contracts sold prior to such termination pursuant to Section 6.1 or 6.2 hereof, or to make the payments required under Section 6.3 hereof. ARTICLE IX MISCELLANEOUS PROVISIONS Section 9.1 Amendment. This Agreement and any other Sale Papers and the rights and obligations of the parties hereunder may not be amended, waived or changed orally, but only by an instrument in writing signed by the Buyer and the Seller, with the prior written consent of the Deal Agent. The Buyer shall provide not less than 10 Business Days prior written notice of any such amendment to the Deal Agent. Section 9.2 Governing Law. THIS AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK. EACH OF THE PARTIES HERETO HEREBY AGREES TO THE JURISDICTION OF ANY FEDERAL COURT LOCATED WITHIN THE STATE OF NEW YORK. EACH OF THE PARTIES HERETO HEREBY WAIVES ANY OBJECTION BASED ON FORUM NON CONVENIENS, AND ANY OBJECTION TO VENUE OF ANY ACTION INSTITUTED HEREUNDER IN ANY OF THE AFOREMENTIONED COURTS AND CONSENTS TO THE GRANTING OF SUCH LEGAL OR EQUITABLE RELIEF AS IS DEEMED APPROPRIATE BY SUCH COURT. Section 9.3 Notices. All demands, notices and communications hereunder shall be in writing and shall be deemed to have been duly given if personally delivered at or mailed by registered mail, return receipt requested, to: -19- (a) in the case of the Buyer, to: SW Leasing Portfolio IV, Inc. 3000 Mellon Bank Center 1735 Market Street Philadelphia, Pennsylvania 19103 Attn: President Facsimile No.: (215) 575-7640 Confirmation No.: (215) 575-0500 (b) in the case of the Seller, to: Fidelity Leasing, Inc. Seven East Skippack Pike Ambler, PA 19002 Attn: David H. English Facsimile No.: (215) 619-2830 Confirmation No.: (215) 643-6300 (c) in the case of the Deal Agent, to: First Union Capital Markets Corp. One First Union Center, TW-6 Charlotte, North Carolina 28288 Attn: Conduit Administrator Facsimile No.: (704) 383-6036 Confirmation No.: (704) 383-9343 or, as to each party, at such other address as shall be designated by such party in a written notice to each other party. Section 9.4 Severability of Provisions. If any one or more of the covenants, agreements, provisions or terms of this Agreement or any of the Sale Papers shall for any reason whatsoever be held invalid, then such covenants, agreements, provisions, or terms shall be deemed severable from the remaining covenants, agreements, provisions, or terms of this Agreement and the Sale Papers and shall in no way affect the validity or enforceability of the other provisions of this Agreement or any of the Sale Papers. Section 9.5 Assignment. (a) Notwithstanding anything to the contrary contained herein, this Agreement may not be assigned by the Buyer or the Seller except as permitted by this Section 9.5 or by the Receivables Purchase Agreement. Simultaneously -20- with the execution and delivery of this Agreement, the Buyer shall assign all of its right, title and interest herein (to the extent of the aggregate Asset Interests) to the Deal Agent as agent for the Purchasers under the Receivables Purchase Agreement as provided in the Receivables Purchase Agreement, to which assignment the Seller hereby expressly consents. The Seller agrees to perform its obligations hereunder for the benefit of the Deal Agent as agent for the Purchasers under the Receivables Purchase Agreement and the Deal Agent, as agent for the Purchasers under the Receivables Purchase Agreement under the Receivables Purchase Agreement shall be a third party beneficiary hereof. The Deal Agent as agent for the Purchasers under the Receivables Purchase Agreement may enforce the provisions of this Agreement, exercise the rights of the Buyer and enforce the obligations of the Seller hereunder as provided in of the Receivables Purchase Agreement. This Agreement may not be assigned by the Seller except in connection with a merger or consolidation of the Seller with or into, or disposition of the Seller's properties and assets to, another Person, provided, however, that any such merger, consolidation or disposition shall satisfy the requirements of Section 9.14, upon not less than 10 Business Days' prior written notice to the Buyer and the Deal Agent. (b) In connection with any permitted assignment of this Agreement by the Seller, the Seller shall deliver to the Buyer and the Deal Agent an Officer's Certificate that such assignment complies with this Section 9.5, and shall cause such assignee to execute an agreement supplemental hereto, in form and substance satisfactory to the Seller, pursuant to which such assignee shall expressly assume and agree to the performance of every covenant and obligation of the Seller hereunder, to provide for the delivery of an Opinion of Counsel that such supplemental agreement is legal, valid and binding with respect to such assignee, and to take such other actions and execute such other instruments as may reasonably be required to effectuate such assignment. Section 9.6 Further Assurances. the Buyer and the Seller agree to do and perform, from time to time, any and all acts and to execute any and all further instruments required or reasonably requested by the other party more fully to effect the purposes of this Agreement and the Sale Papers, including, without limitation, the execution of any financing statements, continuation statements, termination statements, releases or equivalent documents relating to the Contracts for filing under the provisions of the UCC or other laws of any applicable jurisdiction. Section 9.7 No Waiver; Cumulative Remedies. No failure to exercise and no delay in exercising, on the part of the Buyer or the Seller, any right, remedy, power or privilege hereunder, shall operate as a waiver thereof; nor shall any single or partial exercise of any right, remedy, power or privilege hereunder preclude any other or further exercise thereof or the exercise of any other right, remedy, power or privilege. The