-----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, VF4VwjKoDnqnbOs/pN5Zu2333lMaWNmRWm0IuYiyITZgiHMN49YFmTI1Qwosd2Lv XkhThoLP94KV/2maqpRWhQ== 0000950133-97-001153.txt : 19970401 0000950133-97-001153.hdr.sgml : 19970401 ACCESSION NUMBER: 0000950133-97-001153 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970331 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: AVALON PROPERTIES INC CENTRAL INDEX KEY: 0000911536 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE INVESTMENT TRUSTS [6798] IRS NUMBER: 061379111 STATE OF INCORPORATION: MD FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-12452 FILM NUMBER: 97570094 BUSINESS ADDRESS: STREET 1: 15 RIVER ROAD STREET 2: SUITE 210 CITY: WILTON STATE: CT ZIP: 06897 BUSINESS PHONE: 2037616500 MAIL ADDRESS: STREET 1: 15 RIVER ROAD STREET 2: SUITE 210 CITY: WILTON STATE: CT ZIP: 06897 10-K 1 AVALON PROPERTIES, INC. FORM 10-K. 1 ================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------------------- FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1996 Commission file number 1-12452 AVALON PROPERTIES, INC. (Exact name of registrant as specified in its charter) --------------------- Maryland 06-1379111 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identifica tion No.) 15 River Road Wilton, Connecticut 06897 (Address of principal executive offices) (203) 761-6500 (Registrant's telephone number, including area code) -------------------------- Securities registered pursuant to Section 12(b) of the Act: Common Stock, par value $.01 per share New York Stock Exchange (Title of each class) (Name of each exchange on which registered) 9% Series A Cumulative Redeemable Preferred Stock, New York Stock Exchange par value $.01 per share (Name of each exchange on which registered) (Title of each class) 8.96% Series B Cumulative Redeemable Preferred Stock, New York Stock Exchange par value $.01 per share (Name of each exchange on which registered) (Title of each class)
Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of the voting stock held by nonaffiliates of the Registrant, as of March 14, 1997, was $943,979,517. The number of shares of the Registrant's Common Stock, par value $.01 per share, outstanding as of March 14, 1997 was 33,528,672. Documents Incorporated by Reference ----------------------------------- Portions of the Proxy Statement for the Registrant's Annual Meeting of Stockholders to be held on May 6, 1997 are incorporated by reference herein as portions of Part III of this Form 10-K. ================================================================================ 2 TABLE OF CONTENTS
PAGE ---- PART I ITEM 1. BUSINESS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 ITEM 2. COMMUNITIES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 ITEM 3. LEGAL PROCEEDINGS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS . . . . . . . . . . . . . . . . . . . 20 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21 ITEM 6. SELECTED FINANCIAL DATA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS . . . . . . . . . . . . . . . . . . . . . 25 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA . . . . . . . . . . . . . . . . . . . . . 40 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE . . . . . . . . . . . . . . . . . . . 40 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT . . . . . . . . . . . . . . . . . . . 41 ITEM 11. EXECUTIVE COMPENSATION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS . . . . . . . . . . . . . . . . . . . 41 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42 SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46
3 PART I This Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. The Company's actual results could differ materially from those set forth in the forward-looking statement. Certain factors that might cause such a difference are discussed in the section entitled "Forward-Looking Statements" on page 1 of this Form 10-K. ITEM 1. BUSINESS General Avalon Properties, Inc. ("Avalon" or the "Company") is an integrated real estate operating company, concentrating exclusively on apartment community acquisition, construction, development and management in the Mid-Atlantic and Northeast regions of the United States. The Company was incorporated under the laws of the State of Maryland in August 1993 and was formed to continue and expand the multifamily apartment community acquisition, construction, development and management operations of the Trammell Crow Residential Mid-Atlantic and Northeast Groups (collectively, the "Predecessor"). Avalon is a self-administered and self-managed equity Real Estate Investment Trust ("REIT"). As of March 14, 1997, the Company's portfolio includes 17,619 Class A, institutional-quality apartment homes including 3,797 apartment homes under construction (see "Communities") and the Company manages 1,224 apartment homes for unaffiliated institutional owners. The Company's apartment communities are conveniently located in areas within close proximity to recreational amenities, schools, entertainment and dining, and easy access to employment. The Company currently employs approximately 790 people. A principal operating objective of the Company's management ("Management") is to increase operating cash flow growth and long-term stockholder value. Management's strategies to achieve this objective include (i) generating consistent, sustained earnings growth at each community through increased revenue (from high occupancy and targeted value pricing) and increased operating margins (from aggressive expense management); (ii) selective investment in new acquisition and development communities in the Company's targeted geographical areas; and (iii) the use of a conservative capital structure to provide continued access to capital markets at the lowest possible cost. Management believes that these strategies are best implemented by building and acquiring institutional-quality assets in supply-constrained markets while maintaining the financial discipline to ensure maximum balance sheet flexibility. Management believes that these strategies will lead to higher occupancy levels, increased rental rates and highly predictable and growing cash flow. OPERATING STRATEGIES: Intense focus on the operations of the existing portfolio is an important strategy necessary to realize consistent, sustained earnings growth. Management believes that such focus is best achieved when operating only one type of real estate. To this end, the Company concentrates exclusively on apartment community acquisition, construction, development and management. The Company intends to increase earnings through focused on-site property management that is expected to result in higher revenue from Company-owned communities and operating cost containment. Ensuring resident satisfaction by providing service that exceeds the resident's expectations, increasing rents as market conditions allow, maximizing rent collections and maintaining community occupancy at optimal levels comprise the principal strategies to maximize revenue. Lease terms are generally staggered based on vacancy exposure by apartment type so that lease expirations are better matched to each community's rental patterns. On-site property management teams receive bonuses based largely upon the net operating income produced at their community as well as rental rate increases achieved and lease renewals (which implicitly measure resident satisfaction). Controlling and leveraging operating expenses also contributes to earnings growth. High occupancy through resident retention is a principal strategy. High resident retention eliminates the cost of preparing an apartment home for a new resident and reduces marketing and other costs. The Company also aggressively pursues real estate tax appeals and scrutinizes operating costs. Invoices are recorded on-site to ensure the careful monitoring of budgeted versus actual expenses; supplies are purchased in bulk and directly from manufacturers where possible; vendor contracts are bid on a volume basis; turnover work is performed in-house or by third parties depending upon the least costly alternative; and preventive maintenance is undertaken regularly to maximize 1 4 resident satisfaction and property and equipment life. Growth in the portfolio and the resulting increase in revenue allows the Company to spread fixed operating costs over a larger volume of revenue, thereby increasing operating margins. The Company has enjoyed significant operating cost leverage in recent years as operating costs, including write-off of deferred development costs, as a percentage of total revenues have declined from 46% in 1991 to 38% in 1996. INVESTMENT STRATEGIES: SELECTIVE ACQUISITIONS AND DEVELOPMENT IN FAVORABLE MARKETS. Management believes that apartment communities present an attractive investment opportunity compared to other real estate investments because a broad potential resident base results in relatively stable demand during all phases of a real estate cycle. The Company intends to pursue appropriate new investments (both acquisitions of new communities and new developments) where constraints to new supply exist and where new household formations have out-paced multifamily permit activity in recent years. Management has identified market characteristics that help create a favorable supply-demand balance important for ownership of multifamily communities, which include: - - Market Characteristics-Supply. Management believes that the Company can best achieve consistent earnings growth from both established and new communities by investing and operating in markets that have significant barriers to entry, thereby limiting supply and protecting the revenue stream. As a long-term investor in multifamily real estate, the Company is subject to long-term market risk. Management believes that long-term market risk is better suited to markets that have supply constraints that will protect the cash flow stream of an investment. For these reasons, Management will generally avoid markets with ease of entry, significant competition and easy access to capital. Management believes that its targeted markets in the Mid-Atlantic and Northeast regions of the United States have all of the attributes required to provide significant supply constraints favorable to owners of apartment communities. - - Market Characteristics-Demand. Growth in household formation is a key component to housing demand. The rate of new household formation in the Company's principal markets has steadily increased since the mid-1980s. The period from 1989 to 1995 has been characterized by a lack of construction of new, comparable quality apartment communities in the Company's principal markets. The Company believes that these favorable market conditions and demand for new, quality housing alternatives will provide increasing opportunities for earnings growth at existing communities as well as new communities to be acquired or developed by the Company. Accordingly, the ratio of renter household growth to apartments constructed in Avalon's major markets for the period 1990 through 1995 is 4:1. The same ratio in 1994 was 4:1 and in 1995 the ratio was 5:1. A market with a ratio of 2:1 is considered to be balanced with respect to supply and demand. An increasing ratio indicates a market where demand is growing at a faster rate than supply, and Management believes this is an indicator of improving market conditions for ownership of apartment communities in the Company's principal markets. Although these statistics primarily reflect supply constraints, an increase in demand as measured by new household formation is present in substantially all of the markets currently served. Acquisitions. Management has targeted certain markets in the Northeast and Mid-Atlantic regions of the United States for acquisition opportunities. The Company will continue to diversify its investments within these regions, not just geographically, but also by the number of apartment homes and features offered. Each acquisition candidate must have the potential to deliver sustained earnings growth over time that meets or exceeds the current portfolio growth rate. Additionally, the following criteria are important in an acquisition community: i) the community must have been completed after 1984 or, if older, must be in a non-duplicable in-fill location and be able to support the capital investment required for a significant renovation; ii) the community has existing tax-exempt debt financing; iii) the community has adjacent zoned land that can be acquired with the community and be developed. One of the characteristics of the Company's markets is the presence of older apartment communities (often 10 to 30 years old or older) that are currently attractive acquisition targets for the Company. In many cases, these communities are in attractive in-fill locations, but are poorly maintained and marketed, inefficiently managed and are challenging to renovate. Improvements to landscaping amenities and the physical structure of the buildings, coupled with more effective management and marketing, may result in attractive yields on these communities. Management believes that many of these older 2 5 communities can support the capital investment required to bring the community up to institutional-quality condition while delivering attractive post-renovation yields. The financial position of the Company continues to support the ability to make selective acquisitions, and Management expects to continue its acquisition efforts into 1997. Management's discipline to be selective in its acquisition candidates is strengthened by the presence of a strong development capability that is an important alternative source of portfolio growth. Accordingly, as acquisition opportunities diminish, Management does not expect to lower initial yield requirements to continue with portfolio growth through acquisitions, as development opportunities may continue to offer attractive yield alternatives. Beyond 1997, Management anticipates that attractive acquisition opportunities may diminish as the current real estate recovery progresses. Given a competitive acquisition environment, Management believes that the Company enjoys an advantage over other real estate investors in the following areas: - - The Company maintains five offices throughout the Mid-Atlantic and Northeast regions and has substantial knowledge of local markets which facilitates the acquisition process. - - The Company maintains a development capacity that lessens the dependence on acquisitions for external earnings growth. Management also expects to divest communities to help ensure that the overall portfolio can meet earnings growth targets. Two communities in the Hartford, Connecticut market were sold during 1996 pursuant to this strategy. Further, as the real estate recovery progresses and acquisition opportunities diminish, the reduced supply of acquisition candidates may provide a favorable environment for the Company to sell assets. Accordingly, Management anticipates additional dispositions will occur over the next several years. New Developments. Management anticipates that selective development of new apartment communities in the Company's supply-constrained markets will remain an important component of portfolio growth for the next several years. Because of its experience, Management believes that it understands and appreciates the risks associated with development and that, generally, the risks presented by development are justified by higher potential yields and the ability to develop attractive new communities in locations where the opportunity to acquire existing communities is limited. Generally, Management believes that the long-term potential offered by a new development opportunity will exceed the long-term potential offered by an acquisition opportunity primarily because well executed, up-to-date, newly developed communities generally attract greater demand at higher rents than an existing apartment community. Management has significant experience developing apartment communities in its principal markets, as well as managing the unique development risks presented by these markets. Since 1980, Management has developed approximately 17,000 apartment homes. Since the Company's initial pubic offering ("Initial Offering"), Management has developed ten communities, totaling 1,929 apartment homes. The development of each of these communities is managed by an experienced development vice president, who operates out of the local development office, under the supervision of senior Management. Combined years of experience for officers principally involved in construction and development matters exceeds 100 years. As a developer of real estate, the Company enjoys opportunities that are not available to companies that strictly acquire existing developed real estate. There are risks, however, to developing real estate, including risk of zoning changes and unforeseen conditions (such as unforeseen problems presented by soils or environmental conditions). Further, there is the possibility that a Development Right (as hereinafter defined) could proceed to development based on certain assumptions concerning economic conditions that may not be realized due to subsequent unforeseen changes in economic conditions These development risks, however, are not dissimilar to the risks of acquiring real estate, and Management believes that the Company's internal due diligence and financial analysis procedures mitigate these risks. The following is a summary of how the internal development process functions and how the Company mitigates risk. Initial Financial Feasibility Projections. Before significant time and money is incurred on a new development opportunity, a financial feasibility review is performed. In preparing the financial projections for a proposed new community, Management relies upon the rents in today's marketplace, and no inflation of rent is assumed in the projections. A minimum 7% economic vacancy rate is assumed in preparing these projections, even though 3 6 the Company's stabilized portfolio has historically operated at vacancy rates of 4% to 5%. The operating budget is derived from analysis of anticipated costs, from utility rates and estimated taxes in the local community to the staffing demands independently estimated by both development and property operations teams. The compensation of development, construction and operations personnel have significant components tied to the reliability of each team's forecasts. Historically, actual operating results of communities that proceeded to development have generally met or exceeded the initial operating projections developed during the financial feasibility phase. Once a development opportunity is determined to meet the Company's financial feasibility guidelines, the process of obtaining entitlements is begun. Entitlements Process. The Company operates in markets dominated by no-growth attitudes and where little-to-no multifamily zoning is readily available. The limited supply of zoned multifamily land often requires the Company to "manufacture" the entitlements necessary to develop a parcel by working through the local entitlements process for extended periods of time, in most cases for several years. There can be no assurance that the necessary entitlements will be obtained. Because of these risks, the Company's general policy is to acquire an option to purchase land, as opposed to buying it, until zoning and related entitlements are in place. The financial exposure associated with the entitlements process is largely limited to overhead costs, third-party consultant costs and non-refundable deposits, if any, should the zoning and site plan approval process be unsuccessful. The Company's approach in measuring and dealing with this risk is to provide a reserve that is increased each quarter through a charge to earnings. Currently, this quarterly charge is $150,000. In accordance with generally accepted accounting principles ("GAAP"), the salaries (and related costs) of all persons who spend substantially all of their time in development and construction activities are capitalized into the cost of that development. If a development opportunity does not proceed to development, the accumulated capitalized direct costs, including payroll and third-party costs for unsuccessful efforts, are written-off against the established reserve. Communities Under Construction. Once the entitlement process is complete and permits are obtained, the option to acquire the land is exercised and construction begins. In the development and construction budget, a contingency for possible cost overruns exists throughout construction. However, this contingency is adjusted during planning and construction. The remaining contingency, if any, is removed only after the job is completed. Management believes that, by adhering to these principles, zoning, site planning and construction risks as well as the risk of not achieving projected yields are significantly reduced. The success of the Company's development and acquisition strategies depends upon trends in the economy as a whole, including interest rates, income tax laws, governmental regulations, legislation, and population and demographic trends. See "Communities." Also, as an owner of real estate, the Company is subject to risks arising in connection with the availability of financing on acceptable terms, as well as other risks relating to the real estate investment, including environmental matters and changes in real estate and zoning laws. CAPITAL STRATEGIES: Maintaining a conservative capital structure that allows the Company continuous, uninterrupted and cost-effective access to capital markets has been, and continues to be, an important element of Management's earnings growth strategy. The use of conservative financial policies is illustrated by the investing and financing activities employed by the Company since its Initial Offering. Since the Company's Initial Offering, real estate investments have been made totaling $697.5 million. These investments were financed primarily from proceeds drawn under the Company's three-year revolving unsecured credit facility (the "Unsecured Facility") and the two-year supplemental revolving unsecured credit facility (the "Supplemental Unsecured Facility" and together with the Unsecured Facility, the "Unsecured 4 7 Facilities"). The Unsecured Facilities was subsequently repaid from capital market offerings totaling $621.9 million through December 31, 1996. These offerings include:
Date Description of Offering ---- ----------------------- July 1994 $33.7 million tax-exempt bond offering August 1994 $102 million public offering of Common Stock May 1995 $50.6 million tax-exempt unsecured custodial receipts offering September 1995 $100 million unsecured senior notes offering January 1996 $47.3 million direct placement of Common Stock to certain institutional investors February 1996 $111.4 million 9% Series A Cumulative Redeemable Preferred Stock offering October 1996 $107.5 million 8.96% Series B Cumulative Redeemable Preferred Stock offering December 1996 $69.4 million public offering of Common Stock
During this period, the Company has maintained a conservative financial structure, as debt to total market capitalization (calculated on a weighted average basis) was only 26.7%. The Company's financial position as of December 31, 1996 demonstrates Management's continued discipline in applying conservative capital policies: - Total debt to total market capitalization totaled 20.8%. - Long-term floating rate debt was only 1.7% of total market capitalization. Management intends to limit the use of long-term floating rate debt to no more than 10% of total market capitalization. - Debt service coverage for the year ended December 31, 1996 was 3.8x. - At December 31, 1996, long-term debt maturities over the next 10 years total only $143.0 million, or approximately 9.6% of the Company's total market capitalization. See "Management's Discussion and Analysis of Financial Condition and Results of Operation--Liquidity and Capital Resources." This history demonstrates Management's discipline to maintain a conservative capital structure and the Company's ability to cost-effectively access capital markets to maintain this conservative structure. At December 31, 1996, 54% of outstanding long-term debt is tax-exempt debt, and is generally collateralized by liens on certain Current Communities (as hereinafter defined). Of the 46 Current Communities, 13 are currently subject to mortgages that collateralize tax-exempt debt. As of December 31, 1996, the ratio of collateralized debt to undepreciated book value of real estate assets was 19.5%. Although the use of tax-exempt debt generally encumbers the related property with a lien, the positive effect of the lower tax-exempt interest rate (compared to conventional debt) is a lower cost capital structure and higher debt service coverage levels. Although Management will continue the selective use of tax-exempt debt financing, tax law changes that took effect in 1986 combined with attractive unsecured debt alternatives from improved ratings will likely result in a decline in the use of tax-exempt financing. Another important element in delivering consistent earnings growth relative to financial structure is managing exposure to floating rate debt. Exposure to variable interest rates on outstanding balances under the Unsecured Facilities is generally managed with interest rate protection agreements, although no such agreements are currently in place. Further, the Company has retained a consultant to help manage interest rate risk. Management believes these policies reduce the risk of eroding earnings growth as a result of higher interest rates. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources" for an expanded discussion of current financing strategies. Inflation and Tax Matters Substantially all of the leases at the Current Communities are for a term of one year or less, which may enable the Company to realize increased rents upon renewal of existing leases or commencement of new 5 8 leases. Such short-term leases generally minimize the risk to the Company of the adverse effects of inflation, although as a general rule these leases permit residents to leave at the end of the lease term without penalty. The Company's current policy is to permit residents to terminate leases upon a 60-day written notice and payment of one month's rental as compensation for early termination. Short-term leases combined with relatively consistent demand allow rents, and therefore, cash flow from the portfolio to provide an attractive inflation hedge. The Company filed an election with its initial Federal income tax return to be taxed as a REIT under the Internal Revenue Code of 1986, as amended (the "Code"), and intends to maintain its qualification as a REIT in the future. As a qualified REIT, with limited exceptions, the Company will not be taxed under Federal and certain state income tax laws at the corporate level on its net income. In addition, due to non-cash charges such as depreciation and amortization, the cash available for distribution is expected to exceed net income. Under current tax law, this excess will be treated by stockholders as a non-taxable return of capital that will reduce the stockholders' basis in the shares of the Company's Common Stock. Environmental Matters The Company's assessments of the Current Communities and Development Communities (as hereinafter defined) have not revealed any environmental liability that the Company believes would have a material adverse effect on the Company's business, assets or results of operations, nor is the Company aware of any such material environmental liability. Nevertheless, it is possible that the Company's assessments did not reveal all environmental liabilities or that there are material environmental liabilities of which the Company is unaware. The Company believes that the Current and Development Communities are in compliance in all material respects with all Federal, state and local laws, ordinances and regulations regarding hazardous or toxic substances or petroleum products. The Company has not been notified by any governmental authority, and is not otherwise aware, of any material noncompliance, liability or claim relating to hazardous or toxic substances or petroleum products in connection with any of its Current or Development Communities. The Company does not believe that the cost of continued compliance with applicable environmental laws or regulations will have a material adverse effect on the Company or its financial condition or results of operations. There can be no assurance, however, that future environmental laws, regulations or ordinances will not require additional remediation of existing conditions that are not currently actionable, or impose additional or more stringent requirements on the Current and Development Communities, the costs of compliance with which would have a material adverse effect on the Company or its financial condition. ITEM 2. COMMUNITIES The Company's real estate holdings consist exclusively of apartment communities in various stages of the development cycle and can be divided into three categories: "Current Communities" are apartment communities where construction is complete and the community has either reached stabilized occupancy or is in the initial lease-up process. A "Stabilized Community" is a Current Community that has completed its initial lease-up and has attained a physical occupancy level of 95% or has been completed for one year, whichever occurs earlier. An "Established Community" is a Current Community that has been a Stabilized Community with stabilized operating costs during both the current year and the beginning of the previous calendar year such that its year-to-date operating results are comparable between periods. "Development Communities" are communities that are under construction and may be partially complete and operating and for which a final certificate of occupancy has not been received. 6 9 "Development Rights" are development opportunities in the very earliest phase of the development process for which the Company has an option to acquire land or owns land to develop a new community and where related pre-development costs have been incurred and capitalized in pursuit of these new developments. The Company's holdings under each of the above categories are discussed in the following paragraphs. Current Communities The Current Communities are primarily garden-style apartment communities consisting of two-and three-story buildings in landscaped settings. Additionally, the Company holds seven high-rise apartment communities (Avalon at Ballston-Washington Towers, Avalon at Ballston-Quincy and Vermont Towers, Longwood Towers, 4100 Massachusetts Avenue, Avalon at Lake Arbor, Avalon Towers and Avalon Summit) and two four-story mid-rise apartment communities (Avalon Glen and Avalon at Park Center). Management has an extensive and ongoing maintenance program to keep all communities and apartment homes free of deferred maintenance and, where vacant, available for immediate occupancy. As of March 14, 1997, there were 46 Current Communities. These Current Communities are institutional-quality multifamily apartment communities located in the following states:
Number of Number of Percentage of Total Communities at Apartment Homes at Apartment Homes at ------------------ -------------------- --------------------- 1-1-96 3-14-97 1-1-96 3-14-97 1-1-96 3-14-97 --------- -------- --------- --------- --------- ---------- Virginia 12 16 3,295 4,723 29.3% 34.2% Connecticut 6 4 2,452 1,934 21.8% 14.0% Maryland 10 13 2,885 3,736 25.6% 27.0% New Jersey 2 4 938 1,504 8.3% 10.9% Massachusetts 4 5 875 1,115 7.8% 8.1% Washington, D.C. 1 1 308 308 2.7% 2.2% New York 3 3 502 502 4.5% 3.6% --------- -------- --------- --------- --------- ---------- 38 46 11,255 13,822 100.0% 100.0% --------- -------- --------- --------- --------- ----------
The Company (or its Predecessor) developed 24 and acquired 22 of the Current Communities. All of the Current Communities are managed and operated by the Company. During the year ended December 31, 1996, the Company completed construction of 866 apartment homes in six communities for a capitalized cost of $71 million. The Current Communities had a physical occupancy rate of 95.7% at December 31, 1996. Average economic occupancy for Established Communities decreased .4% from 96.3% in 1995 to 95.9% in 1996 while rental rates increased 4.8%, resulting in rental revenue growth of 4.4% during 1996. Thirty-four of the Current Communities have more than 200 apartment homes, with the largest having 932 apartment homes. The average age of 44 of the Current Communities, weighted according to number of apartment homes, is approximately eight years. The remaining Current Communities (Falkland Chase and Longwood Towers) are older communities that were acquired by the Company. Falkland Chase underwent extensive renovation in 1987. Longwood Towers is currently under substantial renovation, which is scheduled to be completed within the next two to three years. To comply with the requirements of lenders and tax-exempt credit enhancers, the Company holds eighteen Current Communities and one Development Community in 11 qualified REIT subsidiaries. The Company owns general partnership interests in two Current Communities (a 50% interest in Falkland Chase and a 49% equity interest in Avalon Run), a 100% interest in a senior participating mortgage note secured by another Current Community (Avalon Arbor) which is accounted for as an investment in real estate, a 100% partnership interest in 4100 Massachusetts Avenue, Avalon at Lake Arbor, Avalon at Decoverly, Avalon at Ballston - Vermont and Quincy Towers and Avalon at Fairway Hills II and holds direct fee simple interests in the remaining Current Communities. 7 10 PROFILE OF CURRENT AND DEVELOPMENT COMMUNITIES (DOLLARS IN THOUSANDS, EXCEPT PER APARTMENT HOME DATA)
-------------------------------------------------------------- ------------- -------------------------------- ------------- Number Approximate Year Average Physical of Rentable Area Built or Size Occupancy City and State Homes (Sq. Ft.) Acres Acquired (Sq. Ft.) at 12/31/96 ---------------------------- -------------------- ------- ------------- ------- ---------- ----------- ------------- CURRENT COMMUNITIES ------------------- 1. Avalon Walk I Hamden, CT 430 433,010 23.3 1992 1,007 97.0% 2. Avalon Walk II Hamden, CT 334 327,730 15.1 1994 981 97.9% 3. Avalon Pavilions Manchester, CT 932 849,700 46.3 1990/92 912 94.1% 4. Avalon Glen Stamford, CT 238 221,685 4.1 1991/95 931 95.8% 5. 4100 Massachusetts Avenue Washington, D.C. 308 298,345 2.7 1994 969 96.4% 6. Longwood Towers Brookline, MA 250 226,000 4.2 1993 904 92.0% 7. Avalon at Lexington Lexington, MA 198 226,830 18.0 1994 1,146 97.5% 8. Avalon Summit Quincy, MA 245 194,063 9.1 1995/96 792 97.6% (4) 9. Avalon Arbor Shrewsbury, MA 302 297,772 25.0 1991 986 95.0% 10. Avalon West Westborough, MA 120 159,900 10.1 1996 1,333 96.7% 11. Avalon Landing Annapolis, MD 158 117,078 13.8 1995 741 93.7% 12. Avalon at Fairway Hills I Columbia, MD 192 193,728 10.1 1987 1,009 93.2% 13. Avalon at Fairway Hills II Columbia, MD 527 529,727 32.0 1996 1,005 91.5% 14. Avalon at Symphony Glen Columbia, MD 174 178,350 10.0 1986 1,025 93.1% 15. Avalon Farm Frederick, MD 306 248,472 21.8 1988 812 97.7% 16. Avalon Fields Gaithersburg, MD 192 202,100 5.7 1996 1,053 97.4% 17. Avalon Knoll Germantown, MD 300 290,400 26.7 1985 968 95.3% 18. Avalon at Lake Arbor Mitchellville, MD 209 170,052 18.0 1995 814 95.2% 19. Avalon Lea Owings Mills, MD 296 300,440 15.7 1988 1,015 95.9% 20. Avalon at Decoverly Rockville, MD 368 368,446 25.0 1995 1,001 96.7% 21. Avalon Crossing Rockville, MD 132 154,488 5.0 1996 1,170 Lease-up 22. Avalon Ridge Silver Spring, MD 432 432,000 25.7 1988 1,000 95.1% (5) 23. Falkland Chase Silver Spring, MD 450 346,500 22.3 1988 770 96.2% (6) 24. Avalon Run Lawrenceville, NJ 426 438,370 19.6 1994 1,029 96.9% 25. Avalon Run East Lawrenceville, NJ 206 260,670 27.0 1996 1,265 98.1% 26. Avalon Watch Lawrenceville, NJ 512 487,424 64.0 1988 952 97.9% 27. Avalon Chase Marlton, NJ 360 312,840 58.5 1996 869 96.7% 28. Avalon View Fishkill, NY 288 286,560 41.0 1993 995 97.6% 29. Avalon Green Greenburgh, NY 105 115,930 16.9 1995 1,104 94.3% 30. Avalon Towers Long Beach, NY 109 124,805 1.3 1995 1,145 95.4% 31. Avalon at Park Center Alexandria, VA 492 382,200 8.5 1994 777 96.5% (7) 32. Avalon at Ballston- Quincy and Vermont Towers Arlington, VA 454 420,908 2.3 1997 927 N/A 33. Avalon at Ballston- Washington Towers Arlington, VA 344 294,808 4.1 1990 857 94.2% 34. Avalon Birches Chesapeake, VA 312 262,920 20.9 1995 843 96.2% 35. AutumnWoods Fairfax, VA 420 355,320 24.2 1996 846 98.8% 36. Avalon Station Fredericksburg, VA 223 210,331 15.9 1994/96 943 90.1% 37. Avalon at Hampton I Hampton, VA 186 178,932 8.5 1985 962 95.2% 38. Avalon at Hampton II Hampton, VA 231 227,535 11.3 1986 985 93.9% 39. Avalon Park Manassas, VA 372 302,808 26.0 1988 814 97.3% 40. Avalon at Carter Lake Reston, VA 259 225,848 47.6 1994 872 98.1% 41. Avalon at Gayton Richmond, VA 328 282,408 27.6 1984 861 93.3% 42. Avalon at Boulders Richmond, VA 284 313,782 32.1 1996 1,105 94.7% 43. Avalon Woods Richmond, VA 268 158,669 18.5 1994 592 96.3% 44. Avalon Pointe Stafford, VA 140 119,272 20.2 1994 852 92.1% 45. Avalon at Dulles Sterling, VA 236 231,752 15.7 1986 982 98.3% 46. Avalon Pines Virginia Beach, VA 174 142,854 9.7 1996 821 92.5% ------- ----------- -------- -------- -------- 13,822 12,903,762 N/A 934 95.7% ------- ----------- -------- -------- --------
------------------------------- ----------- -------- -------------------------------------- ----------- Average Economic Avg. Rental Rate (1) Occupancy ----------------------- Financial ---------------------- $ Per $ Per Property (2) Reporting 1996 1995 Apt. Sq. Ft. EBITDA Cost (3) ----------------------------- ----------- -------- ------------ ---------- ------------ ----------- CURRENT COMMUNITIES ------------------- 1. Avalon Walk I 94.6% 97.2% $ 985 $ 0.98 $ 3,554 $ 34,505 2. Avalon Walk II 94.4% 97.4% 966 0.98 2,666 23,597 3. Avalon Pavilions 93.6% 95.5% 816 0.90 5,980 56,523 4. Avalon Glen 95.7% 98.3% 1,526 1.64 3,148 30,077 5. 4100 Massachusetts Avenue 96.0% 96.0% 1,324 1.37 3,076 34,879 6. Longwood Towers 98.8% 99.5% 1,420 1.57 2,502 23,449 7. Avalon at Lexington 98.5% 98.5% 1,426 1.24 2,491 14,117 8. Avalon Summit 88.3% 98.9% 844 1.07 1,461 16,152 (4) 9. Avalon Arbor 96.6% 95.9% 848 0.86 1,932 27,822 10. Avalon West Lease-up N/A 1,160 0.87 887 10,624 11. Avalon Landing 95.3% 95.2% 735 0.99 841 9,261 12. Avalon at Fairway Hills I 96.5% 96.9% 831 0.82 1,204 9,368 13. Avalon at Fairway Hills II 94.2% N/A 801 0.80 1,471 33,807 14. Avalon at Symphony Glen 95.2% 95.9% 806 0.79 1,025 8,079 15. Avalon Farm 96.0% 94.9% 676 0.83 1,551 17,332 16. Avalon Fields 93.7% Lease-up 921 0.87 1,445 14,262 17. Avalon Knoll 95.5% 95.6% 790 0.82 1,689 7,905 18. Avalon at Lake Arbor 94.5% 94.0% 843 1.04 1,078 11,900 19. Avalon Lea 96.0% 96.3% 716 0.71 1,576 16,101 20. Avalon at Decoverly 96.7% 94.5% 974 0.97 2,985 30,978 21. Avalon Crossing Lease-up N/A N/A N/A 268 13,387 22. Avalon Ridge 94.9% 94.2% 818 0.82 2,602 25,030 (5) 23. Falkland Chase 96.8% 95.5% 790 1.03 N/A N/A (6) 24. Avalon Run 94.8% 95.7% 1,029 1.00 N/A N/A 25. Avalon Run East Lease-up N/A - 675 16,002 26. Avalon Watch 96.0% 97.5% 1,002 1.05 3,982 28,340 27. Avalon Chase 95.8% N/A 897 1.03 2,308 23,615 28. Avalon View 97.6% 95.8% 894 0.90 1,876 17,773 29. Avalon Green 97.2% Lease-up 1,719 1.56 1,488 12,294 30. Avalon Towers 96.7% 94.8% 2,221 1.94 1,490 15,826 31. Avalon at Park Center 96.2% 93.6% 905 1.16 3,568 37,337 (7) 32. Avalon at Ballston- Quincy and Vermont Towers N/A N/A N/A N/A N/A N/A 33. Avalon at Ballston- Washington Towers 96.7% (8) 96.9% (8) 1,081 1.26 2,969 36,797 34. Avalon Birches 97.0% 97.6% 652 0.77 1,583 13,419 35. AutumnWoods 99.0% N/A 1,210 1.43 163 30,474 36. Avalon Station 81.1% 97.9% 676 0.72 974 11,838 37. Avalon at Hampton I 94.9% 96.7% 636 0.66 775 3,702 38. Avalon at Hampton II 95.5% 96.6% 648 0.66 1,086 8,144 39. Avalon Park 96.6% 96.1% 683 0.84 1,838 19,717 40. Avalon at Carter Lake 97.6% 94.4% 708 0.81 1,281 11,502 41. Avalon at Gayton 93.5% 95.5% 658 0.76 1,577 9,830 42. Avalon at Boulders 95.3% N/A 690 0.62 399 16,038 43. Avalon Woods 96.1% 96.8% 533 0.90 1,058 8,235 44. Avalon Pointe 96.3% 96.4% 719 0.84 739 7,748 45. Avalon at Dulles 96.4% 97.4% 802 0.82 1,433 11,599 46. Avalon Pines 95.9% N/A 645 0.79 498 8,578 -------- -------- -------- -------- --------- ---------- 95.2% 95.8% 893 0.97 77,192 817,963 -------- -------- -------- -------- --------- ----------
8 11 PROFILE OF CURRENT AND DEVELOPMENT COMMUNITIES (DOLLARS IN THOUSANDS, EXCEPT PER APARTMENT HOME DATA)
-------------------------------------------------------------- ------------- ---------- ----------- ----------- Number Approximate Year Average of Rentable Area Built or Size City and State Homes (Sq. Ft.) Acres Acquired (Sq. Ft.) ----------------------------- ----------------------- ------- ------------- ---------- ----------- ------------ DEVELOPMENT COMMUNITIES ----------------------- 47. Avalon Gates Trumbull, CT 340 373,032 37.0 N/A 1,097 48. Avalon Grove Stamford, CT 402 402,970 4.0 N/A 1,002 49. Avalon Springs Wilton, CT 102 180,720 12.0 N/A 1,772 50. Avalon Cove Jersey City, NJ 504 546,390 11.1 N/A 1,084 51. Avalon Commons Smithtown, NY 312 374,360 20.6 N/A 1,200 52. Avalon Court Melville, NY 154 190,576 10.8 N/A 1,238 53. Avalon Gardens Nanuet, NY 504 647,778 54.4 N/A 1,285 54. Avalon Willow Mamaroneck, NY 227 213,009 4.0 N/A 938 55. Avalon at Cameron Court Alexandria, VA 460 488,496 16 N/A 1,062 56. Avalon at Fair Lakes Fairfax, VA 234 288,225 10 N/A 1,232 57. Avalon Crescent Tysons Corner, VA 558 623,270 19.1 N/A 1,117 ------- ----------- -------- -------- 3,797 4,328,826 N/A 1,140 ------- ----------- -------- -------- TOTAL: 17,619 17,232,588 N/A 978 ======= =========== ======== ========
-------------------------------------------- ----------- ---------- ----------------------- Average Economic Avg. Rental Rate (1) Physical Occupancy ----------------------- Occupancy ----------- ---------- $ Per $ Per at 12/31/96 1996 1995 Apt. Sq. Ft. ----------------------------- ------------ ----------- ---------- ------------ --------- DEVELOPMENT COMMUNITIES ----------------------- 47. Avalon Gates N/A N/A N/A N/A N/A 48. Avalon Grove N/A N/A N/A N/A N/A 49. Avalon Springs N/A N/A N/A N/A N/A 50. Avalon Cove N/A N/A N/A N/A N/A 51. Avalon Commons N/A N/A N/A N/A N/A 52. Avalon Court N/A N/A N/A N/A N/A 53. Avalon Gardens N/A N/A N/A N/A N/A 54. Avalon Willow N/A N/A N/A N/A N/A 55. Avalon at Cameron Court N/A N/A N/A N/A N/A 56. Avalon at Fair Lakes N/A N/A N/A N/A N/A 57. Avalon Crescent N/A N/A N/A N/A N/A -------- -------- -------- -------- -------- N/A N/A N/A N/A N/A -------- -------- -------- -------- -------- TOTAL: 95.7% 95.2% 95.8% $ 893 $ 0.97 ======== ======== ======== ======== ========
- ----------------------------------- ------------------------- Financial Property (2) Reporting EBITDA Cost (3) - ----------------------------------- ------------- ---------- DEVELOPMENT COMMUNITIES ----------------------- 47. Avalon Gates N/A 30,348 48. Avalon Grove N/A 45,637 49. Avalon Springs N/A 13,628 50. Avalon Cove N/A 85,831 51. Avalon Commons N/A 17,603 52. Avalon Court N/A 5,048 53. Avalon Gardens N/A 15,165 54. Avalon Willow N/A 5,217 55. Avalon at Cameron Court N/A N/A(9) 56. Avalon at Fair Lakes N/A 4,659 57. Avalon Crescent N/A 36,883 --------- ------------ N/A 260,019 --------- ------------ TOTAL: $ 77,192 $ 1,077,982 ========= ============
See Page 13 for notes. 9 12 LIST OF FEATURES - CURRENT AND DEVELOPMENT COMMUNITIES
Washer & 1BR/2BR 2BR/3BR Parking Mini- Dryer Hook-Ups 1 Bath 2 Bath Other Spaces Blinds Carpeting or Units - -------------------------------- -------- ----------- --------- --------- --------- ------------ -------------- CURRENT COMMUNITIES - ------------------- 1. Avalon Walk I 192/76 88/74 0 802 All All All 2. Avalon Walk II 194/56 84/0 0 571 All All All 3. Avalon Pavilions 472/168 220/72 0 1,696 All All All 4. Avalon Glen 107/0 117/0 14 (10) 370 All All All 5. 4100 Massachusetts Avenue 161/16 101/3 27 (11) 357 None All All 6. Longwood Towers 105/48 19/21 57 (12) 210 None All Some 7. Avalon at Lexington 28/24 90/56 0 364 All All All 8. Avalon Summit 153/62 28/2 0 435 Some All None 9. Avalon Arbor 83/106 59/51 3 (13) 561 All All All 10. Avalon West 40/0 55/25 0 289 All All All 11. Avalon Landing 83/18 57/0 0 257 All All All 12. Avalon at Fairway Hills I 88/14 66/24 0 307 All All All 13. Avalon at Fairway Hills II 180/223 88/36 0 830 All All All 14. Avalon at Symphony Glen 86/14 54/20 0 279 Some All All 15. Avalon Farm 126/0 180/0 0 567 None All All 16. Avalon Fields 80/32 80/0 0 285 All All All 17. Avalon Knoll 136/56 80/28 0 510 Some All All 18. Avalon at Lake Arbor 110/0 87/0 12 (14) 312 All All All 19. Avalon Lea 130/28 108/30 0 518 All All All 20. Avalon at Decoverly 102/0 104/0 162 (15) 550 All All All 21. Avalon Crossing 0/54 60/0 18 (16) 224 All All All 22. Avalon Ridge 188/42 146/56 0 691 All All All 23. Falkland Chase 228/152 0/0 70 (17) 439 All Few Few 24. Avalon Run 144/90 108/84 0 709 All All All 25. Avalon Run East 64/11 95/36 0 345 All All All 26. Avalon Watch 251/0 179/82 0 768 All All All 27. Avalon Chase 132/48 156/24 0 726 All All All 28. Avalon View 112/48 64/64 0 614 All All All 29. Avalon Green 25/24 56/0 0 218 All All All 30. Avalon Towers 0/0 37/0 72 (18) 196 None All All 31. Avalon at Park Center 384/0 108/0 0 684 All All All 32. Avalon at Ballston- Quincy and Vermont Towers 370/0 84/0 0 498 All All All 33. Avalon at Ballston- Washington Towers 205/31 108/0 0 471 All All All 34. Avalon Birches 120/0 192/0 0 562 All All All 35. AutumnWoods 252/72 96/0 0 727 All All All 36. Avalon Station 68/31 100/24 0 682 All All All 37. Avalon at Hampton I 82/22 64/18 0 276 All All All 38. Avalon at Hampton II 95/44 56/36 0 350 All All All 39. Avalon Park 140/40 138/0 54 (19) 784 All All All 40. Avalon at Carter Lake 91/21 0/0 147 (14) 403 All Some None 41. Avalon at Gayton 156/54 88/30 0 518 All All All 42. Avalon at Boulders 90/0 179/15 0 571 All All All 43. Avalon Woods 200/0 48/0 20 (11) 434 All All All 44. Avalon Pointe 44/66 30/0 0 297 All All All 45. Avalon at Dulles 104/40 76/16 0 464 All All All 46. Avalon Pines 90/24 60/0 0 308 All All All ------------ ---------- ------- ---------- 6291/1855 4093/927 656 23,029 ------------ ---------- ------- ----------
Large Vaulted Storage or Patio Deck Ceilings Walk-in Balcony or and/or Lofts Fireplace Closet Sunroom Other - -------------------------------- ------------ ----------- -------- ----------- ------------------------------------------------ CURRENT COMMUNITIES - ------------------- 1. Avalon Walk I Some Some All All Double thermal pane windows, optional carports 2. Avalon Walk II Some Some All All Optional carports 3. Avalon Pavilions Some Some All All Double thermal pane windows, optional garages 4. Avalon Glen Some Some All All Controlled-access building entrances, outside storage, optional underground garage and carports 5. 4100 Massachusetts Avenue Some Some Some All Hardwood entry floors, controlled-access entry, 24-hour front desk, underground parking 6. Longwood Towers None Some All No Garage with valet parking, grand lobby, central laundry, across street from rapid transit stop 7. Avalon at Lexington Some Some All All Optional carports 8. Avalon Summit None None Some All Garbage disposals, laundry rooms, detached garages, storage 9. Avalon Arbor Some Some All All Optional carports 10. Avalon West Some Some All All Security systems, ceiling fans in some apartments, attached garages 11. Avalon Landing None Some All All Optional carports, bay windows, storm windows 12. Avalon at Fairway Hills I Some Some All All Some apartments have built-in bookcases 13. Avalon at Fairway Hills II Some Some Some All Optional bay windows, some apartments have built- in bookcases 14. Avalon at Symphony Glen Some Some All All Double thermal pane windows, outside storage, central laundry, some apartments have built-in bookcases 15. Avalon Farm Some All All All Optional carports 16. Avalon Fields Some Some All All Ceiling fan hook-ups, pantries, security systems, detached garages 17. Avalon Knoll Some Some All All Controlled-access building entrances, central laundry, some apartments have built-in bookcases 18. Avalon at Lake Arbor Some None All All Thermal pane windows, energy-saving appliances, controlled access, microwaves, garbage disposal, some lake views, sprinkler system 19. Avalon Lea Some Some All All Some apartments have built-in bookcases 20. Avalon at Decoverly Some Some Some All Thermal pane windows, ice makers, garbage disposals, gas utilities 21. Avalon Crossing Some Some All All Attached/detached garages, security systems, pantries, ceiling fan hookups, 9' ceilings, 6' windows 22. Avalon Ridge Some Some All All Central laundry, some apartments have built-in bookcases, car wash 23. Falkland Chase None Some Some Some Laundry rooms, optional storage and garage parking, controlled-access intercom systems, most apartments have hardwood floors 24. Avalon Run Some Some All All Optional carports 25. Avalon Run East Some Some All All Security system with available 24-hour monitoring, icemakers 26. Avalon Watch Some Some All All Garages 27. Avalon Chase None Some All All Some carports, some bay windows 28. Avalon View Some Some All All Optional carports 29. Avalon Green Some Some All All Security systems, central air conditioning, ceiling fans in some apartments 30. Avalon Towers None None All All Alarm systems, jacuzzi tubs, ceramic tile/granite backsplash in kitchens, microwaves, self-clean ovens, some marble foyers in entrance area 31. Avalon at Park Center Some Some All All Optional sunrooms, wallpaper in kitchens and baths, ceiling fans, controlled access in mid-rise buildings, security systems in garden apartments, controlled-access gates at community entrance, some underground parking 32. Avalon at Ballston- Quincy and Vermont Towers None Some All All Optional ceiling fans, optional garages 33. Avalon at Ballston- Washington Towers None Some Some All Controlled-access building entrances 34. Avalon Birches Some All All All Garbage disposals, ceiling fans, ice-makers, double sinks, storage 35. AutumnWoods Some Some All All Optional bay windows, optional storage, some apartments have built-in bookcases 36. Avalon Station Some Some All All Garbage disposals, bay windows, 11 ft. ceilings in dens 37. Avalon at Hampton I Some Some All All Double thermal pane windows, central laundry, some apartments have built-in bookcases 38. Avalon at Hampton II Some Some All All Double thermal pane windows, central laundry, some apartments have built-in bookcases 39. Avalon Park Some Some All All Microwave ovens, all apartments have custom bookshelves and ceiling fans 40. Avalon at Carter Lake None None Some All Garbage disposals, storm windows, laundry facilities 41. Avalon at Gayton Some Some All All Double thermal pane windows, some apartments have built-in bookshelves, wet bars and controlled- access building entrances, optional storage units 42. Avalon at Boulders None All All All Optional storage closets, garbage disposals, ceiling fans 43. Avalon Woods Some None Some Some Private entrances, ceiling fans, sun rooms in some units 44. Avalon Pointe Some None All All Garbage disposals, vaulted ceilings 45. Avalon at Dulles Some Some All All Some apartments have built-in bookcases, pantries, optional bay windows 46. Avalon Pines Some All All All Garages, ceiling fans, garbage disposals
10 13 LIST OF FEATURES - CURRENT AND DEVELOPMENT COMMUNITIES
Washer & 1BR/2BR 2BR/3BR Parking Mini- Dryer Hook-Ups 1 Bath 2 Bath Other Spaces Blinds Carpeting or Units - -------------------------------- -------- ----------- --------- --------- --------- ------------ -------------- DEVELOPMENT COMMUNITIES* - ------------------------ 47. Avalon Gates 122/0 168/50 0 784 All All All 48. Avalon Grove 246/0 144/12 0 549 All All All 49. Avalon Springs 0/0 70/32 0 162 All All All 50. Avalon Cove 238/0 240/26 0 568 All All All 51. Avalon Commons 128/40 112/32 0 568 All All All 52. Avalon Court 34/24 52/44 0 367 All All All 53. Avalon Gardens 208/48 144/104 0 1,210 All All All 54. Avalon Willow 151/0 76/0 0 379 All All All 55. Avalon at Cameron Court 208/0 252/0 0 860 All All All 56. Avalon at Fair Lakes 45/0 163/0 26 (20) 505 All All All 57. Avalon Crescent 186/24 312/0 36 (21) 977 All All All ------------ ------------ ------- ---------- Subtotals 1,566/136 1,733/300 62 6,929 ------------ ------------ ------- ---------- TOTAL: 7,857/1,991 5,826/1,227 718 29,958 ============ ============ ======= ==========
Large Vaulted Storage or Patio Deck Ceilings Walk-in Balcony or and/or Lofts Fireplace Closet Sunroom Other - ------------------------------- ------------ ----------- -------- ----------- ----------------------------------------------------- DEVELOPMENT COMMUNITIES* - ------------------------ 47. Avalon Gates Some Some All All Reading room, security systems 48. Avalon Grove Some Some All All Security systems, controlled-access building entrances 49. Avalon Springs All All All All Mail area, trash recycling building, security system 50. Avalon Cove Some Some All Most Security systems, controlled-access building entrances 51. Avalon Commons Some Some All All Security system 52. Avalon Court Some Some All All Direct access garages, security systems 53. Avalon Gardens Some Some All All Security system, garages 54. Avalon Willow Some Some All All Security system, garages 55. Avalon at Cameron Court Some Some All All Direct access garages, intrusion alarms, microwaves, garbage disposals, pantries, breakfast bars 56. Avalon at Fair Lakes Some Some Some All Controlled access building entrance, garbage disposals, direct access garages, pantries, breakfast bars 57. Avalon Crescent Some Some All All Pantries, icemakers, garbage disposals, security alarms, sprinkler system, walk-in showers, ceramic Subtotals TOTAL:
All apartment homes contain refrigerators and dishwashers and all homes are cable TV ready. * See page 13 for notes. 11 14 Notes to Community Information tables on pages 8 through 12 (1) Represents the average rental revenue per occupied apartment home. (2) Property EBITDA is defined as property earnings before interest, income taxes, depreciation, amortization, extraordinary items, gain/(loss) on sale of a community, minority interest and before considering corporate general and administrative expenses and central property management overhead. Gross EBITDA discussed in Note (4) to the Selected Financial Data represents consolidated earnings (net of general and administrative expenses and central property management overhead), and including minority interest, but before depreciation and amortization. (3) Costs are presented in accordance with GAAP and exclude the step-up in basis attributed to continuing investors. For Development Communities, cost represents total costs incurred through December 31, 1996. (4) Ownership through ownership of the Avalon Arbor note. See Note 4 to consolidated financial statements. (5) Owned by a partnership in which the Company has a 50% ownership interest. Extensive renovation completed in 1987. (6) Owned by a joint venture in which the Company has a 49% equity and 40% cash flow interest with the remaining 51% equity and 60% cash flow interest held by an institutional investor. (7) Community acquired on 1-11-97. See "Acquisition Activities and Other Recent Developments." (8) Excludes corporate apartment homes. (9) Construction commenced in the first quarter of 1997. (10) Comprised of 7 1BR/1.5BA, 3 2BR/1.5BA and 4 2BR/2.5BA. (11) Efficiencies. (12) Comprised of 7 guest rooms, 40 studio apartments, 10 3BR/3BA apartments. (13) Comprised of 3 apartment homes with 4BR. (14) 2BR and 1-1/2BA. (15) Comprised of 54 1BR/1.5BA, 64 2BR/3BA and 44 3BR/2BA. (16) 2BR and 2-1/2BA. (17) 35 2BR town homes and 35 3BR town homes. (18) Comprised of 1 studio, 1 2BR/3BA, 3 3BR/3BA and 67 1BR/2BA. (19) Comprised of 40 efficiencies and 14 2BR town homes. (20) 3BR and 3BA. (21) Comprised of 36 2BR/2-1/2BA + loft apartments. 13 15 Development Communities As of March 14, 1997, 11 Development Communities were under construction which, when completed, will add a total of 3,797 apartment homes to the Company's portfolio. Subsequent to year end, the Company commenced construction on one of the Development Rights (Avalon at Cameron Court) which had a capitalized cost at December 31, 1996 of approximately $769,000. The Development Communities will resemble the Current Communities and have been designed to offer similar amenities. The total capitalized cost of these Development Communities, when completed, is expected to be approximately $459.4 million. The following is a summary of the Development Communities: DEVELOPMENT COMMUNITIES SUMMARY
NUMBER OF BUDGETED ESTIMATED ESTIMATED EBITDA AS % APARTMENT COST CONSTRUCTION INITIAL COMPLETION STABILIZATION OF TOTAL HOMES ($ MILLIONS) START OCCUPANCY DATE DATE (1) BUDGETED COST (2) ----------- ------------- ----------- ----------- ----------- --------------- ------------------- Conventionally Financed - ----------------------- Avalon Gates Trumbull, CT 340 $ 34.9 Q3 1994 Q2 1996 Q3 1997 Q4 1997 9.6% Avalon Cove Jersey City, NJ 504 91.5 Q4 1994 Q2 1996 Q1 1997 Q3 1997 11.0% Avalon Grove (3) Stamford, CT 402 51.9 Q1 1995 Q3 1996 Q2 1997 Q3 1997 12.0% Avalon Springs Wilton, CT 102 15.5 Q3 1995 Q3 1996 Q1 1997 Q3 1997 11.4% Avalon Commons Smithtown, NY 312 30.6 Q1 1996 Q1 1997 Q3 1997 Q4 1997 11.1% Avalon Crescent Tysons Corner, VA 558 56.7 Q1 1996 Q4 1996 Q4 1997 Q1 1998 10.4% Avalon Gardens Nanuet, NY 504 53.1 Q3 1996 Q3 1997 Q4 1998 Q1 1999 10.1% Avalon Court Melville, NY 154 17.8 Q4 1996 Q3 1997 Q1 1998 Q2 1998 10.5% Avalon at Fair Lakes Fairfax, VA 234 23.2 Q1 1997 Q4 1997 Q3 1998 Q4 1998 10.0% Avalon Willow Mamaroneck, NY 227 39.5 Q1 1997 Q3 1998 Q4 1998 Q2 1999 9.7% Avalon at Cameron Court Alexandria, VA 460 44.7 Q1 1997 Q1 1998 Q4 1998 Q2 1999 10.2% -------- ------------- ------------------- 3,797 $ 459.4 10.6% ======== ============= ===================
- ----------------- (1) Stabilized occupancy is defined as the first full quarter of 95% or greater occupancy. (2) Projected EBITDA represents gross potential earnings projected to be achieved based on current rents prevailing in the respective community's local market (without adjustment for potential growth factors) and before interest, income taxes, depreciation, amortization and extraordinary items, minus (a) economic vacancy and (b) projected stabilized operating expenses. Total budgeted cost includes all capitalized costs projected to be incurred to develop the respective Development Community, including land acquisition costs, construction costs, real estate taxes, capitalized interest and loan fees, permits, professional fees, allocated development overhead and other regulatory fees. (3) Currently anticipated to be held by a joint venture. 14 16 The Company intends to periodically update the projections in the table on the preceding page to the extent Management believes there may be or has been a material change in these projections on an aggregate basis. There can be no assurance that the Company will complete the Development Communities, that the Company's budgets, leasing, occupancy or earnings estimates will be realized or that future developments will realize comparable returns. In accordance with GAAP, the Company capitalizes interest expense during construction until each building obtains a certificate of occupancy; thereafter, interest for each completed building is expensed. Capitalized interest during the years ended December 31, 1996, 1995 and 1994 totaled $12.2 million, $6.0 million and $2.8 million, respectively. Development Rights As of March 14, 1997, the Company was pursuing the development of 17 new apartment communities. The status of these new communities ranges from land owned or under option for which design and architectural planning has just commenced to land under option with completed site plans and drawings where construction can commence almost immediately. Although there is no assurance that all or any of these communities will proceed to development, the successful completion of all of these communities would ultimately add 4,806 institutional-quality apartment homes to the Company's portfolio. Many of these apartment homes will offer features similar to those offered by the Current Communities, including vaulted ceilings, lofts, fireplaces, dishwashers, disposals, washer/dryer connections, ice-makers, patios and decks. Recreational facilities may include swimming pools, fitness facilities, playgrounds, picnic areas, tennis courts, racquetball courts or indoor basketball courts. Direct-access garages are also planned for certain Development Rights. The Company generally holds Development Rights through options to acquire land, although one development right is controlled through a joint venture partnership that owns land (New Canaan, CT). In connection with the completion of the Initial Offering, the Company acquired, as part of the Development Rights, those site plans, building permits, zoning approvals and other materials associated with the Development Rights then in effect. As of December 31, 1996, the cumulative capitalized costs for the 17 current Development Rights is approximately $10.5 million including the capitalized cost of $6.1 million related to the purchase of land in New Canaan, Connecticut. The properties that comprise the Development Rights are located in Maryland, Massachusetts, New Jersey, New York, and Connecticut and are in different stages of the due diligence and regulatory approval process. The decisions as to which of the Development Rights to pursue, if any, or to continue to pursue once an investment in a Development Right is made are business judgments to be made by Management after financial, demographic and other analysis is performed. There can be no assurance that the Company will succeed in obtaining zoning and other necessary governmental approvals or the financing required to develop these communities, or that the Company will decide to develop any particular community. Further, there can be no assurance that construction of any particular community will be undertaken or, if undertaken, will begin at the expected times or be completed within the budgeted costs assumed in the financial projections. Finally, Management intends to limit the percentage of debt used to finance new developments and acquisitions. To comply with Management's self-imposed limitation in the use of debt, future equity offerings may be required to finance the development of those Development Rights scheduled to start construction after 1997. Notwithstanding the lack of assurance with respect to the prospective development of any particular community that is the subject of the Development Rights, Management believes that the Development Rights, in the aggregate, present attractive potential opportunities for future development and growth of the Company's Funds from Operations (as hereinafter defined.) Historically, Management has been successful in controlling land through option agreements prior to commencing construction. Generally, this allowed the Company to limit exposure to development risks by purchasing land only when the entitlement process was complete and when construction could commence immediately after the purchase of the land. Accordingly, at December 31, 1996, the Company did not 15 17 directly own any unentitled and undeveloped land. The Company, however, holds an 86.5% non-recourse joint venture partnership interest in a partnership that owns undeveloped land. The Company may purchase undeveloped land before development and financing plans are complete if, in Management's judgment, controlling the land through an option agreement is not viable, the land can be acquired under attractive terms, is in the advanced stages of the entitlement process and can proceed to development within a medium-term planning and marketing horizon. The current inventory of Development Rights is summarized in the following table: DEVELOPMENT RIGHTS SUMMARY
TOTAL ESTIMATED BUDGETED NUMBER OF COST LOCATION HOMES ($ MILLIONS) ----------------------- ------------ --------------- 1. Freehold, NJ 452 $ 37.4 2. Quincy, MA 171 15.5 3. New Canaan, CT (1) 104 23.2 4. Greenburgh - II, NY 500 64.2 5. Greenburgh - III, NY 294 37.7 6. Darien, CT 172 20.7 7. Fort Lee, NJ 351 52.6 8. Peabody, MA 434 35.8 9. Hull, MA 244 20.3 10.Jersey City, NJ 221 38.5 11.New Rochelle, NY 375 52.5 12.Melville - II, NY 350 37.0 13.Wilmington, MA 204 18.0 14.Gaithersburg - II, MD 96 9.0 15.Bronxville, NY (1) 110 18.8 16.Parsippany, NY 460 61.8 17.Danbury, CT 268 25.0 ----------- ----------- Total 4,806 $ 568.0 =========== ===========
(1) Currently anticipated that the land seller will retain a minority limited partnership interest. 16 18 Acquisition Activities and Other Recent Developments Acquisitions of Existing Communities. In 1996, the Company acquired six communities that total 1,765 apartment homes, and through March 14, 1997, two additional communities were acquired. These communities are summarized as follows: On January 4, 1996, the Company acquired Avalon Chase, a 360 apartment home, garden-style community located in Marlton, New Jersey, for approximately $23,292,000. On May 23, 1996, the Company purchased Avalon Pines, a 174 apartment home, luxury garden-style community located in Virginia Beach, Virginia for $8,420,000. In connection with this acquisition, the Company assumed a conventional collateralized loan with an outstanding principal amount of approximately $5,600,000 and bearing an 8.0% annual fixed interest rate with a maturity date of December 2003. This community was managed by the Company prior to its acquisition. On July 23, 1996, the Company purchased Avalon at Fairway Hills II, two luxury, garden-style communities located in Columbia, Maryland for $32,430,000. These communities contain a total of 527 apartment homes. On September 25, 1996, the Company purchased Avalon at Boulders in Richmond, Virginia for $14,831,000. This luxury garden-style community contains a total of 284 apartment homes. On December 13, 1996, the Company acquired AutumnWoods in Fairfax, Virginia for a total purchase price of $30,052,000, including the assumption of a conventional collateralized loan with an outstanding principal balance of approximately $24,300,000. This loan bears interest at a fixed rate of 9.25% per annum and matures in November 1997. The Company expects to repay the loan in August 1997, the earliest date on which the loan may be prepaid with no penalty. This luxury, garden-style apartment community contains a total of 420 apartment homes. On January 11, 1997, the Company acquired two apartment communities, Avalon at Ballston-Quincy and Vermont Towers, in Arlington, Virginia for a total purchase price of approximately $45,698,000 of which approximately $700,000 was paid in the form of partnership units exchangeable for shares of the Company's Common Stock (based on the market value of the Common Stock on the closing date of the acquisition). One of these luxury, high-rise apartment communities contains 222 apartment homes; the other contains a total of 232 apartment homes in two connected buildings. Sale of Existing Communities. On November 1, 1996, the Company sold two garden-style apartment communities, formerly Avalon Brooke and Avalon Heights, located in Middletown (near Hartford), Connecticut, to a single buyer for a total sale price of $32,650,000. The net cash proceeds from the sale were used to retire indebtedness under the Company's Unsecured Facilities. In connection with the sale, Avalon recognized a non-recurring gain totaling approximately $7,850,000. Land Acquisitions for New Developments. On January 4, 1996, the Company purchased 19.1 acres of land in Tysons Corner, Virginia for $13,750,000. Construction of a new apartment community, Avalon Crescent, started in the first quarter of 1996. Construction of this 558 apartment home community is scheduled for completion in the fourth quarter of 1997. On February 7, 1996, the Company completed the purchase of 21 acres of land in Smithtown, New York. Construction of a new garden-style apartment community, Avalon Commons, started in the first quarter of 1996. Construction of this 312 apartment home community is expected to be completed by the third quarter of 1997. 17 19 On July 3, 1996, the Company purchased a 47.4 acre tract of land in Nanuet, New York for $7,000,000. A new 504 apartment home community, Avalon Gardens, commenced construction in the third quarter of 1996. On October 2, 1996, the Company purchased a 10.8 acre tract of land in Melville, New York for $3,000,000. A new 154 apartment home community, Avalon Court, commenced construction in the fourth quarter of 1996. On December 4, 1996, the Company purchased a 10 acre tract of land in Fairfax, Virginia for $3,642,500. Construction of a new 234 apartment home community, Avalon at Fair Lakes, commenced in the first quarter of 1997. The Company has contracted to purchase five tracts of land in Mamaroneck, New York containing a total of four acres for an aggregate purchase price of $6,010,000. The Company acquired the first 2.3 acres of land on December 23, 1996 for $2,750,000 and expects to acquire the remaining tracts in April 1997. Construction of a new 227 apartment home community, Avalon Willow, started in the first quarter of 1997. On January 15, 1997, the Company purchased seven acres of land in Alexandria, Virginia for $4,300,000. Construction of a new 460 apartment home community, Avalon at Cameron Court, commenced construction in the first quarter of 1997. On March 12, 1997, the Company purchased 8.29 acres of land in Quincy, Massachusetts for $950,000. Construction of a new 171 apartment home community, Avalon at Faxon Park, is expected to start in the second quarter of 1997. Financing Activities. On January 18, 1996, the Company completed the sale of 2,227,000 shares of its Common Stock to certain institutional investors under its existing shelf registration statement at a purchase price of $21.25 per share. Net cash proceeds of approximately $46,700,000 were used to repay amounts outstanding under the Unsecured Facility. In January 1996, the Company arranged the Supplemental Unsecured Facility in the amount of $35,000,000. On January 30, 1996, the Company filed a shelf registration statement with the Securities and Exchange Commission covering up to $327,670,000 of securities. The registration statement provided for the issuance of Common Stock, Preferred Stock, debt securities and warrants to purchase Common Stock. The remaining securities issuable under this registration statement were carried forward into a shelf registration statement filed by the Company on February 24, 1997 (described below). On February 16, 1996, the Company completed an offering of 4,455,000 shares of 9% Cumulative Series A Redeemable Preferred Stock. The net cash proceeds from the sale (approximately $108,225,000) were used to retire indebtedness under the Company's Unsecured Facility, to retire construction loans and for general corporate purposes. On August 1, 1996, the Company completed a new tax-exempt credit enhancement facility with the Federal National Mortgage Association ("Fannie Mae") that will provide a long-term, cost-effective credit enhancement source for the Company's current and future tax-exempt bond debt. In connection with this facility, the Company completed the refinancing of approximately $91,000,000 of its tax-exempt bond debt. The facility initially involves eleven communities, seven that are financed with tax-exempt bonds and four unencumbered communities that are pledged as additional collateral. 18 20 In September 1996, pricing on the Company's Unsecured Facilities was reduced. The consortium of banks providing the Company's $165,000,000 Unsecured Facility lowered the interest rate charged under the facility to LIBOR plus 1.19% from LIBOR plus 1.44%. Pricing under the Supplemental Unsecured Facility provided by First Union National Bank was reduced to LIBOR plus .95% from LIBOR plus 1.25%. On October 22, 1996, the Company completed an offering of 4,300,000 shares of 8.96% Series B Cumulative Redeemable Preferred Stock. The net cash proceeds from the sale (approximately $104,114,000) were used to retire indebtedness under the Company's Unsecured Facilities. On December 13, 1996, the Company completed a public offering of 2,645,000 shares of common stock at a purchase price of $26.25 per share. The net cash proceeds of approximately $66,000,000 from the offering were used primarily to repay amounts outstanding under the Unsecured Facilities, to fund the acquisition and development of additional apartment communities and for general working capital purposes. On February 24, 1997, the Company filed a shelf registration statement with the Securities and Exchange Commission covering up to $350,000,000 of securities. The registration statement provides for the issuance of Common Stock, Preferred Stock, debt securities and warrants to purchase Common Stock. 19 21 ITEM 3. LEGAL PROCEEDINGS In March 1996, Procida Construction Corporation, the original contractor selected to build Avalon Cove, notified the Company that it was not able to complete the contract within the guaranteed maximum price and subsequently defaulted on its contractual obligations. In April 1996, the Company filed a demand for arbitration with the American Arbitration Association in New York against Procida Construction Corporation to recover any excess over the original guaranteed maximum price contract and instituted suit in the U.S. District Court to compel arbitration. Procida Construction has since filed Chapter 11 Bankruptcy, and consequently no assurance can be provided that collection efforts will be successful. Procida Construction has an unspecified claim against Avalon Properties, Inc. arising out of its termination. Management believes this claim is without merit. However, should Procida Constrcution prevail, Management believes that the cost of this claim would not have a material adverse impact on the financial condition or results of operations of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS No matters were submitted to a vote of stockholders during the fourth quarter of the year ended December 31, 1996. 20 22 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's Common Stock is traded on the New York Stock Exchange (the "NYSE") under the ticker symbol "AVN." The following table sets forth the quarterly high and low closing prices per share of the Company's Common Stock on the NYSE for the years ended December 31, 1996 and 1995, as reported by the NYSE. On March 3, 1997, there were 356 holders of record of 33,522,839 shares of the Company's Common Stock.
1996 1995 ---------------------------------------- --------------------------------------- Closing Price Closing Price -------------------------- Dividends ------------------------ Dividends Quarter Ended High Low Paid High Low Paid ----------------- -------------- ----------- ----------- ----------- ------------ ------------ March 31 $23.000 $20.875 $ 0.37 $22.250 $18.000 $ 0.3 June 30 $22.125 $20.375 $ 0.37 $21.000 $19.125 $ 0.3 September 30 $23.750 $21.500 $ 0.37 $21.000 $19.125 $ 0.3 December 31 $29.000 $23.125 $ 0.38 $21.500 $19.000 $ 0.3
On January 22, 1997, the Company declared a cash dividend on its Common Stock of $.38 per share for the fourth quarter of 1996. The dividend was paid on February 14, 1997 to all stockholders of record as of February 3, 1997. The Company expects to continue its policy of paying regular quarterly cash dividends. However, dividend distributions will be declared at the discretion of the Board of Directors and will depend on actual Funds from Operations of the Company, its financial condition, capital requirements, the annual distribution requirements under the REIT provisions of the Code and such other factors as the Board of Directors may deem relevant. The Board of Directors may modify the Company's dividend policy from time-to-time. The total of the four dividends paid in 1996 exceeds the net income for the year ended December 31, 1996 computed in accordance with Federal income tax regulations. Accordingly, the Company determined that 78% of the $1.49 per share dividends paid and declared in 1996 represented ordinary dividend income to its stockholders and 6% represented capital gain. The remaining 16% is non-taxable return of capital that reduces the stockholders' basis in the Company's Common Stock. The Company has an optional Dividend Reinvestment and Stock Purchase Plan (the "Plan") which allows holders of Common Stock to acquire additional stock by automatically reinvesting dividends. Common Stock is acquired pursuant to the Plan at a price equal to 98% of the market price of such stock, without payment of any brokerage commission or service charge on such purchases. The Plan also allows stockholders to purchase a limited amount of additional stock at 100% of the market price of such stock by making optional cash payments without payment of any brokerage commission or service charge on such purchases. Stockholders who do not participate in the Plan continue to receive cash dividends as declared. 21 23 ITEM 6. SELECTED FINANCIAL DATA The following table below provides historical consolidated financial, operating and other data for the Company and the Predecessor. The table should be read with the consolidated financial statements of the Company and the notes included in this report.
Company (1) ----------------------------------------------------------- Years ended 11/18/93 ------------------------------------------- through 12/31/96 12/31/95 12/31/94 12/31/93 ---------- ---------- ----------- ----------- (Dollars in thousands, except per share information) OPERATING INFORMATION: Revenue: Rental income $ 123,354 $ 94,821 $ 71,756 $ 7,241 Management fees 1,439 1,926 2,077 211 Other income 420 466 468 21 ----------- ---------- ----------- ----------- Total revenue 125,213 97,213 74,301 7,473 ----------- ---------- ----------- ----------- Expenses: Operating expenses 46,705 35,743 27,680 2,770 Interest expense 9,545 11,056 5,687 632 Depreciation and amortization 20,956 16,558 12,342 1,247 General and administrative 3,807 3,387 2,482 200 Development costs write-off 450 400 400 47 ----------- ---------- ----------- ----------- Total expenses 81,463 67,144 48,591 4,896 ----------- ---------- ----------- ----------- Equity in income of joint ventures 1,025 440 701 44 Interest income 887 953 872 118 Investment interest expense -- -- -- -- Minority interest income 495 633 733 44 ----------- ---------- ----------- ----------- Income (loss) before gain on sale of communities and extraordinary items 46,157 32,095 28,016 2,783 Gain on sale of communities 7,850 -- -- -- Extraordinary items (2,356) (1,158) -- -- ----------- ---------- ----------- ----------- Net income (loss) 51,651 30,937 28,016 2,783 Dividends attributable to preferred stock (10,422) -- -- -- ----------- ---------- ----------- ----------- Net income (loss) available to common stockholders $ 41,229 $ 30,937 $ 28,016 $ 2,783 =========== ========== =========== =========== Net income per share (2) $ 1.34 $1.09 $1.10 $ 0.12 Cash dividends declared per share (2) $ 1.49 $1.46 $1.08 $ 0.17 Weighted average shares outstanding (2) 30,739,504 28,365,427 25,486,932 22,432,494 OTHER INFORMATION: Funds from Operations (3) $ 54,622 $ 46,879 $ 39,485 $ 3,943 Gross EBITDA (4) $ 75,771 $ 58,756 $ 45,173 $ 4,544 Total rental communities (5) 45 38 31 22 Total number of apartment homes (5) 13,368 11,255 9,847 7,294 Development Starts: Communities 4 7 4 -- Apartment Homes 1,528 1,178 1,141 -- Developments Completed: Communities 6 1 3 -- Apartment Homes 1,390 246 958 -- Acquisitions Completed: Communities 6 7 6 1 Apartment Homes 1,765 1,304 1,594 250 Dispositions Completed: Communities 2 -- -- -- Apartment Homes 518 -- -- -- BALANCE SHEET INFORMATION: Real estate, before accumulated depreciation $ 1,081,906 $ 782,433 $ 593,632 $ 426,570 Total assets $ 1,082,771 $ 786,711 $ 602,558 $ 451,851 Notes payable and Unsecured Facilities $ 310,606 $ 340,686 $ 162,265 $ 94,648
Predecessor (1) ---------------------------------------- 01/01/93 Year through ended 11/17/93 12/31/92 ----------- ---------- (Dollars in thousands, except per share information) OPERATING INFORMATION: Revenue: Rental income $ 50,102 $ 50,823 Management fees 1,344 1,711 Other income 410 234 ------------ ---------- Total revenue 51,856 52,768 ------------ ---------- Expenses: Operating expenses 21,620 23,032 Depreciation and amortization 10,851 10,828 Interest expense 24,557 23,092 General and administrative 1,341 1,574 Development costs write-off -- 119 ------------ ---------- Total expenses 58,369 58,645 Equity in income of joint ventures 344 162 Interest income 599 1,839 Investment interest expense (204) (2,922) Minority interest income -- -- ------------ ---------- Income (loss) before gain on sale of communities and extraordinary items (5,774) (6,798) Gain on sale of communities -- -- Extraordinary items 10,194 -- ------------ ---------- Net income (loss) 4,420 (6,798) Dividends attributable to preferred stock -- -- ------------ ---------- Net income (loss) available to common stockholders $ 4,420 $ (6,798) ============ ========== Net income per share (2) $ -- $ -- Cash dividends declared per share (2) $ -- $ -- Weighted average shares outstanding (2) N/A N/A OTHER INFORMATION: Funds from Operations (3) $ 4,588 $ 3,460 Gross EBITDA (4) $ 29,239 $ 28,205 Total rental communities (5) 21 20 Total number of apartment homes (5) 7,044 6,756 Development Starts: Communities -- -- Apartment Homes -- -- Developments Completed: Communities -- -- Apartment Homes -- -- Acquisitions Completed: Communities -- -- Apartment Homes -- -- Dispositions Completed: Communities -- -- Apartment Homes -- -- BALANCE SHEET INFORMATION: Real estate, before accumulated depreciation $ -- $ 373,986 Total assets $ -- $ 372,041 Notes payable and Unsecured Facilities $ -- $ 359,888
22 24 Notes to Selected Financial Data (1) See consolidated financial statements of the Company and the related notes included in this report. (2) Share and per share information is only presented for the Company because no common stock was outstanding during periods presented for the Predecessor. The first full year operating as a public company was 1994 and the timing of dividend declarations and payments was such that only three dividends were paid in 1994. (3) Management generally considers Funds from Operations ("FFO") to be an appropriate measure of the performance of an equity REIT. Funds from Operations is determined in accordance with a resolution adopted by the Board of Governors of the National Association of Real Estate Investment Trusts, Inc. ("NAREIT"), and is defined as net income (loss) (computed in accordance with GAAP), excluding gains (or losses) from debt restructuring and sales of property, plus depreciation of real estate assets, and after adjustments for unconsolidated partnerships and joint ventures. The calculation of Funds from Operations for the periods presented is reflected in the following table: SUMMARY CALCULATION OF FUNDS FROM OPERATIONS
Company Predecessor ------------------------------------------------------ ------------------------ Years ended 11-18-93 1-1-93 Year ------------------------------------------- through through ended 12-31-96 12-31-95 12-31-94 12-31-93 11-17-93 12-31-92 ----------- ---------- ----------- ---------- --------- ------------ Net income (loss) $ 51,651 $ 30,937 $ 28,016 $ 2,783 $ 4,420 $ (6,798) Depreciation (real estate related) 18,566 14,468 11,153 1,122 10,083 9,932 Joint venture adjustments 321 316 316 38 279 326 Preferred stock dividends (10,422) -- -- -- -- -- Gain on sale of communities (7,850) -- -- -- -- -- Extraordinary items 2,356 1,158 -- -- (10,194) -- ----------- ----------- ----------- ----------- --------- --------- Funds from Operations $ 54,622 $ 46,879 $ 39,485 $ 3,943 $ 4,588 $ 3,460 =========== =========== =========== =========== ========= ========= Weighted average shares outstanding 30,739,504 28,365,427 25,486,932 22,432,494 -- -- =========== =========== =========== =========== ========= =========
Funds from Operations does not represent net income or cash flows from operations as determined in accordance with GAAP and Funds from Operations should not be considered as an alternative to net income as an indicator of the Company's operating performance or as an alternative to cash flows as a measure of liquidity. Funds from Operations does not measure whether cash flow is sufficient to fund all of the Company's cash needs including principal amortization, capital improvements and distributions to stockholders. Funds from Operations does not represent cash flows from operating, investing or financing activities as determined in accordance with GAAP, which are discussed in "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." Further, Funds from Operations as disclosed by other REITs may not be comparable to the Company's calculation of Funds from Operations, as described above. (4) Gross EBITDA represents earnings before interest, income taxes, depreciation and amortization, gain on sale of communities and extraordinary items. Gross EBITDA is relevant to an understanding of the economics of the Company because it indicates cash flow available from Company operations to service fixed obligations. Gross EBITDA should not be considered as an alternative to operating income, as determined in accordance with GAAP, as an indicator of the Company's operating performance, or to cash flows from operating activities (as determined in accordance with GAAP) as a measure of liquidity. See "Communities" for property EBITDA and the related definition. 23 25 (5) These amounts include communities and apartment homes only after stabilized occupancy has occurred. A community is considered by the Company to have achieved stabilized occupancy on the earlier of (i) the first day of any month in which the community reaches 95% physical occupancy or (ii) one year after completion of construction. These amounts also include Falkland Chase, which has 450 apartment homes and Avalon Run, which has 426 apartment homes, both of which are joint venture investments. 24 26 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS Certain statements in this Form 10-K constitute "forward-looking statements" as that term is defined under the Private Securities Litigation Reform Act of 1995 (the "Reform Act"). The words "believe," "expect," "anticipate," "intend," "estimate", "assume" and other similar expressions which are predictions of or indicate future events and trends and which do not relate to historical matters identify forward-looking statements. In addition, information concerning construction, occupancy and completion of Development Communities and Development Rights and related cost and EBITDA estimates, are forward-looking statements. Reliance should not be placed on forward-looking statements because they involve known and unknown risks, uncertainties and other factors, which are in some cases beyond the control of the Company and may cause the actual results, performance or achievements of the Company to differ materially from anticipated future results, performance or achievements expressed or implied by such forward-looking statements. Certain factors that might cause such differences include, but are not limited to, the following: The Company may abandon development opportunities; construction costs of a community may exceed original estimates; construction and lease-up may not be completed on schedule, resulting in increased debt service expense and construction costs and reduced rental revenues; occupancy rates and market rents may be adversely affected by local economic and market conditions which are beyond management's control; financing may not be available on favorable terms; the Company's cash flow may be insufficient to meet required payments of principal and interest; and existing indebtedness may not be able to be refinanced or the terms of such refinancing may not be as favorable as the terms of existing indebtedness. OVERVIEW The following discussion should be read in conjunction with the consolidated financial statements and related notes included in this report. The Company's operations consist of the development, construction, acquisition and operation of apartment communities in the Mid-Atlantic and Northeast regions of the United States. As of March 14, 1997, the Company owned 43 completed and operating communities (including Avalon at Ballston-Quincy and Vermont Towers which were purchased on January 11, 1997), a 50% general partnership interest in another community (Falkland Chase), a 49% equity interest (including a 40% cash flow interest) in another community (Avalon Run), a 100% interest in a senior participating mortgage note secured by another community (Avalon Arbor) and ownership interests in 11 communities under construction. In total, 43 operating communities (including Avalon Arbor) are included in the Company's operating results presented herein. In addition, the income category "Equity in income of joint ventures" contained in the Consolidated Statements of Operations includes income attributable to the Company's 50% share of operating income from the general partnership interest through which it holds one community (Falkland Chase), the Company's interest in Avalon Run, the Company's 86.5% effective equity interest in Town Close Associates and 100% of the operating income from the anticipated Avalon Grove joint venture to be formed upon completion of construction (a Development Community). The Company's investment in the senior participating mortgage note relating to the Avalon Arbor community is presented as an investment in real estate in the accompanying Consolidated Financial Statements in accordance with GAAP. RESULTS OF OPERATIONS The changes in operating results from period-to-period are primarily the result of increases in the number of apartment homes owned due to the development and acquisition of additional communities. Where appropriate, comparisons are made on a weighted average basis for the number of occupied apartment homes 25 27 in order to adjust for such changes in the number of apartment homes. For Stabilized Communities, all occupied apartment homes owned are included in the calculation of weighted average occupied apartment homes for each reporting period. For communities in the initial lease-up phase, only apartment homes that are completed and occupied are included in the weighted average number of occupied apartment homes calculation for each reporting period. COMPARISON OF YEAR ENDED DECEMBER 31, 1996 TO YEAR ENDED DECEMBER 31, 1995 The Company's principal markets are characterized by high barriers-to-entry and restrictive zoning regulations and it often requires several years to obtain entitlements to build an apartment community. For this reason, little new rental product has been added in the Company's principal markets in recent years. For the markets north of Maryland, Management is not aware of any significant level of planned apartment construction starts. For the Washington, D.C. metropolitan area, permitting activity has increased, with 8,000 apartment homes in planning for delivery over the next 36-month period. Estimated absorption during this period totals 9,000 apartment homes, which would create a supply-demand balance that would be favorable for owners of multifamily apartment communities. At December 31, 1996, Management had positioned the Company's portfolio of Stabilized Communities to a physical occupancy level of 95.7% and for the year ended December 31, 1996, these communities achieved an average economic occupancy of 95.2%. Average economic occupancy for the portfolio in 1995 was 95.8%. This high occupancy was achieved through aggressive marketing efforts combined with limited and targeted pricing adjustments. This positioning has resulted in overall growth in rental revenue from Stabilized Communities. It is Management's strategy to maximize total rental revenue through management of rental rates and occupancy levels. If market and economic conditions change, Management may adopt a strategy of maximizing rental rates, which could lead to lower occupancy levels, if Management believes that this strategy will maximize rental revenue. Given the currently high occupancy level of the portfolio, Management anticipates that, for the foreseeable future, rental revenue and net income gains from Stabilized Communities will continue primarily through higher rental rates and enhanced operating cost leverage provided by high occupancy, rather than through occupancy gains. Although Management believes the current occupancy levels can be sustained for the foreseeable future at current rental rates, no assurance can be given in this regard. Income before gain on sale of communities and extraordinary items increased $14,062,000 (43.8%) from $32,095,000 in 1995 to $46,157,000 in 1996. The principal reasons for this increase are additional operating income from newly completed and acquired communities during 1995 and 1996 as well as growth in operating income from existing communities resulting principally from increases in rental revenue. Property level EBITDA for Established Communities increased by $2,351,000 (4.3%) to $57,181,000 from $54,830,000 as a result of a 4.3% increase in total revenue and a 4.4% increase in operating expenses. The notable reasons for these increases are discussed in the following paragraphs. Rental income increased $28,533,000 (30.1%) to $123,354,000 in 1996 from $94,821,000 in 1995. Of this increase, $3,591,000 relates to Established Communities and $24,942,000 is attributable to newly completed or acquired apartment homes. Overall Portfolio - The $28,533,000 increase in rental income is primarily due to increases in the weighted average number of occupied apartment homes as well as an increase in the weighted average monthly rental income per occupied apartment home. The weighted average number of occupied apartment homes increased from 9,304 apartment homes during 1995 to 11,043 apartment homes during 1996 as a result of the development and acquisition of new communities. Weighted average monthly revenue per occupied apartment home increased $47 (5.5%) from $846 in 1995 to $893 in 1996. Average economic occupancy decreased .6% from 95.8% in 1995 to 95.2% in 1996. Established Communities - Weighted average monthly revenue per occupied apartment home increased $41 (4.8%) from $849 in 1995 to $890 in 1996. Average economic occupancy 26 28 decreased .4% from 96.3% to 95.9%. Accordingly, rental revenue from Established Communities increased $3,591,000 (4.4%) from $81,702,000 in 1995 to $85,293,000 in 1996. When combined with other income from Established Communities, total revenue from Established Communities increased by $3,553,000 in 1996, a 4.3% increase from 1995. Management fees decreased $487,000 (25.3%) to $1,439,000 in 1996 from $1,926,000 in 1995. The decrease is primarily due to a decline in the number of apartment homes managed for third-party owners in 1996. This decline is due to the sale and cancellation of management contracts of some third-party communities in 1995 and 1996 as well as the acquisition of two Current Communities in the third quarter of 1995 and one Current Community in the second quarter of 1996 that were previously managed by the Company for third-party owners prior to their acquisition. Management has decided not to aggressively pursue new fee management business at this time. New fee management business will be accepted in cases where it is profitable and where it presents a possible acquisition opportunity. This creates a very selective environment under which new fee management business will be added, which the Company anticipates will result in an overall decline in this revenue source in the future. Operating expenses including write-off of deferred development costs increased $11,012,000 (30.5%) to $47,155,000 in 1996 from $36,143,000 in 1995. Overall Portfolio - This increase is due to the acquisition of new communities as well as the completion of Development Communities whereby maintenance, property taxes, insurance and other costs are expensed as such communities move from the initial construction and lease-up phase to the operating phase. The increased costs of snow removal and other weather related expenses as a result of the severe winter during the first quarter of 1996 also contributed to the increase. Established Communities - Operating expenses increased $1,202,000 (4.4%) to $28,438,000 from $27,236,000 in 1995. This increase was concentrated in the maintenance category partially due to the severe winter weather throughout the Northeast and Mid-Atlantic regions during the first quarter of 1996 as well as increases in the property taxes for newly stabilized development communities and marketing expenses. Interest expense decreased $1,511,000 (13.7%) to $9,545,000 in 1996 from $11,056,000 in 1995. This decrease is primarily attributable to the sale of 4,872,000 shares of the Company's Common Stock, the sale of 4,455,000 shares of the Company's Series A Cumulative Redeemable Preferred Stock and the sale of 4,300,000 shares of the Company's Series B Cumulative Redeemable Preferred Stock in 1996, as the net cash proceeds from the sales were used principally to retire indebtedness under the Company's Unsecured Facilities, variable rate construction loans and to repay the mortgage note encumbering the Avalon at Carter Lake community. Lower short-term interest rates under the Unsecured Facilities due to negotiated rate reductions achieved as well as lower LIBOR rates also contributed to the decline. Finally, an increase in capitalized interest expense due to an increase in the number of apartment homes under construction and lower interest and credit enhancement costs in connection with the completion of the tax-exempt, credit enhancement facility with Fannie Mae are other reasons for the overall decline. Depreciation and amortization increased $4,398,000 (26.6%) to $20,956,000 in 1996 from $16,558,000 in 1995. This increase reflects additional depreciation expense for recently acquired and developed communities and the amortization of the costs related to the issuance of tax-exempt custodial receipts in May 1995 as well as the costs related to the closing of the Unsecured Facility and the issuance of $100,000,000 of unsecured senior notes in September 1995, offset by lower amortization expense due to the new Fannie Mae credit enhancement facility. General and administrative increased $420,000 (12.4%) to $3,807,000 in 1996 from $3,387,000 in 1995. This increase is primarily due to the introduction of the restricted stock grant program under the 27 29 Amended and Restated 1995 Equity Incentive Plan (and related legal and proxy costs) as well as staff additions related to growth in the Company's portfolio and the implementation of the company-wide systems enhancement program. Equity in income of joint ventures increased $585,000 to $1,025,000 in 1996 from $440,000 in 1995. This increase is principally the result of non-recurring income from the anticipated Avalon Grove joint venture in which the Company is allocated 100% of the lease-up period income. Increased net income from the Falkland Partners joint venture due to an increase in rental revenue as well as the income from the Town Close Associates joint venture that was formed in June 1995 also contributed to the increase. Gain on sale of communities totaled $7,850,000 during 1996 as a result of the sale of two apartment communities near Hartford, Connecticut. Extraordinary items totaled $2,356,000 during 1996 and reflect the write-off of unamortized deferred financing costs associated with the refinancing of tax-exempt bonds in conjunction with the completion of the new credit enhancement facility with Fannie Mae. COMPARISON OF YEAR ENDED DECEMBER 31, 1995 TO YEAR ENDED DECEMBER 31, 1994 Income before gain on sale of communities and extraordinary items increased $4,079,000 (14.6%) from income of $28,016,000 in 1994 to income of $32,095,000 in 1995. The principal reasons for this increase are increased operating income from newly completed or acquired communities during 1994 and 1995 as well as growth in operating income from existing communities. Property level EBITDA for Established Communities increased by $1,852,000 (4.4%) to $43,563,000 from $41,711,000 as a result of a 4.1% increase in total revenue, and a 3.3% increase in operating expenses. The notable reasons for these increases are discussed in the following paragraphs. Rental income increased $23,065,000 (32.1%) to $94,821,000 in 1995 from $71,756,000 in 1994. Of such increase, $2,521,000 related to Established Communities and $20,544,000 was attributable to newly completed or acquired apartment homes. Overall Portfolio - The $23,065,000 increase in rental income was primarily due to increases in the weighted average number of occupied apartment homes as well as an increase in the weighted average monthly rental income per occupied apartment home. The weighted average number of occupied apartment homes increased from 7,500 apartment homes during 1994 to 9,304 apartment homes during 1995 as a result of the development and acquisition of new communities and increased overall occupancy from Established Communities. Weighted average monthly revenue per occupied apartment home increased $38 (4.7%) from $808 to $846. Average economic occupancy increased .3% from 95.5% in 1994 to 95.8% in 1995. Established Communities - Weighted average monthly revenue per occupied apartment home increased $29 (3.6%) from $798 in 1994 to $827 in 1995. Average economic occupancy increased to 96.5% from 96.2% (.3%). Increased rental rates and occupancy combined to generate a total revenue increase from Established Communities of $2,564,000 in 1995, a 4.1% increase from 1994. Management fees decreased $151,000 (7.3%) to $1,926,000 in 1995 from $2,077,000 in 1994. The decrease is primarily due to a decrease in the number of apartment homes managed for third-party owners due to the cancellation of management contracts as well as the acquisition of three Current Communities that were managed by the Company prior to their acquisition. Operating expenses including write-off of deferred development costs increased $8,063,000 (28.7%) to $36,143,000 in 1995 from $28,080,000 in 1994. 28 30 Overall Portfolio - This increase was due to the acquisition of new communities as well as the completion of Development Communities whereby maintenance, property taxes, insurance and other costs are expensed as such communities move from the initial construction and lease-up phase to the operating phase, and increased costs of maintenance as communities stabilize and mature. Operating expenses (including the write-off of deferred development costs) as a percentage of total revenue declined to 37.2% in 1995 from 37.8% in 1994, reflecting favorable operating cost leverage and cost containment. Established Communities - Operating expenses increased $713,000 (3.3%) to $22,253,000 from $21,540,000 in 1994. This increase was concentrated in the maintenance, property taxes, and payroll categories and was partially offset by decreases in insurance and utilities costs. Interest expense increased $5,369,000 (94.4%) to $11,056,000 in 1995 from $5,687,000 in 1994. The increase was primarily attributable to higher average outstanding balances and interest rates under the Unsecured Facility, higher weighted average interest rates on floating rate tax-exempt debt and incremental interest on the issuance of $33,690,000 and $50,650,000 of tax-exempt debt and $100,000,000 of unsecured senior notes in July 1994, May 1995 and September 1995, respectively. Depreciation and amortization increased $4,216,000 (34.2%) to $16,558,000 in 1995 from $12,342,000 in 1994. The increase reflects additional depreciation expense for recently acquired and developed communities and the amortization of the costs related to the issuance of tax-exempt bonds in July 1994, tax-exempt custodial receipts in May 1995 as well as the costs related to the closing of the Unsecured Facility and the issuance of $100,000,000 of unsecured senior notes in September 1995. General and administrative increased $905,000 (36.5%) to $3,387,000 in 1995 from $2,482,000 in 1994. This increase reflects staff additions necessary to manage growth in the Company, the cost of one additional independent director and the introduction of the 1995 Equity Incentive Plan (and related legal and proxy costs). Equity in income of joint ventures decreased $261,000 (37.2%) to $440,000 in 1995 from $701,000 in 1994. The decrease was principally the result of non-recurring income from the Avalon Run joint venture during 1994 in which the Company was allocated 100% of the lease-up period income. Interest income increased $81,000 (9.3%) to $953,000 in 1995 from $872,000 in 1994. This increase was primarily due to an increase in average interest rates earned on invested cash balances between years, offset by lower average cash balances. Extraordinary items totaled $1,158,000 during 1995 and reflect the write-off of unamortized deferred financing costs associated with the retirement of the secured revolving credit facility. 29 31 DISCUSSION OF CAPITALIZED COMMUNITY IMPROVEMENTS AND EXPENSED TURNOVER ("MAKE READY") COSTS The Company maintains a policy with respect to capital expenditures that generally provides that only non-recurring expenditures are capitalized. Improvements and upgrades are capitalized only if the item exceeds $15,000, extends the useful life of the asset and is not related to making an apartment ready for the next resident. Under this policy, virtually all capitalized costs are non-recurring, as recurring make ready costs are expensed as incurred, including costs of carpet and appliance replacements, floor coverings, interior painting and other redecorating costs. The application of this policy in 1996 resulted in capitalized expenditures for Established Communities of approximately $160 per apartment home plus an additional $23 per apartment home that was revenue generating. For the year ended December 31, 1996, the Company charged to maintenance expense, including carpet and appliance replacements, a total of approximately $9.1 million for Established Communities. Management anticipates that capitalized costs per home will gradually rise as the Company's portfolio of communities matures. The following is a summary of expenditures for both recurring make ready costs (expensed) and community upgrades (capitalized) for 1996. 30 32 EXPENDITURES FOR COMMUNITY AND CORPORATE UPGRADES (CAPITALIZED) AND COMMUNITY MAINTENANCE (EXPENSED) (Dollars in thousands, except per home data)