rights, remedies, powers and privileges herein provided are cumulative and not exhaustive of any rights, remedies, powers and privilege provided by law. -21- Section 9.8 Counterparts. This Agreement may be executed in two or more counterparts including telefax transmission thereof (and by different parties on separate counterparts), each of which shall be an original, but all of which together shall constitute one and the same instrument. Section 9.9 Binding Effect; Third-Party Beneficiaries. This Agreement shall inure to the benefit of and the obligations thereunder shall be binding upon the parties hereto and their respective successors and permitted assigns. Any permitted assigns shall be third-party beneficiaries of this Agreement. Section 9.10 Merger and Integration. Except as specifically stated otherwise herein, this Agreement sets forth the entire understanding of the parties relating to the subject matter hereof, there are no other agreements between the parties for transactions relating to or similar to the transactions contemplated by this Agreement, and all prior understandings, written or oral, are superseded by this Agreement. This Agreement may not be modified, amended, waived or supplemented except as provided herein. Section 9.11 Headings. The headings herein are for purposes of reference only and shall not otherwise affect the meaning or interpretation of any provision hereof. Section 9.12 Schedules and Exhibits. The schedules and exhibits attached hereto and referred to herein shall constitute a part of this Agreement and are incorporated into this Agreement for all purposes. Section 9.13 No Proceedings. The Seller hereby covenants and agrees that, prior to the date which is one year and one day after the payment in full of the Note, it will not institute against or join any other Person in instituting against the Buyer any bankruptcy, reorganization, arrangement, insolvency or liquidation proceedings or other similar proceeding under the laws of the United States or any State of the United States. Section 9.14 Merger or Consolidation of, or Assumption of the Obligations of, the Seller. The Seller shall not consolidate with or merge into any other corporation or convey or transfer its properties and assets substantially as an entirety to any Person, unless: -22- (i) the Person formed by such consolidation or into which the Seller is merged or the Person which acquires by conveyance or transfer the properties and assets of the Seller substantially as an entirety shall be, if the Seller is not the surviving entity, organized and existing under the laws of the United States of America or any State or the District of Columbia and shall expressly assume, by an agreement supplemental hereto, executed and delivered to the Buyer in form satisfactory to the Buyer, the performance of every covenant and obligation of the Seller hereunder (to the extent that any right, covenant or obligation of the Seller, as applicable hereunder, is inapplicable to the successor entity, such successor entity shall be subject to such covenant or obligation, or benefit from such right, as would apply, to the extent practicable, to such successor entity); (ii) the Seller shall have delivered to the Buyer and the Deal Agent an Officer's Certificate that such consolidation, merger, conveyance or transfer and such supplemental agreement comply with this Section 9.14 and that all conditions precedent herein provided for relating to such transaction have been complied with and an Opinion of Counsel that such supplemental agreement is legal, valid and binding with respect to the successor entity and that the entity surviving such consolidation, conveyance or transfer is organized and existing under the laws of the United States of America or any State or the District of Columbia. The Deal Agent shall receive prompt written notice of such merger or consolidation of the Seller; and (iii) after giving effect thereto, no Event of Termination under the Receivables Purchase Agreement or an event which with notice or lapse of time or both would constitute such an Event of Termination thereunder shall have occurred. Section 9.15 Costs, Expenses and Taxes. (a) The Seller agrees to pay on demand all costs and expenses of the Buyer incurred in connection with the preparation, execution, delivery, administration (including periodic auditing), amendment or modification of, or any waiver or consent issued in connection with, this Agreement and the other documents to be delivered hereunder or in connection herewith, including, without limitation, the reasonable fees and out-of-pocket expenses of counsel for the Buyer with respect thereto and with respect to advising the Buyer as to its rights and remedies under this Agreement and the other documents to be delivered hereunder or in connection herewith, and all costs and out-of-pocket expenses, if any (including reasonable counsel fees and expenses), incurred by the Buyer in connection with the enforcement of this Agreement and the other documents to be delivered hereunder or in connection herewith. (b) The Seller shall pay on demand any and all stamp, sales, excise and other taxes and fees payable or determined to be payable in connection with the execution, delivery, filing and recording of this Agreement or any agreement or other document delivered in connection with this Agreement -23- (c) The Seller shall pay on demand any and all damages, losses, claims, liabilities, fees and related costs and expenses, including attorney's fees and expenses, incurred by or awarded against the Buyer or any of its Affiliates (each, an "Indemnified Party") arising out of or as a result of the transactions contemplated under this Agreement and owed by such Indemnified Party to any other Person; provided, that the Seller shall not be liable to pay any portion of any such damages, losses, claims or liabilities