1996 Maintenance 1996 Capitalized Upgrades Expensed Number Balance at Balance at ------------------------- --------------------- Community of Homes 12/31/95 (1) 12/31/96 (1) Total Per Home Total Per Home - -------------------------------- ---------- --------------- ------------ ---------- ------------- -------- ---------- STABILIZED - ---------- Avalon Park 372 $ 19,635 $ 19,717 $ 82 $ 220 $ 385 $ 1,035 Avalon at Ballston- Washington Towers 344 36,617 36,797 180 523 303 881 Avalon at Gayton 328 9,715 9,830 115 351 324 988 Avalon at Symphony Glen 174 8,034 8,079 45 259 187 1,075 Avalon at Hampton I 186 3,661 3,702 41 220 194 1,043 Avalon at Hampton II 231 8,093 8,144 51 221 215 931 Avalon at Dulles 236 11,540 11,599 59 250 276 1,169 Avalon Knoll 300 7,851 7,905 54 180 382 1,273 Avalon Lea 296 16,057 16,101 44 149 277 936 Avalon at Fairway Hills I 192 9,281 9,368 87 453 226 1,177 Avalon Ridge 432 24,874 25,030 156 361 457 1,058 Longwood Towers 250 16,600 16,620 20 80 450 1,800 Avalon Farm 306 17,270 17,332 62 203 286 935 Avalon Glen 238 30,066 30,077 11 46 263 1,105 Avalon Pavilions 932 56,418 56,523 105 113 586 629 Avalon View 288 17,725 17,773 48 167 358 1,243 4100 Massachusetts Ave. 308 34,859 34,879 20 65 390 1,266 Avalon at Carter Lake 259 11,413 11,502 89 344 261 1,008 Avalon Pointe 140 7,731 7,748 17 121 164 1,171 Avalon Station 127 5,920 5,933 13 102 131 1,031 Avalon Woods 268 8,237 8,235 (2) (7) 199 743 Avalon at Park Center 492 37,244 37,337 93 189 366 744 Avalon at Lexington 198 14,102 14,117 15 76 207 1,045 Avalon Watch 512 28,215 28,340 125 244 495 967 Avalon Walk I 430 34,417 34,505 88 205 236 549 Avalon Walk II 334 23,537 23,597 60 180 204 611 Avalon Landing 158 9,256 9,261 5 32 195 1,234 Avalon Birches 312 13,413 13,419 6 19 234 750 Avalon at Lake Arbor 209 11,895 11,900 5 24 267 1,278 Avalon at Decoverly 368 30,947 30,978 31 84 285 774 Avalon Summit West 125 6,764 6,764 -- -- 97 776 Avalon Towers 109 15,820 15,826 6 55 217 1,991 -------- --------- --------- ------- ------- -------- -------- 9,454 587,207 588,938 1,731 183 9,117 964 -------- --------- --------- ------- ------- -------- -------- NEWLY ACQUIRED/DEVELOPED - ------------------------ Avalon Green 105 12,017 12,294 277 2,638 163 1,552 Avalon Fields 192 14,103 14,262 159 828 75 391 Avalon West 120 6,938 10,624 3,686 30,717 71 592 Avalon Station II 96 3,771 5,905 2,134 22,229 35 365 Avalon Summit East 120 6,351 9,388 3,037 25,308 82 683 Avalon Run East 206 4,421 16,002 11,581 56,218 39 189 Avalon Crossing 132 4,465 13,387 8,922 67,591 33 -- Avalon Chase (2) 360 -- 23,615 23,615 65,597 423 1,175 Avalon Pines (2) 174 -- 8,578 8,578 49,299 77 443 Avalon at Fairway Hills II (2) 527 -- 33,807 33,807 64,150 207 393 Avalon at Boulders (2) 284 -- 16,038 16,038 56,472 73 257 AutumnWoods (2) 420 -- 30,474 30,474 72,557 15 36 -------- --------- --------- ------- ------- -------- -------- 2,736 52,066 194,374 142,308 52,013 1,293 473 -------- --------- --------- ------- ------- -------- -------- NEW DEVELOPMENTS 3,337 87,525 260,019 172,494 51,691 96 N/A - ---------------- OTHER - ----- Longwood Towers - Renovation -- 1,089 6,829 5,740 (5) 22,960 -- -- Avalon Arbor (3) 302 27,234 27,822 588 1,947 311 1,030 Avalon Brooke (6) -- 13,258 -- (13,258) -- -- -- Avalon Heights (6) -- 12,217 -- (12,217) -- -- -- Corporate Level Expenditures -- 1,837 3,924 2,087 -- -- -- -------- --------- ---------- ------- ------- -------- -------- GRAND TOTAL 15,829 (4) $ 782,433 $1,081,906 N/A N/A $ 10,817 N/A ======== ========= ========== ======= ======= ======== ========
(1) Costs are presented in accordance with generally accepted accounting principles ("GAAP") and exclude the step-up in basis attributed to continuing investors. (2) Acquired in 1996. (3) Ownership through ownership of the Avalon Arbor mortgage note. See Note 4 to the consolidated financial statements. Increase in capitalized value relates primarily to accrued interest and does not reflect capitalized community upgrades. (4) Excludes Falkland Chase and Avalon Run, 876 apartment homes owned by joint ventures in which the Company holds a 50% interest and 49% interest, respectively. (5) Represents renovation costs incurred. (6) Sold in 1996. 31 33 LIQUIDITY AND CAPITAL RESOURCES Liquidity. A primary source of liquidity to the Company is cash flows from operations. Operating cash flows have historically been determined by the number of apartment homes, rental rates, occupancy levels and the Company's expenses with respect to such apartment homes. The Company regularly reviews short-term liquidity needs and the adequacy of Funds from Operations and other expected liquidity sources to meet these needs. The Company believes that its principal short-term liquidity needs are to fund normal recurring operating expenses, debt service requirements and the minimum distribution required to maintain the Company's REIT qualification under the Code. The Company anticipates that these needs will be fully funded from cash flows provided by operating activities. Any short-term liquidity needs not provided by current operating cash flows would be funded from the Company's Unsecured Facilities. Cash flows used in investing activities and provided by financing activities have historically been dependent on the number of apartment homes under active development and construction during any given period. Cash and cash equivalents increased $12,440,000 from $1,801,000 at December 31, 1995 to $14,241,000 at December 31, 1996 due to the excess of cash provided by financing and operating activities over cash flow used in investing activities, primarily due to the issuance of $351,000,000 of equity and debt securities in 1996 and the sale of two communities in the fourth quarter of 1996. Net cash provided by operating activities increased $9,527,000 from $56,314,000 to $65,841,000 primarily due to an increase in operating income from newly developed and acquired communities and Established Communities. Net cash flows used in investing activities increased $71,451,000 from $189,582,000 to $261,033,000, due to an increase in the number of apartment homes under development from an average of 2,030 in 1995 to 2,910 in 1996 and the acquisition of six communities for $109,025,000 in 1996 compared to the acquisition of seven communities for $87,958,000 in 1995, offset by the net proceeds of $31,663,000 from the sale of two apartment communities in 1996. Net cash provided by financing activities increased $75,425,000 from $132,207,000 to $207,632,000, primarily due to the net proceeds received from the completion of the sales of 4,872,000 shares of the Company's common stock and the sale of 8,755,000 shares of the Company's Series A and Series B Cumulative Redeemable Preferred Stock in 1996 and increased borrowings under the Unsecured Facilities, offset by an increase in dividends paid. Cash and cash equivalents decreased $1,061,000 from $2,862,000 at December 31, 1994 to $1,801,000 at December 31, 1995 due to the excess of cash used in investing activities over cash flow provided by operating and financing activities, primarily due to the acquisition and development of new communities as more fully described below: Net cash provided by operating activities increased $19,861,000 from $36,453,000 to $56,314,000 primarily due to an increase in operating income from newly developed and acquired communities as well as Established Communities. The transfer of previously segregated resident security deposits for communities located in Virginia provided a $618,000 increase in unrestricted cash and cash equivalents. The Company determined that security deposits related to assets owned in Virginia need not be maintained in restricted accounts. The release of these funds was used to repay balances outstanding under the Unsecured Facility. Cash flows used in investing activities increased $35,330,000 from $154,252,000 to $189,582,000, due to an increase in the number of apartment homes under development from an average of 1,524 in 1994 to 2,030 in 1995. 32 34 Net cash provided by financing activities increased $17,903,000 from $114,304,000 to $132,207,000 due to the excess net proceeds received from the issuance of $50,650,000 in unsecured tax-exempt custodial receipts and $100,000,000 in unsecured senior notes in 1995 over the proceeds received from the completion of the Company's second public offering and the refunding of tax-exempt bonds in 1994, offset by an increase in dividends paid and deferred financing costs. At December 31, 1996, permanent mortgage indebtedness will require balloon payments of principal amounts of indebtedness coming due over the years 1997 through 2002, including $24,335,000 in 1997 and $100,000,000 in 2002. Additionally, bonds and related interest reserves requiring remarketing or that have expiring credit enhancements total $44,655,000 in 1997. Certain of these payments may be accelerated upon the termination of credit enhancements if such credit enhancements are not renewed or replaced. Since Management anticipates that only a small portion of the principal of such indebtedness will be repaid prior to maturity and the Company may not have funds on hand sufficient to repay such indebtedness, it may be necessary for the Company to refinance this debt. Such refinancing could be accomplished through additional debt financing, which may be collateralized by mortgages on individual communities or groups of communities, by uncollateralized private or public debt offerings or by additional equity offerings. Capital Resources. To sustain the Company's active development and acquisitions program, continuous access to the capital markets is required. Management intends to match the long-term nature of its real estate assets with long-term cost effective capital. Historically, the Company has demonstrated regular and continuous access to the capital markets since the Initial Offering, raising approximately $486 million in six offerings over a twenty month period and over $351 million during 1996. These offerings include:
Date Description of Offering ---- ----------------------- July 1994 $33.7 million tax-exempt bond offering August 1994 $102 million public offering of Common Stock May 1995 $50.6 million tax-exempt unsecured custodial receipts offering September 1995 $100 million unsecured senior notes offering January 1996 $47.3 million direct placement of Common Stock to certain institutional investors February 1996 $111.4 million 9% Series A Cumulative Redeemable Preferred Stock offering October 1996 $107.5 million 8.96% Series B Cumulative Redeemable Preferred Stock offering December 1996 $69.4 million public offering of Common Stock
Management intends to operate in a manner that will permit future access to the capital markets and intends to follow a focused strategy to help ensure uninterrupted access to capital. This strategy includes: 1. Hire, train and retain associates with a strong resident service focus, which should lead to higher rents, lower turnover and reduced operating costs; 2. Manage, acquire and develop institutional quality communities with in-fill locations that should provide consistent, sustained earnings growth; 3. Operate in markets with growing demand (as measured by household formation and job growth) and high barriers to entry. These characteristics combine to provide a favorable demand-supply balance, creating a favorable environment for future rental rate growth while protecting existing and new communities from new supply. This strategy is expected to result in a high level of quality to the revenue stream; 4. Maintain a conservative capital structure largely comprised of equity and modest, cost-effective leverage. Secured debt should generally be avoided and used primarily to secure low cost, tax-exempt debt. Such a structure should promote an environment for ratings upgrades that can lead to a lower cost of capital; 5. Timely, accurate and detailed disclosures to the investment community; 6. Conservative accounting practices that provide a high level of quality to reported earnings. 33 35 Management believes that following these strategies provides a disciplined approach to capital access that is expected to ensure that capital resources are available to fund portfolio growth. The following is a discussion of specific capital transactions, arrangements and agreements that are important to the capital resources of the Company. Unsecured Facilities In January 1996, the Company arranged a 2-year, Supplemental Unsecured Facility provided by First Union National Bank in the amount of $35,000,000. In September 1996, pricing on the Company's Unsecured Facilities was reduced. The consortium of banks providing the Company's Unsecured Facility lowered the interest rate charged under the facility to LIBOR plus 1.19% from LIBOR plus 1.44%. Pricing under the Supplemental Credit Facility was reduced to LIBOR plus .95% from LIBOR plus 1.25%. Current pricing level under the Unsecured Facility is 1.125%. Interest Rate Protection Agreements The Company entered into an interest rate protection agreement in the form of an accreting, swap transaction (the "Swap") with a triple A counterparty (the "Counterparty") on May 30, 1995. The Swap serves to fix the floating component of the Company's total interest rate at 5.89% on notional amounts which increase over time. On the 15th day of each month during the term of the agreement, the Company will pay to the Counterparty interest equal to 5.89% on the then principal amount in effect, divided by twelve months. The principal amount in effect during 1996 ranged from $15 million in January to $44 million in December. The Counterparty will pay to the Company interest equal to the actual 30 day LIBOR rate on the then principal amount in effect, divided by twelve months. Payments made by the Company under the Swap totaled $132,000 for the year ended December 31, 1996. The Swap terminated in February 1997. The Company was not a party to any long-term interest rate agreements in 1996, other than the Swap described above. The Company intends, however, to evaluate the need for additional long-term interest rate protection agreements as interest rate market conditions dictate and has engaged a consultant to assist in managing the Company's interest rate risks and exposure. Financing Transactions Completed On January 18, 1996, the Company completed the sale of 2,227,000 shares of its Common Stock to certain institutional investors under its existing shelf registration statement at a purchase price of $21.25 per share, for an aggregate purchase price of $47,323,750. The net cash proceeds from the sale (approximately $46,700,000) were used to retire indebtedness under the Company's Unsecured Facility. On February 16, 1996, the Company completed an offering of 4,455,000 shares of 9% Series A Cumulative Redeemable Preferred Stock (including 455,000 shares sold in connection with the exercise of the underwriters' overallotment option). The gross proceeds of the offering totaled $111,375,000. The net cash proceeds from the sale (approximately $108,225,000) were used to retire indebtedness under the Company's Unsecured Facility, variable rate construction loans and for general corporate purposes. On August 1, 1996, the Company completed a new tax-exempt credit enhancement facility with Fannie Mae that provides a long-term, cost-effective credit enhancement source for the Company's current and future tax-exempt bond debt. In connection with this facility, the Company completed the refinancing of approximately $91,000,000 of its tax-exempt bond debt. The facility involves eleven communities, seven that are financed with tax-exempt bonds and four unencumbered communities that are pledged as additional collateral. 34 36 On October 22, 1996, the Company completed an offering of 4,300,000 shares (including 300,000 shares sold in connection with the exercise of the underwriters' overallotment option) of 8.96% Series B Cumulative Redeemable Preferred Stock. The net cash proceeds from the sale (approximately $104,114,000) were used to retire indebtedness under the Company's Unsecured Facilities. On December 13, 1996, the Company completed a public offering of 2,645,000 shares (including 345,000 shares sold in connection with the exercise of the underwriters' overallotment option) of Common Stock at a purchase price of $26.25 per share. The net cash proceeds from the sale (approximately $66,000,000) were used primarily to repay amounts outstanding under the Unsecured Facilities, to fund the acquisition and development of additional apartment communities and to use for general working capital purposes. Registration Statements Filed in Connection with Financings On January 30, 1996, the Company filed a shelf registration statement with the Securities and Exchange Commission covering up to $327,670,000 of securities. The registration statement provides for the issuance of Common Stock, Preferred Stock, debt securities and warrants to purchase Common Stock, and was used in connection with the February 16, 1996 and October 22, 1996 offerings of Preferred Stock and the December 13, 1996 offering of Common Stock. The remaining amount available under this registration statement was carried forward into the registration statement filed on February 24, 1997 and accordingly, no capacity remains under the registration statement filed on January 30, 1996. On February 24, 1997, the Company filed a shelf registration statement with the Securities and Exchange Commission covering up to $350,000,000 of securities. The registration statement provides for the issuance of Common Stock, Preferred Stock, debt securities and warrants to purchase Common Stock. Financing Commitments The Company has received a commitment for tax-exempt financing on the Avalon Fields Development Community. The Community Development Administration of Maryland has issued $12.7 million of thirty-year fixed-rate bonds related to Avalon Fields, at an all-in rate of 7.55%. Management expects to complete documentation and receive funding of approximately $12.1 million in March 1997. Future Financing Needs Substantially all of the capital expenditures to complete the communities currently under construction will be funded from proceeds of permanent and construction financing commitments already in place or by the Unsecured Facilities, and little, if any, additional capital sources are needed to complete the communities. Except for Longwood Towers, the Company has no present plans for any major capital improvements to any of the Current Communities. The renovation of Longwood Towers is being funded by advances under the Unsecured Facilities, operating cash flow or other financing sources over a three-year period. Management expects to continue to fund deferred development costs related to future developments from Funds from Operations and advances under the Unsecured Facilities. The Company believes that these sources of capital are adequate to take each of the proposed communities to the point in the development cycle where construction can commence. Management anticipates that available borrowing capacity under the Unsecured Facilities and Funds from Operations will be adequate to meet future expenditures required to commence construction of each of the Development Rights. In addition, the Company currently anticipates funding construction of some (but not all) of the Development Rights under the expected remaining capacity of the Unsecured Facilities. However, before the construction of a Development Right commences, the Company intends, if necessary, to issue additional equity or debt securities, arrange additional capacity under the Unsecured Facilities or future credit facilities or obtain additional construction loan commitments not currently in place to ensure that 35 37 adequate liquidity sources are in place to fund the construction of a Development Right, although no assurance can be given in this regard. The table on page 37 summarizes debt maturities for the next five years (excluding the Unsecured Facilities): 36 38 AVALON PROPERTIES, INC. DEBT MATURITY SCHEDULE (Dollars in thousands)
Balance Outstanding at All-in Maturity ------------------------------ Community Interest Rate Date 12/31/95 12/31/96 - -------------------------------------------- ------------------ --------- ----------- ----------- Tax-Exempt Bonds: Fixed Rate * Avalon Lea (Custodial Receipts) (1) 5.71% Nov-07 $ 16,719 $ 16,782 * Avalon Ridge (Custodial Receipts) (1) 5.69% Nov-07 26,614 26,724 * Avalon at Dulles 7.04% Jul-24 12,360 12,360 * Avalon Hampton II 7.04% Jul-24 11,550 11,550 * Avalon at Symphony Glen 7.06% Jul-24 9,780 9,780 * Avalon View 7.55% Aug-24 19,608 19,487 * Avalon at Lexington 6.56% Feb-25 15,486 15,284 * Avalon Knoll 6.95% Jun-26 14,130 14,070 * Avalon Landing 6.85% Jun-26 -- 6,969 * Avalon West 7.73% Dec-36 -- 8,771 ----------- --------- 126,247 141,777 Variable Rate * Avalon at Fairway Hills I Jun-26 11,500 11,500 * Avalon at Hampton I Jun-26 8,710 8,060 * Avalon Pointe Jun-26 6,387 6,387 ----------- --------- 26,597 25,947 Conventional Loans: Fixed Rate * AutumnWoods 9.25% Nov-97 -- 24,335 * Avalon at Carter Lake (2) 7.75% Nov-98 6,202 -- Unsecured Senior Notes 7.375% Sep-02 99,846 99,869 * Avalon Pines 8.00% Dec-03 -- 5,529 * Avalon Walk II 8.93% Nov-04 13,317 13,149 ----------- --------- 119,365 142,882 Variable Rate-None -- -- ----------- --------- Total notes payable: 272,209 310,606 ----------- --------- Construction (all variable rate): * Avalon Grove (2) LIBOR + 1.50% Nov-97 4,702 -- * Avalon Cove (2) LIBOR + 1.75% Mar-98 5,775 -- ----------- --------- Total construction notes payable: 10,477 -- ----------- --------- Total indebtedness - excluding Unsecured Facilities $ 282,686 $ 310,606 =========== =========
Total Maturities ----------------------------------------------------------------------------- Community 1997 1998 1999 2000 2001 Thereafter - -------------------------------------------- --------- ---------- --------- --------- -------- ------------ Tax-Exempt Bonds: Fixed Rate * Avalon Lea (Custodial Receipts) (1) $ -- $ -- $ -- $ -- $ -- $ 16,782 * Avalon Ridge (Custodial Receipts) (1) -- -- -- -- -- 26,724 * Avalon at Dulles -- -- -- -- -- 12,360 * Avalon Hampton II -- -- -- -- -- 11,550 * Avalon at Symphony Glen -- -- -- -- -- 9,780 * Avalon View 173 230 290 330 350 18,114 * Avalon at Lexington 213 226 240 255 271 14,079 * Avalon Knoll 152 163 175 187 200 13,193 * Avalon Landing 77 83 89 95 101 6,524 * Avalon West 43 46 50 53 57 8,522 -------- ------- ------- ------- ------- --------- 658 748 844 920 979 137,628 Variable Rate * Avalon at Fairway Hills I -- -- -- -- -- 11,500 * Avalon at Hampton I -- -- -- -- -- 8,060 * Avalon Pointe -- -- -- -- -- 6,387 -------- ------- ------- ------- ------- --------- -- -- -- -- -- 25,947 Conventional Loans: Fixed Rate * AutumnWoods 24,335 -- -- -- -- -- * Avalon at Carter Lake (2) -- -- -- -- -- -- Unsecured Senior Notes -- -- -- -- -- 99,869 * Avalon Pines 95 103 112 121 131 4,967 * Avalon Walk II 185 202 221 241 264 12,036 -------- ------- ------- ------- ------- --------- 24,615 305 333 362 395 116,872 Variable Rate-None -- -- -- -- -- -- -------- ------- ------- ------- ------- --------- Total notes payable: 25,273 1,053 1,177 1,282 1,374 280,447 -------- ------- ------- ------- ------- --------- Construction (all variable rate): * Avalon Grove (2) -- -- -- -- -- -- * Avalon Cove (2) -- -- -- -- -- -- -------- ------- ------- ------- ------- --------- Total construction notes payable: -- -- -- -- -- -- Total indebtedness - excluding -------- ------- ------- ------- ------- --------- Unsecured Facilities $ 25,273 $ 1,053 $ 1,177 $ 1,282 $ 1,374 $ 280,447 ======== ======= ======= ======= ======= =========
(1) Subject to remarketing November 1, 1997. (2) Outstanding balances of $6,194,017 (Avalon at Carter Lake), $8,940,987 (Avalon Cove), and $4,744,258 (Avalon Grove) were repaid from proceeds of the 9% Series A Cumulative Redeemable Preferred Stock offering on February 22, 1996. * Indicates loan is collateralized. 37 39 FUNDS FROM OPERATIONS Management generally considers Funds from Operations to be an appropriate measure of the operating performance of the Company. The Company believes that in order to facilitate a clear understanding of the operating results of the Company, Funds from Operations should be examined in conjunction with the net income as presented in the consolidated financial statements included elsewhere in this report. Funds from Operations is determined in accordance with a resolution adopted by the Board of Governors of NAREIT, and is defined as net income (loss) (computed in accordance with GAAP), excluding gains (or losses) from debt restructuring and sales of property, plus depreciation of real estate assets and after adjustments for unconsolidated partnerships and joint ventures. The following table presents an analysis of Funds from Operations for the periods presented (dollars in thousands): 38 40 ANALYSIS OF 1996 AND 1995 FUNDS FROM OPERATIONS
Three months ended Years ended -------------------------------- ----------------------------- 12-31-96 12-31-95 12-31-96 12-31-95 ---------------- ------------- ------------- -------------- NET INCOME $ 21,348 $ 6,814 $ 51,651 $ 30,937 Depreciation (real estate related): 5,319 4,013 18,566 14,468 Joint venture adjustment 81 79 321 316 Gain on sale of communities (7,850) -- (7,850) -- Extraordinary items -- 1,158 2,356 1,158 Preferred stock dividends (4,352) -- (10,422) -- ------------- ------------- ------------- ------------- FUNDS FROM OPERATIONS $ 14,546 $ 12,064 $ 54,622 $ 46,879 ============= ============= ============= ============= WEIGHTED AVERAGE SHARES OUTSTANDING 31,268,140 28,372,944 30,739,504 28,365,427 ============= ============= ============= ============= OTHER CAPITALIZED EXPENDITURES AND OTHER INFORMATION Capital expenditures: Community level (1) $ 521 $ 1,477 $ 1,731 $ 2,311 Corporate level (2) $ 277 $ 238 $ 2,087 $ 708 Loan principal amortization payments $ 211 $ 235 $ 634 $ 618 Capitalized deferred financing costs (3) $ 293 $ (443) $ 2,346 $ 5,136
------------------ Footnotes to Funds from Operations (1) The Company expenses all recurring non-revenue generating community expenditures, including carpet and appliance replacements. See Discussion of Capitalized Community Improvements and Expensed Turnover ("Make Ready") Costs." (2) Represents the cost of new office leasehold improvements, office equipment and costs related to the implementation of the company-wide systems enhancement program. (3) Substantially all of the deferred financing costs incurred during the year ended December 31, 1996 relate to the closing of the Supplemental Unsecured Facility, closing on the Avalon West tax-exempt bonds and costs incurred related to the credit enhancement facility with Fannie Mae. 39 41 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The response to this Item 8 is included as a separate section of this Annual Report on Form 10-K. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not Applicable. 40 42 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT Information pertaining to directors and executive officers of the registrant is incorporated herein by reference to the registrant's Proxy Statement to be filed with the Securities and Exchange Commission within 120 days after the end of the year covered by this Form 10-K with respect to the Annual Meeting of Stockholders to be held on May 6, 1997. ITEM 11. EXECUTIVE COMPENSATION Information pertaining to executive compensation is incorporated herein by reference to the registrant's Proxy Statement to be filed with the Securities and Exchange Commission within 120 days after the end of the year covered by this Form 10-K with respect to the Annual Meeting of Stockholders to be held on May 6, 1997. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information pertaining to security ownership of Management and certain beneficial owners of the registrant's Common Stock is incorporated herein by reference to the registrant's Proxy Statement to be filed with the Securities and Exchange Commission within 120 days after the end of the year covered by this Form 10-K with respect to the Annual Meeting of Stockholders to be held on May 6, 1997. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information pertaining to certain relationships and related transactions is incorporated herein by reference to the registrant's Proxy Statement to be filed with the Securities and Exchange Commission within 10 days after the end of the year covered by this Form 10-K with respect to the Annual Meeting of Stockholders to be held on May 6, 1997. 41 43 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K (a) 1. Financial Statements INDEX TO FINANCIAL STATEMENTS Consolidated Financial Statements and Financial Statement Schedule: Report of Independent Accountants F-1 Consolidated Balance Sheets as of December 31, 1996 and 1995 F-2 Consolidated Statements of Operations for the years ended December 31, 1996, 1995 and 1994 F-3 Consolidated Statements of Stockholders' Equity for the years ended December 31, 1996, 1995 and 1994 F-4 Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1995 and 1994 F-5 Notes to Consolidated Financial Statements F-6 2. Financial Statement Schedule Schedule III - Real Estate and Accumulated Depreciation F-16 3. Exhibits The exhibits listed on the accompanying Index to Exhibits are filed as a part of this report. F-19 (b) Reports on Form 8-K On October 23, 1996, the Company filed a Current Report on Form 8-K relating to the offering and sale of the Company's Series B Cumulative Redeemable Preferred Stock. On December 4, 1996, the Company filed a Current Report on Form 8-K relating to the amendment and restatement of the Company's Bylaws. On December 5, 1996, the Company filed a Current Report on Form 8-K, reporting under item (1) the acquisitions of Avalon Chase, Avalon Pines, Avalon at Fairway Hills II, Avalon at Boulders and AutumnWoods in unrelated transactions for an aggregate contract purchase price of approximately $109,186,000 on January 4, 1996, May 23, 1996, July 23, 1996, September 25, 1996, and December 11, 1996, respectively. Historical and pro forma financial information concerning the communities acquired and included in such filing are as set forth below: 1. Report of Independent Accountants 2. Combined Statement of Revenue and Certain Operating Expenses for the Year Ended December 31, 1995 3. Notes to combined Statement of Revenue and Certain Operating Expenses 42 44 4. Estimates of Net Income and Funds from Operations of Certain Acquired Communities 5. Notes to Estimates of Net Income and Funds from Operations of Certain Acquired Communities 6. Pro Forma Condensed Consolidated Statement of Operations for the Nine Months Ended September 30, 1996 and for the Year Ended December 31, 1995 7. Notes to Pro Forma Condensed Consolidated Statement of Operations On December 18, 1996, the Company filed a Current Report on Form 8-K relating to offering and sale of the Company's Common Stock. 43 45 INDEX TO EXHIBITS
EXHIBIT NO. DESCRIPTION 3.1(i)(a) -- Amended and Restated Articles of Incorporation of the Company (1) 3.1(i)(b) -- Articles Supplementary to Amended and Restated Articles of Incorporation Establishing Series A Cumulative Redeemable Preferred Stock (5) 3.1(i)(c) -- Articles Supplementary to Amended and Restated Articles of Incorporation Establishing Series B Cumulative Redeemable Preferred Stock (6) 3.1(ii)(a) -- Amended and Restated Bylaws of the Company (2) 4.1 -- Avalon Properties, Inc. 7-3/8% Senior Notes due 2002 (3) 4.2 -- Indenture dated as of September 18, 1995 (3) 4.3 -- First Supplemental Indenture dated as of September 18, 1995 (3) 10.1+ -- 1995 Equity Incentive Plan (4) 10.2(a) -- Credit Agreement with Fleet Bank, National Association (2) 10.2(b) -- Credit Agreement with First Union National Bank of Virginia (7) 10.3 -- Management Registration Rights Agreement between the Company and certain Management stockholders (1) 10.4+ -- Employment Agreement between the Company and Mr. Michaux (1) 10.5+ -- Employment Agreement between the Company and Mr. Berman (1) 10.6 -- Form of Indemnification Agreement (1) 10.7 -- Swap Agreement with JP Morgan (7) 10.8+ -- Amendment to Employment Agreement with Richard L. Michaux, dated December 16, 1994 (2) 10.9+ -- Amendment to Employment Agreement with Charles H. Berman, dated December 15, 1994 (2) 10.10+ -- Amendment No. 2 to Employment Agreement with Richard L. Michaux, dated January 1, 1996 (7) 10.11+ -- Amendment No. 2 to Employment Agreement with Charles H. Berman, dated January 1, 1996 (7) 10.12 -- Master Reimbursement Agreement with Federal National Mortgage Association 12.1 -- Calculation of Ratios of Earnings to Fixed Charges (8) 12.2 -- Calculation of Ratios of Earnings to Combined Fixed Charges (8) 21.1 -- Schedule of Subsidiaries of the Company 23.1 -- Consent of Coopers & Lybrand, L.L.P. 27.1 -- Financial Data Schedule
+ Management contract or compensatory plan or arrangement required to be filed or incorporated by reference as an exhibit to this Form 10-K pursuant to Item 14(c) of Form 10-K. (1) Incorporated by reference from the Company's Annual Report on Form 10-K for the year ended December 31, 1993. (2) Incorporated by reference from the Company's Current Report on Form 8-K filed on December 4, 1996. (3) Incorporated by reference from the Company's Form 8-K Current Report dated September 18, 1995. 44 46 (4) Incorporated by reference from the Company's Proxy Statement for the Annual Meeting of Stockholders held on May 9, 1995. (5) Incorporated by reference from the Company's Registration Statement on Form 8-A filed on February 15, 1996. (6) Incorporated by reference from the Company's Current Report on Form 8-K filed on October 23, 1996. (7) Incorporated by reference from the Company's Annual Report on Form 10-K for the year ended December 31, 1995. (8) Incorporated by reference from the Company's Registration Statement in Form S-3 filed on February 24, 1997, Registration No. 333-22281. 45 47 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. AVALON PROPERTIES, INC. Date: March 27, 1997 By /s/ RICHARD L. MICHAUX ----------------------------------------------- Richard L. Michaux, Chairman of the Board Chief Executive Officer and Director (Principal Executive Officer) Date: March 27, 1997 By /s/ CHARLES H. BERMAN ----------------------------------------------- Charles H. Berman, President, Chief Operating Officer and Director Date: March 27, 1997 By /s/ THOMAS J. SARGEANT ----------------------------------------------- Thomas J. Sargeant, Chief Financial Officer, Treasurer and Secretary (Principal Financial and Accounting Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date: March 27, 1997 By /s/ MICHAEL A. FUTTERMAN ----------------------------------------------- Michael A. Futterman, Director Date: March 27, 1997 By /s/ CHRISTOPHER B. LEINBERGER ----------------------------------------------- Christopher B. Leinberger, Director Date: March 27, 1997 By /s/ ALLAN D. SCHUSTER ----------------------------------------------- Allan D. Schuster, Director 46 48 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Avalon Properties, Inc.: We have audited the consolidated balance sheets of Avalon Properties, Inc. (the "Company") as of December 31, 1996 and 1995, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the three years ended December 31, 1996. We have also audited the financial statement schedule included on pages F-16, F-17 and F-18 of this Form 10-K. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits in accordance with generally accepted auditing standards. These standards require that we plan and perform the audits 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 Avalon Properties, Inc. as of December 31, 1996 and 1995, and the consolidated results of their operations and their cash flows for each of the three years ended December 31, 1996, in conformity with generally accepted accounting principles. In addition, in our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information required to be included therein. New York, New York January 16, 1997 COOPERS & LYBRAND L.L.P. F-1 49 AVALON PROPERTIES, INC. CONSOLIDATED BALANCE SHEETS (Dollars in thousands, except share data)
ASSETS 12-31-96 12-31-95 ---------------- ----------------- Real estate (Notes 2, 3 and 4) Land $ 169,079 $ 128,754 Buildings and improvements 754,545 521,082 Furniture, fixtures and equipment 27,455 19,369 ------------ ------------ 951,079 669,205 Less, accumulated depreciation (44,547) (27,059) ------------ ------------ 906,532 642,146 Construction in progress (including land) 130,827 113,228 ------------ ------------ TOTAL REAL ESTATE, NET 1,037,359 755,374 Cash and cash equivalents (Notes 3 and 9) 14,241 1,801 Cash in escrow (Notes 3, 6 and 9) 3,945 3,940 Resident security deposits 5,995 4,193 Investments in joint ventures (Notes 3 and 7) 2,573 1,735 Deferred financing and other costs, net of accumulated amortization of $2,113 and $1,980 at December 31, 1996 and 1995, respectively (Note 3) 7,702 9,959 Deferred development costs (Note 3) 5,179 5,404 Prepaid expenses and other assets 5,777 4,305 ------------ ------------ TOTAL ASSETS $ 1,082,771 $ 786,711 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY Unsecured Facilities (Notes 5 and 9) $ -- $ 58,000 Construction loans (Note 6) -- 10,477 Unsecured senior notes, 7-3/8% due 2002 (Note 6) 99,869 99,846 Mortgage notes payable (Notes 6 and 9) 167,231 114,900 Unsecured tax-exempt bonds (Notes 6 and 9) -- 14,130 Tax-exempt custodial receipts (Notes 6 and 9) 43,506 43,333 Payables for construction 12,613 9,710 Accrued expenses and other liabilities 10,580 11,522 Accrued interest payable 4,342 4,477 Resident security deposits 6,642 4,919 ------------ ------------ TOTAL LIABILITIES 344,783 371,314 ------------ ------------ Commitments and contingencies (Note 8) Stockholders' equity: Preferred Stock, $.01 par value; 20,000,000 shares authorized; 4,455,000 shares of 9% Series A Cumulative Redeemable Preferred Stock issued and outstanding (Aggregate liquidation preference of $111,375,000) (Note 1) 45 -- 4,300,000 shares of 8.96% Series B Cumulative Redeemable Preferred Stock issued and outstanding (Aggregate liquidation preference of $107,500,000) (Note 1) 43 -- Common Stock, $.01 par value; 80,000,000 shares authorized; 33,391,992 and 28,373,065 shares issued and outstanding at December 31, 1996 and 1995, respectively (Note 1) 334 284 Additional paid-in capital 752,159 425,946 Deferred compensation (1,699) -- Distributions in excess of accumulated earnings (12,894) (10,833) ------------ ------------ STOCKHOLDERS' EQUITY 737,988 415,397 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,082,771 $ 786,711 ============ ============
See accompanying notes to consolidated financial statements. F-2 50 AVALON PROPERTIES, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (Dollars in thousands, except share data)
Year ended ----------------------------------------- 12-31-96 12-31-95 12-31-94 ---------- ----------- ----------- Revenue: Rental income (Note 3) $ 123,354 $ 94,821 $ 71,756 Management fees (Note 3) 1,439 1,926 2,077 Other income 420 466 468 ---------- --------- --------- Total revenue 125,213 97,213 74,301 ---------- --------- --------- Expenses: Operating expenses 46,705 35,743 27,680 Interest expense 9,545 11,056 5,687 Depreciation and amortization 20,956 16,558 12,342 General and administrative 3,807 3,387 2,482 Write-off of deferred development costs (Note 3) 450 400 400 ---------- --------- --------- Total expenses 81,463 67,144 48,591 ---------- --------- --------- Equity in income of joint ventures (Notes 3 and 7) 1,025 440 701 Interest income 887 953 872 Minority interest income (Note 4) 495 633 733 ---------- --------- --------- Income before gain on sale of communities and extraordinary items 46,157 32,095 28,016 Gain on sale of communities 7,850 -- -- Extraordinary items (Note 11) (2,356) (1,158) -- ---------- --------- --------- Net income 51,651 30,937 28,016 Dividends attributable to preferred stock (10,422) -- -- ---------- --------- --------- Net income available to common stockholders $ 41,229 $ 30,937 $ 28,016 ========== ========= ========= Per common share (Note 3): Income before extraordinary items $ 1.42 $ 1.13 $ 1.10 ========== ========= ========= Net income per common share $ 1.34 $ 1.09 $ 1.10 ========== ========= =========
See accompanying notes to consolidated financial statements. F-3 51 AVALON PROPERTIES, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (Dollars in thousands, except per share data)
Shares Issued Amount ---------------------------- ----------------------- Additional Common Preferred Common Preferred Paid-in Stock Stock Stock Stock Capital ------------ ----------- --------- ----------- ----------- Balance at 12-31-93 23,543,964 -- $ 235 $ -- $ 328,664 Net income -- -- -- -- -- Dividends declared ($1.08 per share) -- -- -- -- -- Issuance of Common Stock, net of offering costs 4,812,675 -- 49 -- 96,947 ----------- ---------- ------ ------- ---------- Balance at 12-31-94 28,356,639 -- 284 -- 425,611 Net income -- -- -- -- -- Dividends declared ($1.46 per share) -- -- -- -- -- Issuance of Common Stock, net of offering costs 16,426 -- -- -- 335 ----------- ---------- ------ ------- ---------- Balance at 12-31-95 28,373,065 -- 284 -- 425,946 Net income -- -- -- -- -- Dividends declared to common stockholders ($1.49 per share) -- -- -- -- -- Dividends declared to preferred stockholders -- -- -- -- -- Issuance of Common Stock, net of offering costs 4,910,064 -- 49 -- 112,496 Issuance of Restricted Common Stock 108,863 -- 1 -- 2,468 Deferred Compensation, net of amortization -- -- -- -- -- Issuance of Series A Preferred Stock, net of offering costs -- 4,455,000 -- 45 107,536 Issuance of Series B Preferred Stock, net of offering costs -- 4,300,000 -- 43 103,713 ----------- ---------- ------ ------- ---------- Balance at 12-31-96 33,391,992 8,755,000 $ 334 $ 88 $ 752,159 =========== ========== ====== ======= ==========
Distributions in Excess of Deferred Accumulated Stockholders' Compensation Earnings Equity ------------ ------------------ --------------- Balance at 12-31-93 $ -- $ (1,219) $ 327,680 Net income -- 28,016 28,016 Dividends declared ($1.08 per share) -- (27,154) (27,154) Issuance of Common Stock, net of offering costs -- -- 96,996 --------- ---------- ---------- Balance at 12-31-94 -- (357) 425,538 Net income -- 30,937 30,937 Dividends declared ($1.46 per share) -- (41,413) (41,413) Issuance of Common Stock, net of offering costs -- -- 335 --------- ---------- ---------- Balance at 12-31-95 -- (10,833) 415,397 Net income -- 51,651 51,651 Dividends declared to common stockholders ($1.49 per share) -- (45,774) (45,774) Dividends declared to preferred stockholders -- (7,938) (7,938) Issuance of Common Stock, net of offering costs -- -- 112,545 Issuance of Restricted Common Stock -- -- 2,469 Deferred Compensation, net of amortization (1,699) -- (1,699) Issuance of Series A Preferred Stock, net of offering costs -- -- 107,581 Issuance of Series B Preferred Stock, net of offering costs -- -- 103,756 --------- ---------- ---------- Balance at 12-31-96 $ (1,699) $ (12,894) $ 737,988 ========= =========== ==========
See accompanying notes to consolidated financial statements. F-4 52 AVALON PROPERTIES, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in thousands)
Year ended ------------------------------------------- 12-31-96 12-31-95 12-31-94 ------------ ----------- ------------ Cash flows from operating activities: Net income $ 51,651 $ 30,937 $ 28,016 Items not requiring (providing) cash: Depreciation and amortization 20,956 16,558 12,342 Equity in income of joint ventures (258) (754) (536) Amortization of deferred compensation 427 -- -- Gain on sale of communities (7,850) -- -- Extraordinary items 2,356 1,158 -- Decrease (increase) in cash in escrow, net (84) 703 1,555 Increase in prepaids and other assets (270) (1,945) (1,181) Increase (decrease) in other operating liabilities (1,087) 9,657 (3,743) --------- --------- --------- Net cash provided by operating activities 65,841 56,314 36,453 --------- --------- --------- Cash flows used in investing activities: Purchase of interest in joint venture (580) (4,986) -- Increase (decrease) in construction payables 2,903 5,544 (419) Purchase and development of real estate (295,019) (190,140) (153,833) Proceeds from the sale of communities, net of selling costs 31,663 -- -- --------- --------- --------- Net cash used in investing activities (261,033) (189,582) (154,252) --------- --------- --------- Cash flows from financing activities: Issuance of Common Stock, net of offering costs 112,545 335 96,996 Issuance of Preferred Stock, net of offering costs 211,337 -- -- Borrowings under Unsecured Facilities 265,000 235,625 143,821 Repayments of Unsecured Facilities (323,000) (207,395) (127,051) Dividends paid (53,712) (41,413) (31,157) Borrowings under tax-exempt bonds 15,771 50,333 22,140 Repayments of tax-exempt bonds (1,062) (7,000) -- Borrowings under notes payable -- 99,846 30,431 Repayments of notes payable (6,424) (1,908) (159) Borrowings under construction notes 31 14,091 32,776 Repayments of construction notes (10,508) (5,171) (47,141) Deposits into cash in escrow - Construction -- -- (118) Notes payable to affiliate of Predecessor -- -- (3,555) Payment of deferred financing costs (2,346) (5,136) (2,679) --------- --------- --------- Net cash provided by financing activities 207,632 132,207 114,304 --------- --------- --------- Net increase (decrease) in cash 12,440 (1,061) (3,495) Cash and cash equivalents, beginning of year 1,801 2,862 6,357 --------- --------- --------- Cash and cash equivalents, end of year $ 14,241 $ 1,801 $ 2,862 ========= ========= ========= Cash paid for interest, net of amount capitalized $ 8,723 $ 7,043 $ 5,018 ========= ========= =========
Non-cash investing and financing activities: In 1996, $5,581 and $24,335 of debt was assumed in connection with the Avalon Pines and AutumnWoods acquisitions, respectively. In 1994, $12,800 of debt was assumed for two acquisitions. See accompanying notes to consolidated financial statements. F-5 53 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except per share data) 1. Organization of the Company and Public Offerings Avalon Properties, Inc. (the "Company") is a self-administered and self-managed Real Estate Investment Trust ("REIT"), as defined under the Internal Revenue Code of 1986, as amended, (the "Code") and was incorporated under the General Corporation Law of Maryland on August 24, 1993. The Company began operations on November 18, 1993 upon the completion of its initial public offering. The Company is engaged principally in the development, construction, acquisition and operation of residential apartment communities. Additionally, the Company provides management services for communities owned by unrelated parties. On January 18, 1996, the Company completed the sale of 2,227,000 shares of its Common Stock to certain institutional investors under an existing shelf registration statement at a purchase price of $21.25 per share. The net cash proceeds of approximately $46,700 were used to repay amounts outstanding under the Company's $165,000 unsecured revolving credit facility (the "Unsecured Facility"). On February 16, 1996, the Company completed an offering of 4,455,000 shares of 9% Series A Cumulative Redeemable Preferred Stock (including 455,000 shares sold in connection with the exercise of the underwriters' overallotment option). The net cash proceeds from the sale (approximately $108,225) were used to retire indebtedness under the Company's Unsecured Facility, to retire construction loans and to use for general corporate purposes. On October 22, 1996, the Company completed an offering of 4,300,000 shares (including 300,000 shares sold in connection with the exercise of the underwriters' overallotment option) of 8.96% Series B Cumulative Redeemable Preferred Stock. The net cash proceeds from the sale (approximately $104,114) were used to retire indebtedness under the Company's unsecured revolving credit facilities ("Unsecured Facilities"). On December 13, 1996, the Company completed a public offering of 2,645,000 shares (including 345,000 shares sold in connection with the exercise of the underwriters' over-allotment option) of Common Stock of a purchase price of $26.25 per share. The net cash proceeds from the sate (approximately $66,000) were used primarily to repay amounts outstanding under the Unsecured Facilities, to fund the acquisition and development of additional apartment communities and to use for general working capital purposes. 2. Acquisitions During the period December 18, 1993 through December 31, 1995, the Company acquired fourteen existing operating communities containing a total of 3,148 apartment homes from unrelated third parties for an aggregate contract acquisition price of approximately $206,958 (cumulative capitalized cost of $211,277). For the year ended December 31, 1996, the Company acquired six existing operating communities containing a total of 1,765 apartment homes from unrelated third parties for an aggregate contract acquisition price of approximately $109,025 (cumulative capitalized cost of $112,512). These acquisitions have been accounted for as purchases of real estate and operating results for those communities are reflected in the accompanying consolidated financial statements from their respective dates of acquisition. These communities were acquired with cash proceeds drawn under the Company's Unsecured Facilities (see Note 5) and through the assumption of debt and are described as follows: On January 4, 1996, the Company acquired Avalon Chase, a 360 apartment home, garden-style community located in Marlton, New Jersey, for approximately $23,292. F-6 54 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) On May 23, 1996, the Company purchased Avalon Pines, a 174 apartment home, luxury garden-style community located in Virginia Beach, Virginia for $8,420. In connection with this acquisition, the Company assumed a conventional secured loan with an outstanding principal amount of approximately $5,600 and bearing an 8.0% annual fixed interest rate with a maturity date of December 2003. This community was managed by the Company prior to its acquisition. On July 23, 1996, the Company purchased Avalon at Fairway Hills II, two luxury, garden-style communities located in Columbia, Maryland for $32,430. These communities contain a total of 527 apartment homes. On September 25, 1996, the Company purchased Avalon at Boulders in Richmond, Virginia for $14,831. This luxury garden-style community contains a total of 284 apartment homes. On December 13, 1996, the Company acquired AutumnWoods in Fairfax, Virginia for a total purchase price of $30,052, including the assumption of a conventional secured loan with an outstanding principal balance of approximately $24,300. This loan bears interest at a fixed rate of 9.25% per annum and matures in November 1997. The Company expects to repay the loan in August 1997, the earliest date on which the loan may be prepaid with no penalty. This luxury garden-style apartment community contains a total of 420 apartment homes. The following pro forma operating results for the Company have been prepared as if the acquisitions of Avalon Chase, Avalon Pines, Avalon at Fairway Hills II, Avalon at Boulders and AutumnWoods had occurred on January 1, 1995. Unaudited pro forma financial information is presented for informational purposes only and may not be indicative of what the actual results of operations of the Company would have been had the events occurred as of January 1, 1995, and may not be indicative of the results of operations for future periods.
Pro Forma ------------------------------ Year ended Year ended 12-31-96 12-31-95 (Unaudited) (Unaudited) -------------- -------------- Revenue $ 133,106 $ 112,633 ========== ============= Income before extraordinary items $ 47,286 $ 31,634 ========== ============= Net income $ 42,358 $ 30,476 ========== ============= Income before extraordinary items per common share $ 1.54 $ 1.12 ========== ============= Net income per common share $ 1.38 $ 1.07 ========== =============
3. Summary of Significant Accounting Policies Principles of Consolidation of the Company The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned partnerships and subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. F-7 55 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) Estimates The preparation of financial statements in conformity with generally accepted accounting principles ("GAAP") requires the Company's management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Geographical Concentration The Company develops and operates residential apartment communities located in the Northeast and Mid-Atlantic Regions of the United States. This concentration imposes on the Company certain risks, which include local economic conditions, that are not within management's control. Recently Issued Pronouncement The Company has adopted the disclosure-only provision of Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation." Accordingly, no compensation cost has been recognized for the options described in Note 10. Had compensation cost for these options been determined based on the fair value at the grant date consistent with the provisions of SFAS No. 123, the Company's net earnings and earnings per share would have been reduced to the following pro forma amounts:
Pro Forma (unaudited) -------------------------------------- Year ended Year ended 12-31-96 12-31-95 --------------- --------------- Net income $ 51,193 $ 30,782 ============ ============ Net income per share $ 1.67 $ 1.09 ============ ============
Real Estate Buildings and improvements are recorded at cost and are depreciated on a straight-line basis over their estimated useful lives of 40 years. The Company's policy is to annually assess any impairment in value by making a comparison of the current and projected operating cash flows of each of its communities over its remaining useful life, on an undiscounted basis, to the carrying amount of the community. Such carrying amounts would be adjusted, if necessary, to reflect an impairment in the value of the assets. The cost of buildings and improvements include capitalized interest, property taxes and insurance incurred during the construction period. Furniture and fixtures are stated at cost and depreciated over their estimated useful lives of seven years. Expenditures for maintenance and repairs are charged to operations as incurred. Significant renovations or betterments which extend the economic useful life of the assets are capitalized. Investments in Joint Ventures Investments in real estate joint ventures are accounted for under the equity method except for Avalon Run which is accounted for under the cost method. F-8 56 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) Cash Equivalents Cash equivalents consist of highly liquid assets with original maturities of three months or less from the date of purchase. The majority of the Company's cash, cash equivalents and cash in escrow is held at major commercial banks. Deferred Financing and Development Costs Deferred financing costs include fees and costs incurred to obtain financings and are amortized on a straight-line basis over the shorter of the term of the loan or the credit enhancement facility, if applicable. Unamortized financing costs are written-off when debt is retired before maturity date (see Note 11). Fees and other incremental costs incurred in developing new communities are capitalized as deferred development costs and are included in the cost of the community when construction commences. The accompanying consolidated financial statements include a charge to expense for unrecoverable deferred development costs related to pre-development communities that may not proceed to development. Revenue Recognition Apartment homes are leased to individual residents on a short-term basis. Rental revenue is recognized monthly as earned. Fees for management of communities owned by unrelated parties are also recognized monthly as earned. Income Taxes The Company elected to be taxed as a REIT under the Code commencing with the taxable year ended December 31, 1993. To qualify as a REIT, the Company must, along with other requirements, distribute dividends to its stockholders in an amount equal to at least 95% of the Company's taxable income, as defined in the Code. As long as the Company qualifies for taxation as a REIT, the Company will not be subject to Federal corporate income taxes. Accordingly, no provision for Federal income taxes has been made for any period of the Company. However, the Company may be subject to certain state and local income, excise or franchise taxes. Net Income per Common Share Net income per common share for the years ended December 31, 1996, 1995 and 1994 is based upon 30,739,504, 28,365,427 and 25,486,932 weighted average number of shares of common stock outstanding, respectively. 4. Senior Participating Mortgage Note The Company's ownership of the senior participating mortgage note related to the Town Arbor Partnership ("Avalon Arbor") has been accounted for as an investment in real estate. Minority interest represents the excess of the interest income at the pay rate on the mortgage loan over the cash flow from operations generated by the community. This excess is funded from payments drawn from an escrow account established from contributions by the minority partners. At December 31, 1996, the partnership had $2,996 of cash from these contributions available to fund interest payments. The note bears interest at 10.2%. Upon acquisition, the note was restructured to provide for a 9% pay rate. The difference between the stated interest and the pay rate is deferred interest and is added to the principal. The loan also provides for contingent interest of 50% of gross revenues, as defined, and is payable prior to any payments to the partners. No contingent interest has been paid through December 31, 1996. The note entitles the holder to a 50% net residual value of the property at maturity or upon prior disposition of the property. The note may be prepaid subject to stipulated penalties. F-9 57 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) 5. Unsecured Facilities The Company's Unsecured Facility, which is provided by a consortium of nine banks led by JP Morgan and Fleet Bank, provides for $165,000 in short-term credit. The Unsecured Facility expires in April 1998. As of December 31, 1996, approximately $10,054 of available capacity was used to provide letters of credit and none was borrowed under the facility. Accordingly, the balance that remained available at December 31, 1996 to be drawn under the Unsecured Facility is $154,946. The Unsecured Facility bears interest based upon a LIBOR, Prime or CD rate election at the Company's option. Current pricing level is LIBOR plus 1.125%. In January 1996, the Company arranged a two-year supplemental unsecured facility provided by First Union National Bank (the "Supplemental Unsecured Facility") in the amount of $35,000. The Supplemental Unsecured Facility expires in January 1998 and bears a current interest rate of LIBOR plus .95%. At December 31, 1996, $6,760 of available capacity was used to provide letters of credit and none was borrowed under the Supplemental Unsecured Facility. Accordingly, the balance that remains available at December 31, 1996 to be drawn under the Supplemental Unsecured Facility is $28,240. The weighted average effective interest rates (excluding the cost of unused line of credit fees) on borrowings under the Unsecured Facilities for the years ended December 31, 1996 and 1995 were 7.3% and 7.8%, respectively. Including the cost of unused fees, the weighted average effective interest rates on borrowings under the Unsecured Facilities for the years ended December 31, 1996 and 1995 were 7.4% and 8.1%, respectively. On May 30, 1995, the Company entered into an interest rate protection agreement in the form of an accreting swap agreement (the "Swap") with a triple A rated counterparty (the "Counterparty"). The Swap specifies that on the 15th day of each month during the term of the agreement, commencing October 15, 1995, the Company shall pay the Counterparty a fixed rate of 5.89% on the then principal amount in effect ($44,000 at December 31, 1996) which increases in varying amounts to a maximum of $45,000 in February 1997, at which time the agreement terminates. In return, the Counterparty will pay to the Company a variable rate payment equal to 30-day LIBOR on the respective principal amounts. This Swap serves to fix the variable component of the Company's total interest rate at 5.89% on the principal amounts during the term of the Swap. Payments made by the Company under the Swap totaled $132 for the year ended December 31, 1996. F-10 58 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) 6. Notes Payable The following notes payable were outstanding at December 31, 1996 and 1995:
1996 1995 --------------- ------------- Tax-exempt bonds: Notes with fixed interest at: 6.95%, maturing June 2026 (a) (c) $ 14,070 $ 14,130 7.04%, maturing July 2024 (c) 11,550 11,550 7.55%, maturing August 2024 (a) (c) 19,487 19,608 7.06%, maturing July 2024 (c) 9,780 9,780 7.04%, maturing July 2024 (c) 12,360 12,360 6.56%, maturing February 2025 (a) (c) 15,284 15,486 5.71%, maturing November 2007 (custodial receipts) (c) (e) 16,782 16,719 5.69%, maturing November 2007 (custodial receipts) (c) (e) 26,724 26,614 6.85%, maturing June 2026 (a) (c) 6,969 -- 7.73%, maturing December 2036 (c) 8,771 -- ----------- ----------- Total fixed rate notes 141,777 126,247 ----------- ----------- Notes with variable interest at (b): Variable rate, tax-exempt, maturing June 2026 (a) (c) 8,060 8,710 Variable rate, tax-exempt, maturing June 2026 (a) (c) 11,500 11,500 Variable rate, tax-exempt, maturing June 2026 (a) (c) 6,387 6,387 ----------- ----------- Total variable rate notes 25,947 26,597 ----------- ----------- Conventional notes with fixed interest at: 8.93%, maturing November 2004 (c) 13,149 13,317 7.75%, maturing November 1998 (c) (d) -- 6,202 7.375%, maturing September 2002 99,869 99,846 8.00%, maturing December 2003 (c) 5,529 -- 9.25%, maturing November 1997 (c) 24,335 -- ----------- ----------- Total fixed rate notes 142,882 119,365 ----------- ----------- Total notes payable $ 310,606 $ 272,209 =========== =========== Construction loans with variable interest at: LIBOR plus 1.75%, maturing March 1998 (d) $ -- $ 5,775 LIBOR plus 1.50%, maturing November 1997 (d) -- 4,702 ----------- ----------- Total construction notes payable $ -- $ 10,477 =========== ===========
------------- (a) Various lenders require cash to be held in escrow for interest, property taxes, principal repayments and bond remarketing costs. (b) Average interest rates on these notes ranged from 2.375% to 4.925% during the year ended December 31, 1996 and 4.39% to 5.64% during the year ended December 31, 1995. (c) Note is collateralized by a community. (d) Outstanding balances were repaid from proceeds of the cumulative redeemable preferred stock offering on February 22, 1996. (e) Subject to remarketing November 1, 1997. F-11 59 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) Scheduled maturities of notes payable are as follows for the years ending December 31: 1997 $ 25,273 1998 $ 1,053 1999 $ 1,177 2000 $ 1,282 2001 $ 1,374 Thereafter $ 280,447 --------- $ 310,606 =========
Capitalized interest was $12,210, $6,027 and $2,831 for the years ended December 31, 1996, 1995 and 1994, respectively. The weighted average interest rates on all borrowings outstanding during the years ended December 31, 1996, 1995 and 1994 was 7.26%, 7.04% and 6.46%, respectively. 7. Investments in Joint Ventures At December 31, 1996, investments in joint ventures consist of a 50% general partnership interest in Falkland Partners, a 49% equity interest in Avalon Run, an 86.5% effective equity interest in Town Close Associates (the New Canaan development right) and 100% of the operating income from the anticipated Avalon Grove joint venture (a Development Community). At December 31, 1995, investments in joint ventures included a 50% general partnership interest in Falkland Partners, a 49% equity interest in Town Run Associates, a 50% general partnership interest in Evergreen Hamden Joint Venture and an 86.5% effective equity interest in Town Close Associates. On February 15, 1996, the Company assigned its 50% partnership interest in Evergreen Hamden Joint Venture to the institutional partner in the joint venture. The following is a combined summary of the financial position of these joint ventures for the dates presented:
12-31-96 12-31-95 ---------- ---------- Assets: Real estate, net $ 92,835 $ 60,821 Other assets 5,029 3,964 --------- --------- $ 97,864 $ 64,785 ========= ========= Liabilities and partners' equity: Mortgage notes payable $ 26,000 $ 34,786 Other liabilities 3,786 3,686 Partners' equity 68,078 26,313 --------- --------- $ 97,864 $ 64,785 ========= =========
The following is a combined summary of the results of operations of these joint ventures for the periods presented:
Year ended ---------------------------------------------------------- 12-31-96 12-31-95 12-31-94 ------------ ------------ ------------ Summary of operations: Rental income $ 10,238 $ 9,004 $ 6,751 Other income 58 67 411 Operating expenses (4,238) (3,610) (3,720) Mortgage interest expense (849) (1,027) (1,424) Depreciation and amortization (1,779) (1,706) (998) ---------- -------- -------- Net income $ 3,430 $ 2,728 $ 1,020 ========== ======== ========
F-12 60 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) 8. Commitments and Contingencies 401(k) Savings Plan Eligible employees of the Company participate in a contributory employee savings plan. Under the plan, the Company may match a percentage of contributions made by eligible employees, such percentage to apply to a maximum of 4% of their annual salary. Expenses under this plan for 1996, 1995 and 1994 were not material. Employment Agreements The Company entered into employment agreements with two executives that will expire on December 31, 1997 and will automatically be renewed for successive one-year terms, unless otherwise terminated. Each employment agreement provides for annual minimum base salary increases based on increases in the Consumer Price Index, plus additional compensation as a discretionary bonus as determined by the Compensation Committee of the Board of Directors. Contingencies The Company is subject to various legal proceedings and claims that arise in the ordinary course of business. These matters are generally covered by insurance. While the resolution of these matters cannot be predicted with certainty, Management believes that the final outcome of such matters will not have a material adverse effect on the financial position or results of operations of the Company. Financing The Company has received a commitment for tax-exempt financing on the Avalon Fields Development Community. The Community Development Administration of Maryland has issued $12,700 million of thirty-year fixed-rate bonds related to Avalon Fields, at an all-in rate of 7.55%. Management expects to complete documentation and receive funding of approximately $12,088 in March 1997. 9. Value of Financial Instruments Cash Equivalents and Cash in Escrow The Company estimates that the fair value approximates carrying value due to the relatively short maturity of these instruments. Notes Payable, Loans Payable, Tax-Exempt Bonds, Custodial Receipts and Revolving Credit Facility The Company determines the fair value based on an analysis of discounted future cash flows at a discount rate that approximates the Company's effective current borrowing rate for instruments of comparable maturities. Based on this analysis, the Company has determined that the fair value of these instruments approximates carrying value. The Swap described in Note 5 had an estimated unrealized loss of $28 at December 31, 1996 based upon a dealer mark-to-market valuation. 10. Amended and Restated 1995 Equity Incentive Plan The Company has adopted the 1995 Equity Incentive Plan (the "Plan"), as amended and restated. Certain amendments to the Plan were approved by the stockholders of the Company at the Annual Meeting held on May 7, 1996. Plan participants include officers of the Company, key employees, non-employee F-13 61 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) directors, as well as other non-executive personnel of the Company. The Plan authorizes (i) the grant of stock options that qualify as incentive stock options under Section 422 of the Code, (ii) the grant of stock options that do not so qualify, (iii) grants of shares of restricted and unrestricted Common Stock contingent upon the attainment of performance goals or subject to other restrictions, (iv) grants of shares of unrestricted Common Stock in lieu of cash compensation and (v) dividend equivalent rights. Under the Plan, a maximum of 882,750 shares of Common Stock may be issued, plus any shares of Common Stock represented by awards under the Company's 1993 Stock Option and Incentive Plan (the"1993 Plan") that are forfeited, canceled, reacquired by the Company, satisfied without the issuance of Common Stock or otherwise terminated (other than by exercise). Options granted to officers, non-employee directors and employees under the Plan generally vest ratably over a three-year term, expire ten years from the date of grant and may be exercised at the market price on the date of grant. Information with respect to stock options granted under the Plan and the 1993 Plan from 1993 to 1996 is as follows:
Weighted Average Exercise Price Shares Per Share -------------- --------------------- Options outstanding, December 31, 1993 1,116,250 $ 20.500 Exercised (16,000) 20.500 Granted 9,000 23.125 Forfeited (39,500) 20.500 ------------ --------------- Options outstanding, December 31, 1994 1,069,750 20.522 Exercised (15,000) 20.500 Granted 137,150 20.726 Forfeited (163,750) 20.511 ------------ --------------- Options outstanding, December 31, 1995 1,028,150 20.551 Exercised (36,413) 20.630 Granted 106,800 22.409 Forfeited (43,536) 20.636 ------------ --------------- Options outstanding, December 31, 1996 1,055,001 $ 20.733 ============ =============== Options exercisable: December 31, 1994 362,548 $ 20.565 ============ =============== December 31, 1995 604,667 $ 20.031 ============ =============== December 31, 1996 908,345 $ 20.525 ============ ===============
Options to purchase 711,223, 924,350 and 882,750 shares of common stock were available for grant under the Plan and the 1993 Plan at December 31, 1996, 1995 and 1994, respectively. 11. Extraordinary Items In August 1996, the Company recorded a non-recurring charge to earnings for the recorded value of the unamortized deferred financing costs associated with the refinancing of tax-exempt bonds in conjunction with the completion of the new credit enhancement facility with the Federal National Mortgage Association. In 1995, the unamortized deferred financing costs associated with the retirement of the secured revolving credit facility were written off. F-14 62 AVALON PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(CONTINUED) 12. Quarterly Financial Information (Unaudited) The following summary represents the quarterly results of operations for the years ended December 31, 1996 and 1995:
Three months ended ------------------------------------------------------------------------------- 1996 March 31 June 30 September 30 December 31 - ---- ------------ ----------- ------------- -------------- Total revenue $ 28,108 $ 29,831 $ 32,811 $ 34,463 Income before extraordinary items $ 8,456 $ 8,979 $ 9,154 $ 16,996 Net income available to common stockholders $ 8,456 $ 8,979 $ 6,798 $ 16,996 Income before extraordinary items per common share $ 0.280 $ 0.282 $ 0.300 $ 0.554 Net income per common share $ 0.280 $ 0.282 $ 0.221 $ 0.554
Three months ended ------------------------------------------------------------------------------- 1995 March 31 June 30 September 30 December 31 - ---- ------------ ----------- ------------- -------------- Total revenue $ 22,011 $ 23,164 $ 25,187 $ 26,851 Income before extraordinary items $ 7,992 $ 7,905 $ 8,226 $ 7,972 Net income available to common stockholders $ 7,992 $ 7,905 $ 8,226 $ 6,814 Income before extraordinary items per common share $ 0.282 $ 0.279 $ 0.290 $ 0.281 Net income per common share $ 0.282 $ 0.279 $ 0.290 $ 0.240
13. Subsequent Events On January 11, 1997, the Company acquired two apartment communities, Avalon at Ballston-Quincy and Vermont Towers, in Arlington, Virginia for a total purchase price of approximately $45,698 of which approximately $700 was paid in the form of partnership units exchangeable for shares of the Company's Common Stock (based on the market value of the Common Stock on the closing date of the acquisition). One of these luxury, high-rise apartment communities contains 222 apartment homes; the other contains a total of 232 apartment homes in two connected buildings. On January 15, 1997, the Company purchased 7 acres of land in Alexandria, Virginia for $4,300. Construction of a new 460 apartment home community, Avalon at Cameron Court, commenced in the first quarter of 1997. On February 24, 1997, the Company filed a shelf registration statement with the Securities and Exchange Commission covering up to $350,000 of securities. The registration statement provides for the issuance of common stock, preferred stock, debt securities and warrants to purchase common stock. On March 12, 1997, the Company purchased 8.29 acres of land in Quincy, Massachusetts for $950. Construction of a new 171 apartment home community, Avalon at Faxon Park, is expected to start in the second quarter of 1997. F-15 63 SCHEDULE III AVALON PROPERTIES, INC. REAL ESTATE AND ACCUMULATED DEPRECIATION DECEMBER 31, 1996 (DOLLARS IN THOUSANDS)
INITIAL COST TOTAL COST ------------------------------ ----------------- COSTS BUILDING/ SUBSEQUENT CONSTRUCTION BUILDING & TO ACQUISITION/ IN PROGRESS & LAND IMPROVEMENTS CONSTRUCTION LAND IMPROVEMENTS ------------- -------------- ----------------- --------------- ----------------- Current Communities - ------------------- 4100 Massachusetts Avenue $ 6,848 $ 27,609 $ 422 $ 6,848 $ 28,031 Avalon Park 3,903 15,611 203 3,903 15,814 Avalon at Carter Lake 2,280 9,128 94 2,280 9,222 Avalon at Gayton 2,907 6,626 297 2,907 6,923 Avalon at Symphony Glen 1,594 6,377 108 1,594 6,485 Avalon at Hampton I 727 2,908 67 727 2,975 Avalon at Hampton II 1,601 6,461 82 1,601 6,543 Avalon at Dulles 2,302 9,207 90 2,302 9,297 Avalon Knoll 1,528 6,113 264 1,528 6,377 Avalon Lea 3,193 12,773 135 3,193 12,908 Avalon at Fairway Hills I 1,847 7,386 135 1,847 7,521 Avalon Ridge 4,938 19,755 337 4,938 20,092 Avalon at Lexington 1,924 12,061 591 1,924 12,193 Longwood Towers 3,310 13,240 70 3,310 13,310 Avalon Station 1,177 4,723 33 1,177 4,756 Avalon Farm 3,443 13,774 115 3,443 13,889 Avalon Watch 5,585 22,339 416 5,585 22,755 Avalon at Ballston 7,291 29,166 340 7,291 29,506 Avalon Pointe 1,537 6,175 36 1,537 6,211 Avalon at Park Center 7,293 29,400 644 7,293 30,044 Avalon Arbor 5,133 20,958 1,731 5,133 22,689 Avalon Glen 5,956 23,935 186 5,956 24,121 Avalon Green 1,820 10,156 318 1,820 10,474 Avalon Pavilions 11,256 45,023 244 11,256 45,267 Avalon View 3,529 14,114 130 3,529 14,244 Avalon Walk I 6,875 27,502 128 6,875 27,630 Avalon Walk II 2,225 21,222 150 2,225 21,372 Avalon Woods 1,490 6,610 135 1,490 6,745 Avalon at Decoverly 6,157 24,791 30 6,157 24,821 Avalon at Lake Arbor 2,354 9,541 5 2,354 9,546 Avalon Birches 2,678 10,735 6 2,678 10,741 Avalon Summit West 1,275 5,489 -- 1,275 5,489 Avalon Towers 3,118 12,702 6 3,118 12,708 Avalon Fields 2,608 11,654 -- 2,608 11,654 Avalon Crossing 2,199 11,188 -- 2,199 11,188 Avalon Run East 1,579 14,423 -- 1,579 14,423 Avalon Landing 1,849 7,404 8 1,849 7,412 Avalon Station II 542 5,363 -- 542 5,363 Avalon Summit East 426 8,962 -- 426 8,962 Avalon West 994 9,680 -- 994 9,680 ---------- ---------- ---------------- -------------- ----------- 129,241 562,284 7,556 129,241 569,381 ---------- ---------- ---------------- -------------- -----------
TOTAL COST --------------- TOTAL COST, NET YEAR OF ACCUMULATED OF ACCUMULATED COMPLETION/ TOTAL DEPRECIATION DEPRECIATION ENCUMBRANCES ACQUISITION ------------- --------------- ------------------ --------------- ------------- Current Communities 4100 Massachusetts Avenue $ 34,879 $ 1,969 $ 32,910 $ -- 1994 Avalon Park 19,717 1,459 18,258 -- 1993** Avalon at Carter Lake 11,502 570 10,932 -- 1994 Avalon at Gayton 9,830 757 9,073 -- 1993** Avalon at Symphony Glen 8,079 609 7,470 9,780 1993** Avalon at Hampton I 3,702 339 3,363 8,060 1993** Avalon at Hampton II 8,144 642 7,502 11,550 1993** Avalon at Dulles 11,599 861 10,738 12,360 1993** Avalon Knoll 7,905 690 7,215 14,070 1993** Avalon Lea 16,101 1,181 14,920 16,782 1993** Avalon at Fairway Hills I 9,368 698 8,670 11,500 1993** Avalon Ridge 25,030 1,829 23,201 26,724 1993** Avalon at Lexington 14,117 974 13,143 15,284 1994 Longwood Towers 16,620 1,173 15,447 -- 1993 Avalon Station 5,933 291 5,642 -- 1994 Avalon Farm 17,332 1,259 16,073 -- 1993** Avalon Watch 28,340 2,096 26,244 -- 1993** Avalon at Ballston 36,797 2,507 34,290 -- 1993** Avalon Pointe 7,748 369 7,379 6,387 1994 Avalon at Park Center 37,337 2,300 35,037 -- 1994 Avalon Arbor 27,822 3,128 24,694 -- 1993** Avalon Glen 30,077 1,938 28,139 -- 1993**/95 Avalon Green 12,294 508 11,786 -- 1995 Avalon Pavilions 56,523 4,060 52,463 -- 1993** Avalon View 17,773 1,310 16,463 19,487 1993** Avalon Walk I 34,505 2,391 32,114 -- 1993** Avalon Walk II 23,597 1,296 22,301 13,149 1994 Avalon Woods 8,235 576 7,659 -- 1994 Avalon at Decoverly 30,978 975 30,003 -- 1995 Avalon at Lake Arbor 11,900 390 11,510 -- 1995 Avalon Birches 13,419 529 12,890 -- 1995 Avalon Summit West 6,764 216 6,548 -- 1995 Avalon Towers 15,826 425 15,401 -- 1995 Avalon Fields 14,262 406 13,856 -- 1996 Avalon Crossing 13,387 106 13,281 -- 1996 Avalon Run East 16,002 152 15,850 -- 1996 Avalon Landing 9,261 394 8,867 6,969 1995 Avalon Station II 5,905 122 5,783 -- 1996 Avalon Summit East 9,388 182 9,206 -- 1996 Avalon West 10,624 202 10,422 8,771 1996 -------- --------------- ----------------- ------------------- 698,622 41,879 698,743 180,873 -------- --------------- ----------------- -------------------
F-16 64 SCHEDULE III (Continued) AVALON PROPERTIES, INC. REAL ESTATE AND ACCUMULATED DEPRECIATION DECEMBER 31, 1996 (DOLLARS IN THOUSANDS)
INITIAL COST TOTAL COST ---------------------------- ------------------ COSTS BUILDING/ SUBSEQUENT CONSTRUCTION BUILDING & TO ACQUISITION/ IN PROGRESS & LAND IMPROVEMENTS CONSTRUCTION LAND IMPROVEMENTS ---------- -------------- ------------------ --------- ----------------- Acquisitions - ------------ Avalon at Boulders 3,207 12,831 -- 3,207 12,831 Avalon at Fairway Hills II 6,761 27,046 -- 6,761 27,046 Avalon Chase 4,718 18,897 -- 4,718 18,897 Avalon Pines 1,714 6,864 -- 1,714 6,864 Autumn Woods 6,095 24,379 -- 6,095 24,379 ---------- --------- --------- --------- ---------- 22,495 90,017 -- 22,495 90,017 ---------- --------- --------- --------- ---------- Development Communities* - ------------------------ Avalon Commons Avalon Cove 7,300 78,531 -- 7,300 78,531 Avalon Crescent 2,130 34,753 -- 2,130 34,753 Avalon Gates 2,005 28,343 -- 2,005 28,343 Avalon Grove 4,322 41,315 -- 4,322 41,315 Avalon Springs 1,586 12,042 -- 1,586 12,042 Avalon Gardens -- 15,165 -- -- 15,165 Avalon Court -- 5,048 -- -- 5,048 Avalon Willow -- 5,217 -- -- 5,217 Avalon at Fair Lakes -- 4,659 -- -- 4,659 17,343 242,676 -- 17,343 242,676 ---------- --------- --------- --------- ---------- Major Renovations/Improvements - ------------------------------ Longwood Towers -- -- 6,829 -- 6,829 Corporate -- 227 3,697 -- 3,924 - --------- ---------- --------- --------- --------- ---------- $ 169,079 $ 895,204 $ 18,082 $ 169,079 $ 912,827 ========== ========= ========= ========= ==========
TOTAL COST ------------- TOTAL COST, NET YEAR OF ACCUMULATED OF ACCUMULATED COMPLETION/ TOTAL DEPRECIATION DEPRECIATION ENCUMBRANCES ACQUISITION ---------- ---------------- ----------------- -------------- -------------- Acquisitions - ------------ Avalon at Boulders 16,038 97 15,941 -- 1996 Avalon at Fairway Hills II 33,807 338 33,469 -- 1996 Avalon Chase 23,615 494 23,121 -- 1996 Avalon Pines 8,578 127 8,451 5,529 1996 Autumn Woods 30,439 35 30,439 24,335 1996 ---------- --------- ------------ ---------- 112,512 1,091 111,421 29,864 ---------- --------- ------------ ---------- Development Communities* - ------------------------ Avalon Commons Avalon Cove 85,831 413 85,418 -- Avalon Crescent 36,883 -- 36,883 -- Avalon Gates 30,348 89 30,259 -- Avalon Grove 45,637 110 45,527 -- Avalon Springs 13,628 70 13,558 -- Avalon Gardens 15,165 -- 15,165 -- Avalon Court 5,048 -- 5,048 -- Avalon Willow 5,217 -- 5,217 -- Avalon at Fair Lakes 4,659 -- 4,659 -- -- 260,019 682 259,337 -- ---------- --------- ------------ ---------- Major Renovations/Improvements - ------------------------------ Longwood Towers 6,829 -- 6,829 -- 1993 Corporate 3,924 895 3,029 -- -- - --------- ---------- ----------- ------------ ---------- 1,081,906 $ 44,547 $ 1,037,359 $ 210,737 ========== =========== ============ ==========
*Under construction at December 31, 1996. **Reflects acquisition of communities from the Predecessor of the Company on November 18, 1993. F-17 65 AVALON PROPERTIES, INC. REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1996 (Dollars in thousands) Depreciation of Avalon Properties, Inc. building, improvements, upgrades and furniture, fixtures and equipment (FF&E) is calculated over the following estimated useful lives, on a straight line basis: Building - 40 years Improvements, upgrades and FF&E - not to exceed 7 years The aggregate cost of total real estate for Federal income tax purposes was approximately $1.1 billion at December 31, 1996. The changes in total real estate assets for the years ended December 31, 1996, 1995 and 1994 are as follows:
Years ended December 31, ----------------------------------------------- 1996 1995 1994 --------------- -------------- ------------- Balance, beginning of period $ 782,433 $ 593,632 $ 426,570 Acquisitions, Construction Costs and Improvements 299,473 188,801 167,062 ------------- ------------- -------------- Balance, end of period $ 1,081,906 $ 782,433 $ 593,632 ============= ============= ==============
The changes in accumulated depreciation for the years ended December 31, 1996, 1995 and 1994, are as follows:
Years ended December 31, ----------------------------------------------- 1996 1995 1994 -------------- --------------- ------------- Balance, beginning of period $ 27,059 $ 12,395 $ 1,132 Depreciation for period 17,488 14,664 11,263 ------------ -------------- ------------- Balance, end of period $ 44,547 $ 27,059 $ 12,395 ============ ============== =============
F-18 EX-10.12 2 AGREEMENT. 1 EXHIBIT 10.12 -------------------------- MASTER REIMBURSEMENT AGREEMENT DATED AS OF JULY 1, 1996 BY AND AMONG FEDERAL NATIONAL MORTGAGE ASSOCIATION AND AVALON COLLATERAL, INC. AVALON CHASE RIDGE, INC. and AVALON CHASE LEA, INC., AS BORROWERS -------------------------- 2 MASTER REIMBURSEMENT AGREEMENT THIS MASTER REIMBURSEMENT AGREEMENT is made and entered into as of this 1st day of July, 1996, by and among AVALON COLLATERAL, INC., a corporation duly organized and existing under the laws of Maryland ("COLLATERAL INC."), AVALON CHASE RIDGE, INC., a corporation duly organized and existing under the laws of Maryland ("CHASE RIDGE INC."), AVALON CHASE LEA, INC., a corporation duly organized and existing under the laws of Maryland ("CHASE LEA INC."; each of Collateral Inc., Chase Ridge Inc. and Chase Lea Inc. sometimes being referred to herein as a "BORROWER" and collectively as the "BORROWERS") and the FEDERAL NATIONAL MORTGAGE ASSOCIATION ("FANNIE MAE"), a corporation duly organized and existing under the Federal National Mortgage Association Charter Act, 12 U.S.C. Section 1716 et. seq.. The meanings of initially capitalized terms used herein and not defined are set forth in section 1.2. RECITALS WHEREAS, Collateral Inc. owns each of the five (5) multifamily housing projects described in Section A and Section B of Exhibit A (the "INITIAL BOND PROPERTIES"), which Initial Bond Properties are currently financed by five (5) existing issues of tax-exempt housing bonds (the "EXISTING BOND ISSUES") in accordance with five (5) trust indentures (the "EXISTING INDENTURES"); WHEREAS, each of the Existing Bond Issues is supported by a first priority mortgage, deed of trust or deed to secure debt (the "EXISTING SECURITY INSTRUMENTS") and mortgage note secured thereby (the "EXISTING MORTGAGE NOTES"); WHEREAS, each Issuer with respect to the three (3) Initial Bond Properties described in "Section A: Floating Rate Bond Properties" of Exhibit A (the "FLOATING RATE BOND PROPERTIES") has received a request from Collateral Inc. to issue new bonds under the Related Act in order to (a) provide purchase money financing with respect to the Floating Rate Bond Property identified as Avalon Pointe, Stafford County, Virginia and (b) refinance the Floating Rate Bond Properties identified as Avalon at Hampton I, City of Hampton Virginia and Avalon Meadows, Howard County, Maryland, in each case by the current refunding of the Existing Bond Issue with respect to each such Floating Rate Bond Property through the simultaneous issuance of new variable-rate, tax-exempt refunding housing bonds (the "FLOATING RATE BOND TRANSACTIONS"); WHEREAS, each Issuer with respect to the two (2) Initial Bond Properties described in "Section B: Fixed Rate Bond Properties" of Exhibit A (the "FIXED RATE BOND PROPERTIES") has received a request from Collateral Inc. to issue new bonds under the Related Act in order to refinance each such Fixed Rate Bond Property by the current refunding of the Existing Bond Issue with respect to each such Fixed Rate Bond Property through the simultaneous issuance of new fixed-rate, tax-exempt refunding housing bonds (the "FIXED RATE 1 3 BOND TRANSACTIONS"; the Floating Rate Bond Transactions and the Fixed Rate Bond Transactions are referred to herein, collectively, as the "BOND TRANSACTIONS"); WHEREAS, each Issuer has determined that the issuance of the Related Bonds with respect to the related Bond Transaction and the application of the proceeds thereof to fund the Mortgage Loan relating thereto will promote and serve the intended purposes of, and in all respects will conform to the provisions and requirements of, the Related Act; WHEREAS, in order to provide funding for the Mortgage Loan with respect to each such Bond Transaction, the respective Issuer is issuing and selling the Related Bonds and depositing the proceeds of the Related Bonds with the Related Trustee, to be used to fund the Mortgage Loan with respect to each such Initial Bond Property; WHEREAS, the Mortgage Loan with respect to each Bond Transaction will be (a) made in accordance with the requirements of Fannie Mae and the Issuer, (b) evidenced by the Related Mortgage Note, (c) secured by the Related Bond Mortgage, and (d) otherwise secured by the other Related Bond Documents; WHEREAS, the Related Mortgage Note, the Related Bond Mortgage and the other Related Bond Documents with respect to each Initial Bond Property will be executed by Collateral Inc. in favor of the Issuer with respect to such Initial Bond Property; WHEREAS, immediately following the origination of the Mortgage Loan with respect to each Floating Rate Bond Transaction, the Issuer with respect to each such Floating Rate Bond Transaction will, pursuant to an Assignment, assign the Mortgage Loan, the Related Mortgage Note and the Related Bond Mortgage, together with certain other collateral, to the Related Trustee and Fannie Mae as their interests may appear; WHEREAS, immediately following the origination of the Mortgage Loan with respect to each Fixed Rate Bond Transaction, the Issuer with respect to each such Fixed Rate Bond Transaction will, pursuant to an Assignment, assign the Mortgage Loan, the Related Mortgage Note and the Related Bond Mortgage, together with certain other collateral, to Fannie Mae; WHEREAS, Collateral Inc. has requested that Fannie Mae provide credit enhancement and liquidity support for each issue of Related Bonds with respect to the Bond Transactions by issuing (i) a Related Fannie Mae Collateral Agreement with respect to each Floating Rate Bond Transaction for the benefit of the Related Trustee and (ii) a Related Fannie Mae Pass-Through Certificate with respect to each Fixed Rate Bond Transaction for the benefit of the Related Trustee; WHEREAS, (i) Chase Ridge Inc. owns the multifamily housing project described as Avalon Ridge, Montgomery County, Maryland, in "Section C: Custodial Receipts Properties" 2 4 of Exhibit A (the "AVALON RIDGE PROPERTY") and (ii) Chase Lea Inc. owns the multifamily housing project described as Avalon Lea, Baltimore County, Maryland, in "Section C: Custodial Receipts Properties" of Exhibit A (the "AVALON LEA PROPERTY"; each of the Avalon Ridge Property and the Avalon Lea Property sometimes being referred to herein as a "CUSTODIAL RECEIPTS PROPERTY" and collectively as the "CUSTODIAL RECEIPTS PROPERTIES"). Each Custodial Receipts Property is currently financed by an existing issue of tax-exempt housing bonds (the "CUSTODIAL RECEIPTS BOND ISSUES") issued in accordance with those certain Trust Indentures dated as of November 1, 1985, each by and between Community Development Administration Department of Economic and Community Development State of Maryland ("CDA") and Marine Midland Bank (successor to Equitable Bank, National Association), as trustee (together with its successors and assigns, the "CUSTODIAL RECEIPTS BOND TRUSTEE") (such trust indentures, as amended, restated, supplemented or otherwise modified to the date hereof and from time to time hereafter the "CUSTODIAL RECEIPTS BOND INDENTURES"); WHEREAS, each of the Custodial Receipts Bond Issues is supported by first priority mortgages, deeds of trust or deeds to secure debt, dated as of November 11, 1985 (the "CUSTODIAL RECEIPTS FIRST SECURITY INSTRUMENTS") by the related Borrower (or its predecessor-in-interest) originally for the benefit of CDA and The Mutual Benefit Life Insurance Company encumbering the related Custodial Receipts Property and securing the obligations of the obligor under and with respect to the related mortgage note (the "CUSTODIAL RECEIPTS MORTGAGE NOTES") and mortgage loan evidenced thereby (the "CUSTODIAL RECEIPTS MORTGAGE LOANS"); WHEREAS, Guarantor (defined below) has (i) purchased the Custodial Receipts Bond Issue with respect to each Custodial Receipts Property, (ii) deposited such Custodial Receipts Bond Issues with Marine Midland Bank (the "ORIGINAL CUSTODIAN") pursuant to that certain Amended and Restated Custody Agreement dated as of June 1, 1995 between the Original Custodian, and Guarantor as depositor (as amended, restated, supplemented or otherwise modified to the date hereof and from time to time hereafter the "CUSTODIAL RECEIPTS AGREEMENT"), and (iii) caused the issuance of the Related Custodial Receipts in accordance with the Custodial Receipts Agreement (the "CUSTODIAL RECEIPTS TRANSACTIONS"); WHEREAS, Guarantor, Collateral Inc., Fannie Mae and Crestar Bank, not in its individual capacity but solely in its capacity as collateral agent for Fannie Mae (in such capacity, together with its successors and assigns the "C/R PLEDGE CUSTODIAN") have entered in to that certain Master Assignment, Bond Pledge and Security Agreement, of even date herewith (as the same may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms, the "CUSTODIAL RECEIPTS BOND PLEDGE AGREEMENT") pursuant to which (a) Guarantor has assigned and conveyed all of residual right, title and interest, if any, in and to, inter alia, the Custodial Receipts Bond Issues to Collateral Inc., (b) Collateral Inc., and to the extent that Guarantor is deemed to retain any residual interests, Guarantor has pledged and granted to the C/R Pledge Custodian for the benefit of Fannie Mae, all of its residual right, title and interest, if any, in and to, inter alia, the Custodial Receipts Bond Issue as additional 3 5 security for the Obligations, and (c) the C/R Pledge Trustee has acknowledged and agreed that it shall hold such grant and pledge for the benefit of Fannie Mae; WHEREAS, (i) the Related Custodial Receipts with respect to the Avalon Ridge Property are credit enhanced by a direct-draw letter of credit (the "CHASE RIDGE CUSTODIAL RECEIPTS L/C") issued by Morgan Guaranty Trust Company of New York ("MORGAN") in favor of the Custodial Receipts Custodian and (ii) the Related Custodial Receipts with respect to the Avalon Lea Property are credit enhanced by a direct-draw letter of credit (the "CHASE LEA CUSTODIAL RECEIPTS L/C"; each of the Chase Ridge Custodial Receipts L/C and the Chase Lea Custodial Receipts L/C sometimes being referred to herein as a "CUSTODIAL RECEIPTS L/C" and collectively as the "CUSTODIAL RECEIPTS L/C'S") issued by Morgan in favor of the Custodial Receipts Custodian; WHEREAS, in consideration of Morgan's issuing the Custodial Receipts L/C's, each of Chase Ridge Inc. and Chase Lea Inc. have entered into a certain Reimbursement Agreement (the "CUSTODIAL RECEIPTS L/C REIMBURSEMENT AGREEMENT"), dated as of July 1, 1996, with Morgan pursuant to which Chase Ridge Inc. and Chase Lea Inc. have agreed to reimburse Morgan for all advances made by Morgan pursuant to the terms of the Custodial Receipts L/C's; WHEREAS, each of Chase Ridge Inc. and Chase Lea Inc. has requested that Fannie Mae credit enhance their respective reimbursement obligations to Morgan with respect to each Custodial Receipts Transaction by issuing the Related Custodial Receipts Collateral Agreements for the benefit of Morgan; WHEREAS, each of Chase Ridge Inc. and Chase Lea Inc. has agreed to secure its reimbursement obligations to Fannie Mae with respect to any amounts advanced by Fannie Mae under each Related Custodial Receipts Collateral Agreement and the other Obligations hereunder by, inter alia, granting Fannie Mae second priority mortgages, deeds of trust or deeds to secure debt encumbering the related Custodial Receipts Property; WHEREAS, Fannie Mae has agreed to provide: (i) credit enhancement and liquidity support for each issue of Related Bonds in a Floating Rate Bond Transaction pursuant to and in accordance with the terms of a Related Fannie Mae Collateral Agreement; (ii) credit enhancement for each issue of Related Bonds in a Fixed Rate Bond Transaction pursuant to and in accordance with the terms of a Related Fannie Mae Pass-Through Certificate; and (iii) credit enhancement with respect to the respective reimbursement obligations of Chase Ridge Inc. and Chase Lea Inc. to Morgan for certain amounts advanced by Morgan under the Custodial Receipts L/C's, pursuant to and in accordance with the terms of a Related Custodial Receipts Collateral Agreement; WHEREAS, each Borrower is a direct, one hundred percent (100%) subsidiary of Avalon Properties, Inc., a Maryland corporation ("GUARANTOR") and will receive a material 4 6 benefit from Fannie Mae's agreement to provide credit enhancement and liquidity support to the other Borrowers; WHEREAS, each Borrower has agreed, that the Borrowers be jointly and severally liable for all of the Obligations; WHEREAS, Collateral Inc. owns each of the four (4) multifamily housing projects, including the real property and improvements located thereon, described in Exhibit B (the "ADDITIONAL MORTGAGED PROPERTIES"); WHEREAS, in consideration of Fannie Mae agreeing to enter into the Related Fannie Mae Credit Enhancement Instruments and in order to further evidence and secure the obligations of each of the Borrowers to Fannie Mae, Collateral Inc. and the other the Borrowers have agreed, among other things: (i) to grant Fannie Mae second priority deeds of trust on the Bond Properties; (ii) to grant Fannie Mae second priority deeds of trust on the Custodial Receipts Properties; (iii) to grant Fannie Mae first priority deeds of trust on the Additional Mortgaged Properties; (iv) to pay certain fees to Fannie Mae; and (v) to reimburse Fannie Mae for amounts advanced pursuant to the Related Fannie Mae Collateral Agreements and the Related Custodial Receipts Collateral Agreements or otherwise advanced in accordance with this Agreement and the other Transaction Documents; WHEREAS, in order to further induce Fannie Mae to enter into the Related Fannie Mae Credit Enhancement Instruments, Guarantor has agreed, inter alia, to (a) grant a certain Guaranty for the benefit of Fannie Mae, and (b) pledge, assign and grant Fannie Mae a security interest in all of its remaining right, title and interest in the Custodial Receipts Bond Issues, if any, as additional security for the Obligations, pursuant to the Custodial Receipts Bond Pledge Agreement; and WHEREAS, it is a condition to the execution and delivery of the Related Fannie Mae Credit Enhancement Instruments by Fannie Mae that the Borrowers enter into this Agreement. NOW THEREFORE, in consideration of the mutual covenants and undertakings set forth herein, the payment of certain fees to Fannie Mae, and other good and valuable consideration, the receipt and sufficiency of which are acknowledged by the parties hereto, Collateral Inc., Chase Ridge Inc., Chase Lea Inc. and Fannie Mae agree as follows: 5 7 I. DEFINITIONS 1 GENERAL INTERPRETATIVE PRINCIPLES. For purposes of this Agreement, except as otherwise provided or unless the context otherwise requires: (a) the terms defined in section 1.2 have the meanings assigned to them in section 1.2 and include the plural as well as the singular, and the use of any gender herein shall be deemed to include the other gender; (b) accounting terms not otherwise defined herein have the meanings assigned to them in accordance with GAAP; (c) references herein to "sections," "subsections," "paragraphs" and other subdivisions without reference to a document are to designated sections, subsections, paragraphs and other subdivisions of this Agreement; (d) a reference to a subsection without further reference to a section is a reference to such subsection as contained in the same section in which the reference appears, and this rule shall also apply to paragraphs and other subdivisions; (e) a reference to an Exhibit or a Schedule without a further reference to the document to which the Exhibit or Schedule is attached is a reference to an Exhibit or Schedule to this Agreement; (f) a reference to Fannie Mae forms, guides, memos, updates or announcements shall mean such Fannie Mae forms, guides, memos, updates or announcements as the same may be amended, supplemented, otherwise modified, superseded or replaced from time to time; (g) the words "attorneys' fees and expenses," "legal fees and expenses," "attorneys' fees and costs," "attorneys' fees and court costs," and other words of similar import are deemed to include any actual costs and expenses incurred by Fannie Mae's in-house counsel; (h) the words "herein," "hereof," "hereunder" and other words of similar import refer to this Agreement as a whole and not to any particular provision; and (i) the word "including" means "including, but not limited to." 6 8 2 DEFINED TERMS. For all purposes of this Agreement, the following terms shall have the respective meanings set forth below: "ACTIVITY FEE" shall have the meaning given that term in section 4.4(b). "ACTIVITY RATE" means the prime rate of interest as reported from day to day in The Wall Street Journal as the base rate on corporate loans posted by at least seventy-five percent (75%) of the nation's thirty (30) largest banks plus two percent (2%) per annum. The Activity Rate will be the rate reported on the applicable publication date as determined above, notwithstanding the fact that such reported rate shall be the prime rate for the preceding business day. If such rate is no longer available, then the Activity Rate shall mean the base rate or prime rate of interest of any "Money Center" bank designated by Fannie Mae, in its discretion, plus two percent (2%) per annum. "ADDITIONAL MORTGAGED PROPERTIES" shall have the meaning given to that term in the recitals to this Agreement. "ADDITIONAL MORTGAGED PROPERTIES" shall also include each New Additional Property from and after the date of its addition to the Fannie Mae Credit Facility, and shall exclude each Released Property (which prior to such substitution or release, as applicable, was an Additional Mortgaged Property), from and after the date of such substitution or release. "ADDITIONAL MORTGAGED PROPERTY" means any one of the foregoing, individually. "ADVANCE" means the payment or deemed payment by Fannie Mae of any monies, from the cash flow or the redemption of mortgages pledged by Fannie Mae or otherwise, to either (i) a Related Trustee pursuant to the terms of a Related Fannie Mae Collateral Agreement or (ii) to Morgan pursuant to the terms of a Related Custodial Receipts Collateral Agreement. "AFFILIATE", as applied to any Person, means any other Person directly or indirectly controlling, controlled by, or under common control with, that Person. For the purposes of this definition, "control" (including with correlative meanings, the terms "controlling", "controlled by" and "under common control with"), as applied to any Person, means the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of that Person, whether through the ownership of voting securities, partnership interests or by contract or otherwise. "AGGREGATE DEBT SERVICE COVERAGE RATIO" means, at any time, the ratio of (a) the aggregate of the Net Operating Income for the applicable period for all of the Properties plus the interest income actually accrued with respect to the Release Price Cash Collateral, if any, held by Fannie Mae during the applicable period, to (b) the aggregate Imputed Debt Service with respect to all Bond Transactions and all Custodial Receipts Transactions, for the applicable period. 7 9 "AGGREGATE FACILITY AMOUNT" means at any time the total amount of all Facility Amounts. "AGGREGATE LOAN TO VALUE RATIO" means, at any time, the ratio (expressed as a percentage) of (a) the Aggregate Facility Amount to (b) the aggregate of the Values for all of the Properties plus the aggregate amount of the Release Price Cash Collateral, if any, held by Fannie Mae at such time. "AGREEMENT" means this Master Reimbursement Agreement, as amended, supplemented, or otherwise modified or amended and restated from time to time in accordance with its terms. "ALLOCABLE FACILITY AMOUNT" means the portion of the Aggregate Facility Amount allocated to a particular Property by Fannie Mae in accordance with section 5.1. "ALLOCATED RELEASE PRICE CASH COLLATERAL" means, with respect to each Floating Rate Bond Property, the portion of the aggregate amount of all Release Price Cash Collateral allocable to such Floating Rate Bond Property on a pro rata basis, as determined by Fannie Mae in its discretion. "ALTERATIONS" shall mean the meaning given to such term in section 2.2(o). "ALTERNATE CREDIT FACILITY", with respect to an issue of Related Bonds, shall have the meaning given that term in the Related Indenture. "ALTERNATIVE DSC SHORTFALL COLLATERAL" shall have the meaning given to such term in section 3.1(c). "APPLICABLE LAW" means (a) all applicable provisions of all constitutions, statutes, rules, regulations and orders of all governmental bodies, all Governmental Approvals and all orders, judgments and decrees of all courts and arbitrators, (b) all zoning, building, environmental and other laws, ordinances, rules, regulations and restrictions of any Governmental Authority affecting the ownership, management, use, operation, maintenance or repair of any Property, including the Americans with Disabilities Act (if applicable), the Fair Housing Amendment Act of 1988 and Hazardous Materials Laws, (c) any building permits or any conditions, easements, rights-of-way, covenants, restrictions of record or any recorded or unrecorded agreement affecting or concerning any Property including planned development permits, condominium declarations, and reciprocal easement and regulatory agreements with any Governmental Authority, (d) all laws, ordinances, rules and regulations, whether in the form of rent control, rent stabilization or otherwise, that limit or impose conditions on the amount of rent that may be collected from the units of any Property, and (e) all terms of any insurance policy that any Borrower is required to maintain under the Mortgages, all requirements of the issuers of any such policy, and all orders, rules, regulations and other requirements of the National Board of Fire Underwriters (or any body exercising similar functions) applicable to or affecting the 8 10 operation or use of any Property or the consummation of the transactions to be effected by this Agreement or any of the other Transaction Documents. "ASSIGNMENT" means, individually, any Assignment of Deed of Trust and Other Loan Documents with respect to a Bond Transaction by an Issuer (a) with respect to each Floating Rate Bond Transaction, to the Related Trustee and Fannie Mae as their interests may appear, and (b) with respect to each Fixed Rate Bond Transaction, to Fannie Mae, in each case as such Assignment may be amended, supplemented or, otherwise modified or amended and restated from time to time in accordance with its terms. "ASSIGNMENTS" means every such Assignment, collectively. "ASSIGNMENT OF MANAGEMENT AGREEMENT" means, individually, any Assignment of Management Agreement with respect to a Property by a Borrower for the benefit of Fannie Mae and consented to by Guarantor, as such Assignment may be amended, supplemented or otherwise modified from time to time in accordance with its terms. "ASSIGNMENTS OF MANAGEMENT AGREEMENT" means every such Assignment of Management Agreement, collectively. "ASSUMPTION AND DIRECTION AGREEMENT" means that certain Assumption and Direction Agreement by and among Crestar Bank, not in its individual capacity but solely in its capacity as trustee with respect to the Custodial Receipts Bond Issues, Guarantor and Collateral Inc., as such agreement may be amended, supplemented otherwise modified or amended and restated from time to time. "AVALON LEA PROPERTY" shall have the meaning given that term in the Recitals to this Agreement. "AVALON POINTE PROJECT" means the Bond Property identified on Exhibit A as Avalon Pointe Project, Stafford County, Virginia. "AVALON POINTE RESTRICTIVE COVENANTS AGREEMENT" shall mean that certain Amended and Restated Declaration of Restrictive Covenants dated as of October 1, 1989, and recorded on October 31, 1989 in the real estate records of Stafford County, Virginia at Deed Book 705, Page 246, as amended by Amendment to Declaration of Restrictive Covenants dated as of January 16, 1991 and recorded on April 30, 1991 in the real estate records of Stafford County, Virginia at Deed Book 794, Page 581, and as such agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. "AVALON RIDGE PROPERTY" shall have the meaning given that term in the Recitals to this Agreement. "BOND DOCUMENTS" means, collectively, the Related Bond Documents for all Bond Properties financed by the Bond Transactions, and "BOND DOCUMENT" means any one of the foregoing, individually. 9 11 "BOND FEES" shall mean: (i) with respect to each issue of Related Bonds in a Floating Rate Bond Transaction, the ongoing fees and expenses of the Issuer, the Related Trustee, the Remarketing Agent, any tender agent and any rebate analyst, each as set forth on Exhibit A attached hereto; (ii) with respect to each issue of Related Bonds in a Fixed Rate Bond Transaction, any fees payable by any Borrower in connection with such Related Bond and not included in the actual fixed rate of interest set forth in the Related Mortgage Note; and (iii) with respect to each issue of Related Custodial Receipts, any fees payable by any Borrower in connection with such Related Custodial Receipts and not included in the actual fixed rate of interest set forth in the applicable Custodial Receipts Mortgage Note. "BONDHOLDERS" (a) with respect to any Related Bonds, shall have the meaning given that term in the Related Indenture and (b) with respect to any Related Custodial Receipts, shall have the meaning given to the term "Holder" in the Custodial Receipts Agreement with respect to such Related Custodial Receipts. "BOND MORTGAGE" means the first priority Security Instrument on each Bond Property in a Bond Transaction securing the obligations of the related Borrower under and with respect to the Related Mortgage Note and the related Mortgage Loan, and "BOND MORTGAGES" means every such Bond Mortgage, collectively. "BOND PROPERTIES" means the Initial Bond Properties and the Custodial Receipts Bond Properties, collectively. "BOND PROPERTIES" shall also include each New Bond Property from and after the date of its addition to the Fannie Mae Credit Facility, and shall exclude each Released Property (which prior to its substitution or release, as applicable, was a Bond Property), from and after the date of such substitution or release. "BOND PROPERTY" means any one of the foregoing, individually. "BOND PROPERTY LOAN DOCUMENT" means with respect to each Bond Transaction, any of the documents, agreements or instruments granting, evidencing or securing the Mortgage Loan with respect to such Bond Transaction, including the Related Mortgage Note, the Related Mortgages, the title policy, UCC fixture filings and UCC financing statements (in each case relating to such Mortgage Loan) and the assignment of such Mortgage Loan by the prior holder thereof to the Related Trustee, as each such document, agreement or instrument may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its respective terms, and "BOND PROPERTY LOAN DOCUMENTS" means every such Bond Property Loan Document with respect to such Mortgage Loan, collectively. "BONDS" means, collectively, the Related Securities for all Bond Properties. 10 12 "BOND TRANSACTION CLOSING DATE" with respect to a particular Bond Transaction, means the date the Related Bonds are issued and paid for. "BOND TRANSACTIONS" shall have the meaning given to such term in the recitals to this Agreement. "BOND TRANSACTIONS" shall also include each Fixed Rate Bond Transaction and each Floating Rate Bond Transaction that becomes part of the Fannie Mae Credit Facility after the date hereof. "BOND TRANSACTION" means any one of the foregoing, individually. "BORROWER" AND "BORROWERS" shall have the meaning given that term in the Introduction to this Agreement. "BORROWER ORGANIZATIONAL DOCUMENTS" means Collateral Inc.'s Organizational Documents, Chase Ridge Inc.'s Organizational Documents and Chase Lea Inc.'s Organizational Documents, collectively. "BUSINESS DAY" means any day other than (a) a Saturday or a Sunday, (b) any day on which banking institutions located in the City of New York, New York are required or authorized by law to close, (c) any day on which The New York Stock Exchange is closed, or (d) any day on which Fannie Mae is closed. "CAP" means an interest rate cap, and includes an interest rate cap which has an initial "calculation period" that begins on the last day of a Reset Period which commences on or after the date such cap was obtained (i.e. a "future" cap). "CASH MANAGEMENT ACCOUNT" means a deposit account or accounts with a financial institution or institutions acceptable to Fannie Mae into which the Borrowers shall cause Gross Cash Flow from the Properties to be deposited on a daily basis upon the occurrence of a Cash Management Triggering Event or a Lock-Box Triggering Event, as more particularly described in the Cash Management Agreement. "CASH MANAGEMENT AGREEMENT" means a Cash Management, Security Pledge and Assignment Agreement among the Borrowers, Fannie Mae and, at Fannie Mae's option, the Servicer, for the benefit of Fannie Mae and substantially in the form of Exhibit G (subject to modifications approved by Fannie Mae), as such agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. "CASH MANAGEMENT NOTICE" shall have the meaning given to such term in section 3.1(b). "CASH MANAGEMENT SYSTEM COLLATERAL" shall have the meaning given to the term "Collateral" in the Cash Management Agreement. "CASH MANAGEMENT TEST" shall have the meaning given to such term in section 3.1(b). 