resulting from the gross negligence or willful misconduct of an Indemnified Party or the breach of a Requirement of Law by an Indemnified Party. Section 9.16 Recourse Against Certain Parties. (a) No recourse under or with respect to any obligation, covenant or agreement (including, without limitation, the payment of any fees or any other obligations) of the Seller as contained in this Agreement or any other agreement, instrument or document entered into by it pursuant hereto or in connection herewith shall be had against any administrator of the Seller or any incorporator, officer, employee or director of the Seller or of any such administrator, as such, by the enforcement of any assessment or by any legal or equitable proceeding, by virtue of any statute or otherwise; it being expressly agreed and understood that the agreements of the Seller contained in this Agreement and all of the other agreements, instruments and documents entered into by it pursuant hereto or in connection herewith are, in each case, solely the corporate obligations of the Seller, and that no personal liability whatsoever shall attach to or be incurred by any administrator of the Seller or any incorporator, officer, employee or director of the Seller or of any such administrator, as such, or any other them, under or by reason of any of the obligations, covenants or agreements of the Seller contained in this Agreement or in any other such instruments, documents or agreements, or which are implied therefrom, and that any and all personal liability of every such administrator of the Seller and each incorporator, officer, employee or director of the Seller or of any such administrator, or any of them, for breaches by the Seller of any such obligations, covenants or agreements, which liability may arise either at common law or at equity, by statute or constitution, or otherwise, is hereby expressly waived as a condition of and in consideration for the execution of this Agreement. The provisions of this Section 9.16(a) shall survive the termination of this Agreement. (b) No recourse under or with respect to any obligation, covenant or agreement (including, without limitation, the payment of any fees or any other obligations) of the Buyer as contained in this Agreement or any other agreement, instrument or document entered into by it pursuant hereto or in connection herewith shall be had against any administrator of the Buyer or any incorporator, officer, employee or director of the Buyer or of any such administrator, as such, by the enforcement of any assessment or by any legal or equitable proceeding, by virtue of any statute or otherwise; it being expressly agreed and understood that the agreements of the Buyer contained in this Agreement and all of the other agreements, instruments and documents entered into by it pursuant hereto or in connection herewith are, in each case, solely the corporate obligations of the Buyer, and that no personal liability whatsoever shall attach to or be incurred by any administrator of the Buyer or any incorporator, officer, employee or director of the Buyer or of any such administrator, as such, or any other them, under or by reason of any of the obligations, covenants or agreements of the Buyer contained in this -24- Agreement or in any other such instruments, documents or agreements, or which are implied therefrom, and that any and all personal liability of every such administrator of the Buyer and each incorporator, officer, employee or director of the Buyer or of any such administrator, or any of them, for breaches by the Buyer of any such obligations, covenants or agreements, which liability may arise either at common law or at equity, by statute or constitution, or otherwise, is hereby expressly waived as a condition of and in consideration for the execution of this Agreement. The provisions of this Section 9.16 (b) shall survive the termination of this Agreement. [Signatures to Follow] -25- IN WITNESS WHEREOF, the Buyer and the Seller have caused this Agreement to be duly executed by their respective officers as of the day and year first above written. SW LEASING PORTFOLIO IV, INC. By:______________________________________ Name:________________________________ Title:_______________________________ FIDELITY LEASING, INC. By:______________________________________ Name:________________________________ Title:_______________________________ EX-23 4 EXNIBIT 23.1 Exhibit 23.1 E.E. Templeton & Associates, Inc. 407 1/2 Second Street Marietta, Ohio 45750 614-373-5046 February 23, 1998 Resource Energy, Inc. Attention: Mr. Jeffrey C. Simmons 2876 S. Arlington Road 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 a wholly-owned subsidiary of Resource America, Inc., on Form S-3 for the fiscal year ending September 30, 1997. Very Truly Yours, /s/ E.E. Templeton & Associates, Inc. E.E. Templeton & Associates, Inc. EX-23.2 5 EXHIBIT 23.2 Exhibit 23.2 Consent of Grant Thornton LLP We have issued our reports dated November 6, 1997 accompanying the consolidated financial statements and schedules of Resource America, Inc. and subsidiaries included in the Annual Report on Form 10-K for the year ended September 30, 1997 which are incorporated by reference in this Registration Statement. We have also issued our reports dated November 6, 1997 except for the earnings per share disclosures in footnote 2 accompanying the consolidated financial statements for the years ended September 30, 1997 and 1996 and for each of the three years in the period ended September 30, 1997, which financial statements are included in the Registration Statement. We consent to the incorporation by reference in the Registration Statement of the aforementioned reports and to the use of our name as it appears under the caption "Experts." /s/ Grant Thornton LLP - ------------------------------- Cleveland, Ohio March 4, 1998 -----END PRIVACY-ENHANCED MESSAGE-----