11 13 "CASH MANAGEMENT TEST SHORTFALL" shall have the meaning given to such term in section 3.1(c). "CASH MANAGEMENT TRIGGERING EVENT" shall have the meaning given to such term in section 3.1(b). "CASUALTY", with respect to any Property, means any damage to, or destruction or loss of, all or any portion of the Property, whether by fire or other cause. "CDA" shall have the meaning given to such term in the Recitals to this Agreement. "CHASE LEA CUSTODIAL RECEIPTS L/C" shall have the meaning given that term in the Recitals to this Agreement. "CHASE LEA INC." means Avalon Chase Lea, Inc., a Maryland corporation. "CHASE LEA INC.'S ARTICLES OF INCORPORATION" shall have the meaning given that term in section 2.1(a). "CHASE LEA INC.'S ORGANIZATIONAL DOCUMENTS" shall have the meaning given that term in section 2.1(a). "CHASE LEA ISSUER " means the issuer with respect to the Permanent Chase Lea Refunding Bonds. "CHASE LEA TERMINATION FEE" means a commitment termination fee equal to, (i) $693,135.00 if such termination fee is required to be paid on or before July 31, 1997, (ii) $643,299.00 if such termination fee is required to be paid after July 31, 1997 but on or before July 31, 1998, (iii) $589,904.00 if such termination fee is required to be paid after July 31, 1998 but on or before July 31, 1999, (iv) $532,696.00 if such termination fee is required to be paid after July 31, 1999 but on or before July 31, 2000, (iv) $471,404.00 if such termination fee is required to be paid after July 31, 2000 but on or before July 31, 2001 and (v) $405,736.00 if such termination fee is required to be paid on or after the Final Chase Ridge/Chase Lea Conversion Date. "CHASE RIDGE CUSTODIAL RECEIPTS L/C" shall have the meaning given that term in the Recitals to this Agreement. "CHASE RIDGE INC." means Avalon Chase Ridge, Inc., a Maryland corporation. "CHASE RIDGE INC.'S ARTICLES OF INCORPORATION" shall have the meaning given that term in section 2.1(a). 12 14 "CHASE RIDGE INC.'S ORGANIZATIONAL DOCUMENTS" shall have the meaning given that term in section 2.1(a). "CHASE RIDGE ISSUER" means the issuer with respect to the Permanent Chase Ridge Refunding Bonds. "CHASE RIDGE TERMINATION FEE" means a commitment termination fee equal to, (i) $1,110,626.00 if such termination fee is required to be paid on or before July 31, 1997, (ii) $1,030,283.00 if such termination fee is required to be paid after July 31, 1997 but on or before July 31, 1998, (iii) $944,308.00 if such termination fee is required to be paid after July 31, 1998 but on or before July 31, 1999, (iv) $852,305.00 if such termination fee is required to be paid after July 31, 1999 but on or before July 31, 2000, (iv) $753,851.00 if such termination fee is required to be paid after July 31, 2000 but on or before July 31, 2001 and (v) $648,945.00 if such termination fee is required to be paid on or after the Final Chase Ridge/Chase Lea Conversion Date. "CODE" means the Internal Revenue Code of 1954, as amended (herein the "1954 CODE") and the Internal Revenue Code of 1986, as amended (herein the "1986 CODE"), in each case to the extent made applicable to matters relating to the Related Bonds and the Properties by Section 1313(a) of the Tax Reform Act of 1986, and with respect to a specific section thereof such reference shall be deemed to include (a) the applicable regulations promulgated or proposed under such section or any previous corresponding section, (b) any successor provision of similar import hereafter enacted, (c) any corresponding provision of any subsequent Internal Revenue Code and (d) the applicable regulations promulgated or proposed under the provisions described in (b) and (c). "COLLATERAL" means all cash, Government Obligations, assets and property, real and personal (including the Bond Properties, the Additional Mortgaged Properties, the Release Price Cash Collateral, the Replacement Reserve Accounts and all funds contained in such accounts, and cash and any investments in the Principal Reserve Funds, the Shortfall Cash Collateral, the Alternative DSC Shortfall Collateral, the Cash Management Account, the Cash Management System Collateral, the Hedges and the Hedge Documents), pledged by any of the Borrowers or the Guarantor pursuant to any Bond Document or any Mortgage Document or any other Transaction Document and the Proceeds thereof. "COLLATERAL INC." means Avalon Collateral, Inc., a Maryland corporation. "COLLATERAL INC.'S ARTICLES OF INCORPORATION" shall have the meaning given that term in section 2.1(a). "COLLATERAL INC.'S ORGANIZATIONAL DOCUMENTS" shall have the meaning given that term in section 2.1(a). 13 15 "CONDEMNATION", with respect to any Property, means (a) any action or proceeding for the taking of the Property, or any part thereof or interest therein, for public or quasi-public use under the power of eminent domain, by reason of any public improvement or condemnation proceeding, or in any other similar manner or (b) the conveyancing of any Property under the threat or contemplation of any action or proceeding described in clause (a). "CONDEMNATION PROCEEDS" means the proceeds of any Condemnation. "CONTINGENT OBLIGATION" as to any Person (the "GUARANTEEING PERSON"), means any obligation of (a) the guaranteeing person or (b) another Person (including any bank under any letter of credit) to induce the creation of which the guaranteeing person has issued a reimbursement, counterindemnity or similar obligation, in either case, guaranteeing or in effect guaranteeing any indebtedness, leases, dividends or other obligations (the "PRIMARY OBLIGATIONS") of any other third person (the "PRIMARY OBLIGOR") in any manner, whether directly or indirectly, including any obligation of the guaranteeing person, whether or not contingent, (i) to purchase any such primary obligation or any property constituting direct or indirect security therefor, (ii) to advance or supply funds (1) for the purchase or payment of any such primary obligation or (2) to maintain working capital or equity capital of the primary obligor or otherwise to maintain the net worth or solvency of the primary obligor, (iii) to purchase property, securities or services primarily for the purpose of assuring the owner of any such primary obligation of the ability of the primary obligor to make payment of such primary obligation, or (iv) otherwise to assure or hold harmless the owner of any such primary obligation against loss in respect thereof; provided, however, that the term Contingent Obligation shall not include endorsements of instruments for deposit or collection in the ordinary course of business. The amount of any Contingent Obligation of any guaranteeing person shall be deemed to be the lesser of (a) an amount equal to the stated or determinable amount of the primary obligation in respect of which such Contingent Obligation is made and (b) the maximum amount for which such guaranteeing person may be liable pursuant to the terms of the instrument embodying such Contingent Obligation, unless such primary obligation and the maximum amount for which such guaranteeing person may be liable are not stated or determinable, in which case the amount of such Contingent Obligation shall be such guaranteeing person's maximum reasonably anticipated liability in respect thereof as determined by the Borrowers in good faith. "CONTROLLED GROUP" means all members of a group of corporations and all trades or businesses (whether or not incorporated) under common control which, together with the Borrowers, are treated as a single employer under Section 414 of the Code. 14 16 "COUNTERPARTY" shall have the meaning given that term in section 3.2(d). "CREDIT ENHANCEMENT COMPONENT" means the portion of the Facility Fee payable by a Borrower with respect to the Facility Amount of each issue of Related Securities after subtracting (i) amounts on deposit from time to time in the Principal Reserve Fund, if any, with respect to such issue of Related Securities and (ii) Allocated Release Price Cash Collateral deposited with Fannie Mae from time to time, if any, with respect to such issue of Related Securities. With respect to each issue of Related Securities as of the date hereof the "CREDIT ENHANCEMENT COMPONENT" shall be the percentage identified as the Credit Enhancement Component with respect to such Related Securities on Exhibit C. For each New Bond Property added to the Fannie Mae Credit Facility pursuant to section 5.4 or section 5.5, the "CREDIT ENHANCEMENT COMPONENT" shall be the amount set forth in the New Property Confirmation with respect to such New Bond Property. "C/R PLEDGE CUSTODIAN" shall have the meaning given to such term in the Recitals to this Agreement. "CUSTODIAL ACCOUNT" shall have the meaning given that term in section 3.2(g). "CUSTODIAL RECEIPTS AGREEMENT" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS BOND ISSUES" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS BOND ISSUE" means any one of the foregoing, individually. "CUSTODIAL RECEIPTS BOND INDENTURES" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS BOND INDENTURE" means any one of the foregoing, individually. "CUSTODIAL RECEIPTS BOND PLEDGE AGREEMENT" has the meaning given to that term in the Recitals to this Agreement. "CUSTODIAL RECEIPTS BOND TRUSTEE" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS CUSTODIAN" means Crestar Bank, not in its individual capacity but solely in its capacity as the custodian under the Custodial Receipts Agreement. "CUSTODIAL RECEIPTS DOCUMENTS" means, collectively, the Related Custodial Receipts Documents for each of the Bond Properties financed by the Custodial Receipts Transactions, and "CUSTODIAL RECEIPTS DOCUMENT" means any one of the foregoing, individually. 15 17 "CUSTODIAL RECEIPTS FIRST SECURITY INSTRUMENTS" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS FIRST SECURITY INSTRUMENT" means any one of the foregoing, individually. "CUSTODIAL RECEIPTS GUARANTY" means each Guaranty issued by Avalon Properties, Inc. for the benefit of Morgan, with respect to the obligations of either Chase Ridge, Inc. or Chase Lea, Inc. under the Custodial Receipts Reimbursement Agreement, and Custodial Receipts Guarantees means every such Custodial Receipts Guaranty, collectively. "CUSTODIAL RECEIPTS L/C REIMBURSEMENT AGREEMENT" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS L/C'S" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS L/C" means any one of the foregoing, individually. "CUSTODIAL RECEIPTS MORTGAGE LOANS" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS MORTGAGE LOAN" means any one of the foregoing, individually. "CUSTODIAL RECEIPTS MORTGAGE NOTES" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS MORTGAGE NOTE" means any one of the foregoing, individually. "CUSTODIAL RECEIPTS PROPERTIES" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS PROPERTY" means any one of the foregoing, individually. "CUSTODIAL RECEIPTS TRANSACTIONS" shall have the meaning given to such term in the recitals to this Agreement. "CUSTODIAL RECEIPTS TRANSACTION" means any one of the foregoing, individually. "DETERMINATION DATE" means the first (1st) day of October of each year during the term of this Agreement. "DUS GUIDE" means the Fannie Mae Multifamily Delegated Underwriting and Servicing (DUS) Guide, as such DUS Guide may be amended, supplemented or otherwise modified from time to time, including by Lender Memos, Guide Updates and Guide Announcements (all references to Parts, Chapters, Sections and other subdivisions of the DUS Guide shall be deemed references to (a) the Parts, Chapters, Sections and other subdivisions in effect on the Fannie Mae Facility Closing Date and (b) any successor provisions to such Parts, Chapters, Sections and other subdivision). 16 18 "ENVIRONMENTAL CLAIM" means any notice of violation, claim, demand, abatement, order or other order or direction (conditional or otherwise) by any person or entity for any damage, including personal injury (including sickness, disease or death), tangible or intangible property damage, contribution, indemnity, indirect or consequential damages, damage to the environment, pollution, contamination or other adverse effects on the environment, removal, cleanup or remedial action or for fines, penalties or restrictions, resulting from or based upon (a) the existence or occurrence, or the alleged existence or occurrence, of a Hazardous Substance Activity or (b) the violation, or alleged violation, of any Hazardous Materials Laws in connection with any Property. "ENVIRONMENTAL REPORTS" means any Phase I environmental report meeting the requirements of the DUS Guide, and any additional environmental report delivered to Servicer or Fannie Mae with respect to any Property. "ERISA" means the Employee Retirement Income Security Act of 1974 as amended from time to time. "EVENT OF DEFAULT" shall have the meaning given that term in section 7.1. "EXISTING BOND ISSUES" shall have the meaning given that term in the recitals to this Agreement. "EXISTING INDENTURES" shall have the meaning given such term in the recitals to this Agreement. "EXISTING MORTGAGE NOTES" shall have the meaning given such term in the recitals to this Agreement. "EXISTING SECURITY INSTRUMENTS" shall have the meaning given such term in the recitals to this Agreement. "FACILITY", with respect to an issue of Related Securities, means (i) the credit enhancement and liquidity support of the Related Bonds in a Floating Rate Bond Transaction as provided by Fannie Mae subject and pursuant to the Related Fannie Mae Collateral Agreement, (ii) the credit enhancement of the Related Bonds in a Fixed Rate Bond Transaction as provided by Fannie Mae subject and pursuant to the Related Fannie Mae Pass-Through Certificate and (iii) the credit enhancement of Chase Ridge Inc.'s and Chase Lea Inc.'s reimbursement obligations to Morgan under the Custodial Receipts L/C Reimbursement Agreement as provided by Fannie Mae subject and pursuant to the Related Custodial Receipts Collateral Agreement. "FACILITY AMOUNT", with respect to particular Related Securities, means the aggregate principal amount of such Related Securities then outstanding. 17 19 "FACILITY FEE" shall have the meaning set forth in section 4.4(a). "FALKLAND CHASE BOND TRANSACTION" shall have the meaning set forth in section 5.4(b). "FALKLAND CHASE CREDIT ENHANCEMENT" shall have the meaning set forth in section 5.4(b). "FALKLAND CHASE PROJECT" shall have the meaning set forth in section 5.4(b). "FALKLAND CHASE REFUNDING DOCUMENTS" shall have the meaning set forth in section 5.4(b). "FANNIE MAE CREDIT FACILITY" means all of the Facilities, collectively. "FANNIE MAE FACILITY CLOSING DATE" means July 31, 1996. "FINAL CHASE RIDGE/CHASE LEA CONVERSION DATE" means August 31, 2001. "FINANCING LEASE" means any lease of property, real or personal, the obligations of the lessee in respect of which are required in accordance with GAAP to be capitalized on a balance sheet of the lessee or to be otherwise disclosed as such in a note to such balance sheet. "FIXED RATE", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given that term in the Related Indenture. "FIXED RATE BOND PROPERTIES" shall have the meaning given that term in the recitals of this Agreement. "FIXED RATE BOND PROPERTIES" shall also include each New Bond Property added as a Fixed Rate Bond Property from and after the date of its addition to the Fannie Mae Credit Facility, and shall exclude each Released Property (which prior to its substitution or release, as applicable, was a Fixed Rate Bond Property), from and after the date of such substitution or release. "FIXED RATE BOND PROPERTY" means any one of the foregoing, individually. "FIXED RATE BOND TRANSACTIONS" shall have the meaning given to such term in the recitals to this Agreement. "FIXED RATE BOND TRANSACTIONS" shall also include the bond transaction with respect to each New Bond Property added to Fannie Mae Credit Facility as a Fixed Rate Bond Property after the date hereof, and shall exclude the bond transaction with respect to each Released Property (which prior to its substitution or release, as applicable, was a Fixed Rate Bond Property), from and after the date of such substitution or release. "FIXED RATE BOND TRANSACTION" means any one of the foregoing, individually. 18 20 "FLOATING RATE BOND PROPERTIES" shall have the meaning given that term in the recitals of this Agreement. "FLOATING RATE BOND PROPERTIES" shall also include each New Bond Property added as a Floating Rate Bond Property from and after the date of its addition to the Fannie Mae Credit Facility, and shall exclude each Released Property (which prior to its substitution or release, as applicable, was a Floating Rate Bond Property), from and after the date of such substitution or release. "FLOATING RATE BOND PROPERTY" means any one of the foregoing, individually. "FLOATING RATE BOND TRANSACTIONS" shall have the meaning given to such term in the recitals to this Agreement. "FLOATING RATE BOND TRANSACTIONS" shall also include the bond transaction with respect to each New Bond Property added to Fannie Mae Credit Facility as a Floating Rate Bond Property after the date hereof, and shall exclude the bond transaction with respect to each Released Property (which prior to its substitution or release, as applicable, was a Floating Rate Bond Property), from and after the date of such substitution or release. "FLOATING RATE BOND TRANSACTION" means any one of the foregoing, individually. "FRAUDULENT TRANSFER LAWS" shall have the meaning given that term in section 8.21(b). "GAAP" means generally accepted accounting principles in effect in the United States from time to time. "GOVERNMENT OBLIGATIONS" means direct obligations of, and obligations on which the full and timely payment of principal and interest is unconditionally guaranteed by the full faith and credit of the United States of America; provided that Government Obligations shall not include (a) any investments with a final maturity or any agreements with a term greater than 365 days from the date of the investment (except obligations that provide for the optional or mandatory tender, at par, by the holder thereof at least once within 365 days of the date of purchase and any obligations that are irrevocably deposited with a Related Trustee for payment of the Related Bonds pursuant to and in accordance with the Related Indenture), (b) mortgage backed securities, (c) interest-only or principal-only stripped securities, and (d) investments which may be prepaid or called at a price less than its purchase price prior to stated maturity. "GOVERNMENTAL ACTION" means any pending or, to the actual knowledge of any Borrower, threatened suit, proceeding, order, or governmental inquiry or opinion involving any Property that alleges the violation of any Hazardous Materials Law. "GOVERNMENTAL APPROVAL" means an authorization, permit, consent, approval, license, registration or exemption from registration or filing with, or report to, any Governmental Authority. 19 21 "GOVERNMENTAL AUTHORITY" means any nation or government, any state or other political subdivision thereof and any entity exercising executive, legislative, judicial, regulatory or administrative functions of or pertaining to government. "GROSS CASH FLOW" means, for any period, with respect to any of the Properties, all gross rents collected from or on behalf of tenants at such Property (other than unforfeited tenant security deposits), any other income, receipts or reserves (but only to the extent such reserves were included as Operating Expenses at the times they were set aside) derived from such Property (including from the use or operation thereof) without regard to its source, including tenant reimbursements for utilities, services and supplies, security deposit forfeitures, parking rents or fees, concessions and vending fees and laundry income and proceeds from rental interruption insurance, but excluding Insurance Proceeds (other than proceeds from rental interruption insurance), Condemnation Proceeds, proceeds from the sale of the Related Securities, unearned portions of prepaid rent, other refundable items, interest on any account established for the deposit of refundable items, and proceeds from the sale or other disposition of all or any portion of a Property. "GUARANTY" means that certain Payment Guaranty of even date herewith executed by Guarantor for the benefit of Fannie Mae, as it may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. "GUARANTOR" means Avalon Properties, Inc., a Maryland corporation. "HAZARDOUS MATERIALS" means petroleum and petroleum products, flammable explosives, radioactive materials (excluding radioactive materials in smoke detectors), polychlorinated biphenyls, lead, asbestos in any form that is or could become friable, hazardous waste, toxic or hazardous substances or other related materials whether in the form of a chemical, element, compound, solution, mixture or otherwise and shall also include those materials defined as "hazardous substances," "extremely hazardous substances," "hazardous chemicals," "hazardous materials," "toxic substances," "solid waste," "toxic chemicals," "air pollutants," "toxic pollutants," "hazardous wastes," "extremely hazardous waste," or "restricted hazardous waste" by Hazardous Materials Law or regulated by Hazardous Materials Law in any manner whatsoever. "HAZARDOUS MATERIALS LAW" means all federal, state, and local laws, ordinances and regulations and standards, rules, policies and other binding governmental requirements and any court judgments applicable to any Borrower or any Property relating to industrial hygiene or to environmental or unsafe conditions or to human health including, those relating to the generation, manufacture, storage, handling, transportation, disposal, release, emission or discharge of Hazardous Materials, those in connection with the construction, fuel supply, power generation and transmission, waste disposal or any other operations or processes relating to any 20 22 Property, and those relating to the atmosphere, soil, surface and ground water, wetlands, stream sediments and vegetation on, under, in or about any Property. "HAZARDOUS SUBSTANCE ACTIVITY" means any storage, holding, existence, release, spill, leaking, pumping, pouring, injection, escaping, deposit, disposal, dispersal, leaching, migration, use, treatment, emission, discharge, generation, processing, abatement, removal, disposition, handling or transportation of any Hazardous Materials from, under, into or on any Property in violation of Hazardous Materials Laws, including the discharge of any Hazardous Materials emanating from any Property in violation of Hazardous Materials Laws through the air, soil, surface water, groundwater or property and also including the abandonment or disposal of any barrels, containers and other receptacles containing any Hazardous Materials from or on any Property in violation of Hazardous Materials Laws, in each case whether sudden or nonsudden, accidental or nonaccidental. "HEDGE" means a Swap or a Cap. "HEDGE DOCUMENTS" means the documents evidencing and governing a Hedge. "HEDGE PERIOD" means with respect to each Hedge the actual stated term of such Hedge as provided in the applicable Hedge Documents. "HEDGE RATE", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, means 5.7% per annum. "HEDGE SECURITY AGREEMENT" means, with respect to each Hedge, an Interest Rate Hedge Security Agreement among a Borrower, Fannie Mae and the Related Custodian, for the benefit of Fannie Mae and substantially in the form of Exhibit F (subject to modifications approved by Fannie Mae), as such agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms, and "HEDGE SECURITY AGREEMENTS" means every Hedge Security Agreement, collectively. "HEDGE TEST FAILURE" shall have the meaning given to such term in section 3.1(a). "HEDGE TEST NOTICE" shall have the meaning given to such term in section 3.1(a). "HEDGE TESTS" shall have the meaning given to such term in section 3.1(a). 21 23 "IMPOSITIONS" means, with respect to any Property, all real estate and personal property taxes, water, sewer and vault charges and all other taxes, levies, assessments, common charges and other similar charges, general and special, ordinary and extraordinary, foreseen and unforeseen, of every kind and nature whatsoever, which at any time prior to, at or after the execution of this Agreement may be assessed, levied or imposed by, in each case, a Governmental Authority or any other Person upon such Property or the rents or the ownership, use, occupancy or enjoyment thereof, and any interest, costs or penalties with respect to any of the foregoing. "IMPUTED DEBT SERVICE" with respect to each Property, means the aggregate amount of the Imputed Interest Payments plus the Imputed Principal Payments with respect to such Property for the applicable period. "IMPUTED INTEREST PAYMENTS" means with respect to each Mortgage Loan and each Custodial Receipts Mortgage Loan, the total amount of all interest that would be payable on the outstanding principal amount of such Mortgage Loan or Custodial Receipts Mortgage Loan for the applicable period, at the Underwriting Rate applicable to such Mortgage Loan or Custodial Receipts Mortgage Loan. "IMPUTED PRINCIPAL PAYMENTS" means: (i) with respect to each Mortgage Loan in a Fixed Rate Bond Transaction, the aggregate amount of the scheduled principal amortization on such Mortgage Loan for the applicable period; (ii) prior to June 30, 2006, with respect to each Mortgage Loan in a Floating Rate Bond Transaction the aggregate amount of assumed monthly principal payments during the applicable period that would be necessary to fully amortize such Mortgage Loan over thirty (30) years assuming the interest rate with respect to such Mortgage Loan is equal to the Hedge Rate; (iii) on or after July 1, 2006, with respect to each Mortgage Loan in a Floating Rate Bond Transaction the actual aggregate amount of the monthly payments required to be made to the Principal Reserve Fund with respect to such Mortgage Loan during the applicable period; and (iv) with respect to each Custodial Receipts Mortgage Loan, the aggregate amount of assumed monthly principal payments during the applicable period that would be necessary to fully amortize such Custodial Receipts Mortgage Loan over three hundred and fifty-nine (359) months assuming the interest rate with respect to such Mortgage Loan is equal to the Underwriting Rate. 22 24 "INDEBTEDNESS" of any Person at any date means, without duplication, (a) all indebtedness of such Person for borrowed money or for the deferred purchase price of property or services (other than current trade liabilities incurred in the ordinary course of business and payable in accordance with customary practices), (b) any other indebtedness of such Person which is evidenced by a note, bond, debenture or similar instrument, (c) all obligations of such Person under Financing Leases, (d) all obligations of such person in respect of acceptances issued or created for the account of such Person, (e) 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, and (f) all Contingent Obligations. "INITIAL BOND PROPERTIES" shall have the meaning given that term in the recitals of this Agreement. "INITIAL CHASE RIDGE/CHASE LEA CONVERSION DATE" means November 1, 1997, provided, however, that if the Related Custodial Receipts have been redeemed in full and all of Fannie Mae's obligations under the Related Custodial Receipts Collateral Agreement have been terminated, then at the request of the Borrowers such date shall be extended with respect to the related Custodial Receipts Property until up to November 1, 1998, so long as (a) Fannie Mae determines in its reasonable discretion that the Borrowers have complied with their obligations under section 5.5(c)(ii) and (b) Borrower shall agree to pay to Fannie Mae and Servicer on a monthly basis, pursuant to documentation acceptable to Fannie Mae in its discretion, a commitment fee equal to the Facility Fee that would be payable with respect to such Custodial Receipts Transaction under section 4.4 if such Related Custodial Receipts were still outstanding. "INSURANCE PROCEEDS" means, with respect to any Property, all insurance proceeds, damages, claims and rights of action and the right thereto under any insurance policies with respect to a Casualty insuring and relating to any portion of such Property. "INTEREST ACCOUNT", with respect to each issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given that term in the Related Indenture and "INTEREST ACCOUNTS" means every such Interest Account, collectively. "INTEREST RESERVE REQUIREMENT", with respect to each issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given that term in the Related Indenture. "INTERIM REPLACEMENT CHASE LEA CREDIT ENHANCEMENT" shall have the meaning given to such term in section 5.5(a). "INTERIM REPLACEMENT CHASE LEA CUSTODIAL RECEIPTS" means an issue of custodial receipts (or other similar pass-through securitization instrument for federal income tax purposes) supported by the Custodial Receipts Bond Issue with respect to the Chase Lea Bond Property. 23 25 "INTERIM REPLACEMENT CHASE LEA CUSTODIAL RECEIPTS TRANSACTION" means the transaction with respect to the Interim Replacement Chase Ridge Custodial Receipts to be credit enhanced by Fannie Mae's Interim Replacement Chase Lea Credit Enhancement as contemplated in section 5.5. "INTERIM REPLACEMENT CHASE RIDGE CREDIT ENHANCEMENT" shall have the meaning given to such term in section 5.5(a). "INTERIM REPLACEMENT CHASE RIDGE CUSTODIAL RECEIPTS" means an issue of custodial receipts (or other similar pass-through securitization instrument for federal income tax purposes) supported by the Custodial Receipts Bond Issue with respect to the Chase Ridge Bond Property. "INTERIM REPLACEMENT CHASE RIDGE CUSTODIAL RECEIPTS TRANSACTION" means the transaction with respect to the Interim Replacement Custodial Receipts to be credit enhanced by Fannie Mae's Interim Replacement Chase Ridge Credit Enhancement as contemplated in section 5.5. "INTERIM REPLACEMENT CUSTODIAL RECEIPTS DOCUMENTS" shall have the meaning given to such term in section 5.5(c). "INTERIM REPLACEMENT CUSTODIAL RECEIPTS TRANSACTIONS" means the Interim Replacement Chase Lea Custodial Receipts Transaction and the Interim Replacement Chase Ridge Custodial Receipts Transaction, collectively, and "INTERIM REPLACEMENT CUSTODIAL RECEIPTS TRANSACTION" means any one of foregoing, individually. "ISSUER" means the issuer with respect to an issue of Related Bonds in a Bond Transaction, and "ISSUERS" means every such Issuer, collectively. As of the date hereof, the Issuer with respect to each issue of Related Bonds is listed on Exhibit A. "LEASE" means any lease, any sublease or subsublease, license, concession or other agreement (whether written or oral and whether now or hereafter in effect) pursuant to which any Person is granted a possessory interest in, or right to use or occupy all or any portion of any space in any Property, and every modification, amendment or other agreement relating to such lease, sublease, subsublease or other agreement entered into in connection with such lease, sublease, subsublease or other agreement, and every guarantee of the performance and observance of the covenants, conditions and agreements to be performed and observed by the other party thereto. 24 26 "LIABILITIES" shall have the meaning set forth in section 4.5(a). "LIEN" means any mortgage, deed of trust, deed to secure debt, charge (whether fixed or floating), pledge, lien, encumbrance, assignment, hypothecation, security interest, conditional sale, capital lease or other title retention, preferential right, trust arrangement or any other encumbrance, security agreement or arrangement securing any obligation of any Person. "LIQUIDITY COMPONENT" means the portion of the Facility Fee payable by a Borrower with respect to the Facility Amount of each issue of Related Securities in a Floating Rate Bond Transaction on account of Fannie Mae's Liquidity Commitment. With respect to each issue of Related Securities in a Floating Rate Bond Transaction as of the date hereof the "LIQUIDITY COMPONENT" shall be .125% per annum or 12.5 "basis points" as set forth on Exhibit C. For each New Bond Property added to the Fannie Mae Credit Facility pursuant to section 5.4 or section 5.5, the "LIQUIDITY COMPONENT" shall be the amount set forth in the New Property Confirmation with respect to such New Bond Property. "LIQUIDITY COMMITMENT", with respect to each issue of Related Bonds in a Floating Rate Bond Transaction shall have the meaning given to that term in the Related Fannie Mae Collateral Agreement. "LOCK-BOX NOTICE" shall have the meaning given to such term in section 3.1(b). "LOCK-BOX TEST" shall have the meaning given to such term in section 3.1(b). "LOCK-BOX TRIGGERING EVENT" shall have the meaning given to such term in section 3.1(b). "MANAGEMENT AGREEMENTS" means each of the management agreements between Borrower and Guarantor identified on Exhibit I. "MATERIAL ADVERSE EFFECT" means any circumstance, act, condition or event of whatever nature (including any adverse determination in any litigation, arbitration, or governmental investigation or proceeding), whether singly or in conjunction with any other event or events, act or acts, condition or conditions, or circumstance or circumstances, whether or not related, that could reasonably be expected to have a material adverse change in or a materially adverse effect upon any of (a) the business, operations, property or condition (financial or otherwise) of any Borrower or Guarantor, (b) the present or future ability of any Borrower to perform the Obligations, (c) the validity, priority, perfection or enforceability of this Agreement or any other Transaction Document or the rights or remedies of Fannie Mae under any Transaction Document, or (d) the value of, or Fannie Mae's ability to have recourse against, any Property. 25 27 "MAXIMUM LTV PERCENTAGE" initially means 58.7%, and upon the addition of a New Bond Property or an New Additional Property to the Fannie Mae Credit Facility pursuant to section 5.4 or section 5.5, the "MAXIMUM LTV PERCENTAGE" shall thereafter be the percentage set forth in the New Property Confirmation delivered in connection with such New Property. "MAXIMUM RATE", with respect to each issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given that term in the Related Indenture. "MINIMUM DSC RATIO" initially means 1.755:1, and upon the addition of a New Bond Property or an New Additional Property to the Fannie Mae Credit Facility pursuant to section 5.4 or section 5.5, the "MINIMUM DSC RATIO" shall thereafter be the ratio set forth in the New Property Confirmation delivered in connection with such New Property. "MINIMUM SUBSTITUTE PROPERTY VALUE" means, with respect to each Released Property, the Allocable Facility Amount for such Released Property divided by the Maximum LTV Percentage expressed as a decimal. "MODE" with respect to each Mortgage Loan in a Floating Rate Bond Transaction, shall have the meaning given that term in the Related Indenture. "MOODY'S INVESTORS SERVICE" means Moody's Investors Service, Inc., a corporation organized and existing under the laws of the State of Delaware, and its successors and assigns, if such successors and assigns shall continue to perform the functions of a securities rating agency. "MORGAN" shall have the meaning given to such term in the recitals to this Agreement. "MORTGAGE" means any Bond Mortgage and any Reimbursement Mortgage, individually, and "MORTGAGES" means every such Mortgage, collectively. "MORTGAGE" shall include any Security Instrument in favor of Fannie Mae or a Related Trustee on any New Property from and after the date of its addition to the Fannie Mae Credit Facility, and shall exclude any Mortgage on a Released Property released from the lien of such Mortgage, from and after the date of release. "MORTGAGE DOCUMENTS" means, collectively, the Bond Property Loan Documents for all Bond Properties in a Bond Transaction, the Reimbursement Loan Documents and the Custodial Receipts L/C Reimbursement Agreement. "MORTGAGE LOAN" with respect to an issue of Related Bonds in a Bond Transaction, shall have the meaning given that term in the Related Indenture, and "MORTGAGE LOANS" shall mean every such Mortgage Loan, collectively. "MORTGAGE NOTE RATE", with respect to a Related Mortgage Note, shall have the meaning assigned to such term in such Related Mortgage Note. 26 28 "MORTGAGE RIGHTS" (i) with respect to each Floating Rate Bond Transaction, shall have the meaning given such term in the Related Fannie Mae Collateral Agreement and (ii) with respect to each Custodial Receipts Transaction, shall have the meaning given such term in the Related Custodial Receipts Collateral Agreement. "MULTIFAMILY RESIDENTIAL PROPERTY" means a residential property containing five (5) or more dwelling units in which not more than twenty percent (20%) of the net rentable area is or will be rented to non-residential tenants. "NET OPERATING INCOME" means, for any period, with respect to any of the Properties, the amount, if any, without duplication, by which the Gross Cash Flow for such Property during such period exceeds the Operating Expenses for such Property during such period. "NEW ADDITIONAL PROPERTY" means a Multifamily Residential Property substituted for an Additional Mortgaged Property pursuant to section 5.2 or otherwise added to the Fannie Mae Credit Facility by a Borrower as Collateral for the Obligations. "NEW BOND PROPERTY" means a Multifamily Residential Property added to the Fannie Mae Credit Facility in connection with Fannie Mae's issuance of a new Related Fannie Mae Credit Enhancement Instrument. "NEW PROPERTY" means a New Additional Property or a New Bond Property. "NEW PROPERTY CONFIRMATION" shall have the meaning given that term in section 5.4. "OBLIGATIONS" means the obligations of the Borrowers (i) to pay principal, interest and fees and any other amounts on the Mortgage Loans and the Custodial Receipts Mortgage Loans when due and payable, (ii) to pay all amounts due under the terms of the Custodial Receipts L/C Reimbursement Agreement, (iii) to make all required deposits into the Principal Reserve Funds, Interest Accounts, the Replacement Reserve Accounts, the Cash Management Account, the Custodial Accounts and any and all other loan funds, escrow funds, revenue funds, debt service funds, reserve funds, redemption funds or other funds or accounts required to be maintained under the Transaction Documents, (iv) to reimburse Fannie Mae and Servicer for all Advances and for all other sums advanced and costs and expenses incurred by Fannie Mae and Servicer in accordance with the terms of this Agreement or any other Transaction Document, (v) to pay all other amounts payable under the Transaction Documents, and (vi) to observe and perform each of the terms, conditions and provisions of this Agreement and the other Transaction Documents. 27 29 "OFFICIAL STATEMENT" means with respect to each Bond Transaction the Official Statement or any reoffering or remarketing circular approved by a Borrower and issued in connection with the issuance or remarketing of an issue of Related Bonds, as such statement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms, and "OFFICIAL STATEMENTS" means every such Official Statement, collectively. "OPERATING EXPENSES" means, for any period, with respect to any of the Properties, the aggregate of all direct, ordinary, normal, recurring and necessary expenses thereof including, without duplication, (a) Impositions, (b) property and liability insurance premiums, (c) wages, salaries and benefits of personnel employed on site to manage, lease, maintain and operate such Property, (d) costs or expenses of utility services to such Property and tenant spaces to the extent payable by a Borrower, (e) costs or expenses of providing security services to such Property, if any, (f) costs or expenses of in-house or outside service arrangements for landscaping, janitorial, window washing and cleaning, trash, debris, make ready units, cable and satellite television, recreational services and other services, (g) expenses of maintaining, repairing and cleaning the grounds, parking, amenities, exterior and interior spaces of such Property, (h) expenses of repairing and maintaining in good operable condition the mechanical, structural, electrical, elevator, heating, ventilating, air conditioning and plumbing systems, (i) property management fees payable to parties other than the Borrowers (and specifically including management fees paid to any Affiliate of any Borrower), (j) administrative expenses including advertising incurred at the site of such Property, (k) legal fees associated with lease documentation and tenant matters and legal, accounting and other professional fees relating to the operation of the Properties, (l) (for all purposes hereunder other than the calculation of Value) the replacement and repair amount with respect to such Property, (m) costs for water and sewage fees, and (n) any other items that are treated as noncapital expenses under GAAP. All of the foregoing (including Impositions) shall be computed on an accrual basis and in accordance with GAAP consistently applied. During any period the Properties are managed by an Affiliate of any Borrower, Operating Expenses shall also include an amount equal to the difference, if any, by which management fees paid by owners of similar properties in the same geographic location exceed management fees then payable by the Borrowers. In addition, for all purposes Operating Expenses shall exclude (i) payments on the Obligations and any other interest payments or principal payments on any Indebtedness, (ii) depreciation and amortization, (iii) all legal, accounting and professional fees not included in clause (k) above, and (iv) items that would be treated as capital expenses under GAAP consistently applied and calculated in accordance with Fannie Mae Form 4254. "ORIGINAL CUSTODIAN" shall have the meaning given to such term in the recitals to this Agreement. "PASS-THROUGH RATE" with respect to each Mortgage Loan in a Floating Rate Bond Transaction, shall have the meaning given such term in the Related Mortgage Note. 28 30 "PBGC" means the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA. "PERMANENT CHASE LEA CREDIT ENHANCEMENT" shall have the meaning given that term in section 5.5(a). "PERMANENT CHASE LEA REFUNDING BONDS" means an issue of tax exempt housing finance bonds issued by the Chase Lea Issuer in order to refinance (by repurchase and a subsequent remarketing pursuant to an amended and restated trust indenture and related bond documents) or refund (by the issuance of new refunding bonds) the Related Custodial Receipts and the Custodial Receipts Bond Issue with respect to the Chase Lea Bond Property. "PERMANENT CHASE LEA REFUNDING TRANSACTION" means the tax-exempt bond issue and mortgage loan transaction to be credit enhanced by Fannie Mae's Permanent Chase Lea Credit Enhancement as contemplated in section 5.5. "PERMANENT CHASE RIDGE CREDIT ENHANCEMENT" shall have the meaning given that term in section 5.5(a). "PERMANENT CHASE RIDGE REFUNDING BONDS" means an issue of tax exempt housing finance bonds issued by the Chase Ridge Issuer in order to refinance (by repurchase and a subsequent remarketing pursuant to an amended and restated trust indenture and related bond documents) or refund (by the issuance of new refunding bonds) the Related Custodial Receipts and the Custodial Receipts Bond Issue with respect to the Chase Ridge Bond Property. "PERMANENT CHASE RIDGE REFUNDING TRANSACTION" means the tax-exempt bond issue and mortgage loan transaction to be credit enhanced by Fannie Mae's Permanent Chase Lea Credit Enhancement as contemplated in section 5.5. "PERMANENT REFUNDING BOND ISSUE" means either the issue of Permanent Chase Ridge Refunding Bonds or the issue of Permanent Chase Lea Refunding Bonds, and "PERMANENT REFUNDING BOND ISSUES" means both such bond issues, collectively. "PERMANENT REFUNDING DOCUMENTS" shall have the meaning given that term in section 5.5. "PERMANENT REFUNDING MORTGAGE LOAN" and "PERMANENT REFUNDING MORTGAGE LOANS" shall have meanings given such terms in section 5.5. "PERMANENT REFUNDING TRANSACTIONS" means the Permanent Chase Lea Refunding Transaction and the Permanent Chase Ridge Refunding Transaction, collectively, and "PERMANENT REFUNDING TRANSACTION" means any one of foregoing, individually. 29 31 "PERMITS" means all permits, or similar licenses or approvals issued and/or required by an applicable Governmental Authority or any Applicable Law in connection with the ownership, use, occupancy, leasing, management, operation, repair, maintenance or rehabilitation of any Property or any Borrower's business. "PERMITTED LIENS" means, with respect to each Property: (i) exceptions to title contained in the marked-up title insurance commitments insuring the lien of the Mortgage with respect to such Property (other than notes or other informational items set forth therein) listed on Exhibit E; (ii) Liens created by, or permitted by, the applicable Mortgage Documents, the applicable Bond Documents and/or the applicable Custodial Receipts Documents with respect to such Property; (iii) Liens created by the Leases with respect to such Property; (iv) Liens approved by Fannie Mae; and (v) solely with respect to the Bond Property commonly known as Avalon Meadows Apartments, Howard County Maryland, the Shared Facilities Agreement. "PERMITTED TRANSFER" shall have the meaning given that term in section 5.6(b). "PERSON" means an individual, an estate, a trust, a corporation, a partnership, a limited liability company or any other organization or entity (whether governmental or private). "PLAN" means at any time an employee pension benefit plan which is covered by Title IV of ERISA or subject to the minimum funding standards under Section 412 of the Code and is either (i) maintained by a member of the Controlled Group for employees of any member of the Controlled Group or (ii) maintained pursuant to a collective bargaining agreement or any other agreement under which more than one employer makes contributions and to which a member of the Controlled Group is then making or accruing an obligation to make contributions or has within the preceding five (5) plan years made contributions. "POTENTIAL EVENT OF DEFAULT" means any of the events specified in section 7.1 which with the passage of time or giving of notice or both would constitute an Event of Default. "PREPAYMENT PREMIUM", with respect to a Mortgage Loan, shall have the meaning given such term in the Related Mortgage Note. "PRINCIPAL RESERVE FUND" with respect to any Floating Rate Bond Property, shall have the meaning given that term in the Related Indenture, and "PRINCIPAL RESERVE FUNDS" shall mean every such Principal Reserve Fund, collectively. "PROCEEDS" mean all "proceeds" as such term is defined in Section 9-306(1) of the UCC and, in any event, shall include all interest, dividends or other earnings, income or distributions from or in respect of, or from or in respect of investments or reinvestments of, the Cash Management Account or the Cash Management System Collateral, all collections and distributions with respect to the Mortgage Loans and all other proceeds of Collateral. 30 32 "PROHIBITED ACTIVITIES OR CONDITIONS", with respect to a particular Mortgage, shall have the meaning given that term in such Mortgage. "PROPERTY" means any of the Bond Properties or any of the Additional Mortgaged Properties, individually. "PROPERTIES" means every such Bond Property and Additional Mortgaged Property, collectively. "PROPOSED TRANSFER" shall have the meaning given that term in section 5.6(a). "PROPOSED TRANSFEREE" shall have the meaning given that term in section 5.6(a). "RATING AGENCIES" means Standard & Poor's and Moody's Investors Service, their successors in interest, or any other nationally recognized rating agency acceptable to Fannie Mae. "REGULATORY AGREEMENT", with respect to each Bond Property, means the Land Use Restriction Agreement, Tax Regulatory Agreement or similar instrument to assure continuation of the exclusion of interest on the Related Securities from gross income, each as defined in the Related Indenture, and "REGULATORY AGREEMENTS" means every such Regulatory Agreement, collectively. "REIMBURSEMENT LOAN DOCUMENTS" means, collectively, the Reimbursement Mortgages and each of the other documents, agreements and instruments granting, evidencing or perfecting security interests granted in connection with the obligations secured by the Reimbursement Mortgages, including the Hedge Security Agreements, if any, the Cash Management Agreement, if any, the Guaranty, the Replacement Reserve Agreements, the Assignment of Management Agreement, title policies, UCC fixture filings and UCC financing statements, as each such document, agreement or instrument may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its respective terms, and "REIMBURSEMENT LOAN DOCUMENT" means any one of the foregoing, individually. "REIMBURSEMENT MORTGAGES" means, collectively, (i) the first priority Security Instruments on each of the Additional Mortgaged Properties securing the obligations of the Borrowers under all of the Related Mortgage Notes and under this Agreement, (ii) the second priority Security Instruments on each of the Bond Properties other than the Custodial Receipts Properties, securing the obligations of the Borrowers under all of the Related Mortgage Notes, other than the Related Mortgage Note evidencing the Mortgage Loan secured by the first priority Mortgage on such Bond Property, and under this Agreement, and (iii) the second priority Security Instruments on each of the Custodial Receipts Properties, securing the obligations of the Borrowers under all of the Related Mortgage Notes and under this Agreement, and "REIMBURSEMENT MORTGAGE" means any one of the foregoing, individually. 31 33 "RELATED ACT" with respect to each issue of Related Bonds in a Bond Transaction, shall have the meaning given to the term "Act" in the Related Indenture. "RELATED BOND DOCUMENTS" means, with respect to an issue of Related Bonds, the Related Bonds, the Related Indenture, the Related Fannie Mae Credit Enhancement Instrument, the Regulatory Agreement (and any other agreement relating to rental restrictions on the applicable Bond Property), the Related Pledge Agreement, if applicable, the Related Financing Agreement, a Tax Certificate (or other applicable agreement relating to arbitrage in connection with the proceeds of such Related Bonds) and all other documents, instruments and agreements executed and delivered in connection with the issuance, sale, delivery and/or remarketing of the Related Bonds, as each such agreement or instrument may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. "RELATED BOND MORTGAGE" with respect to a particular Bond Property in a Bond Transaction, means the first priority Bond Mortgage encumbering such Bond Property and securing the Related Mortgage Note. "RELATED BONDS" means with respect to each Floating Rate Bond Property and each Fixed Rate Bond Property, the tax-exempt multifamily revenue bonds issued pursuant to Applicable Law and the Related Indenture. "RELATED CUSTODIAL RECEIPTS" with respect to each Custodial Receipts Property, the custodial receipts issued pursuant to the Custodial Receipts Agreement with respect to such Custodial Receipts Property and evidencing an interest in the underlying Custodial Receipts Bond Issue. "RELATED CUSTODIAL RECEIPTS COLLATERAL AGREEMENT" means, with respect to a Custodial Receipts Transaction, the Credit Enhancement Agreement between Fannie Mae and Morgan pursuant to which Fannie Mae has agreed to provide credit enhancement of Chase Ridge Inc.'s or Chase Lea's Inc.'s, as the case may be, reimbursement obligations to Morgan for advances made by Morgan under the terms of the Custodial Receipts L/C with respect to such Custodial Receipts Transaction and not reimbursed to Morgan pursuant to the terms of the related Custodial Receipts L/C Reimbursement Agreement, as such Related Custodial Receipts Collateral Agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms, and "RELATED CUSTODIAL RECEIPTS COLLATERAL AGREEMENTS" means every such Related Custodial Receipts Collateral Agreement, collectively. "RELATED CUSTODIAL RECEIPTS DOCUMENTS" means, with respect to each issue of Related Custodial Receipts, the Custodial Receipts Bond Indenture, the Custodial Receipts Bond Issue, the Custodial Receipts Mortgage Note, the Custodial Receipts First Security Instrument, the Regulatory Agreement (and any other agreement relating to rental restrictions on the applicable Bond Property), a Tax Certificate (or other applicable agreement relating to arbitrage in 32 34 connection with the proceeds of such Related Custodial Receipts), the Custodial Receipts Agreement, the Related Custodial Receipts, the Custodial Receipts L/C, the Related Custodial Receipts Collateral Agreement, the Custodial Receipts L/C Reimbursement Agreement, the Custodial Receipts Bond Pledge Agreement, the Custodial Receipts Guaranty, the title policy, UCC fixture filings and UCC financing statements (in each case relating to such Custodial Receipts Transaction), and all other documents, instruments and agreements executed and delivered in connection with the issuance, sale, delivery and/or remarketing of all or any part of such Related Custodial Receipts, as each such agreement or instrument may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. "RELATED FANNIE MAE COLLATERAL AGREEMENT" means, with respect to a Floating Rate Bond Transaction, the Collateral Agreement between Fannie Mae and the Related Trustee pursuant to which Fannie Mae has agreed to provide credit enhancement and liquidity support for the Related Bonds, as such Related Fannie Mae Collateral Agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms, and "RELATED FANNIE MAE COLLATERAL AGREEMENTS" means every such Related Fannie Mae Collateral Agreement, collectively. "RELATED FANNIE MAE CREDIT ENHANCEMENT INSTRUMENT" means any individual Related Fannie Mae Collateral Agreement, Related Custodial Receipts Collateral Agreement or Related Fannie Mae Pass-Through Certificate and "RELATED FANNIE MAE CREDIT ENHANCEMENT INSTRUMENTS" means every such Related Fannie Mae Credit Enhancement Instrument, collectively. "RELATED FANNIE MAE PASS-THROUGH CERTIFICATE" means, with respect to a Fixed Rate Bond Transaction, the Guaranteed Mortgage Pass-Through Certificate issued to and registered in the name of the Related Trustee by Fannie Mae or, in the event a substitute Guaranteed Mortgage Pass-Through Certificate shall be delivered to such Related Trustee pursuant to the Related Indenture, such substitute Guaranteed Mortgage Pass-Through Certificate, and "RELATED FANNIE MAE PASS-THROUGH CERTIFICATES" means every such Related Fannie Mae Pass-Through Certificate, collectively. "RELATED FINANCING AGREEMENT", with respect to an issue of Related Bonds in a Bond Transaction, shall have the meaning given that term in the Related Bond Indenture and "RELATED FINANCING AGREEMENTS" means every such Related Financing Agreement, collectively. "RELATED INDENTURE" means, (i) with respect to an issue of Related Bonds, the indenture of trust between an Issuer and a Related Trustee pursuant to which such Related Bonds were issued, (ii) with respect to each Custodial Receipts Bond Issue, means the Custodial Receipts Bond Indenture with respect to such Custodial Receipts Bond Issue and (iii) with respect to an issue of Related Custodial Receipts, means the Custodial Receipts Agreement with respect to such Related Custodial Receipts, in each case as such Related Indenture may be amended, 33 35 supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. "RELATED INDENTURES" means every such Related Indenture, collectively. "RELATED MORTGAGE" means (a) with respect to a particular Bond Property in a Bond Transaction, the Related Bond Mortgage and the Related Second Mortgage, collectively, encumbering such Bond Property, (b) with respect to a particular Bond Property in a Custodial Receipts Transaction, the Reimbursement Mortgage encumbering such Bond Property and (c) with respect to a particular Additional Mortgaged Property, the Reimbursement Mortgage encumbering such Additional Mortgaged Property. "RELATED MORTGAGE NOTE" means, with respect to an issue of Related Bonds, the Multifamily Note (together with all addenda thereto) executed by a Borrower in favor of an Issuer and secured by, among other things, one or more Related Bond Mortgages, as such Related Mortgage Note may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms, and "RELATED MORTGAGE NOTES" means every such Related Mortgage Note, collectively. "RELATED PLEDGE AGREEMENT", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given to the term "Pledge Agreement" in the Related Indenture. "RELATED PURCHASED BOND", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given the term "Purchased Bond" in the Related Indenture, and "RELATED PURCHASED BONDS" means every such Related Purchased Bond, collectively. "RELATED REMARKETING AGREEMENT", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given to the term "Remarketing Agreement" in the Related Indenture. "RELATED SECOND MORTGAGE", with respect to a particular Bond Property in a Bond Transaction, means the second priority Reimbursement Mortgage encumbering such Bond Property. "RELATED SECURITIES", with respect to any Bond Property, means either the Related Bonds or the Related Custodial Receipts, as the case may be. "RELATED TRUSTEE" means (i) with respect to an issue of Related Bonds, the entity designated as the "Trustee" under the Related Indenture, (ii) with respect to an Related Custodial Receipts Bond Issue, means the Custodial Receipts Bond Trustee and (iii) with respect to an issue of Related Custodial Receipts, means the Custodial Receipts Custodian. "RELATED TRUSTEES" means every such Related Trustee, collectively. 34 36 "RELEASE PRICE" shall have the meaning given to such term in section 5.3(a). "RELEASE PRICE CASH COLLATERAL" shall have the meaning given that term in section 5.3(a). "RELEASED PROPERTY" means a Property released or proposed to be released from the lien of a Mortgage pursuant to section 5.2 or section 5.3. "REMARKETING AGENT", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given such term in the Related Indenture. "RENT ROLL" shall have the meaning given that term in section 2.1(s). "REPLACEMENT RESERVE ACCOUNT", with respect to a particular Property, means the replacement reserve account established pursuant to the Replacement Reserve Agreement relating to such Property, and "REPLACEMENT RESERVE ACCOUNTS" means every such Replacement Reserve Account, collectively. "REPLACEMENT RESERVE AGREEMENT", with respect to a particular Property, means the Replacement Reserve and Security Agreement between a Borrower and Fannie Mae relating to such Property and establishing such Borrower's obligation to fund certain replacement reserve accounts, as such agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms, and "REPLACEMENT RESERVE AGREEMENTS" means every such Replacement Reserve Agreement, collectively. "REQUIRED HEDGE TERM" means: (i) with respect to each Hedge that Borrowers are required to obtain for a Hedge Period commencing on the Bond Transaction Closing Date with respect to any Related Bonds, a term of seven (7) years beginning on the applicable Bond Transaction Closing Date and ending on the date which is the seventh (7th) anniversary of such Bond Transaction Closing Date; (ii) with respect to each Hedge that the Borrowers are required to obtain for an issue of Unhedged Bonds upon the occurrence of a Hedge Test Failure, a term of five (5) years beginning on the date that the Borrowers are required to obtain such Hedge under section 3.1(a) and ending on the date which is the fifth (5th) anniversary of such date; and (iii) with respect to each other Hedge, a term ending on the earliest of (a) the date which is the fifth (5th) anniversary of the effective date of such Hedge, (b) the date on which the Related Fannie Mae Collateral Agreement terminates or (c) the maturity date of the Related Bonds; provided, however, that if either of the Permanent Refunding Bond Issues is added to the Fannie Mae Credit Facility as Unhedged Bonds in accordance with Section 5.5, the Required Hedge Term with respect to such Permanent Refunding Bond Issues shall be five (5) years. "RESERVE COMPONENT" means the portion of the Facility Fee payable by the Borrowers with respect to each issue of Related Bonds in a Floating Rate Bond Transaction with respect to (i) amounts on deposit from time to time in the Principal Reserve Fund, if any, with respect to 35 37 such issue of Related Bonds and (ii) the Allocated Release Price Cash Collateral deposited by the Borrowers with Fannie Mae from time to time, if any, with respect to such issue of Related Bonds. With respect to each issue of Related Bonds as of the date hereof the "RESERVE COMPONENT" shall mean .30% per annum, or 30 basis points. With respect to each issue of Related Bonds relating to a New Bond Property added to the Fannie Mae Credit Facility pursuant to section 5.4 or section 5.5, "RESERVE COMPONENT" shall mean the amount set forth in the New Property Confirmation with respect to such New Bond Property. "RESET PERIOD", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given such term in the Related Indenture. "RESET RATE", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, shall have the meaning given such term in the Related Indenture. "SALEM STATION PROJECT" means the Additional Mortgaged Property identified on Exhibit B as Salem Station I & II Apartments, Richmond, Spotsylvania County, Virginia. "SALEM STATION RESTRICTIVE COVENANTS AGREEMENT" shall mean that certain Declaration of Restrictive Covenants dated as of December 1, 1985, and recorded on December 27, 1985 in the real estate records of Spotsylvania County, Virginia at Book 671, Page 465 as Document Number 13018, and as such agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. "SECURITY INSTRUMENT" means a written instrument creating a valid lien on a Property either in favor of or held by Fannie Mae and/or a Related Trustee, as such instrument may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms. A Security Instrument may be in the form of a mortgage, deed of trust, deed to secure debt or security deed. "SERVICER" means the independent contractor engaged to service the Mortgage Loans, and the Mortgage Documents for Fannie Mae and any replacements or successors engaged by Fannie Mae. The initial Servicer pursuant to a written contract with Fannie Mae is Washington Capital DUS, Inc. "SERVICING AGREEMENT" means any agreement with respect to the servicing of the Mortgage Loans and the Mortgage Documents, between Fannie Mae and an independent contractor, if any, designated from time to time by Fannie Mae as the Servicer of the Mortgage Loans, the Custodial Receipts Documents, the Bond Documents and the Mortgage Documents, as any such Servicing Agreement may be amended, supplemented, otherwise modified or amended and restated from time to time in accordance with its terms; provided that the Servicing Agreement may be a Fannie Mae guide or announcement made applicable to the Mortgage Loans by an agreement between Fannie Mae and the Servicer. 36 38 "SERVICING FEE COMPONENT" means with respect to each issue of Related Securities .09% per annum or 9 basis points initially; provided, however, that in the event a successor servicer is appointed to service the Mortgage Loans, the Servicing Fee Component shall be adjusted (subject to section 6.1) to the amount agreed upon among Fannie Mae and such successor servicer, but in any event the average Servicing Fee Component for all Bonds shall not exceed .125% or 12.5 basis points. "SHORTFALL CASH COLLATERAL" means either (i) a letter of credit in form and substance and provided by a financial institution satisfactory to Fannie Mae in its discretion or (ii) cash collateral deposited with Fannie Mae or its designee and otherwise held in a manner approved by Fannie Mae in its discretion. "SHORTFALL HEDGE" shall have the meaning given that term in section 3.2(e). "SINGLE-PURPOSE" means, with respect to a Person, that such Person at all times since its formation: (i) has been a duly formed and existing limited partnership or corporation, as the case may be; (ii) has been duly qualified in each jurisdiction in which such qualification was at such time necessary for the conduct of its business; (iii) has complied with the provisions of its organizational documents and the laws of its jurisdiction of formation in all respects; (iv) has observed all customary formalities regarding its partnership or corporate existence, as the case may be; (v) has accurately maintained its financial statements, accounting records and other partnership or corporate documents separate from those of any other Person, provided, however, that the Borrowers shall not be precluded from also preparing consolidated financial statements with that of Guarantor so long as such consolidated financial statements include notes indicating each Borrower's separate ownership of its own assets; (vi) has not commingled its assets or funds with those of any other Person; (vii) has accurately maintained its own bank accounts, payroll and books and accounts separate from those of any other Person; (viii) has paid its own liabilities from its own separate assets; (ix) has identified itself in all dealings with the public, under its own name and as a separate and distinct entity; (x) has not identified itself as being a division or a part of any other Person (other than as a wholly-owned subsidiary of the Guarantor); (xi) has not identified any other Person as being a division or a part of such Person; (xii) has been adequately capitalized in light of its contemplated business operations; (xiii) has not assumed, guaranteed or become obligated for the liabilities of any other Person (except in connection with the endorsement of negotiable instruments in the ordinary course of business) or held out its credit as being available to satisfy the obligations of any other Person; (xiv) has not acquired obligations or securities of any other Person; (xv) has not made loans or advances to any other Person; (xvi) has not entered into and was not a party to any transaction with any Affiliate of such Person, except in the ordinary course of business and on terms which are no less favorable to such Person than would be obtained in a comparable arm's-length transaction with an unrelated third-party lender or issuer; (xvii) has conducted its own business in its own name; (xviii) has paid the salaries of its own employees, if any, and maintained a sufficient number of employees in light of its contemplated business operations; (xix) has allocated fairly and reasonably any overhead for shared office space; (xx) has used stationery, invoices and 37 39 checks separate from those of any other Person; (xxi) has not pledged its assets for the benefit of any other entity or made any loans or advances to any Person; (xxii) has not engaged in a non-exempt prohibited transaction described in Section 406 of ERISA or Section 4975 of the Code; (xxiii) has not acquired obligations or securities of its partners or Affiliates; (xxiv) has corrected any actually known misunderstanding regarding its separate identity; and (xxv) has not commingled its business functions with those of any other Person except on an arms length basis and for fair consideration. "STANDARD & POOR'S" means Standard & Poor's, a Division of the McGraw-Hill Companies, Inc. and its successors and assigns if such successors and assigns shall continue to perform the functions of a securities rating agency. "SUBSIDIARY" means, as to any Person, a corporation, partnership or other entity of which shares of stock or other ownership interests having ordinary voting power (other than stock or such other ownership interests having such power only by reason of the happening of a contingency) to elect a majority of the board of directors or other managers of such corporation, partnership or other entity are at the time owned, or the management of which is otherwise controlled, directly or indirectly through one or more intermediaries, or both, by such Person. "SUBSTITUTION PERCENTAGE" shall have the meaning given that term in section 5.2(a). "SWAP" means an interest rate swap, and includes an interest rate swap which has an initial "calculation period" that begins on the last day of a Reset Period which commences on or after the date such swap was obtained (i.e. a "future" swap). "TAX CERTIFICATE", with respect to each issue of Related Bonds, shall have the meaning given that term in the Related Indenture, and "TAX CERTIFICATES" means every such Tax Certificate, collectively. "TAXES" shall have the meaning given that term in section 2.2(q). "TENDER AGENT" shall have the meaning given that term in the Related Indenture. "TERMINATION FEE" means, either the Chase Lea Termination Fee or the Chase Ridge Termination Fee as applicable under the circumstances. "TERMINATION PAYMENTS" shall have the meaning given that term in section 3.2(i). 38 40 "TRANSACTION DOCUMENTS" means, collectively, the Bond Documents, the Mortgage Documents, the Custodial Receipts Documents, this Agreement, the Hedge Documents, if any, and all other agreements, instruments or documents executed by any Borrower in connection with the Bonds, the Mortgage Loans, this Agreement or the transactions contemplated thereby or hereby, including those listed in Exhibit D, and "TRANSACTION DOCUMENT" means any one of the foregoing, individually. "UCC" or "UNIFORM COMMERCIAL CODE", with respect to a Property, means the Uniform Commercial Code as in effect in the state where such Property is located. "UNDERWRITING RATE" means: (i) with respect to each Mortgage Loan in a Fixed Rate Bond Transaction, 7.0%; (ii) with respect to each Mortgage Loan in a Floating Rate Bond Transaction and bearing interest at the Fixed Rate, the Pass-Through Rate then in effect under the Related Mortgage Note, plus the Facility Fee payable with respect to such Floating Rate Bond Transaction, plus the Bond Fees payable with respect to such Floating Rate Bond Transaction; (iii) with respect to each Mortgage Loan in a Floating Rate Bond Transaction and bearing interest at the Variable Rate or the Reset Rate, the aggregate effective rate of interest that would be payable on such Mortgage Loan for the applicable period, assuming that the interest rate applicable to such Mortgage Loan is comprised of the sum of the Facility Fee payable with respect to such Floating Rate Bond Transaction, plus the Bond Fees payable with respect to such Floating Rate Bond Transaction, plus the higher of (a) 5.7% and (b) the annualized statement of the average Pass-Through Rate in effect under the Related Mortgage Note for each day of the immediately preceding twelve (12) month period; and (iv) with respect to each Custodial Receipts Mortgage Loan, 7.05%. "UNHEDGED BONDS" means the Related Bonds with respect to each Initial Bond Property in a Floating Rate Bond Transaction and any Related Bonds with respect to a New Bond Property that are designated as "Unhedged Bonds" in the New Property Confirmation by Fannie Mae in its discretion. "VALUE" means, as of any date of determination, the value attributed to any Property by Fannie Mae in accordance with the standards and procedures utilized for underwriting purposes for similar Multifamily Residential Properties in accordance with the applicable provisions of the DUS Guide as of such date of determination, it being acknowledged that in evaluating the Value of a Property, Fannie Mae may take into account all factors relevant to the value of such 39 41 Property including the current condition of the Property, and in evaluating the Value of a Property without an extended operating history, such Value shall be based on projections and pro formas satisfactory to Fannie Mae. "VARIABLE RATE", with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, means the "Weekly Variable Rate", as such term is defined in the Related Indenture. "WITHDRAWAL" means, with respect to an issue of Related Bonds in a Floating Rate Bond Transaction, a withdrawal of funds from the Principal Reserve Fund with respect to such Related Bonds in order to either (i) reimburse Fannie Mae for an Advance or (ii) make any payment otherwise due from a Borrower under the Related Bond Documents (including a payment to purchase Related Purchased Bonds on behalf of a Borrower) other than a payment to redeem any Related Bonds. 3 INTERPRETATION. The parties to this Agreement acknowledge that each party and their respective counsel have participated in the drafting and revision of this Agreement and the other Transaction Documents. Accordingly, the parties agree that any rule of construction which disfavors the drafting party shall not apply in the interpretation of this Agreement and the other Transaction Documents or any statement or supplement or exhibit to this Agreement or to the other Transaction Documents. II. REPRESENTATIONS, WARRANTIES AND COVENANTS 1 REPRESENTATIONS AND WARRANTIES OF BORROWERS. To induce Fannie Mae to enter into this Agreement and to execute and deliver the Related Fannie Mae Credit Enhancement Instruments, each Borrower represents and warrants to Fannie Mae as follows: (a) DUE ORGANIZATION; OWNERSHIP STRUCTURE. (i) Collateral Inc. is a Single-Purpose corporation duly organized, validly existing and in good standing under the laws of the State of Maryland pursuant to those certain Articles of Incorporation dated February 29, 1996 and duly filed on March 1, 1996 with the Maryland State Department of Assessments and Taxation, as amended pursuant to the amendments listed on Schedule K hereto ("COLLATERAL INC.'S ARTICLES OF INCORPORATION"). Copies of Collateral Inc.'s Articles of Incorporation, By-Laws and other organizational documents, as amended pursuant to the amendments listed on Schedule K hereto ("COLLATERAL INC.'S ORGANIZATIONAL DOCUMENTS") certified as true, 40 42 correct and complete by a duly authorized officer of Collateral Inc., have been delivered to Fannie Mae. Collateral Inc.'s Organizational Documents are in full force and effect and have not been otherwise supplemented, amended or modified. (ii) Chase Ridge Inc. is a Single-Purpose corporation duly organized, validly existing and in good standing under the laws of the State of Maryland pursuant to those certain Articles of Incorporation dated October 22, 1993 and duly filed on October 27, 1993 in the office of the Maryland State Department of Assessments and Taxation, as amended pursuant to the amendments listed on Schedule K hereto ("CHASE RIDGE INC.'S ARTICLES OF INCORPORATION"). Copies of Chase Ridge Inc.'s Articles of Incorporation, By-Laws and other organizational documents, as amended pursuant to the amendments listed on Schedule K hereto ("CHASE RIDGE INC.'S ORGANIZATIONAL DOCUMENTS") certified as true, correct and complete by a duly authorized officer of Chase Ridge Inc., have been delivered to Fannie Mae. Chase Ridge Inc.'s Organizational Documents are in full force and effect and have not been otherwise supplemented, amended or modified. (iii) Chase Lea Inc. is a Single-Purpose corporation duly organized, validly existing and in good standing under the laws of the State of Maryland pursuant to those certain Articles of Incorporation dated October 22, 1993 and duly filed on October 27, 1993 in the office of the Maryland State Department of Assessments and Taxation, as amended pursuant to the amendments listed on Schedule K hereto ("CHASE LEA INC.'S ARTICLES OF INCORPORATION"). Copies of Chase Lea Inc.'s Articles of Incorporation, By-Laws and other organizational documents, as amended pursuant to the amendments listed on Schedule K hereto ("CHASE LEA INC.'S ORGANIZATIONAL DOCUMENTS") certified as true, correct and complete by a duly authorized officer of Chase Lea Inc., have been delivered to Fannie Mae. Chase Lea Inc.'s Organizational Documents are in full force and effect and have not been otherwise supplemented, amended or modified. (iv) Each Borrower currently qualifies and is taxed as a "Qualified REIT Subsidiary" as defined in Subchapter M of the Code. Guarantor is the record and beneficial owner of, and has good title to, 100 percent (100%) of the ownership interests in each Borrower, free and clear of all liens, security interests, options, rights of first refusal and adverse claims of title of any kind or character, and no portion of such interest is the subject of any agreement providing for the sale or transfer thereof. Guarantor currently qualifies and is taxed as a real estate investment trust under Subchapter M of the Code. The Diagram of Ownership Structure attached hereto as Exhibit J accurately depicts the legal and beneficial ownership interests in each Borrower as of the date hereof. (v) Each of Collateral Inc. and Guarantor is qualified to transact business and is in good standing in the Commonwealth of Virginia and the States of 41 43 Maryland and in each other jurisdiction in which such qualification and/or standing is necessary to the conduct of its business and where the failure to be so qualified would adversely affect the validity of, the enforceability of, or the ability of any Borrower to perform the Obligations under this Agreement and the other Transaction Documents. Each of Chase Ridge Inc. and Chase Lea Inc. is qualified to transact business and in good standing in the State of Maryland and in each other jurisdiction in which such qualification and/or standing is necessary to the conduct of its business and where the failure to be so qualified would adversely affect the validity of, the enforceability of, or the ability of any Borrower to perform the Obligations under this Agreement and the other Transaction Documents. (vi) Each Borrower's chief executive office and office where it keeps its books and records as to the Collateral is located at 5904 Richmond Highway, Suite 300, Alexandria, Virginia 22303. (b) POWER AND AUTHORITY. Each Borrower and Guarantor has the requisite power and authority (i) to own its properties and to carry on its business as now conducted and as contemplated to be conducted in connection with the performance of the Obligations hereunder and under the other Transaction Documents and (ii) to execute and deliver this Agreement and the other Transaction Documents and to carry out the transactions contemplated by this Agreement and the other Transaction Documents. (c) DUE AUTHORIZATION. The execution, delivery and performance of this Agreement and the other Transaction Documents have been duly authorized by all necessary action and proceedings by or on behalf of Guarantor and each Borrower, and no further approvals or filings of any kind, including any approval of or filing with any Governmental Authority, are required by or on behalf of any Borrower or Guarantor as a condition to the valid execution, delivery and performance by any Borrower or Guarantor of this Agreement or any of the other Transaction Documents. (d) VALID AND BINDING OBLIGATIONS. This Agreement and the other Transaction Documents have been duly authorized, executed and delivered by each Borrower and Guarantor and constitute the legal, valid and binding obligations of each Borrower and Guarantor, enforceable against each Borrower and Guarantor in accordance with their respective terms, except as such enforceability may be limited by applicable bankruptcy, insolvency, reorganization, moratorium or similar laws or equitable principles affecting the enforcement of creditors' rights generally or by equitable principles or by the exercise of discretion by any Court. (e) NON-CONTRAVENTION; NO LIENS. Neither the execution and delivery of this Agreement and the other Transaction Documents, nor the fulfillment of or compliance with the terms and conditions of this Agreement and the other Transaction Documents, the issuance of the Bonds nor the payment of the Obligations: 42 44 (i) does or will conflict with or result in any breach or violation of any Applicable Law, rule or regulation enacted or issued by any Governmental Authority or other agency having jurisdiction over any Borrower or Guarantor, any of the Properties or any other portion of the Collateral or other assets of any Borrower or Guarantor, or any judgment or order applicable to any Borrower or Guarantor or to which any Borrower or Guarantor, any of the Properties or other assets of either any Borrower or Guarantor are subject; (ii) does or will conflict with or result in any material breach or violation of, or constitute a default under, any of the terms, conditions or provisions of any of the Borrower Organizational Documents, any indenture, existing agreement or other instrument to which any Borrower or Guarantor is a party or to which any Borrower or Guarantor, any of the Properties or any other portion of the Collateral or other assets of any Borrower or Guarantor are subject; (iii) does or will result in or require the creation of any Lien on all or any portion of the Collateral or any of the Properties, except for the Permitted Liens; or (iv) does or will require the consent or approval of any creditor of any Borrower or Guarantor, any Governmental Authority or any other Person except such consents or approvals which have already been obtained. (f) PENDING LITIGATION OR OTHER PROCEEDINGS. There is no pending or, to the best knowledge of any Borrower, threatened action, suit, proceeding or investigation, at law or in equity, before any court, board, body or official of any Governmental Authority or arbitrator against or affecting any Property or any other portion of the Collateral or other assets of any Borrower or Guarantor, which, if decided adversely to such Borrower or Guarantor, (i) would have, or may reasonably be expected to have, a Material Adverse Effect or (ii) would adversely affect the exclusion of interest on the Bonds from gross income for federal income tax purposes. No Borrower is in default with respect to any order of any Governmental Authority. (g) SOLVENCY. None of the Borrowers or Guarantor is insolvent or will be rendered insolvent by the transactions contemplated by this Agreement or the other Transaction Documents and after giving effect to such transactions, none of the Borrowers or Guarantor will be left with an unreasonably small amount of capital with which to engage in its business or undertakings, nor will any Borrower or Guarantor have incurred, have intended to incur, or believe that it has incurred, debts beyond its ability to pay such debts as they mature. No Borrower received less than a reasonably equivalent value in exchange for incurrence of the Obligations. There (i) is no contemplated, pending or, to the best of any Borrower's knowledge, threatened bankruptcy, reorganization, receivership, insolvency or like proceeding, whether voluntary or involuntary, affecting any Borrower or Guarantor or any of the Properties and 43 45 (ii) has been no assertion or exercise of jurisdiction over any Borrower or Guarantor or any of the Properties by any court empowered to exercise bankruptcy powers. (h) RATIOS. As of the Bond Transaction Closing Date for each Bond Transaction, the Aggregate Debt Service Coverage Ratio for all Properties for the twelve (12) month period ending on July 1, 1996 is not less than the Minimum DSC Ratio, and the Aggregate Loan to Value Ratio is not greater than the Maximum LTV Percentage. (i) TITLE. Collateral Inc. has good, valid, marketable and indefeasible title in fee to each Property, other than the Avalon Ridge Property and the Avalon Lea Property, free and clear of all Liens whatsoever except the Permitted Liens. Chase Ridge Inc. has good, valid, marketable and indefeasible title in fee to the Avalon Ridge Property free and clear of all Liens whatsoever except the Permitted Liens. Chase Lea Inc. has good, valid, marketable and indefeasible title in fee to the Avalon Lea Property free and clear of all Liens whatsoever except the Permitted Liens. Each Bond Mortgage, if and when properly recorded in the appropriate records, together with any Uniform Commercial Code financing statements required to be filed in connection therewith, will create a valid, perfected first priority mortgage or deed of trust lien on the Bond Property intended to be encumbered thereby (including the Leases of such Bond Property and the rents and revenues and all rights to collect the rents and revenues under such Leases), subject only to Permitted Liens. Each Reimbursement Mortgage with respect to an Additional Mortgaged Property, if and when properly recorded in the appropriate records, together with any Uniform Commercial Code financing statements required to be filed in connection therewith, will create a valid, perfected first priority mortgage or deed of trust lien on the Additional Mortgaged Property intended to be encumbered thereby (including the Leases of such Additional Mortgaged Property and the rents and revenues and all rights to collect the rents and revenues under such Leases), subject only to Permitted Liens. Each Reimbursement Mortgage with respect to a Bond Property, if and when properly recorded in the appropriate records, together with any Uniform Commercial Code financing statements required to be filed in connection therewith, will create a valid, perfected second priority mortgage or deed of trust lien on the Bond Property intended to be encumbered thereby (including the Leases of such Bond Property and the rents and revenues and all rights to collect the rents and revenues under such Leases), subject only to Permitted Liens. Except for (i) any Permitted Liens and (ii) claims for work, labor or materials affecting any Property that will either (x) be paid in full in the ordinary course of Borrowers' business or (y) if in dispute, be bonded over in the ordinary course of Borrowers' business, and which in the aggregate for all Properties do not exceed $100,000.00, there are no Liens or claims for work, labor or materials affecting any Property which are or may be prior to, subordinate to, or of equal priority with, the Liens created by the Mortgage Documents. (j) COMPLIANCE WITH EXISTING BOND ISSUES AND EXISTING SECURITY INSTRUMENTS. No event has occurred since the Borrowers acquired their respective Properties and no condition currently exists with respect to any Borrower or any Bond Property that would constitute an event of default or which, with the lapse of time, if not cured, or with the giving of 44 46 notice or both, would become an event of default under any of the Regulatory Agreements, any of the Existing Security Instruments any of the Custodial Receipts Documents or any other document executed in connection with any of the Existing Bond Issues or the Custodial Receipts Transactions. Each Borrower has complied in all material respects with the requirements of each loan agreement executed in connection with the Existing Bond Issues. (k) COMPLIANCE WITH TAX CERTIFICATES. No Borrower has taken or will take any action, or permit any action that is within any Borrower's control to be taken, that would impair the exclusion from gross income for federal income tax purposes of the interest payable on any of the Existing Bond Issues or the Bonds. As of the Fannie Mae Facility Closing Date, each Borrower is in compliance with all material requirements of all of the Tax Certificates. Each Borrower has complied and will comply with all the terms and conditions of the Tax Certificates, including the terms and conditions of the exhibits thereto, and the representations set forth in the Tax Certificates pertaining to any Borrower are true and accurate in all material respects. (l) COMPLIANCE WITH REGULATORY AGREEMENTS. Each of the Bond Properties is in compliance with all material requirements of the applicable Regulatory Agreement. Each Borrower intends to cause the residential units in each Bond Property to be rented or available for rental on a basis which satisfies the requirements of the Regulatory Agreement with respect to such Bond Property. All Leases with respect to each Bond Property will comply with all Applicable Laws and the Regulatory Agreement with respect to such Bond Property. (m) TAXES. The Borrowers have filed all property and similar tax returns required to have been filed by it with respect to each Property and have paid and discharged, or caused to be paid and discharged, all installments for the payment of real estate, property or similar taxes due to date, and all other material Impositions imposed against, affecting or relating to each Property other than those which have not become due, together with any fine, penalty, interest or cost for nonpayment pursuant to such returns or pursuant to any assessment received by it. No Borrower has knowledge of any new proposed tax, levy or other governmental or private assessment or charge in respect of any Property which has not been disclosed in writing to Fannie Mae. (n) ZONING. Each Property complies in all material respects with all Applicable Laws affecting such Property. Without limiting the foregoing, all material Permits, including certificates of occupancy, have been issued and are in full force and effect. No Borrower nor, to the knowledge of any Borrower, any former owner of any Property, has received any written notification or threat of any actions or proceedings regarding the noncompliance or nonconformity of any Property with any Applicable Laws or Permits, nor is any Borrower otherwise aware of any such pending actions or proceedings. (o) LIABILITY FOR HAZARDOUS SUBSTANCES. No Borrower nor Guarantor has any liability, contingent or otherwise, in connection with any Hazardous Substance Activity on 45 47 or affecting any Property in violation of Hazardous Materials Laws, except for potential claims for potential liability of Collateral Inc. or Guarantor with respect to the presence of (i) radon gas on the Properties commonly known as Avalon Knoll, Avalon at Carter Lake and Avalon at Gayton, and (ii) non-friable asbestos located in the vinyl floor tiles of certain portions of the Property commonly known as Avalon at Carter Lake, in each case, as such radon gas and asbestos are disclosed in the Environmental Reports with respect to such Properties, delivered to Fannie Mae prior to the date of this Agreement. Notwithstanding the foregoing, the Borrowers and Guarantor represent and warrant that as of the Fannie Mae Facility Closing Date no such claims have been asserted or threatened. (p) PROHIBITED ACTIVITIES OR CONDITIONS. Except as disclosed in any Environmental Report delivered to Fannie Mae prior to the date of this Agreement, or otherwise disclosed in writing by the Borrowers to Fannie Mae prior to the date of this Agreement, (i) to the best knowledge of the Borrowers, no Prohibited Activities or Conditions exist or have existed at, upon, under or within any Property that have not been remedied and (ii) no Borrower nor Guarantor has at any time caused or permitted any Prohibited Activities or Conditions to exist at, upon, under or within any Property. (q) HAZARDOUS MATERIALS LAWS. Except as disclosed in an Environmental Report delivered to Fannie Mae prior to the date of this Agreement, or otherwise disclosed in writing by the Borrowers to Fannie Mae prior to date of this Agreement, (i) no Borrower nor, to the knowledge of any Borrower, any other party has been or is involved in operations at any Property which operations could reasonably be expected to lead to (x) the imposition of liability on any Borrower or Guarantor under any Hazardous Materials Law in effect as of the date of this Agreement, or on any subsequent or former owner of any Property, or (y) the creation of a Lien with respect to a liability on any Property under any Hazardous Materials Law in effect as of the date hereof; (ii) no Borrower nor Guarantor nor to the best knowledge of any Borrower, any predecessor-in-interest with respect to any Property has permitted any tenant or occupant of any Property to engage in any activity that could reasonably be expected to impose a claim or liability under any Hazardous Materials Law in effect as of the date hereof on such tenant or occupant, on any Borrower or on any other subsequent or former owner of any Property; and (iii) no Borrower nor Guarantor has received, and no Borrower has knowledge of the issuance of, any claim, citation or notice of any Governmental Actions. (r) LEASES. Each Borrower has delivered to Servicer, on behalf of Fannie Mae, true, complete and correct copies of its forms of apartment leases for each Property, and each Lease with respect to such Property is in the form thereof, with no material modifications thereto, except as previously disclosed in writing to Servicer or Fannie Mae. Except as set forth in a Rent Roll, no Lease for any unit in any Property (i) is for a term in excess of one year, including any renewal or extension period unless such renewal or extension period is subject to termination by the Borrowers upon not more than 30 days' written notice except to the extent that a longer term may be required under Applicable Law, (ii) provides for prepayment of more 46 48 than one month's rent (other than as set forth on Exhibit M), or (iii) was entered into in other than the ordinary course of business. (s) RENT ROLL. Each Borrower has executed and delivered to Servicer, on behalf of Fannie Mae, a Certification to Property Rent Roll (the "RENT ROLL"), for each Property, each dated as of and delivered within thirty (30) days prior to the Fannie Mae Facility Closing Date and otherwise in the form promulgated by Fannie Mae. Each Rent Roll sets forth each and every unit subject to a Lease which is in full force and effect as of the date of such Rent Roll. The information set forth on each Rent Roll is true, correct and complete as of its date and there has occurred no material adverse change in the information shown on any Rent Roll from the date of each such Rent Roll to the Fannie Mae Facility Closing Date. Except as disclosed in the Rent Roll with respect to each Property or otherwise previously disclosed in writing to Servicer or Fannie Mae, no Lease is in effect as of the date of the Rent Roll with respect to such Property. (t) STATUS OF LANDLORD UNDER LEASES. Except for any assignment of leases and rents which is a Permitted Lien or which is to be released in connection with the consummation of the transactions contemplated by this Agreement, each Borrower is the respective owner and holder of the landlord's interest under each of the Leases of units in each Property owned by such Borrower and there are no prior outstanding assignments of any such Lease, or any portion of the rents, additional rents, charges, issues or profits due and payable or to become due and payable thereunder which were not discharged as of the Fannie Mae Facility Closing Date. (u) ENFORCEABILITY OF LEASES. Each Lease constitutes the legal, valid and binding obligation of the applicable Borrower and, to the knowledge of the Borrowers, of each of the other parties thereto, enforceable in accordance with its terms, subject only to bankruptcy, insolvency, reorganization or other similar laws relating to creditors' rights generally, and equitable principles, and except as disclosed in writing to Fannie Mae, no notice of any default by any Borrower which remains uncured has been sent by any tenant under any such Lease. (v) NO LEASE OPTIONS. All premises demised to tenants under Leases are occupied by such tenants as tenants only. No Lease contains any option or right to purchase, right of first refusal or any other similar provisions. No option or right to purchase, right of first refusal, purchase contract or similar right exists with respect to any Property except such options or purchase rights that are granted by Applicable Law. (w) INSURANCE. The Borrowers have delivered to Servicer or Fannie Mae true and correct certified copies of all policies of insurance currently in effect as of the date of this Agreement with respect to the Properties. Each such insurance policy complies in all material respects with the requirements set forth in the Mortgage Documents. 47 49 (x) TAX PARCELS. Each Property is on one or more separate tax parcels, and each such parcel (or parcels) is (or are) separate and apart from any other property. (y) ENCROACHMENTS. Except as set forth in the marked-up title insurance commitments identified on Exhibit E, none of the improvements located on any Property encroaches upon the property of any other Person nor lies outside of the boundaries and building restriction lines of such Property and no improvement located on property adjoining such Property lies within the boundaries of or in any way encroaches upon such Property. (z) INDEPENDENT UNIT. Each Property is an independent unit which does not rely on any drainage, sewer, access, parking, structural or other facilities located on any property not included in such Property or on public or utility easements for the (i) fulfillment of any zoning, building code or other requirement of any Governmental Authority that has jurisdiction over such Property (other than property which any Borrower has rights to utilize pursuant to a recorded covenant or other agreement of record which is a Permitted Lien and which is not subject to revocation without any Borrower's consent), (ii) structural support, or (iii) the fulfillment of the requirements of any Lease or other agreement affecting such Property. The Borrowers, directly or indirectly, have the right to use all amenities, easements, public or private utilities, parking, access routes or other items necessary or currently used for the operation of each Property. All public utilities are installed and operating at each Property and all billed installation and connection charges have been paid in full. Each Property is either (x) contiguous to or (y) benefits from an irrevocable unsubordinated easement permitting access from such Property to a physically open, dedicated public street, and has all necessary permits for ingress and egress and is adequately serviced by public water, sewer systems and utilities. No building or other improvement not located on a Property relies on any part of the Property to fulfill any zoning requirements, building code or other requirement of any Governmental Authority that has jurisdiction over the Property for structural support or to furnish to such building or improvement any essential building systems or utilities. (aa) CONDITION OF THE PROPERTIES. Each Property is in good condition, order and repair, there exist no structural or other material defects in such Property, whether latent or otherwise and no Borrower has received notice from any insurance company or bonding company of any defects or inadequacies in such Property, or any part of it, which would adversely affect the insurability of such Property or cause the imposition of extraordinary premiums or charges for insurance or of any termination or threatened termination of any policy of insurance or bond. No claims have been made against any contractor, architect or other party with respect to the condition of any Property or the existence of any structural or other material defect therein. No Property has been materially damaged by Casualty which has not been fully repaired or for which Insurance Proceeds have not been received or are not expected to be received except as previously disclosed in writing to Fannie Mae or Servicer. There are no proceedings pending for partial or total Condemnation of any Property except as disclosed in writing to Fannie Mae or Servicer. The average term of each issue of Related Securities does 48 50 not exceed 120% of the average reasonably expected economic life of the facilities of the Bond Property with respect to such Related Securities. (bb) NO CONTRACTUAL DEFAULTS. Except as otherwise set forth in Exhibit L hereto, there are no defaults by any Borrower or Guarantor or, to the knowledge of the Borrowers, by any other Person under any contract to which any Borrower or Guarantor is a party relating to any Property, including any management, rental, service, supply, security, maintenance or similar contract, that either (i) individually or in the aggregate, would cause a Material Adverse Effect, or (ii) involves, in any individual instance, an actual or potential disputed amount that is equal to or in excess of $10,000.00. Except as otherwise set forth in Exhibit L hereto, no Borrower nor Guarantor or to the knowledge of any Borrower, any other person has received notice or has any knowledge of any existing circumstances in respect of which it could receive any notice of default or breach in respect of any contracts affecting or concerning any Property, that either (i) individually or in the aggregate, would cause a Material Adverse Effect, or (ii) involves, in any individual instance, an actual or potential disputed amount that is equal to or in excess of $10,000.00. (cc) COMPLIANCE WITH THE TRANSACTION DOCUMENTS. Each Borrower is in compliance with all provisions of the Transaction Documents to which it is a party or by which it is bound. The representations and warranties made by each Borrower in the Transaction Documents are true, complete and correct as of the Fannie Mae Facility Closing Date. (dd) ERISA. Each Borrower and Guarantor are in compliance in all material respects with all applicable provisions of ERISA and has not incurred any liability to the PBGC on a Plan under Title IV of ERISA. None of the assets of any Borrower or Guarantor constitute plan assets (within the meaning of Department of Labor Regulation Section 2510.3-101) of any employee benefit plan subject to Title I of ERISA. (ee) OFFICIAL STATEMENT. The statements and information concerning each Borrower, their Affiliates and the Related Bond Property set forth in each Official Statement are each complete and correct as of its date and, as of its date, do not contain any untrue statement of material fact or omit to state a material fact required to be stated therein or necessary in order to make the statements made therein, in light of the circumstances under which they were made, not misleading. (ff) FINANCIAL INFORMATION. The written financial projections relating to each Borrower and Guarantor and delivered to Servicer, on behalf of Fannie Mae, on or prior to the date hereof, if any, were prepared on the basis of assumptions believed by each Borrower, in good faith at the time of preparation, to be reasonable and no Borrower is aware of any fact or information that would lead it to believe that such assumptions are incorrect or misleading in any material respect; provided, however, that no representation or warranty is made that any result set forth in such financial projections shall be achieved. The financial statements of each Borrower and Guarantor which have been furnished to Servicer on behalf of Fannie Mae are 49 51 complete and accurate in all material respects and present fairly the financial condition of each Borrower and Guarantor, as of their respective dates in accordance with GAAP, applied on a consistent basis, and since the date of the most recent of such financial statements no event has occurred which would have, or may reasonably be expected to have a Material Adverse Effect, and there has not been any material transaction entered into by any Borrower or Guarantor other than transactions in the ordinary course of business. No Borrower or Guarantor has any material Contingent Obligation which is not otherwise disclosed in its most recent financial statements. (gg) ACCURACY OF INFORMATION. No information, statement or report furnished in writing to Fannie Mae, any Issuer, Servicer or any Related Trustee by any Borrower or Guarantor in connection with this Agreement, the Bond Documents, the Mortgage Documents, the Custodial Receipts Documents or any other Transaction Document or in connection with the consummation of the transactions contemplated hereby and thereby (including any information furnished by any Borrower or Guarantor in connection with the preparation of any materials related to the issuance delivery or offering of any of the Bonds on the Bond Transaction Closing Date) contains any material misstatement of fact or omits to state a material fact necessary to make the statements contained therein, in light of the circumstances under which they were made, not misleading; and the representations and warranties of each Borrower and the statements, information and descriptions contained in each Borrower's closing certificates, as of the Fannie Mae Facility Closing Date, are true, correct and complete in all material respects, do not contain any untrue statement or misleading statement of a material fact; and the estimates and the assumptions contained herein and in any certificate of any Borrower delivered as of the Fannie Mae Facility Closing Date are reasonable and based on the best information available to each Borrower. (hh) NO CONFLICTS OF INTEREST. To the best knowledge of each Borrower, no member, officer, agent or employee of any Issuer has been or is in any manner interested, directly or indirectly, in that Person's own name, or in the name of any other Person, in the Related Securities, the Related Bond Documents with respect to any Bond Property, the Related Custodial Receipts Documents, the Bond Property Loan Documents with respect to any Bond Property, any Borrower or Guarantor or any Bond Property, in any contract for property or materials to be furnished or used in connection with such Bond Property or in any aspect of the transactions contemplated by the Bond Documents, the Related Bond Property Loan Documents with respect to any Bond Property or the Related Custodial Receipts Documents. (ii) GOVERNMENTAL APPROVALS. No Governmental Approval not already obtained or made is required for the execution and delivery or approval, as the case may be, of this Agreement, the Bond Documents, the Custodial Receipts Documents, the Mortgage Documents or any other Transaction Document or the performance of the terms and provisions hereof or thereof by any Borrower or Guarantor. (jj) GOVERNMENTAL ORDERS. No Borrower is presently under any cease or desist order or other orders of a similar nature, temporary or permanent, of any Governmental 50 52 Authority which would have the effect of preventing or hindering performance of its duties hereunder, nor are there any proceedings presently in progress or to its knowledge contemplated which would, if successful, lead to the issuance of any such order. (kk) NO RELIANCE. Each Borrower acknowledges, represents and warrants that it understands the nature and structure of the transactions relating to the refinancings of the Bond Properties, that it is familiar with the provisions of all of the documents and instruments relating to such refinancings to which it or any Issuer is a party or of which it is a beneficiary; that it understands the risks inherent in such transactions, including the risk of loss of all or any of the Bond Properties and the Additional Mortgaged Properties; and that it has not relied on any Issuer or Fannie Mae for any guidance or expertise in analyzing the financial or other consequences of the transactions contemplated by this Agreement, any Related Indenture or any other Transaction Document or otherwise relied on any Issuer or Fannie Mae in any manner in connection with interpreting, entering into or otherwise in connection with this Agreement, any other Transaction Document or any of the matters contemplated hereby or thereby. (ll) ARBITRAGE BONDS. No money on deposit in any fund or account in connection with any of the Existing Bond Issues, whether or not such money was derived from other sources, has been used by or under the direction of any Borrower or Guarantor in a manner which would cause any of the Existing Bond Issues to be ``arbitrage bonds'' within the meaning of Section 103(c) of the Internal Revenue Code of 1954, as amended. (mm) COMPLIANCE WITH APPLICABLE LAW. Each Borrower and Guarantor is in compliance with Applicable Law, including all Governmental Approvals, if any, except for such items of noncompliance that, singly or in the aggregate, have not had and are not reasonably expected to cause, a Material Adverse Effect. (nn) CONTRACTS WITH AFFILIATES. No Borrower has entered into or is a party to any contract, lease or other agreement with any Affiliate of such Borrower for the provision of any service, materials or supplies to any Property or Properties (including any contract, lease or agreement for the provision of property management services, cable television services or equipment, gas, electric or other utilities, security services or equipment, laundry services or equipment or telephone services or equipment), other than the Management Agreements and that certain Shared Facilities Agreement dated as of July 31, 1996 (the "SHARED FACILITIES AGREEMENT") by and between Collateral Inc. and Guarantor with respect to the Bond Property commonly known as Avalon Meadows. (ao) COMPLIANCE WITH SALEM STATION RESTRICTIVE COVENANTS AGREEMENT. The Salem Station Project is in compliance with all material requirements of the Salem Station Restrictive Covenants Agreement. The Borrowers intend to cause the residential units in the Salem Station Project to be rented or available for rental on a basis which satisfies the requirements of the Salem Station Restrictive Covenants Agreements. All Leases with respect to 51 53 the Salem Station Project will comply with all applicable laws and the Salem Station Restrictive Covenants Agreement. 2 AFFIRMATIVE COVENANTS OF OWNER. Each Borrower agrees and covenants with Fannie Mae that, at all times during the term of this Agreement: (a) COMPLIANCE WITH AGREEMENTS; NO AMENDMENTS. Each Borrower shall comply with all the terms and conditions of each Transaction Document to which it is a party or by which it is bound. Each Borrower shall use commercially reasonable efforts to cause the Related Trustee in each Bond Transaction and each Custodial Receipts Transaction at all times to comply with the terms of the Related Bond Documents and/or the Related Custodial Receipts Documents to which each such Related Trustee is a party. (b) MAINTENANCE OF EXISTENCE. Each Borrower shall maintain its existence and continue to be a corporation organized under the laws of the state of Maryland, duly qualified to do business in each jurisdiction in which such qualification is necessary to the conduct of its business and where the failure to be so qualified would adversely affect the validity of, the enforceability of or ability to perform its obligations under this Agreement or any other Transaction Document. (c) MAINTENANCE OF QRS STATUS. At all times during which any Borrower is bound by the terms of this Agreement, each such Borrower shall continue to qualify as a "Qualified REIT Subsidiary" (as defined in Subchapter M of the Code) of Guarantor. (d) FINANCIAL STATEMENTS; ACCOUNTANTS' REPORTS; OTHER INFORMATION. The Borrowers shall keep and maintain at all times complete and accurate books of accounts and records in sufficient detail to correctly reflect (x) all of the Borrowers' financial transactions and assets and (y) the results of the operation of each Property and copies of all written contracts, Leases and other instruments which affect each Property (including all bills, invoices and contracts for electrical service, gas service, water and sewer service, waste management service, telephone service and management services). In addition, the Borrowers shall furnish, or cause to be furnished, to Servicer, and upon Fannie Mae's request, to Fannie Mae: (i) Annual Financial Statements. As soon as available, and in any event within one hundred and twenty (120) days after the close of each fiscal year of each Borrower during the term of this Agreement, each Borrower's audited balance sheet as of the end of such fiscal year, its audited statement of income, retained earnings for such fiscal year and its audited statement of cash flows for such fiscal year, all in reasonable detail and stating in comparative form the respective figures for the corresponding date and period in the prior fiscal year, prepared in accordance with GAAP, consistently applied, and certified by the chief financial officer of such Borrower to the effect that 52 54 such financial statements have been prepared in accordance with GAAP, consistently applied, and that such financial statements fairly present the results of its operations and financial condition for the periods and dates indicated, with such certification of such Borrower's chief financial officer to be free of exceptions and qualifications as to the scope of the audit or as to the going concern nature of the business. (ii) Quarterly Financial Statements. As soon as available, and in any event within forty-five (45) days after each of the first three fiscal quarters of each fiscal years during the term of this Agreement, each Borrower's unaudited balance sheet as of the end of such fiscal quarter and its unaudited statement of income and retained earnings and its unaudited statement of cash flows for the portion of the fiscal year ended with the last day of such quarter, all in reasonable detail and stating in comparative form the respective figures for the corresponding date and period in the previous fiscal year, accompanied by a certificate of the chief financial officer of such Borrower to the effect that such financial statements have been prepared in accordance with GAAP, consistently applied, and that such financial statements fairly present the results of its operations and financial condition for the periods and dates indicated subject to year end adjustments in accordance with GAAP. (iii) Monthly Property Statements. On a monthly basis within thirty (30) days of the last day of the prior month, a statement of income and expenses of each Property accompanied by a certificate of the chief financial officer of each Borrower to the effect that each such statement of income and expenses fairly, accurately and completely presents the operations of each such Property for the period indicated. (iv) Annual Property Statements. On an annual basis within forty-five (45) days of the end of the fiscal year, an annual statement of income and expenses of each Property accompanied by a certificate of the chief financial officer of each Borrower to the effect that each such statement of income and expenses fairly, accurately and completely presents the operations of each such Property for the period indicated. (v) Updated Rent Rolls. Upon Servicer's or Fannie Mae's request, a current Rent Roll for each Property, showing the name of each tenant, and for each tenant, the space occupied, the lease expiration date, the rent payable, the rent paid and any other information requested by Servicer or Fannie Mae and in the form required by Servicer or Fannie Mae and accompanied by a certificate of the chief financial officer of each Borrower to the effect that each such Rent Roll fairly, accurately and completely, in all material respects, presents the information required therein as of the date thereof. (vi) Security Deposit Information. Upon Servicer's or Fannie Mae's request, an accounting of all security deposits held in connection with any lease of any part of any Property, including the name and identification number of the accounts in which such security deposits are held, the name and address of the financial institutions in 53 55 which such security deposits are held and the name of the person to contact at such financial institution, along with any authority or release necessary for Servicer or Fannie Mae to access information regarding such accounts. (vii) Security Law Reporting Information. So long as Guarantor is a reporting company under the Securities and Exchange Act of 1934, promptly upon the mailing thereof to the shareholders of Guarantor, the Borrowers shall furnish to Servicer and upon Fannie Mae's request, to Fannie Mae, copies of all financial statements, reports and proxy statements so mailed. Promptly upon the filing thereof, copies of all registration statements (other than the exhibits thereto and any registration statements on Form S-8 or its equivalent) and annual, quarterly or monthly reports (excluding Form 4, Statement of Changes in Beneficial Ownership, or its equivalent, unless they reflect a change in control in Guarantor) or current reports on Form 8K which Guarantor shall have filed with the United States Securities and Exchange Commission or other Governmental Authorities. (viii) Accountants' Reports. Promptly upon receipt thereof, copies of any reports or management letters submitted to any Borrower by its independent certified public accountants in connection with the examination of its financial statements made by such accountants (except for reports otherwise provided pursuant to clause (i) above). (ix) Other Reports. Promptly upon request therefor, all schedules, financial statements or other similar reports delivered by any Borrower pursuant to the Transaction Documents or otherwise requested by Servicer or Fannie Mae with respect to any Borrower's business affairs or condition (financial or otherwise) or any of the Properties. (e) CERTIFICATE OF COMPLIANCE. The Borrowers shall deliver to Servicer concurrently with the delivery of the financial statements and/or reports required to be delivered pursuant to paragraphs (d)(i) and (d)(ii) above a certificate signed by the chief financial officer of each Borrower stating that, to the best of the knowledge of such chief financial officer, following reasonable inquiry, no Event of Default or Potential Event of Default has occurred, or if an Event of Default or Potential Event of Default has occurred, specifying the nature thereof. (f) MAINTAIN LICENSES. The Borrowers shall procure and maintain in full force and effect all licenses, Permits, charters and registrations which are material to the conduct of its business and shall abide by and satisfy all terms and conditions of all such licenses, Permits, charters and registrations. (g) ACCESS TO RECORDS; DISCUSSIONS WITH OFFICERS AND ACCOUNTANTS. To the extent permitted by law and in addition to the applicable requirements of the Mortgages, each Borrower shall permit Fannie Mae or Servicer: 54 56 (i) to inspect, make copies and abstracts of, and have reviewed or audited, such books and records of each Borrower as may relate to the Obligations or any Property; (ii) to discuss each Borrower's affairs, finances and accounts with any of such Borrower's officers, partners and employees; (iii) to discuss each Borrower's affairs, finances and accounts with its independent public accountants, provided that the chief financial officer of such Borrower has been given the opportunity by Servicer or Fannie Mae to be a party to such discussions; and (iv) to receive any other information that Fannie Mae or Servicer reasonably deems necessary or relevant in connection with any Mortgage Loan, any Transaction Document or the Obligations. Notwithstanding the foregoing, prior to an Event of Default or Potential Event of Default all such inspections shall be conducted at reasonable times during normal business hours. (h) INFORM FANNIE MAE AND SERVICER OF MATERIAL EVENTS. The Borrowers shall promptly inform Fannie Mae and Servicer in writing of any of the following (and shall deliver to Fannie Mae and Servicer copies of any related written communications, complaints, orders, judgments and other documents relating to the following) of which any Borrower has or obtains actual knowledge: (i) Defaults. The occurrence of any Event of Default or any Potential Event of Default under this Agreement or any other Transaction Document; (ii) Regulatory Proceedings. The commencement of any rulemaking or disciplinary proceeding or the promulgation of any proposed or final rule which would have, or may reasonably be expected to have, a Material Adverse Effect or adversely affect the tax-exempt status of the interest payable on any of the Related Securities; (iii) Legal Proceedings. The commencement or threat of, or amendment to, any proceedings by or against any Borrower or Guarantor in any Federal, state or local court or before any Governmental Authority, or before any arbitrator, which, if adversely determined, would have, or at the time of determination may reasonably be expected to have, a Material Adverse Effect or adversely affect the tax-exempt status of the interest payable on any of the Related Securities; (iv) Bankruptcy Proceedings. The commencement of any proceedings by or against any Borrower or Guarantor under any applicable bankruptcy, reorganization, liquidation, insolvency or other similar law now or hereafter in effect or 55 57 of any proceeding in which a receiver, liquidator, trustee or other similar official is sought to be appointed for it; (v) Regulatory Supervision or Penalty. The receipt of notice from any Governmental Authority having jurisdiction over any Borrower or Guarantor that (A) any Borrower or Guarantor is being placed under regulatory supervision, (B) any license, Permit, charter, membership or registration material to the conduct of any Borrower's or Guarantor's respective business or the Properties is to be suspended or revoked or (C) any Borrower or Guarantor is to cease and desist any practice, procedure or policy employed by such Borrower or Guarantor, as the case may be, in the conduct of its business, and such cessation would have, or may reasonably be expected to have, a Material Adverse Effect or would adversely affect the tax-exempt status of the interest on any Bonds; and (vi) Environmental Claim. The receipt of notice from any Governmental Authority or other Person relating to any Environmental Claim involving any Borrower or Guarantor or any of its assets, including the Properties. (i) SINGLE-PURPOSE ENTITY. Each Borrower shall at all times maintain and conduct itself as a Single-Purpose entity. (j) INSPECTION. Each Borrower shall permit any Person designated by Fannie Mae (including Servicer): (i) to make entries upon and inspections of the Properties; and (ii) to otherwise verify, examine and inspect the amount, quantity, quality, value and/or condition of, or any other matter relating to, any Property; provided, however, that prior to an Event of Default or Potential Event of Default all such entries, examinations and inspections shall be conducted at reasonable times during normal business hours. (k) COMPLIANCE WITH APPLICABLE LAWS. Each Borrower shall comply in all material respects with all Applicable Laws now or hereafter affecting any Property or any part of any Property or requiring any alterations, repairs or improvements to any Property, except to the extent a Borrower may be diligently and continuously contesting such Applicable Law in good faith and in a timely, appropriate and legal manner and Fannie Mae reasonably determines that such contest will not likely cause a Material Adverse Effect. Each Borrower shall procure and continuously maintain in full force and effect, and shall abide by and satisfy all material terms and conditions of all Permits. (l) WARRANTY OF TITLE. Each Borrower shall warrant and defend (a) the title to each Property and every part of each Property, subject only to Permitted Liens, and (b) the validity and priority of the lien of the applicable Mortgage Documents, subject only to Permitted Liens, in each case against the claims of all Persons whatsoever. The Borrowers shall reimburse Fannie Mae and Servicer for any losses, costs, damages or expenses (including reasonable 56 58 attorneys' fees and court costs) incurred by Fannie Mae or Servicer if an interest in any Property, other than with respect to a Permitted Lien, is claimed by others. (m) DEFENSE OF ACTIONS. The Borrowers shall appear in and defend any action or proceeding purporting to affect the security for this Agreement or the rights or power of Fannie Mae or Servicer hereunder or under any other Transaction Document, and shall, pursuant to section 4.2, pay all costs and expenses, including the cost of evidence of title and reasonable attorneys' fees, in any such action or proceeding in which Fannie Mae may appear in accordance with the provisions of this Agreement or the other Transaction Documents. If the Borrowers fail to perform any of the covenants or agreements contained in this Agreement or in any other Transaction Document, or if any action or proceeding is commenced that is not diligently defended by the Borrowers which affects in any material respect Fannie Mae's or any Related Trustee's interest in any Property or any part thereof, including eminent domain, code enforcement or proceedings of any nature whatsoever under any Applicable Law, whether now existing or hereafter enacted or amended, then Fannie Mae may, with ten (10) days prior notice to the Borrowers, but without demand upon the Borrowers, without obligation to do so, and without releasing the Borrowers from any Obligation, make such appearances, disburse such sums and take such action as Fannie Mae or Servicer deems necessary or appropriate to protect Fannie Mae's or such Related Trustee's interest, including disbursement of attorney's fees, entry upon such Property to make repairs or take other action to protect the security of said Property, payment, purchase, contest or compromise of any encumbrance, charge or lien which in the judgment of Fannie Mae appears to be prior or superior to the Transaction Documents, and procurement of satisfactory insurance required to be maintained by the Borrowers under the Transaction Documents; provided, however, that Fannie Mae shall not be required to give prior notice to the Borrowers if Fannie Mae reasonably determines that such appearance, disbursement or action is necessary to prevent a Material Adverse Effect. In the event (i) that any Mortgage is foreclosed in whole or in part or that any Transaction Document is put into the hands of an attorney for collection, suit, action or foreclosure, or (ii) of the foreclosure of any mortgage, deed to secure debt, deed of trust or other security instrument prior to or subsequent to any Mortgage or any Transaction Document in which proceeding Fannie Mae is made a party or (iii) of the bankruptcy of any of the Borrowers or Guarantor or an assignment by any of the Borrowers or Guarantor for the benefit of its creditors, the Borrowers shall be chargeable with and agree to pay all costs of collection and defense, including actual attorneys' fees in connection therewith and in connection with any appellate proceeding or post-judgment action involved therein, which shall be due and payable together with all required service or use taxes. (n) PROPERTY MANAGEMENT; MAINTENANCE OF PROPERTIES. The Borrowers shall continue to operate each Property as a Multifamily Residential Property, and shall manage or cause to be managed the operations of each Property in accordance with the applicable provisions of the Mortgage Documents and the other Transaction Documents. The Borrowers (i) shall not commit waste or permit impairment or deterioration of any Property, (ii) shall not abandon any Property, (iii) shall restore or repair promptly and in a good and workmanlike manner all or any part of any Property to the equivalent of its condition existing immediately 57 59 prior to such Casualty, or such other lesser condition as Fannie Mae may approve in writing, in the event of any Casualty thereto, whether or not Insurance Proceeds are available to cover in whole or in part the costs of such restoration or repair, (iv) shall keep each Property, including improvements, fixtures, equipment, machinery and appliances thereon in good repair and shall replace fixtures, equipment, machinery and appliances on each Property when necessary to keep such items in good repair, (v) shall generally operate and maintain each Property in accordance with the standards for "Class A" Multifamily Residential Properties in the regional market in which each such Property is located and (vi) shall give notice in writing to Fannie Mae of, and, unless otherwise directed in writing by Fannie Mae, appear in and defend, any action or proceeding purporting to affect any Property, the security of any Mortgage or the rights or powers of Fannie Mae under any of the Transaction Documents. Except as provided in section 2.2(o), neither the Borrowers nor any tenant or other person shall remove, demolish or alter any improvement now existing or hereafter erected on any Property or any fixture, equipment, machinery or appliance in or on any Property except when incident to the replacement of fixtures, equipment, machinery and appliances with items of like kind. (o) ADDITIONS TO THE PROPERTIES. Except as otherwise provided in the Mortgage Documents, the Borrowers shall have the right to undertake any alteration, improvement, demolition, removal, or construction (collectively, "ALTERATIONS") to the Properties without the prior consent of Fannie Mae; provided, however, that in any case, no such Alteration shall be made to any Property without the prior written consent of Fannie Mae if (i) such Alteration could reasonably be expected to have a Material Adverse Effect on the value of such Property or its operation as a multifamily housing facility in substantially the same manner in which it is being operated on the date of this Agreement, (ii) the construction of such Alteration could reasonably be expected to result in interference to the occupancy of tenants of such Property such that tenants in occupancy with respect to 5% or more of the Leases would be permitted to terminate their Leases or to abate the payment of all or any portion of their rent, or (iii) such Alteration will be completed in more than twelve (12) months from the date of commencement or in the last year of the term of this Agreement. Notwithstanding the foregoing, the Borrowers must give prior written notice to Fannie Mae of any Borrower's intent to construct Alterations with respect to such Property costing in excess of $100,000; provided, however, that the preceding requirement shall not be applicable to Alterations made, conducted or undertaken by the Borrowers as part of the routine maintenance and repair of the Properties pursuant to section 2.2(n) or as otherwise required by the Mortgage Documents. (p) ERISA. The Borrowers shall at all times remain in compliance in all material respects with all applicable provisions of ERISA and similar requirements of the PBGC. (q) TAXES. If any tax, assessment or Imposition (other than a tax measured by gross or net income of, or an excise, franchise or gross receipts tax imposed on, any Related Trustee or Fannie Mae (or any transferee or assignee thereof, including a participation holder)) ("TAXES") is levied, assessed or charged by the United States or any political subdivision or taxing authority thereof or therein upon any of the Transaction Documents or the obligations 58 60 secured thereby, the interest of Fannie Mae or any Related Trustee in the Properties, or Fannie Mae or any Related Trustee by reason of or as holder of the Transaction Documents, the Borrowers shall pay all such Taxes to, for, or on account of Fannie Mae or the applicable Related Trustee (or provide funds to Fannie Mae or such Related Trustee for such payment, as the case may be) upon receipt of written notice that such amounts have become due and payable (or upon such amounts becoming due and payable if any Borrower has received prior written notice thereof) and shall promptly furnish proof of such payment to Fannie Mae or such Related Trustee, as applicable. In the event of passage of any law or regulation permitting, authorizing or requiring such Taxes to be levied, assessed or charged, which law or regulation in the opinion of counsel to Fannie Mae or any Related Trustee may prohibit the Borrowers from paying the Taxes to or for Fannie Mae or such Related Trustee, the Borrowers shall enter into such further instruments as may be reasonably required by Fannie Mae and permitted by Applicable Law to obligate the Borrowers to pay such Taxes. (r) FURTHER ASSURANCES. The Borrowers, at the request of Fannie Mae, shall execute and deliver and, if necessary, file or record such statements, documents, agreements, UCC financing and continuation statements and such other instruments and take such further action as Fannie Mae from time to time may request as reasonably necessary, desirable or proper to carry out more effectively the purposes of this Agreement or any of the other Transaction Documents or to subject the Collateral to the lien and security interests of the Mortgage Documents or to evidence, perfect or otherwise implement, to assure the lien and security interests intended by the terms of the Transaction Documents or in order to exercise or enforce its rights under the Transaction Documents. In addition, the Borrowers shall cooperate with each of the Rating Agencies in connection with any review of the transactions described in the Transaction Documents which may be undertaken by either of the Rating Agencies after the date of this Agreement. (s) MONITORING COMPLIANCE. Upon the request of Servicer, from time to time, and at any time certification of the matters set forth below is provided to the Issuer, the Related Trustee or any other Governmental Authority, the Borrowers shall promptly provide to Servicer the following: (i) the Borrowers' certification of each Bond Property's compliance with the rules qualifying such Bond Property for federal tax exemption pursuant to Section 103 of the Code and the regulations issued under such Section 103 and the requirements of the Regulatory Agreement with respect to such Bond Property; (ii) If any Property has received or receives a tax credit allocation, Borrowers' certification of such Property's compliance with the requirements of Section 42 of the Code and the regulations issued under Section 42 and if the tax credits have not yet been syndicated, Borrowers' report regarding progress in syndicating the tax credit allocation until the syndication is completed; and 59 61 (iii) Such other documents, certificates and other information as may be deemed necessary to enable Servicer to perform the functions under the Servicing Agreement. (t) CONTINUING DISCLOSURE. The Borrowers shall cooperate with each Remarketing Agent in complying with all federal securities laws relating to continuing disclosure that are applicable to the Bonds, including Rule 15c2-12, promulgated by the Securities and Exchange Commission under the Securities Exchange Related Act of 1934, as such rule may be amended from time to time. (u) LEASES. Each unit in each Property will be leased pursuant to the form leases delivered to, and acceptable to, Fannie Mae and Servicer, with no material modifications to such approved form lease, except as disclosed in writing to Fannie Mae and Servicer. Without the prior written consent of Fannie Mae, no Borrowers shall enter into any Lease for any unit in any Property that (i) is for a term in excess of one year, including any renewal or extension period unless such renewal or extension period is subject to termination by such Borrower upon not more than thirty (30) days' written notice, except to the extent that a longer term may be required under Applicable Law, (ii) provides for prepayment of more than one month's rent, (iii) is entered into in other than the ordinary course of Borrowers' business, or (iv) contains any option or right to purchase, right of first refusal or any other similar provisions, except such options or purchase rights that are granted by Applicable Law. 3 NEGATIVE COVENANTS OF BORROWERS. The Borrowers enter into the covenants and agreements with Fannie Mae set forth in this section 2.3. Each covenant and agreement shall apply continuously during the term of this Agreement: (a) OTHER ACTIVITIES. No Borrower shall: (i) either directly or indirectly sell, transfer, exchange or otherwise dispose of any of its assets except as permitted hereunder, by the Mortgages or the Cash Management Agreement; (ii) take any action or omit to take any action that, if taken or omitted, would adversely affect the exclusion of interest on the Bonds from gross income for Federal income tax purposes pursuant to Section 103 of the Code; (iii) engage in any business or activity other than in connection with the ownership, management and operation of (A) with respect to Collateral Inc., each Property other than the Avalon Ridge Property and the Avalon Lea Property, (B) with respect to Chase Ridge Inc., the Avalon Ridge Property, and (C) with respect to Chase Lea Inc. the Avalon Lea Property; 60 62 (iv) amend its respective Borrower Organizational Documents in any manner inconsistent with this Agreement or the other Transaction Documents without the prior written consent of Fannie Mae; (v) dissolve or liquidate in whole or in part; (vi) merge or consolidate with any Person; or (vii) use, or permit to be used, any Property for any uses or purposes other than as a Multifamily Residential Property. (b) NO AMENDMENTS TO TRANSACTION DOCUMENTS. Unless Fannie Mae shall otherwise consent in writing, no Borrower shall agree to any amendment of, supplement to, or waiver, modification, or termination of, any of the terms or provisions of any Transaction Document. (c) COMPLIANCE WITH THE TRANSACTION DOCUMENTS. No Borrower shall fail to comply with any provision of any the Transaction Documents to which it is a party or by which it is bound. (d) VALUE OF SECURITY. No Borrower shall take any action which could reasonably be expected to have any Material Adverse Effect. (e) ZONING. No Borrower shall initiate or consent to any zoning reclassification of any Property or seek any variance under any zoning ordinance or use or permit the use of any Property in any manner that could result in the use becoming a nonconforming use under any zoning ordinance or any other applicable land use law, rule or regulation. (f) LIENS. No Borrower shall create, incur, assume or suffer to exist any Lien on any Property or any part of any Property, except the Permitted Liens; (g) SALE. No Borrower shall sell, convey, transfer, assign or otherwise relinquish any Property or any part of any Property without the prior written consent of Fannie Mae (which consent may be granted or withheld in Fannie Mae's discretion), or any interest in any Property, other than (i) as may be permitted by the Mortgage Documents with respect to such Property, or (ii) in accordance with the provisions of section 5.2 or section 5.3, or (iii) to enter into Leases for units in a Property to any tenant in the ordinary course of business. (h) USE OF PROCEEDS. The proceeds from the issuance and sale of the Bonds shall not be used for any purpose other than the refinancing of the Bond Properties. 61 63 (i) INDEBTEDNESS. The Borrowers shall not incur or be obligated at any time with respect to Indebtedness (other than the Mortgage Loans and the Custodial Receipts Mortgage Notes) in excess of $100,000 in the aggregate for all Borrowers. (j) SINGLE-PURPOSE ENTITY. No Borrower shall cease at any time during the term hereof to be a Single-Purpose entity. (k) PRINCIPAL PLACE OF BUSINESS. No Borrower shall change its principal place of business or the location of its books and records, each as set forth in section 2.1(a), without first giving thirty (30) days' prior written notice to Fannie Mae. 4 CERTAIN COVENANTS WITH RESPECT TO FLOATING RATE BOND TRANSACTIONS. With respect to each Floating Rate Bond Transaction, the Borrowers agree and covenant with Fannie Mae that, at all times during the term of this Agreement: (a) PREPAYMENT OF MORTGAGE LOANS IN FLOATING RATE BOND TRANSACTIONS. If a Borrower elects, or is required, to prepay any Related Mortgage Note in whole or in part, subject to and in accordance with the terms and conditions of such Related Mortgage Note, the Borrowers shall be obligated to pay all amounts, if any, due under or in connection with the Related Bonds that will not have been paid as a result of the prepayment of such Related Mortgage Note, including accrued interest on the Related Bonds to the date of redemption (calculated at the Maximum Rate to the extent and for the period that such Related Bonds bear interest at the Variable Rate), and the premium, if any, payable to the applicable Bondholders by reason of such redemption, until such Related Bonds have been redeemed in accordance with the Related Bond Documents, together with and in addition to, any prepayment premium due pursuant to the Related Mortgage Note. Notwithstanding anything to the contrary contained in the Transaction Documents, the Borrowers shall not make a voluntary prepayment of any Mortgage Loan in a Floating Rate Bond Transaction that would result in a redemption of all or any part of any Related Bonds pursuant to the Related Indenture unless (i) the Borrowers have deposited with the Related Trustee on or prior to the date on which such Related Trustee will call the applicable Related Bonds for redemption, all amounts required for such redemption, (ii) the Borrowers have received the prior written consent of Fannie Mae; provided that Fannie Mae shall not withhold its consent if Fannie Mae determines that (A) such prepayment by the Borrowers is permitted by the terms of the Related Mortgage, and (B) in light of such opinions of legal counsel, opinions of certified public accountants that prepare the audited financial statements of the Borrowers and Guarantor and such other similar information and opinions as may be provided by the Borrowers to Fannie Mae, no part of any payments made by the Borrowers prior to or concurrently with the voluntary prepayment will likely result in an avoidance or any other recovery or disgorgement pursuant to the Bankruptcy Code (including sections 544, 547, 549 or 550 thereof) or any other applicable bankruptcy or insolvency law which would result in Fannie Mae having any liability under any Related Fannie Mae Collateral Agreement, or the Borrowers provide cash collateral or makes other arrangements acceptable to 62 64 Fannie Mae in its discretion to ameliorate such risk of avoidance, recovery or disgorgement, and (iii) with respect to the prepayment in part or in full (other than a prepayment in connection with a mandatory application of Insurance Proceeds or Condemnation Proceeds) of the Facility Amount prior to the seventh (7th) anniversary of the Facility, Fannie Mae has received a Prepayment Premium pursuant to the Related Mortgage Note. (b) INTEREST RESERVE REQUIREMENT WITH RESPECT TO FLOATING RATE BOND TRANSACTIONS. The Borrowers shall deposit with the Related Trustee with respect to each Floating Rate Bond Transaction, on or before the date the Related Mortgage Note is executed and delivered, for deposit into the Interest Account with respect to each Floating Rate Bond Transaction, the Interest Reserve Requirement for such Floating Rate Bond Transaction. If the Interest Account with respect to a Floating Rate Bond Transaction is not otherwise replenished to the Interest Reserve Requirement for such Floating Rate Bond Transaction from the receipt of the monthly payments under the Related Mortgage Note pursuant to the Related Indenture, the Borrowers shall promptly deposit with the Related Trustee the amount necessary for amounts on deposit in such Interest Account to equal the Interest Reserve Requirement for such Floating Rate Bond Transaction. (c) PRINCIPAL RESERVE FUND. The Borrowers agree that as a condition to Fannie Mae's executing and delivering the Related Fannie Mae Collateral Agreement, the Borrowers shall fund, and replenish, the applicable Principal Reserve Fund with respect to each Floating Rate Bond Transaction as and when required by the Related Mortgage Note and this Agreement. The Borrowers acknowledge that the Related Mortgage Note for each Initial Bond Property provides that the obligation to fund the applicable Principal Reserve Fund shall commence on July 1, 2006, and that prior to such time, the Borrowers shall not be required to fund the such Principal Reserve Fund; provided, however, that, the commencement date of the Borrowers' obligation to fund the Principal Reserve Fund relating to each New Bond Property entering the Fannie Mae Credit Facility as a Floating Rate Bond Transaction, shall be determined by Fannie Mae in its discretion. The Borrowers agree that they shall replenish each Principal Reserve Fund by delivery to the Related Trustee the amount equal to any loss from the investment of amounts on deposit in such Principal Reserve Fund, as and when such loss is incurred and irrespective of the reason for such loss. The Borrowers acknowledge and agree that amounts on deposit in the Principal Reserve Fund with respect to each Mortgage Loan in a Floating Rate Bond Transaction shall be applied toward the mandatory redemption of the Related Bonds, and the corresponding reduction of amounts owed under the Related Mortgage Note, as and to the extent provided in the Related Indenture. The Borrowers further acknowledge and agree that, as provided in the Related Mortgage Note, the Mortgage Loan with respect to any Floating Rate Bond Transaction shall not be deemed to have been amortized by reason of deposits into the Principal Reserve Fund with respect to such Mortgage Loan until such deposits have been withdrawn from such Principal Reserve Fund and applied to the redemption of the Related Bonds as provided in the Related Indenture. So long as no Event of Default or no Potential Event of Default has occurred and is continuing, investment income derived from amounts on deposit in the Principal Reserve Funds shall be paid to the applicable Borrower by 63 65 the Related Trustees to the extent and in the manner provided in the Related Indenture. At the request of the Borrowers, Fannie Mae shall direct the Related Trustee to apply funds in a particular Principal Reserve Fund to prepay the principal amount of Related Bonds, if each of the following conditions are met: (i) no Event of Default has occurred and is continuing; and (ii) either (x) the Related Bonds are then bearing interest at a Variable Rate, or (y) the Related Securities are then bearing interest at a Reset Rate and the applicable Borrower has the right under the Related Indenture to prepay the Related Bonds. Upon the occurrence and during the continuance of an Event of Default or a Potential Event of Default, Fannie Mae shall have the absolute right, in its discretion, to apply the funds in the Principal Reserve Funds in accordance with section 7.2(d). (d) INTEREST RATE ADJUSTMENTS IN FLOATING RATE BOND TRANSACTIONS. Fannie Mae and each of the Borrowers acknowledges and agrees that the interest rate on any issue of Related Bonds in a Floating Rate Bond Transaction may be adjusted to the Variable Rate or Reset Rate or converted to the Fixed Rate, in each case as provided in, and subject to the terms and conditions of, the Related Indenture and this Agreement. Notwithstanding the foregoing, so long as the Related Fannie Mae Collateral Agreement remains in effect and Fannie Mae has any obligations, direct or contingent, under such Related Fannie Mae Collateral Agreement, no Borrower shall direct or cause the interest rate on any Related Bonds to be converted to the Fixed Rate (from the Variable Rate or the Reset Rate), to the Reset Rate (from the Variable Rate or a prior Reset Rate) or to the Variable Rate (from the a Reset Rate) unless Fannie Mae consents to such conversion. Fannie Mae will consent to such conversion (and deliver written evidence of such consent to the Related Trustee in accordance with the requirements of the Related Indenture), if: (i) in the case of a conversion to the Fixed Rate, (A) no Event of Default or Potential Event of Default has occurred and is continuing, (B) such Borrower complies with the terms and conditions of sections 3.2 and 4.2, (C) the Fixed Rate applicable to such Related Bonds is equal to or less than the Hedge Rate, (D) such Borrower shall have given Fannie Mae not less than sixty (60) days prior written notice of its intent to convert to the Fixed Rate and (E) such Borrower shall have given Fannie Mae not less than fifty (50) days prior final written notice and confirmation of its election to convert to the Fixed Rate; or (ii) in the case of conversion to the Reset Rate, (A) no Event of Default or Potential Event of Default has occurred and is continuing, (B) such Borrower complies with the terms and conditions of sections 3.2 and 4.2, (C) the Reset Rate on such Related Bonds is equal to or less than the Hedge Rate, (D) such Borrower shall have given Fannie Mae not less than sixty (60) days prior written notice of its intent to convert to the Reset 64 66 Rate and (E) such Borrower shall have given Fannie Mae not less than fifty (50) days prior final written notice and confirmation of its election to convert to the Reset Rate; or (iii) in the case of conversion to the Variable Rate, (A) no Event of Default or Potential Event of Default has occurred and is continuing, (B) such Borrower complies with the terms and conditions of sections 3.2 and 4.2, (C) such Borrower shall have given Fannie Mae not less than sixty (60) days prior written notice of its intent to convert to the Variable Rate and (D) such Borrower shall have given Fannie Mae not less than fifty (50) days prior final written notice and confirmation of its election to convert to the Variable Rate. (e) REMOVAL OF REMARKETING AGENT. With respect to each Floating Rate Bond Transaction, the Borrowers agree that (i) after the occurrence of any Event of Default or (ii) if, at any time, Fannie Mae determines that there is a basis in fact for the removal of the then existing Remarketing Agent with respect to such Floating Rate Bond Transaction and the designation of a new Remarketing Agent with respect to such Floating Rate Bond Transaction, if Fannie Mae so directs, the Borrowers immediately shall take such action as is required under the Related Remarketing Agreement to remove the existing Remarketing Agent with respect to such Floating Rate Bond Transaction and replace such Remarketing Agent, without interruption of service, with a Remarketing Agent acceptable to Fannie Mae. The Borrowers acknowledge and agree that any Remarketing Agent's failure to perform any of its duties or obligations under or with respect to the Related Indenture or the Related Remarketing Agreement, including, failure to give or deliver any notice or information required under the Related Indenture or the Related Remarketing Agreement, shall constitute sufficient basis in fact for such Remarketing Agent's removal. (f) CHANGES IN REMARKETING AGENT OR REMARKETING AGREEMENT. The Borrowers agree that no Borrower will change any Remarketing Agent, or appoint or engage any Person as a Remarketing Agent or change the fees payable to any Remarketing Agent, without Fannie Mae's prior written consent. (g) ASSIGNMENT OF RIGHTS TO THE RELATED TRUSTEES. With respect to each Floating Rate Bond Transaction, the Borrowers acknowledge and agree that (i) the Related Trustee is the assignee of the applicable Issuer's right, title and interest in and to the Bond Property Loan Documents with respect to such Floating Rate Bond Transaction and certain rights as and to the extent provided in the Assignment, (ii) Fannie Mae is the assignee of the Mortgage Rights with respect to each Floating Rate Bond Transaction as and to the extent provided in the Related Fannie Mae Collateral Agreement, and (iii) by virtue of such Related Fannie Mae Collateral Agreement referred to in clause (ii) above, Fannie Mae shall, as and to the extent provided in such Related Fannie Mae Collateral Agreement, be entitled to exercise certain rights and receive certain benefits which would otherwise be available to the Related Trustee under the Bond Property Loan Documents with respect to such Floating Rate Bond Transaction. The Borrowers further acknowledge and agree that Fannie Mae has delegated or may delegate certain 65 67 matters and functions related to or arising under the Bond Property Loan Documents with respect to each Floating Rate Bond Transaction to Servicer, as an independent contractor, pursuant to the Servicing Agreement. 5 CERTAIN COVENANTS WITH RESPECT TO FIXED RATE BOND TRANSACTIONS. With respect to each Fixed Rate Bond Transaction, the Borrowers agree and covenant with Fannie Mae that, at all times during the term of this Agreement: (a) DEBT SERVICE FUND REQUIREMENT WITH RESPECT TO FIXED RATE BOND TRANSACTIONS. The Borrowers shall deposit with the Related Trustee with respect to each Fixed Rate Bond Transaction, on or before the date the Related Mortgage Note is executed and delivered, for deposit into the initial debt service fund (or other similar fund required to be established in connection with such Fixed Rate Bond Transaction) with respect to each Fixed Rate Bond Transaction, the initial funding requirement required by the Rating Agency for such Fixed Rate Bond Transaction, which requirement shall not be less than one (1) month's payment of interest and principal, if any, on the Related Mortgage Note. (b) ASSIGNMENT OF MORTGAGE LOANS TO FANNIE MAE. With respect to each Fixed Rate Bond Transaction, the Borrowers acknowledge and agree that Fannie Mae is the assignee of the all of the Issuer's right, title and interest in and to the Bond Property Loan Documents with respect to such Fixed Rate Bond Transaction and as such, Fannie Mae shall be entitled to exercise all rights and receive all benefits available to the owner and holder of the Bond Property Loan Documents with respect to such Fixed Rate Bond Transaction. The Borrowers further acknowledge and agree that Fannie Mae has delegated or may delegate certain matters and functions related to or arising under the Bond Property Loan Documents with respect to each Fixed Rate Bond Transaction to Servicer, as an independent contractor, pursuant to the Servicing Agreement. 6 CERTAIN COVENANTS WITH RESPECT TO CUSTODIAL RECEIPTS TRANSACTIONS. With respect to each Custodial Receipts Transaction, the Borrowers agree and covenant with Fannie Mae that, at all times during the term of this Agreement: (a) LIMITATIONS ON CREDIT ENHANCEMENT OF THE CUSTODIAL RECEIPTS TRANSACTIONS. The Borrowers shall use best efforts to commence, and diligently pursue to completion, the implementation of the Permanent Chase Lea Refunding Transaction and the Permanent Chase Ridge Refunding Transaction not later than the Initial Chase Ridge/Chase Lea Conversion Date. Notwithstanding anything to the contrary in this Agreement or any other Transaction Document: (i) on or before the Initial Chase Ridge/Chase Lea Conversion Date the Borrowers shall, with respect to each Custodial Receipts Property, cause the 66 68 implementation of either the Permanent Refunding Transaction or the Interim Custodial Receipts Transaction; and (ii) if the Borrowers shall have caused the implementation of the Interim Custodial Receipts Transaction with respect to either the Chase Ridge Bond Property or the Chase Lea Bond Property, then the Borrowers shall use best efforts to commence, and diligently pursue to completion, the implementation of the Permanent Refunding Transaction with respect to such Custodial Receipts Property not later than the Final Chase Ridge/Chase Lea Conversion Date. (b) CHASE LEA/CHASE RIDGE TERMINATION FEE. (i) Subject to the limitations set forth in section 2.6(c) and 2.6(d) below, the Borrowers shall pay Fannie Mae the Chase Ridge Termination Fee and the Chase Lea Termination Fee on the Initial Chase Ridge/Chase Lea Conversion Date unless, with respect to each such Custodial Receipts Property: (A) the Permanent Refunding Transaction with respect to such Custodial Receipts Property, has been completed in accordance with the requirements of sections 5.5(a), 5.5(b), 5.5(e) and 5.5(d); or (B) the Interim Replacement Custodial Receipts Transaction with respect to such Custodial Receipts Property, has been completed in accordance with the requirements of sections 5.5(a), 5.5(c), 5.5(d) and 5.5(e); (ii) Subject to the limitations set forth in section 2.6(c) and 2.6(d) below, the Borrowers shall be required to pay Fannie Mae the Chase Ridge Termination Fee and the Chase Lea Termination Fee on the Final Chase Ridge/Chase Lea Conversion Date unless, with respect to each such Custodial Receipts Property: (A) such Termination Fee was previously paid by the Borrowers pursuant to subsection 2.6(b)(i) above; or (B) the Permanent Refunding Transaction with respect to such Custodial Receipts Property, has been completed in accordance with the requirements of sections 5.5(a), 5.5(b), 5.5(d) and 5.5(e). (iii) In addition, notwithstanding the foregoing, but subject to the limitations set forth in section 2.6(c) and 2.6(d) below, the Borrowers shall pay to Fannie Mae the Chase Ridge Termination Fee and/or the Chase Lea Termination Fee as of any date that the Borrowers cause either such Custodial Receipts Property to be released from the 67 69 Fannie Mae Credit Facility in accordance with section 5.3. or otherwise cause redemption of the Related Custodial Receipts or the termination of the Related Custodial Receipts Collateral Agreement with respect to either such Custodial Receipts Property; provided, however, that no such Termination Fee shall be payable in connection with a redemption of Related Custodial Receipts that occurs in connection with an extension of the Initial Chase Ridge/Chase Lea Conversion Date in accordance with the terms of the definition of Initial Chase Ridge/Chase Lea Conversion Date. (iv) Each Termination Fee due and owing under this section 2.6(c) shall be payable by the Borrower to Servicer for remittance to Fannie Mae within ten (10) Business Days of Borrowers' receipt of written notice that such Termination Fee has become due and payable. (c) CERTAIN WAIVERS OF CHASE LEA/CHASE RIDGE TERMINATION FEE. Notwithstanding anything to the contrary contained herein: (i) The Borrowers shall not be required to pay the Chase Ridge Termination Fee on the Initial Chase Ridge/Chase Lea Conversion Date if Fannie Mae determines in its reasonable discretion that the Borrowers have satisfied their obligations under subsection 5.5(c)(ii) and either: (A) Fannie Mae is not permitted, under then Applicable Law, to enter into the Interim Replacement Chase Ridge Credit Enhancement; or (B) the Interim Replacement Custodial Receipts Transaction fails to occur because (w) a Person other than any of the Borrowers requires material modification of any of the terms, conditions or documentation specified for the Interim Replacement Chase Ridge Credit Enhancement in section 5.5, (x) as a result of such material modification, Fannie Mae determines that the conditions to its obligation to provide such Interim Replacement Chase Ridge Credit Enhancement have not been satisfied in accordance with subsection 5.5, (y) the Borrowers make a written request to Fannie Mae requesting that, notwithstanding such material modification, Fannie Mae proceed with the Interim Replacement Chase Ridge Credit Enhancement, and (z) notwithstanding such request, Fannie Mae determines not to provide the Interim Replacement Chase Ridge Credit Enhancement. (iii) The Borrowers shall not be required to pay the Chase Lea Termination Fee on the Initial Chase Ridge/Chase Lea Conversion date if Fannie Mae determines in its reasonable discretion that the Borrowers have satisfied their obligations under subsection 5.5(c)(ii) and either: 68 70 (A) Fannie Mae is not permitted, under then Applicable Law, to enter into the Interim Replacement Chase Lea Credit Enhancement; or (B) such Interim Replacement Custodial Receipts Transaction fails to occur because (w) a Person other than any of the Borrowers requires material modification of any of the terms, conditions or documentation specified for the Interim Replacement Chase Lea Credit Enhancement in section 5.5, (x) as a result of such material modification, Fannie Mae determines that the conditions to its obligation to provide such Interim Replacement Chase Lea Credit Enhancement have not been satisfied in accordance with subsection 5.5, (y) the Borrowers make a written request to Fannie Mae requesting that, notwithstanding such material modification, Fannie Mae proceed with the Interim Replacement Chase Lea Credit Enhancement, and (z) notwithstanding such request, Fannie Mae determines not to provide the Interim Replacement Chase Lea Credit Enhancement. (iv) In addition, the Borrowers shall not be required to pay the Chase Ridge Termination Fee if Fannie Mae determines in its reasonable discretion that the Borrowers have satisfied their obligations under subsection 5.5(c)(ii) and either: (A) Fannie Mae is not permitted, under then Applicable Law, to enter into the Permanent Chase Ridge Credit Enhancement; or (B) the Permanent Chase Ridge Refunding Transaction fails to occur because (w) a Person other than any of the Borrowers requires material modification of any of the terms, conditions or documentation specified for the Permanent Chase Ridge Credit Enhancement in section 5.5, (x) as a result of such material modification, Fannie Mae determines that the conditions to its obligation to provide such Permanent Chase Ridge Credit Enhancement have not been satisfied in accordance with subsection 5.5, (y) the Borrowers make a written request to Fannie Mae requesting that, notwithstanding such material modification, Fannie Mae proceed with the Permanent Chase Ridge Credit Enhancement, and (z) notwithstanding such request, Fannie Mae determines not to provide the Permanent Chase Ridge Credit Enhancement. (v) In addition, the Borrowers shall not be required to pay the Chase Lea Termination Fee if Fannie Mae determines in its reasonable discretion that the Borrowers have satisfied their obligations under subsection 5.5(c)(ii) and either: 69 71 (A) Fannie Mae is not permitted, under then Applicable Law, to enter into the Permanent Chase Lea Credit Enhancement; or (B) the Permanent Chase Lea Refunding Transaction fails to occur because (w) a Person other than any of the Borrowers requires material modification of any of the terms, conditions or documentation specified for the Permanent Chase Lea Refunding Transaction in section 5.5, (x) as a result of such material modification, Fannie Mae determines that the conditions to its obligation to provide such Permanent Chase Lea Credit Enhancement have not been satisfied in accordance with subsection 5.5, (y) the Borrowers make a written request to Fannie Mae requesting that, notwithstanding such material modification, Fannie Mae proceed with the Permanent Chase Ridge Credit Enhancement, and (z) notwithstanding such request, Fannie Mae determines not to provide the Permanent Chase Ridge Credit Enhancement. (d) CERTAIN REDUCTIONS IN CHASE LEA/CHASE RIDGE TERMINATION FEE. Notwithstanding anything to the contrary contained herein, if (i) an Interim Replacement Custodial Receipts Transactions fails to occur on or before the Initial Chase Ridge/Lea Chase Termination Date because a Person other than any of the Borrowers requires material modification of any of the terms, conditions or documentation specified for the Interim Replacement Custodial Receipts Transactions in section 5.5(d), (ii) such material modification is deemed unacceptable by the Borrowers and (iii) the Borrowers provide Fannie Mae with written notice specifying such unacceptable material modification (a "FAILED CUSTODIAL RECEIPTS REPLACEMENT"), then the Termination Fee otherwise payable with respect to such Failed Custodial Receipts Replacement shall be reduced and be payable as follows: (A) if such Failed Custodial Receipts Replacement relates to the Chase Ridge Bond Property, then the Chase Ridge Termination Fee shall be reduced to $491,200.00 which amount shall be payable, at the Borrowers' option, either immediately in a single lump-sum payment or in sixteen (16) equal quarterly installments of $30,700.00, which installments shall be payable by the Borrowers commencing as of the first day of the fiscal quarter immediately following such Failed Custodial Receipts Replacement and on the first day of each subsequent fiscal quarter until paid in full; and (B) if such Failed Custodial Receipts Replacement relates to the Chase Lea Bond Property, then the Chase Ridge Termination Fee shall be reduced to $308,800.00 which amount shall be payable in sixteen (16) equal quarterly installments of $19,300.00, which installments shall be payable by the Borrowers commencing as of the first day of the fiscal quarter 70 72 immediately following such Failed Custodial Receipts Replacement and on the first day of each subsequent fiscal quarter until paid in full. (e) ASSIGNMENT CERTAIN RIGHTS AND INTERESTS TO FANNIE MAE. With respect to each Custodial Receipts Transaction, the Borrowers acknowledge and agree that, pursuant to the terms of the Related Custodial Receipts Collateral Agreements, Fannie Mae is (or has the right to become) the assignee of all of Morgan's right, title and interest in and to the Related Custodial Receipts Documents (other than the Custodial Receipts Guaranty) with respect to such Custodial Receipts Transaction and as such, Fannie Mae shall be entitled to exercise all rights and receive all benefits available to the owner and holder of such Custodial Receipts Loan Documents. The Borrowers further acknowledge and agree that: (i) Collateral Inc. has pledged, assigned and granted Fannie Mae a security interest in all of its residual interests in the Custodial Receipts Bond Issues and certain other collateral pursuant to the Custodial Receipts Bond Pledge Agreement; (ii) Subject to its obligations under the Custodial Receipts Agreement, Guarantor has pledged, assigned and granted Fannie Mae a security interest in all of its right, title and interest in the Custodial Receipts Bond Issues and certain other collateral pursuant to the Custodial Receipts Bond Pledge Agreement, as additional security for the Obligations, and that by virtue of such Custodial Receipts Bond Pledge Agreement, Fannie Mae shall, as and to the extent provided in such Custodial Receipts Bond Pledge Agreements, be entitled to exercise certain rights and receive certain benefits, more particularly set forth therein; (iii) in accordance with and subject to the terms of the Assumption and Direction Agreement, (A) Fannie Mae's consent shall be required prior to any Borrower or Guarantor giving any directions to Crestar Bank with respect to the Custodial Receipts Bond Issues, (B) upon an Event of Default, Fannie Mae shall have the sole right to direct Crestar Bank and (C) the Borrowers and Guarantor shall cooperate in all respects with Fannie Mae in the giving of such notice and direction; and (iv) Fannie Mae has delegated or may delegate certain matters and functions related to or arising under the Custodial Receipts Documents to Servicer, as an independent contractor, pursuant to the Servicing Agreement. 7 CERTAIN COVENANTS WITH RESPECT TO SALEM STATION PROJECT. The Borrowers agree and covenant with Fannie Mae that, at all times during the term of this Agreement: (a) COMPLIANCE WITH SALEM STATION RESTRICTIVE COVENANTS AGREEMENT. 71 73 The Borrowers shall comply in all material respects with all provisions of the Salem Station Restrictive Covenants Agreement, including, all applicable reporting requirements, and all rental limitations and restrictions. (b) TERMINATION OF SALEM STATION RESTRICTIVE COVENANTS AGREEMENT. Notwithstanding anything herein to the contrary, on or before April 1, 2002, the Borrowers shall use commercially reasonable efforts to cause the Salem Station Restrictive Covenants Agreement to be fully satisfied and discharged of record by obtaining appropriate release documentation from each party-in-interest to the Salem Station Restrictive Covenants Agreement and causing such release documentation to be recorded in the land records of Spotsylvania County, Virginia. Satisfaction of the requirements of this section 2.7(b) shall be evidenced by the Borrowers' delivery to Fannie Mae of an endorsement to Fannie Mae's title insurance policy with respect to the Salem Station Project, in form and substance acceptable to Fannie Mae, confirming that the Salem Station Restrictive Covenants Agreement is no longer an exception to the title insurance provided thereunder or evidence satisfactory to Fannie Mae that the Borrowers have used commercially reasonable efforts to cause the satisfaction and release of such Salem Station Restrictive Covenants Agreement. 8 CERTAIN COVENANTS WITH RESPECT TO AVALON POINTE PROJECT. The Borrowers agree and covenant with Fannie Mae that, at all times during the term of this Agreement: (a) COMPLIANCE WITH AVALON POINTE RESTRICTIVE COVENANTS AGREEMENT. The Borrowers shall comply in all material respects with all provisions of the Avalon Pointe Restrictive Covenants Agreement, including, all applicable reporting requirements, and all rental limitations and restrictions. (b) TERMINATION OF AVALON POINTE RESTRICTIVE COVENANTS AGREEMENT. Notwithstanding anything herein to the contrary, the Borrowers shall use commercially reasonable efforts to cause the Avalon Pointe Restrictive Covenants Agreement to be fully satisfied and discharged of record as soon as reasonably possible by obtaining appropriate release documentation from each party-in-interest to the Avalon Pointe Restrictive Covenants Agreement and causing such release documentation to be recorded in the land records of Stafford County, Virginia. Satisfaction of the requirements of this section 2.8(b) shall be evidenced by the Borrowers' delivery to Fannie Mae of an endorsement to Fannie Mae's title insurance policy with respect to the Avalon Pointe Project, in form and substance acceptable to Fannie Mae, confirming that the Avalon Pointe Restrictive Covenants Agreement is no longer an exception to the title insurance provided thereunder or evidence satisfactory to Fannie Mae that the Borrowers have used commercially reasonable efforts to cause the satisfaction and release of such Avalon Pointe Restrictive Covenants Agreement. 72 74 III. FINANCIAL COVENANTS; INTEREST RATE PROTECTION; CASH MANAGEMENT SYSTEM 1 BORROWERS' FINANCIAL COVENANTS. (a) FINANCIAL COVENANTS WITH RESPECT TO UNHEDGED BONDS. With respect to each issue of Unhedged Bonds, the Borrowers shall not be required to comply with the interest rate protection provisions set forth in section 3.2 of this Agreement if Fannie Mae determines, in its discretion, that as of each Determination Date all of the following conditions are satisfied (the "HEDGE TESTS"): (i) no Event of Default or Potential Event of Default exists as of such Determination Date; (ii) the Aggregate Loan to Value Ratio as of such Determination Date shall be equal to or less than the Maximum LTV Percentage; (iii) the Aggregate Debt Service Coverage Ratio on a combined basis for the twelve (12) month period ending within sixty (60) days of the date this test is applied shall equal or exceed the Minimum DSC Ratio. The Borrowers shall deliver to Servicer all information necessary to calculate the Hedge Tests at least sixty (60) days prior to each Determination Date. If Fannie Mae determines that any of the Hedge Tests set forth in clauses (i) through (iii) above are not satisfied as of any Determination Date (a "HEDGE TEST FAILURE"), the Borrowers shall be required, within ten (10) Business Days of Borrowers' receipt of notice (a "HEDGE TEST NOTICE") from Fannie Mae or Servicer specifying the Hedge Test Failure, to obtain a Hedge satisfying all of the requirements of section 3.2 of this Agreement for each of the Mortgage Loans with respect to Unhedged Bonds; provided, however, that if such Hedge Test Failure consists of a failure to satisfy either the loan to value test set forth in clause (ii) above and/or the debt service coverage test set forth in clause (iii) above, the Borrowers may cure such Hedge Test Failure by providing Fannie Mae with Shortfall Cash Collateral in an amount at least equal to the amount by which the Bonds would have to be theoretically reduced in order for the Borrowers to satisfy such Hedge Tests. Such Shortfall Cash Collateral shall be released by Fannie Mae if and to the extent that Fannie Mae determines on any subsequent annual Determination Date that the Hedge Tests are satisfied without including such Shortfall Cash Collateral. If Fannie Mae or the Servicer is not able to or does not perform the Hedge Tests on any Determination Date because the Borrowers have failed to provide the necessary information at least sixty (60) days prior to such Determination Date, then a Hedge Test Failure shall be deemed to have occurred and the Borrowers shall be required, within ten (10) Business Days of their receipt of a Hedge Test Notice from Fannie Mae or 73 75 Servicer, to obtain a Hedge satisfying all of the requirements of section 3.2 of this Agreement for each of the Mortgage Loans with respect to Unhedged Bonds. (b) FINANCIAL COVENANTS WITH RESPECT TO CASH MANAGEMENT SYSTEM. Prior to the occurrence of a Cash Management Triggering Event or a Lock-Box Triggering Event, the Borrowers may collect the Gross Cash Flow from all of the Properties directly from tenants and other Persons obligated to pay such Gross Cash Flow. A "CASH MANAGEMENT TRIGGERING EVENT" shall have occurred if, as of any Determination Date, the Aggregate Debt Service Coverage Ratio (as determined by Fannie Mae on a combined basis for the twelve (12) month period ending within sixty (60) days of the date this test is applied), including any Shortfall Cash Collateral or Alternative DSC Shortfall Collateral previously pledged by the Borrowers in accordance with section 3.1(c), falls below 1.45:1 (the "CASH MANAGEMENT TEST"). A "LOCK-BOX TRIGGERING EVENT" shall have occurred if, as of any Determination Date, the Aggregate Debt Service Coverage Ratio (as determined by Fannie Mae on a combined basis for the twelve (12) month period ending within sixty (60) days of the date this test is applied), including any Shortfall Cash Collateral or Alternative DSC Shortfall Collateral previously pledged by the Borrowers in accordance with section 3.1(c), falls below 1.25:1 (the "LOCK-BOX TEST"). Upon the occurrence of: (i) a Cash Management Triggering Event, and at all times thereafter but subject to section 3.1(c) below, the Borrowers shall cause the Gross Cash Flow from all of the Properties to be deposited into the Cash Management Account in accordance with the terms of the Cash Management Agreement, which shall be entered into between the Borrowers and Fannie Mae within ten (10) Business Days of Borrowers' receipt of notice (a "CASH MANAGEMENT NOTICE") from Fannie Mae or Servicer specifying that a Cash Management Triggering Event has occurred. The Borrowers acknowledge and agree that the Cash Management Agreement imposes certain requirements and restrictions upon Borrowers' rights, duties and obligations with respect to the Gross Cash Flow of the Properties, including provisions requiring: (A) the Cash Management Account to be established by the Borrowers in Fannie Mae's name and under Fannie Mae's sole dominion and control; (B) the Borrowers to grant Fannie Mae a perfected, first priority security interest in and to the Cash Management Account and all of the Cash Management System Collateral as security for Borrowers' payment and performance of the Obligations; (C) that so long as no Event of Default has occurred, Fannie Mae shall cause the Gross Cash Flow to be withdrawn from the Cash Management Account on a daily basis and transferred to an account established and controlled by Borrowers; and (D) that upon the occurrence of an Event of Default, Fannie Mae shall have the right to cancel all future transfers from the Cash Management Account and to apply all funds deposited into the Cash Management Account in payment of the outstanding Obligations of Borrowers; and (ii) a Lock-Box Triggering Event and at all times thereafter, the Borrowers shall cause all tenants of all of the Properties to make rent payments directly to the financial 74 76 institution or institutions at which the Cash Management Account is located and otherwise cause the Gross Cash Flow from all of the Properties to be deposited directly into the Cash Management Account in accordance with the terms of the Cash Management Agreement, which shall be entered into between the Borrowers and Fannie Mae within five (5) Business Days of Borrowers' receipt of notice (a "LOCK-BOX NOTICE") from Fannie Mae or Servicer specifying that a Lock-Box Triggering Event has occurred. Upon and at all times following a Lock-Box Triggering Event, distributions from the Cash Management Account shall be made only after the payment of debt service and such other amounts as specified in the Cash Management Agreement. The Borrowers shall deliver to Servicer all information necessary to calculate the Cash Management Test and the Lock-Box Test at least sixty (60) days prior to each Determination Date. If Fannie Mae or the Servicer is not able to or does not perform the Cash Management Test or the Lock-Box Test on any Determination Date because the Borrowers have failed to provide the necessary information at least sixty (60) days prior to such Determination Date, then a Lock-Box Triggering Event shall be deemed to have occurred and the Borrowers shall be required to cause all tenants of all of the Properties to make rent payments directly to the financial institution or institutions at which the Cash Management Account is located and otherwise cause the Gross Cash Flow from all of the Properties to be deposited directly into the Cash Management Account in accordance with the terms of the Cash Management Agreement, which shall be entered into between the Borrowers and Fannie Mae within five (5) Business Days of Borrowers' receipt of a Lock-Box Notice from Fannie Mae or Servicer. In addition, within thirty (30) days following the occurrence of a Cash Management Triggering Event or a Lock-Box Triggering Event and in either case, execution and delivery of the Cash Management Agreement, the Borrowers shall deliver or cause to be delivered to Fannie Mae, one or more opinions, in form and substance and delivered by counsel satisfactory to Fannie Mae in its discretion, confirming that upon (A) creation of the Cash Management Account, (B) delivery and acknowledgement of the "RESTRICTED ACCOUNT LETTER" (as defined in the Cash Management Agreement) by the depository with respect to such Cash Management Account, and (C) filing of the financing statements in accordance with the requirements of the Cash Management Agreement, Fannie Mae shall have a valid and perfected security interest in the Cash Management Account under the laws of the state in which such Cash Management Account is located. (c) BORROWERS' RIGHT TO POST ADDITIONAL COLLATERAL. Upon their receipt of a Cash Management Notice, the Borrowers shall be entitled to post additional collateral in the form of either (i) Shortfall Cash Collateral in an amount at least equal to the difference between (x) the Net Operating Income of all Properties as determined by Fannie Mae on the Determination Date and (y) the actual amount of Net Operating Income required to satisfy the Cash Management Test (such difference, the "CASH MANAGEMENT TEST SHORTFALL") or (ii) an Additional Mortgaged Property ("ALTERNATIVE DSC SHORTFALL COLLATERAL") pledged as collateral for the Fannie Mae Credit Facility in accordance with section 5.4, provided, that such Alternative DSC Shortfall Collateral is acceptable to Fannie Mae in its discretion and has annual Net Operating Income, as 75 77 determined by Fannie Mae in its discretion, that is at least equal to the Cash Management Test Shortfall. Such Shortfall Cash Collateral or Alternative DSC Shortfall Collateral shall be released by Fannie Mae if and to the extent that Fannie Mae determines on any subsequent annual Determination Date that the Cash Management Test is satisfied without including such Shortfall Cash Collateral or Alternative DSC Shortfall Collateral. (d) CASH MANAGEMENT SYSTEM TAKE-OUT. The Borrowers and Fannie Mae acknowledge and agree that following the occurrence of (i) a Lock-Box Triggering Event or a Cash Management Triggering Event and (ii) implementation of the cash management system as contemplated under the Cash Management Agreement, Fannie Mae will agree to discontinue such cash management system and terminate the Cash Management Agreement if Fannie Mae determines in its discretion that as of any subsequent Determination Date (A) no Event of Default or Potential Event of Default has occurred and is continuing and (B) the Aggregate Debt Service Coverage Ratio (as determined by Fannie Mae on a combined basis for the thirty-six (36) month period ending within sixty (60) days of the date this test is applied), including any Shortfall Cash Collateral or Alternative DSC Shortfall Collateral previously pledged by the Borrowers in accordance with section 3.1(c), was equal to or in excess of 1.45:1. (e) COSTS AND EXPENSES OF FINANCIAL TESTS. In each instance, the Borrowers shall pay all of Fannie Mae's and Servicer's costs and expenses (including reasonable legal fees and expenses, but excluding the internal overhead expenses of Fannie Mae and Servicer, such as salaries and other compensation of employees) incurred by Fannie Mae or Servicer in determining whether the Hedge Test, the Cash Management Test or the Lock-Box Test have been satisfied. 2 INTEREST RATE PROTECTION. Subject to the limitations in section 3.1(a) applicable to the Unhedged Bonds, the terms, conditions and provisions of this section 3.2 shall apply to each issue of Related Bonds in a Floating Rate Bond Transaction. (a) INTEREST RATE MODES. To protect against fluctuations in interest rates no Related Bonds shall initially bear interest at or be converted to: (i) the Fixed Rate unless the Fixed Rate applicable to such Related Bonds is equal to or less than the Hedge Rate; (ii) the Reset Rate unless (A) the Reset Rate applicable to such Related Bonds is equal to or less than the Hedge Rate, and (B) the Reset Period with respect to such Related Bonds is equal to or in excess of the Required Hedge Term, or such Reset Period is less than the Required Hedge Term and the Borrowers shall obtain and maintain at all times during such Reset Period a "forward" Swap or Cap in accordance with section 3.2(c); or (iii) the Variable Rate unless the Borrowers shall obtain, and maintain at all times during which the Related Bonds bear interest at such Variable Rate, a Hedge in accordance with this section 3.2. 76 78 (b) VARIABLE RATE HEDGE REQUIREMENTS. If an issue of Related Bonds is issued bearing interest at the Variable Rate, a Hedge must be in place on the Bond Transaction Closing Date with respect to such issue for a period of time equal to or in excess of the Required Hedge Term. Effective not later than the last day of any Hedge Period, or the last day of any other period that the Variable Rate and a Hedge are in effect, or the last day of any Reset Period where the Related Bonds will subsequently bear interest at the Variable Rate, the Borrowers shall either (i) secure a new Hedge for a period of time equal to or in excess of the Required Hedge Term, (ii) adjust the Related Bonds to a Reset Rate equal to or less than the Hedge Rate for a period equal to or greater than the Subsequent Hedge Period, or (iii) convert the Related Bonds to a Fixed Rate equal to or less than the Hedge Rate. Any adjustment or conversion under the preceding clauses (ii) or (iii) shall be in accordance with the Related Bond Documents and the related Bond Property Loan Documents. (c) RESET RATE HEDGE REQUIREMENTS. Notwithstanding anything herein to the contrary, any Reset Period may be for a period less than the Required Hedge Term if, prior to the commencement of such Reset Period, the Borrowers shall obtain a "forward" Swap or Cap that: (i) has an initial "calculation period" that begins on the date that such Reset Period ends, and that ends on the date that is the last day of the Required Hedge Term; (ii) if a "forward" Cap, has been fully paid for by Borrowers, and if a "forward" Swap, is not subject to any unpaid fees or expenses; and (ii) otherwise complies with the requirements of this section 3.2. (d) GENERAL HEDGE TERMS AND CONDITIONS. Each Hedge shall be (i) obtained on terms and conditions approved by Fannie Mae in its discretion, (ii) evidenced and governed by Hedge Documents in form and substance acceptable to Fannie Mae in its discretion and (iii) with a counterparty acceptable to Fannie Mae in its discretion (a "COUNTERPARTY"). Except as provided in section 3.2(e), if any Hedge required under this Agreement constitutes a Swap, such Swap shall provide for a fixed rate of interest equal to or less than the Hedge Rate, and if any Hedge required under this Agreement constitutes a Cap, such Cap shall require the Counterparty with respect thereto to make interest payments equal to the amount by which the notional interest rate payable under the terms of the Hedge Documents with respect to such Cap exceeds the Hedge Rate. (e) SPECIAL HEDGE TERMS AND CONDITIONS. If the Borrowers are unable to obtain a Hedge with a fixed rate of interest (with respect to a Swap) or a notional interest rate (with respect to a Cap) that is equal to or less than the Hedge Rate, the Borrowers may obtain a Hedge (a "SHORTFALL HEDGE") at an interest rate in excess of the Hedge Rate if the Borrowers provide Fannie Mae with Shortfall Cash Collateral in an amount at least equal to the aggregate amount of all interest that would accrue on the initial notional principal amount of such Shortfall Hedge at an assumed interest rate equal to the difference between the interest rate with respect to such Shortfall Hedge and the Hedge Rate for the full term of such Shortfall Hedge. Such Shortfall Cash Collateral shall be released by Fannie Mae upon the expiration of the Hedge Period with respect to the Shortfall Hedge, provided, however, that if the Related Bonds will bear interest at the Variable Rate or in a Reset Period of less than the Required Hedge Term, 77 79 prior to any release of such Shortfall Cash Collateral, the Borrowers shall have obtained a new Hedge with respect to such Related Bonds satisfying the requirements of this section 3.2. (f) HEDGE PAYMENT TERMS. Under each Swap arrangement, the Counterparty shall pay a rate based on the PSA Municipal Swap Index (as defined below) and the Borrowers shall pay a fixed rate to the Counterparty, in each case based on the notional amount of the Swap. If the PSA Municipal Swap Index is not published on any reset date under the Swap, the Counterparty must determine an appropriate index as a substitute for the PSA Municipal Swap Index on each such reset date. The index so determined shall equal the prevailing rate determined by the Counterparty for bonds that are rated in the highest short-term rating category by the Rating Agencies in respect of issuers of not less than five (5) "high grade" component issuers selected by the Counterparty which shall include, without limitation, issuers of general obligation bonds, and that are subject to tender by holders thereof for purchase on not more than seven (7) days notice and the interest on which is (i) variable, determined on a weekly basis, (ii) excludable from gross income for federal income tax purposes, and (iii) not subject to a "minimum tax" or similar tax. The PSA Municipal Swap index rate is the rate determined on the basis of an index based upon the weekly interest rate resets of tax-exempt variable rate issues included in a database maintained by Municipal Market Data which meet specific criteria established by the Public Securities Association. (g) SECURITY INTEREST IN HEDGE PAYMENTS. Fannie Mae shall be granted an enforceable, perfected, first priority lien on and security interest in each Hedge, payments due under the Hedge (including scheduled and termination payments) and each Custodial Account (as defined below) in order to secure Borrowers' obligations to Fannie Mae under this Agreement pursuant to a Hedge Security Agreement to be delivered by the Borrowers to Fannie Mae no later than the commencement date of each Hedge Period with respect to each Hedge required to be obtained under the terms of this Agreement. Pursuant to the terms of the Hedge Security Agreement with respect to each Hedge, the Counterparty with respect to such Hedge shall make all payments under such Hedge (including any Termination Payments due from such Counterparty upon termination of such Hedge) directly to a custodial account (the "CUSTODIAL ACCOUNT") designated by Fannie Mae pursuant to such Hedge Security Agreement. As provided in the applicable Hedge Security Agreement, each Custodial Account with respect to a Swap shall be established in Fannie Mae's name and each Custodial Account with respect to a Cap shall be established in the name of the Related Trustee. (h) CHANGE IN HEDGE. The Borrowers may change the type of Hedge (i.e., from a Swap to a Cap or from a Cap to a Swap) which is in place at any time with respect to the applicable Related Bonds so long as the replacement Hedge and the new Counterparty complies with the terms of this Agreement, including any consent or approval rights. (i) TERMINATION. The Borrowers shall not terminate any existing Hedge unless (i) either (x) the Borrowers shall have obtained Fannie Mae's prior written consent to such termination, or (y) no Event of Default or Potential Event of Default then exists and after such 78 80 termination the Borrowers will be in compliance with the requirements under this Agreement relating to Hedges, and (ii) the Borrowers shall have paid all "breakage" and termination fees (collectively, "TERMINATION PAYMENTS") due under the applicable Hedge Documents. (j) PERFORMANCE UNDER HEDGE DOCUMENTS. The Borrowers agree to comply fully with, and to pay and otherwise perform when due, its obligations under all applicable Hedge Documents and all other agreements evidencing, governing and/or securing any Hedge arrangement contemplated under this section 3.2; provided, however, that the Borrowers shall not exercise without Fannie Mae's prior written consent, and shall exercise at Fannie Mae's direction, any rights or remedies under any Hedge Documents, including, if any event of default then exists under the applicable Hedge Documents, the right of termination. Notwithstanding anything herein to the contrary, Fannie Mae shall not have any liability, responsibility, obligation or accountability for the performance, payment or remittance of any of Borrowers' obligations or a Counterparty's obligations under any Hedge or Hedge Document. (k) FANNIE MAE RIGHT TO CONVERT TO RESET RATE, FIXED RATE. The Borrowers shall with respect to each issue of Related Bonds, at least seventy (70) days prior to the expiration date of each Hedge Period, give notice, and provide evidence satisfactory, to Fannie Mae that the Borrowers will either (i) secure a new Hedge with respect to such Related Bonds, or (ii) adjust such Related Bonds to a Reset Rate for a period not shorter than five (5) years, or (iii) convert such Related Bonds to the Fixed Rate, in each case in accordance with this section 3.2. If Fannie Mae determines in its discretion upon receipt of Borrowers' notice required pursuant to the preceding sentence that additional evidence substantiating Borrowers' election is necessary, Fannie Mae shall request such additional evidence within ten (10) Business Days of its receipt of Borrowers' notice and the Borrowers shall provide such additional evidence within five (5) Business Days of its receipt of such request. If the Borrowers fail to timely provide the foregoing notice and/or satisfactory evidence, Fannie Mae is hereby granted the right to direct on behalf of the Borrowers (and the Borrowers hereby appoint Fannie Mae as Borrowers' attorney-in-fact, with full authority in the place and stead of the Borrowers, to make such direction, which power-of-attorney shall be irrevocable and deemed coupled with an interest) that the interest rate on such Related Bonds be (x) adjusted to a Reset Rate pursuant to the Related Indenture, (y) converted to a Fixed Rate pursuant to the Related Indenture, or (z) adjusted to, or remain at, the Weekly Variable Rate pursuant to the Related Indenture, without a Hedge being in place (without waiving any right to declare an Event of Default under this Agreement because of Borrowers' failure to comply with the requirements of this section 3.2). Fannie Mae shall have the right at any time to revoke any prior direction it may give in connection with any proposed adjustment or conversion of the interest rate on any issue of Related Bonds as contemplated above in this section 3.2 without waiving any of its rights under this Agreement. A copy of any such direction or revocation of a direction shall be given to the Borrowers promptly after it is issued. Fannie Mae shall have the further right, in its discretion, to take no action upon Borrowers' failure to provide timely notice and/or evidence as required by this section 3.2 or otherwise to comply with this section 3.2, without waiving any of its rights under this Agreement. 79 81 IV. FANNIE MAE REIMBURSEMENT; FEES; INDEMNIFICATION 1 REIMBURSEMENT OBLIGATIONS UNDER FANNIE MAE CREDIT ENHANCEMENT INSTRUMENTS; POTENTIAL EVENT OF DEFAULT. (a) REIMBURSEMENT OBLIGATIONS UNDER FANNIE MAE CREDIT ENHANCEMENT INSTRUMENTS. The Borrowers unconditionally promise and agree that: (i) Advances other than for Purchased Bonds. By 2:00 p.m. Washington, D.C. time on each date on which Fannie Mae shall have provided an Advance (other than an Advance with respect to Related Purchased Bonds), the Borrowers shall, without notice or demand, pay Servicer for remittance to Fannie Mae, an amount equal to the amount of such Advance; (ii) Withdrawals other than for Purchased Bonds. After first paying all amounts payable pursuant to subsection (i) above, by 2:00 p.m., Washington, D.C. time on each date on which the Related Trustee with respect to any Related Bonds shall have made a Withdrawal (other than a Withdrawal with respect to Related Purchased Bonds), the Borrowers shall, without notice or demand, pay Servicer, for remittance to such Related Trustee for deposit into the Principal Reserve Fund with respect to such Related Bonds, an amount equal to the amount of such Withdrawal; (iii) Advances With Respect to Related Purchased Bonds. In reimbursement for an Advance with respect to Related Purchased Bonds, by 2:00 p.m. Washington, D.C. time on (A) the effective date of any Alternate Credit Facility or (B) the first to occur of the date (1) on which the Related Purchased Bonds purchased with such Advance are (x) remarketed by the Remarketing Agent with respect to such Related Bonds and the proceeds of the remarketing are delivered to the Related Trustee or the Tender Agent or (y) redeemed or otherwise paid in full and cancelled or (2) on which the Related Fannie Mae Collateral Agreement either terminates in full or terminates as a liquidity facility for the Related Bonds or (3) which is ninety (90) days following such Advance, the Borrowers shall, without notice or demand, pay Servicer for remittance to Fannie Mae, an amount equal to the amount of such Advance; (iv) Withdrawals With Respect to Related Purchased Bonds. In reimbursement for a Withdrawal with respect to Related Purchased Bonds, by 2:00 p.m. Washington, D.C. time on (A) the effective date of any Alternate Credit Facility or (B) the first to occur of the date (1) on which the Related Purchased Bonds purchased with such Withdrawal are (x) remarketed by the Remarketing Agent with respect to such Related Bonds and the proceeds of the remarketing are delivered to the Related Trustee 80 82 or the Tender Agent or (y) redeemed or otherwise paid in full and cancelled or (2) on which the Related Fannie Mae Collateral Agreement either terminates in full or terminates as a liquidity facility for the Related Bonds or (3) which is ninety (90) days following such Withdrawal, the Borrowers shall, without notice or demand, pay Servicer, for remittance to the Related Trustee for deposit into the Principal Reserve Fund with respect to the Related Bonds, an amount equal to the amount of such Withdrawal; and (v) Activity Fee. The Borrowers shall, without notice or demand, pay Servicer for remittance to Fannie Mae the Activity Fee, pursuant to section 4.4(b) hereof, with respect to the amount of all Advances and Withdrawals until such amounts have been fully and completely paid, provided, however, with respect to Advances made to purchase Related Purchased Bonds, the Activity Fee shall be due and payable on the first Business Day of each month and on the date such Advance is reimbursed in full. (b) CREDITS RELATING TO REMARKETING PROCEEDS AND THE CANCELLATION OF PURCHASED BONDS. Borrowers' obligation to reimburse Fannie Mae for amounts described in clauses (iii), (iv) and (v) of section 4.1(a) to the extent Advances relate to Related Purchased Bonds shall be reduced as and to the extent that remarketing proceeds become available and are applied to such reimbursement and/or replenishment. In addition, the obligation to replenish a Withdrawal which was used to purchase Related Purchased Bonds shall be satisfied upon the date such Related Purchased Bonds are cancelled. (c) FUNDS DEEMED ADVANCED UNDER RELATED FANNIE MAE CREDIT ENHANCEMENT INSTRUMENT. The Borrowers and Fannie Mae acknowledge and agree that any reference in this Agreement to payments made under any Related Fannie Mae Credit Enhancement Instrument or to the provision by Fannie Mae of funds under any Related Fannie Mae Credit Enhancement Instrument (or words of similar import) shall, for all purposes under this Agreement, including Borrowers' obligation to reimburse Fannie Mae and to pay the Activity Fee, be construed to refer, in addition, to any and all funds that, pursuant to any written agreement between the Servicer and Fannie Mae, are advanced by the Servicer or which otherwise would have been required to be advanced by Fannie Mae under any Related Fannie Mae Credit Enhancement Instrument but for the advance of the Servicer. No agreement between the Servicer and Fannie Mae pursuant to which the Servicer may advance funds on behalf of Fannie Mae shall be construed to create a guaranty or other surety obligation by the Servicer with respect to the Obligations. 2 COSTS, FEES AND EXPENSES. In addition to Borrowers' obligations set forth in section 4.1 and in the other Transaction Documents, the Borrowers hereby agree absolutely and unconditionally to pay, or cause to be paid, to Fannie Mae or Servicer, as the case may be, the following: 81 83 (a) any and all reasonable fees, costs, charges and expenses (including the reasonable fees and expenses of attorneys, accountants and other experts) which Fannie Mae or Servicer may pay or incur in connection with any payment under any Related Fannie Mae Credit Enhancement Instrument, including payments of any fees and charges in connection with any accounts established to facilitate payments under any Related Fannie Mae Credit Enhancement Instrument, or the performance of Fannie Mae's obligations under any Related Fannie Mae Credit Enhancement Instrument; (b) any and all reasonable fees, costs, charges and expenses (including the reasonable fees and expenses of attorneys, accountants and other experts) which Fannie Mae may pay or incur in connection with the approval and documentation of any Hedge arrangement required under the terms of this Agreement; (c) any and all reasonable fees, costs, charges and expenses (including the reasonable fees and expenses of attorneys, accountants and other experts) which Fannie Mae may pay or incur following and in connection with a Cash Management Triggering Event or a Lock-Box Triggering Event, including those paid or incurred in the preparation, execution, delivery or approval of the Cash Management Account, any Cash Management Notice, any Lock-Box Notice or the grant or perfection of Fannie Mae's security interest in and to any Shortfall Collateral or Alternative DSC Shortfall Collateral; (d) the amount of any fees, costs, or charges or expenses (including the reasonable fees and expenses of attorneys, accountants and other experts) incurred by Fannie Mae or Servicer in connection with the administration or enforcement of, or preservation of rights or remedies under, this Agreement or any of the other Transaction Documents or in connection with the foreclosure upon, sale of or other disposition of any security granted pursuant to the Transaction Documents; (e) any and all reasonable fees, costs, charges and expenses (including the reasonable fees and expenses of attorneys, accountants and other experts) incurred by Fannie Mae or Servicer in connection with the disbursement or application of insurance or condemnation awards, proceeds, payments or damages to the costs of restoration and repair of any Property; (f) any payments or advances made by Fannie Mae or Servicer on behalf of the Borrowers pursuant to any of the Transaction Documents; (g) all reasonable expenses incurred in connection with or related to the execution and delivery of the Related Fannie Mae Credit Enhancement Instruments, the sale of the Bonds or the Obligations and the preparation and review of this Agreement and the other Transaction Documents and the consummation of the transactions contemplated hereby and thereby, including fees payable to any agencies rating the Bonds or the Obligations from which ratings were requested and received, any tax or governmental charge imposed in connection with 82 84 the execution and delivery of the Related Fannie Mae Credit Enhancement Instruments and the reasonable fees and disbursements of Fannie Mae's and Servicer's counsel and accountants, including fees and expenses relating to any (i) amendments, consents or waivers to this Agreement or any of the other Transaction Documents (whether or not any such amendments, consents or waivers are entered into), (ii) requests to evaluate any substitute or additional collateral, (iii) proposed Hedge arrangement, (iv) proposed or actual change in the mode of interest borne by the Bonds, or (v) proposed or actual release or substitution of a Property; and (h) all documentary stamp, recording, transfer, mortgage, intangible or filing or other taxes or fees (excluding taxes measured by gross or net income, excise, franchise or gross receipts taxes) and any and all liabilities with respect to, or resulting therefrom which may be payable or determined to be payable in connection with the execution and delivery of, or consummation or administration of any of the transactions contemplated by, or any amendment, supplement or modification of, or any waiver or consent under or in respect of or filing of record, recordation, release or discharge of, this Agreement, the Mortgages, or any other Transaction Document; and (i) interest on any and all amounts referred to in paragraphs (a) through (g) of this section 4.2 from the date when due under this Agreement until payment of all such amounts in full, payable at the Activity Rate, in immediately available funds. All amounts to be paid pursuant to clauses (a) through (i) of this section 4.2 shall be payable separate and apart from principal, interest and other amounts due under the Mortgage Loans and under the Related Custodial Receipts and shall be due and payable within thirty (30) days of Borrowers' receipt of written demand therefor. 3 PAYMENT OF CERTAIN OTHER FEES AND EXPENSES. (a) BOND FEES. In addition to the foregoing, the Borrowers shall pay, or cause to be paid, when due the Bond Fees applicable with respect to each issue of Related Securities. Such Bond Fees shall be paid by the Borrowers in accordance with the terms of the Related Bond Documents and the Related Custodial Receipts Documents, as the case may be. (b) FANNIE MAE ADVANCES. Fannie Mae shall have the right but not the obligation to pay any fee or expense due and owing by the Borrowers pursuant to sections 4.2 and 4.3 or any Related Financing Agreement on behalf of the Borrowers if the Borrowers fail to pay such fee or expense when due. If Fannie Mae pays any such fee or expense and the Borrowers receive written notice of such payment, the Borrowers shall pay such amount and the Activity Fee relating to such amount to Fannie Mae in the same manner as any Advance. (c) PREPAYMENT PREMIUM. The Borrowers agree to pay the Prepayment Premium pursuant to each Related Mortgage Note and each Custodial Receipts Mortgage Note (i) whether prepayment of such Related Mortgage Note or Custodial Receipts Mortgage Note is 83 85 voluntary or involuntary (in connection with acceleration of the unpaid principal balance of such Related Mortgage Note or Custodial Receipts Mortgage Note; provided, however, that no Prepayment Premium shall be payable upon a prepayment in connection with a mandatory application of Insurance Proceeds or Condemnation Proceeds) or the Related Mortgage is satisfied or released by foreclosure (whether by power of sale or judicial proceeding) or in lieu of foreclosure or by any other means and (ii) in the event that an Alternate Credit Facility is provided to the Related Trustee in substitution for the Related Fannie Mae Credit Enhancement Instrument. 4 FACILITY AND ACTIVITY FEES. In addition to any other fees and amounts payable to Fannie Mae under this Agreement or the other Transaction Documents, the following fees shall be payable by the Borrowers to Fannie Mae with respect to the Related Fannie Mae Collateral Agreements, the Mortgage Documents and the Bonds: (a) FACILITY FEE. The Borrowers shall, in consideration of Fannie Mae's entering into the Related Fannie Mae Credit Enhancement Instruments and so long as any Related Fannie Mae Credit Enhancement Instrument shall remain in effect, be responsible for paying to Servicer, for remittance to Fannie Mae, a facility fee (the "FACILITY FEE"). The Facility Fee shall be calculated with respect to each issue of Related Securities is set forth on the Schedule of Facility Fee Information attached hereto as Exhibit C. With respect to each Fixed Rate Bond Transaction, the Facility Fee shall be included in the actual fixed rate of interest set forth in and payable under the Related Mortgage Note. With respect to each Floating Rate Bond Transaction and each Custodial Receipts Transaction the Facility Fee shall be payable monthly, on the first day of each month (x) with respect to each Floating Rate Bond Transaction, as part of the Mortgage Note Rate under the Related Mortgage Note and (y) with respect to each Custodial Receipts Transaction, directly to Servicer on behalf of Fannie Mae as one the Obligations of the Borrowers under this Agreement. With respect to each Floating Rate Bond Transaction, the Facility Fee shall be calculated as of the last day of each month based on the amount then on deposit in the Principal Reserve Fund and the Allocated Release Price, if any, as of such date with respect to the Related Bond. The initial payment for the month in which the applicable Related Securities are issued shall be a prorated amount if the applicable Related Securities are issued on other than the first day of a month, such proration to be determined by multiplying the fee otherwise payable for the entire month by a fraction, the numerator of which is the number of days in such month from and including the date on which the applicable Related Securities are issued to and including the last day of the month and the denominator of which is the number of days in such month. (b) ACTIVITY FEE. In addition to the Facility Fee, the Borrowers shall, in consideration of Fannie Mae providing the Related Fannie Mae Credit Enhancement Instruments, pay to Servicer, for the account of and remittance to Fannie Mae, an activity fee (the "ACTIVITY FEE") with respect to each Advance and each Withdrawal. The Activity Fee shall, with respect 84 86 to each Advance and each Withdrawal, be an amount equal to the amount of such Advance or such Withdrawal, as the case may be, multiplied by the Activity Rate, and further multiplied by a fraction, the numerator of which is the number of days that such Advance or such Withdrawal is outstanding (i.e., until Fannie Mae is reimbursed) and the denominator of which is 365 days or 366 days, as applicable. The Activity Fee shall be payable so long as the Advance or Withdrawal remains unreimbursed, in whole or in part, to Fannie Mae. The Activity Fee shall not be due to Fannie Mae if Fannie Mae is reimbursed for all funds provided under the Related Fannie Mae Credit Enhancement Instruments by 2:00 p.m., Washington, D.C. time, on the date on which Fannie Mae shall have provided such funds. Any reimbursement payment received after 2:00 p.m., Washington, D.C. time, shall be treated as if it were paid at 9:00 a.m., Washington, D.C. time, on the next Business Day. The Activity Fee shall be payable initially on the first (1st) day of each month following any Advance or Withdrawal and shall be payable on the first (1st) day of each successive month for so long as such Advance or Withdrawal shall remain outstanding. The Activity Fee shall be otherwise due and payable as provided in this Agreement. Upon receipt by Servicer, the Activity Fee shall be remitted immediately to Fannie Mae. 85 87 5 INDEMNIFICATION. (a) INDEMNIFICATION. The Borrowers hereby release Fannie Mae, Servicer and their respective officers, directors, members, shareholders, officials, agents, independent contractors and employees and each of them and each Person, if any, who controls Fannie Mae or Servicer within the meaning of either Section 15 of the Securities Act of 1933, as amended, or Section 20 of the Securities Exchange Act of 1934, as amended (each an "INDEMNIFIED PARTY"), from, and covenant and agree to indemnify, hold harmless and defend each such indemnified party from and against, any and all claims, losses, liabilities (including penalties), actions, suits, judgments, demands, damages, costs, charges or expenses (including reasonable fees and expenses of attorneys, consultants and auditors and costs of investigation) and obligations whatsoever (herein collectively referred to as "LIABILITIES") of any nature arising out of, relating to or in connection with: (i) the transactions provided for in this Agreement or the other Transaction Documents or otherwise in connection with any Property, the Bonds, the Mortgage Loans, the Custodial Receipts Bond Issues, the Custodial Receipts, the Custodial Receipts Transactions or the execution or amendment of any document relating thereto; (ii) the approval of the refinancing of the Bond Properties or the making of the Mortgage Loans; (iii) any act or omission of any of the Borrowers or any of their Affiliates, agents, servants, employees or licensees, in connection with the Properties, the Mortgage Loans, the Custodial Receipts Bond Issues, the Custodial Receipts, the Custodial Receipts Transactions, this Agreement or the other Transaction Documents; (iv) the issuance and sale, resale or remarketing of any Bonds or any certifications or representations made by any person (other than any Issuer or the party seeking indemnification in connection therewith), including, (A) any untrue statement or alleged untrue statement of a material fact contained in any offering documents relating to any of the Bonds or arising out of or based upon any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading or (B) the violation by any Borrower of any Federal, state or local securities or real estate laws, rules or regulations in connection with the issuance, offer and sale of any of the Bonds; (v) the operations of any Property, or the conditions, occupancy, use, possession, conduct or management of work done in or about, or from the planning, design, acquisition, installation or construction of any Property, or any part of any Property; (vi) the exercise by Fannie Mae or Servicer of their respective powers or duties under this Agreement or any other Transaction Document; (vii) any Related Trustee's acceptance or administration of the trusts created by the Related Indenture and the exercise of its powers or duties thereunder, and under any Regulatory Agreement or any other agreements in connection therewith to which it is a party; (viii) errors, omissions, interruptions, losses or delays in transmission or delivery of any messages by mail, cable, telegraph, telex, telephone or otherwise; (ix) any other circumstances whatsoever relating to or resulting from a payment or nonpayment by Fannie Mae in accordance with the terms of any Fannie Mae Credit Enhancement Instrument; (x) any circumstances whatsoever relating to or in connection with the Salem Station Restrictive Covenants Agreement, including, any violation by Collateral Inc. or any predecessor in interest to the Salem Station Project of any terms, conditions, requirements or restrictions of the Salem Station Restrictive Covenants Agreement; and (xi) all reasonable costs, counsel fees, expenses or liabilities incurred in connection with any such claim or proceeding referred to in clauses (i) through (x) above; provided, however, that the foregoing release and indemnification shall not be effective to the extent such Liabilities are 86 88 caused by the gross negligence, bad faith or willful misconduct of an indemnified party or relate to disclosure provided by Fannie Mae for inclusion under the subheading "Federal National Mortgage Association" of any Official Statement. Neither Fannie Mae nor Servicer shall have any liability to the Borrowers or to any other person as a result of any reduction of the credit rating of any of the Bonds or any deterioration of Fannie Mae's financial condition, nor shall any such reduction or deterioration reduce or diminish in any respect Borrowers' obligations under this Agreement. In the event that any action or proceeding is brought against any indemnified party with respect to which indemnity may be sought hereunder, the Borrowers, upon written notice from the indemnified party, shall assume the investigation and defense thereof, including the employment of counsel selected by the Borrowers, but acceptable to the indemnified party, and shall assume the payment of all expenses related thereto, with full power to litigate, compromise or settle the same in its discretion, provided that if such settlement or compromise shall contain or infer an admission regarding, or relating in any way to, any indemnified party, such indemnified party shall have the right to review and approve or disapprove any such compromise or settlement. Each indemnified party shall have the right, if such indemnified party shall conclude in good faith that a conflict of interest exists (either between such indemnified party and one or more other indemnified parties or with respect to such indemnified party and the proposed joint counsel), to employ one separate counsel (per indemnified party), together with appropriate local counsel engaged by such primary counsel and whose fees shall be billed through such primary counsel, in any such action or proceeding and participate in the investigation and defense thereof, and the Borrowers shall pay the reasonable fees and expenses of such separate counsel; provided that if such conflict of interest is between such indemnified party and the proposed joint counsel, then before such indemnified party retains such separate counsel, the Borrowers shall have the right to attempt to identify alternative joint counsel, as to whom no conflict of interest exists and which is otherwise acceptable to the such indemnified party, and who may, accordingly, represent the Borrowers and all of the indemnified parties. If separate counsel are employed as described above, the Borrowers and any such indemnified party agree to cooperate as may reasonably be required in order to ensure the proper and adequate defense of any such action, suit or proceeding, including making available to each other, and their counsel and accountants, all books and records relating to such action, suit or proceeding. If any such counsel determines that the rendering of such assistance will adversely affect the defense or interests of its client, such counsel shall not be required to comply with the terms of the immediately preceding sentence. Each of the Borrowers and the indemnified parties shall be entitled to assert the attorney/client and work product privileges, as applicable, in response to any requests for disclosure of any communications, work product or information that the Borrowers or such indemnified party believes may be protected pursuant to such privileges, and discussions between indemnified parties and counsel shall not be deemed a waiver of such privileges. Notwithstanding any permitted transfer of any Property to another Person or the release of any Property from the lien of any Mortgage, the Borrowers shall remain obligated to indemnify each indemnified party pursuant to this section 4.5 with respect to acts occurring prior 87 89 to the date of permitted transfer of legal title to such Property or release of such Property from the lien of any Mortgage, as applicable (irrespective of when a claim is actually made). (b) SURVIVAL. The indemnity provisions of this section 4.5 shall survive the termination of this Agreement and foreclosure or release of the Mortgages or other disposition of the Properties to the fullest extent allowable under the applicable statute of limitations. 6 LIABILITY OF BORROWERS. The obligations of the Borrowers under this Agreement shall be absolute, unconditional and irrevocable and shall be paid and performed strictly in accordance with the terms of this Agreement under all circumstances whatsoever, including the following circumstances: (a) any invalidity or unenforceability of this Agreement or any of the other Transaction Documents or any other agreement or instrument related to the Transaction Documents; (b) any amendment or waiver of, or any consent to or departure from, the terms of this Agreement, any Related Fannie Mae Credit Enhancement Instrument, any of the other Transaction Documents, or any other agreement or instrument related to the Transaction Documents, any extensions of time or other modifications of the terms and conditions for any act to be performed in connection with this Agreement, any Related Fannie Mae Credit Enhancement Instruments or any of the other Transaction Documents, other than any amendment, waiver, consent, extension or modification entered into in strict accordance with the terms of this Agreement; (c) the existence of any claim, set-off, defense or other right which the Borrowers may have at any time against any Issuer, any Related Trustee, any tender agent, Fannie Mae, Servicer, Remarketing Agent or any other Person, whether in connection with this Agreement, any of the other Transaction Documents, any Property, or any unrelated transaction; (d) the surrender or impairment of any security for the performance or observance of any of the agreements or terms of this Agreement or the other Transaction Documents; (e) defect in title to any Property, any acts or circumstances that may constitute failure of consideration, destruction of, damage to or condemnation of any Property, commercial frustration of purpose, or any change in the tax or other laws of the United States of America or of the State or any political subdivision of either; (f) the breach by any Issuer, any Related Trustee, any tender agent, Servicer, Remarketing Agent, Fannie Mae or any other Person of its obligations under any Transaction Document or (g) any other circumstance, happening or omission whatsoever. 88 90 7 FANNIE MAE AND SERVICER NOT LIABLE. Neither Fannie Mae, Servicer nor any of their officials, officers, directors, members, shareholders, agents, independent contractors or employees shall be responsible for or liable to any Borrower, any Affiliate of any Borrower or any members, partners, Affiliates, independent contractors or employees of any Borrower or any Affiliate of any Borrower for (i) any act or omission of Fannie Mae, Servicer or any other Person made in good faith with respect to the validity, sufficiency, accuracy or genuineness of documents, or of any endorsement(s) thereon (except for documents and endorsements provided by Fannie Mae or Servicer, as applicable), even if such documents should in fact prove to be in any or all respects invalid, insufficient, fraudulent or forged, (ii) the validity or sufficiency of any instrument transferring or assigning or purporting to transfer or assign any Related Fannie Mae Credit Enhancement Instrument or the rights or benefits under any Related Fannie Mae Credit Enhancement Instrument or proceeds under any Related Fannie Mae Credit Enhancement Instrument, in whole or in part, that may prove to be invalid or ineffective for any reason, (iii) failure of any Related Trustee to comply fully with all conditions required in order to effect any Advance, (iv) errors, omissions, interruptions or delays in transmission or delivery of any messages, by mail, cable, telegraph, telex, telecopier or otherwise; (v) for any loss or delay in the transmission or otherwise of any document or draft required in order to make any Advance, or (vi) any consequences arising from causes beyond the control of Fannie Mae. In furtherance and not in limitation of the foregoing, Fannie Mae or Servicer may accept documents that appear on their face to be valid and in order, without any responsibility for further investigation. None of the above shall affect, impair, or prevent the vesting of rights or powers of Fannie Mae or Servicer under this Agreement. In furtherance and extension and not in limitation of the specific provision set forth above, any action taken or omitted by Fannie Mae under or in connection with any Transaction Document or any related certificates or other documents shall be binding upon the Borrowers, the Related Trustee, the Issuer, the Remarketing Agent and the tender agent and shall not under the Related Fannie Mae Credit Enhancement Instrument put Fannie Mae under any resulting liability to any of them except to the extent such liability is caused by Fannie Mae's bad faith, gross negligence or willful misconduct. 89 91 8 WAIVERS AND CONSENTS. THE BORROWERS AGREE TO BE BOUND BY THIS AGREEMENT AND TO THE EXTENT PERMITTED BY LAW, (A) WAIVE AND RENOUNCE ANY AND ALL REDEMPTION AND EXEMPTION RIGHTS AND THE BENEFIT OF ALL VALUATION AND APPRAISAL PRIVILEGES AGAINST THE INDEBTEDNESS AND OBLIGATIONS EVIDENCED BY THIS AGREEMENT AND THE OTHER TRANSACTION DOCUMENTS OR BY ANY EXTENSION OR RENEWAL OF THIS AGREEMENT AND THE OTHER TRANSACTION DOCUMENTS; (B) WAIVE PRESENTMENT AND DEMAND FOR PAYMENT, NOTICES OF NONPAYMENT AND OF DISHONOR (UNLESS SUCH NOTICES ARE EXPRESSLY REQUIRED UNDER THIS AGREEMENT OR ANY OTHER TRANSACTION DOCUMENT), PROTEST OF DISHONOR AND NOTICE OF PROTEST; (C) WAIVE ALL NOTICES IN CONNECTION WITH THE DELIVERY AND ACCEPTANCE OF THIS AGREEMENT AND THE OTHER TRANSACTION DOCUMENTS AND ALL OTHER NOTICES IN CONNECTION WITH THE PERFORMANCE, DEFAULT OR ENFORCEMENT OF THE PAYMENT OF ANY OBLIGATIONS UNDER THIS AGREEMENT AND THE OTHER TRANSACTION DOCUMENTS EXCEPT AS REQUIRED BY THIS AGREEMENT OR THE OTHER TRANSACTION DOCUMENTS; (D) AGREE THAT THEIR LIABILITIES UNDER THIS AGREEMENT AND THE OTHER TRANSACTION DOCUMENTS SHALL BE UNCONDITIONAL AND WITHOUT REGARD TO THE LIABILITY OF ANY OTHER PERSON; AND (E) AGREE THAT ANY CONSENT, WAIVER OR FORBEARANCE UNDER THIS AGREEMENT AND THE OTHER TRANSACTION DOCUMENTS WITH RESPECT TO AN EVENT SHALL OPERATE ONLY FOR SUCH EVENT AND NOT FOR ANY SUBSEQUENT EVENT. 9 SUBROGATION. The Borrowers acknowledge that Fannie Mae is to be fully subrogated to the extent of any payment made by Fannie Mae pursuant to any Related Fannie Mae Collateral Agreement and any additional interest due on any late payment, to the rights of the Related Trustee and the respective Bondholders to any moneys paid or payable under the Related Securities and all security therefor under the Related Indenture. The Borrowers further acknowledge that Fannie Mae is to be fully subrogated to the extent of any payment made by Fannie Mae pursuant to any Related Custodial Receipts Collateral Agreement and any additional interest due on any late payment, to the rights of Morgan to any moneys paid or payable under the Related Custodial Receipts or the related Custodial Receipts L/C Reimbursement Agreement and all security therefor under the Related Indenture. The Borrowers agree to such subrogation and further agree to execute such instruments and to take such actions as, in the judgment of Fannie Mae, are necessary to evidence such subrogation and to perfect the rights of Fannie Mae to the extent necessary to provide reimbursement hereunder. 90 92 10 APPLICATION OF PAYMENTS. Payments made by the Borrowers in respect of the Obligations shall be applied in the manner provided in the Mortgage Documents. 11 PLEDGE OF RIGHTS TO CERTAIN FUNDS AND INVESTMENTS. To secure Borrowers' obligations under this Agreement, to the extent, if any, that the Borrowers retain an interest in and to all funds and accounts and investments of funds and accounts now or hereafter held: by (a) the Related Trustees under the Related Indentures as security for the payment of the Bonds, including the Principal Reserve Funds, and any and all loan funds, escrow funds, revenue funds, debt service funds, reserve funds, redemption funds and other funds and securities and other instruments comprising investments of any of the foregoing and interest and other income derived from any of the foregoing held as security for the payment of the Bonds, the Borrowers hereby pledge and assign to Fannie Mae and grant to Fannie Mae a security interest in such funds, accounts, and investments which pledge, assignment and grant shall be subject only to the rights of each Related Trustee under the Related Indenture) and (b) by Servicer with respect to payments payable under any of the Transaction Documents including the Replacement Reserve Accounts and any and all escrow funds, completion repair funds and other funds, and any securities and other instruments comprising investments of any of the foregoing and interest income and other proceeds derived from any of the foregoing. The Borrowers covenant and agree that it will defend Fannie Mae's rights and security interests created by this section 4.11 against the claims and demands of all Persons. In addition to its other rights and remedies under this Agreement and the other Transaction Documents, Fannie Mae shall have all the rights and remedies of a secured party under the Uniform Commercial Code or other applicable law with respect to the security interests created by this section 4.11, subject only to the rights of the Related Trustees under the Related Indentures. Fannie Mae's rights under this section 4.11 are in addition to, and not in lieu of, its rights and remedies described elsewhere in this Agreement. 12 PURCHASED BONDS. The Borrowers acknowledge that any Related Purchased Bonds will be purchased for and registered in the name of the applicable Borrower, to the extent that Fannie Mae has provided the funds to purchase such Related Purchased Bonds or moneys in the applicable Principal Reserve Fund were used for such purposes and will be pledged to Fannie Mae pursuant to the Related Pledge Agreement. 91 93 13 NONRECOURSE OBLIGATIONS. (a) NON-RECOURSE LIABILITY. Subject to the provisions of section 4.13(b), section 4.13(c) and the Guaranty and notwithstanding any other provision in the Related Mortgage Notes, the Mortgages or any other Transaction Document, the personal liability of the Borrowers, Guarantor and their respective affiliates, shareholders, members, partners, officers, directors and employees to pay and perform the Obligations shall be limited to (i) the real and personal property described as "Property" in the Mortgages, (ii) the personal property described in and pledged under any other Mortgage Document, (iii) the rents, profits, issues, products and income of the Properties received or collected by or on behalf of any Borrower (the "RENTS AND PROFITS") to the extent such receipts are necessary, first, to pay the Operating Expenses then due and payable as of the time of receipt of such Rents and Profits, and then, to pay principal and interest due under the Related Mortgage Notes, the Custodial Receipts L/C Reimbursement Agreement, any other sums due under the Mortgages or any other Mortgage Document and any other Obligations then due and owing to Fannie Mae under this Agreement, except to the extent that the Borrowers did not have the legal right, because of a bankruptcy, receivership or similar judicial proceeding, to direct the disbursement of such sums. Except as provided in section 4.13(b), section 4.13(c) and in the Guaranty, Fannie Mae shall not seek (A) any judgment for a deficiency against any of the Borrowers or Guarantor, or any Borrower's or Guarantor's heirs, legal representatives, successors or assigns, in any action to enforce any right or remedy under any of the Related Mortgage Notes, the Custodial Receipts L/C Reimbursement Agreement, the Mortgages, this Agreement or any other Transaction Document, or (B) any judgment on any of the Related Mortgage Notes, the Custodial Receipts L/C Reimbursement Agreement or the Obligations except as may be necessary in any action brought under any of the Mortgages to enforce the lien against the Property encumbered thereby or to exercise any remedies under any other Mortgage Documents. (b) EXCEPTIONS TO NON-RECOURSE LIABILITY. If, without obtaining Fannie Mae's prior written consent, (i) a "Transfer" shall occur which, pursuant to Uniform Covenant 19 of the any of the Mortgages, gives Fannie Mae the right, at its option, to declare all sums secured by any such Mortgage immediately due and payable, or (ii) any Borrower shall voluntarily encumber or permit the encumbrance of any Property with the lien of any "Subordinate Instrument" (as defined in the Related Mortgage with respect to such Property) in connection with any financing by such Borrower, any of such events shall constitute an Event of Default hereunder and under the other Mortgage Documents, and if such Event of Default shall continue for thirty (30) days then, from and after the date that is thirty (30) days after such event, (x) section 4.13(a) shall not apply, and (y) the Borrowers and, solely to the extent provided in the Guaranty, Guarantor shall be personally liable on a joint and several basis for full recourse liability under this Agreement and the other Mortgage Documents. (C) EXCEPTIONS TO EXCULPATION. Notwithstanding section 4.13(a), each Borrower and Guarantor (but excluding other affiliates, members, partners, officers, directors 92 94 and employees of each Borrower and Guarantor and further excluding the shareholders of Guarantor) shall be personally liable on a joint and several basis in the amount of any loss, damage or cost (including reasonable attorneys' fees and expenses) resulting from (1) fraud or intentional misrepresentation by any of the Borrowers, any Borrower's agents or employees or Guarantor, in connection with obtaining the Mortgage Loans evidenced by the Related Mortgage Notes, obtaining the credit enhancement evidenced by the Related Fannie Mae Credit Enhancement Instruments, or in complying with any of the Obligations, (2) Insurance Proceeds, Condemnation Proceeds, security deposits from tenants and other sums or payments received by or on behalf of the Borrowers in their capacity as owners of the Properties and not applied in accordance with the provisions of the Mortgages (except to the extent that the Borrowers did not have the legal right, because of a bankruptcy, receivership or similar judicial proceeding, to direct disbursement of such sums or payments), (3) all Rents and Profits (except to the extent that the Borrowers did not have the legal right, because of a bankruptcy, receivership or similar judicial proceeding, to direct the disbursement of such sums) received by or on behalf of the Borrowers in its capacity as owner of the Properties and not applied first (a) to the payment of the Operating Expenses as such Operating Expenses become due and payable, and then (b) to the payment of principal and interest due under the Related Mortgage Notes, any other sums due under the Mortgages or any other Mortgage Document and any other Obligations then due and owning to Fannie Mae under this Agreement, (4) the Borrowers' failure to deposit all Gross Cash Flow into the Property Accounts when required in accordance with the Cash Management Agreement, if any (except to the extent that the Borrowers did not have the legal right because of a bankruptcy, receivership or similar judicial proceeding to deposit such sums), (5) the Borrowers' failure following an Event of Default to deliver to Fannie Mae on demand all Rents and Profits and security deposits (except to the extent that the Borrowers did not have the legal right because of a bankruptcy, receivership or similar judicial proceeding to direct disbursement of such sums), (6) the Borrowers' failure following an Event of Default to deliver to Fannie Mae on demand all books and records relating to the Properties, (7) the Borrowers' indemnification obligations set forth in section 4.5(a), excluding (A) the indemnification obligations set forth in clause (v) of such section 4.5(a) and (B) the indemnification obligations set forth in clause (x) of such section 4.5(a) to the extent such indemnification obligations relate to clause (v) of such section 4.5(a), (8) failure of any Borrower to remain a Single-Purpose entity or to comply with any of the provisions of subsections 2.3(a)(iii) or 2.3(a)(iv) or (9) all or any portion of the Obligations of all or any of the Borrowers being rendered invalid or unenforceable by the application of Fraudulent Transfer Laws. (d) NO IMPAIRMENT OF CERTAIN RIGHTS. Although the personal liability of Borrowers, Guarantor and their respective affiliates, shareholders, members, partners, officers, directors and employees may be limited pursuant to section 4.13, no provision of this section 4.13 shall (i) affect any guaranty or similar agreement executed in connection with the debt evidenced by the Related Mortgage Notes and the Custodial Receipts L/C Reimbursement, or otherwise in connection with the Obligations, (ii) release or reduce the Obligations or the debt evidenced by the Related Mortgage Notes and the Custodial Receipts L/C Reimbursement Agreement, (iii) impair the right of Fannie Mae to enforce the provisions of paragraph 6 of the 93 95 portion of each Mortgage identified as the "Multifamily Instrument", (iv) impair the lien of any Mortgage or (v) impair the right of Fannie Mae to enforce the provisions of the Cash Management Agreement, any Replacement Reserve Agreement, any Hedge Security Agreement, any Custodial Agreement, the Assignment of Management Agreement, or any other agreement defined as an "Ancillary Collateral Agreement" in any Mortgage. 94 96 14 APPLICATION FOR FANNIE MAE CREDIT ENHANCEMENT INSTRUMENTS. Upon the terms and subject to the conditions set forth in this Agreement and subject to the condition that the Mortgage Loans be originated by an independent third-party lender or issuer and comply with the other requirements of the Fannie Mae Charter Act for multifamily loans, the Borrowers hereby apply to Fannie Mae for and hereby request Fannie Mae (a) with respect to each Fixed Rate Bond Transaction, to deliver to each Related Trustee for the account of the Borrower, the Related Fannie Mae Pass-Through Certificate in the Facility Amount, and (b) with respect to each Floating Rate Bond Transaction and each Custodial Receipts Transaction, to execute and deliver the Related Fannie Mae Collateral Agreement. While each Bond Transaction, each Custodial Receipts Transaction and the Related Fannie Mae Credit Enhancement Instrument represents a separate and independent obligation of each Borrower and Fannie Mae, respectively, the Borrowers acknowledge that, in requesting Fannie Mae to execute and deliver the Related Fannie Mae Credit Enhancement Instruments, Borrowers intend that all of the obligations of the Borrowers arising under the Bond Transactions and the Custodial Receipts Transactions be treated as if they were a single, integrated Indebtedness of the Borrowers. Accordingly, the Borrowers agree that if any of the Borrowers fails to pay fully, when due, any amount payable under any Related Mortgage Note, any Custodial Receipts Mortgage Note or any Custodial Receipts L/C Reimbursement Agreement or their respective Related Mortgages, then Fannie Mae may elect to treat such unpaid amount as being due and owing by the Borrowers on a joint and several basis, and such amount may be realized upon on a pro rata basis or otherwise, in each case in Fannie Mae's discretion, from the value each of the Properties and the other Collateral. Similarly, if any of the Borrowers fails to pay fully, when due, to Fannie Mae any other amount which such Borrowers is obligated to pay under this Agreement, the unpaid amount shall be deemed to be due and owing by all of the Borrowers on a joint and several basis, and such amount may be realized upon on a pro rata basis or otherwise, in each case in Fannie Mae's discretion, from the value each of the Properties and the other Collateral. It is a material part of the consideration for Fannie Mae's agreement to execute and deliver the Related Fannie Mae Credit Enhancement Instruments that the Borrowers not be able to put one or more of the Mortgage Loans or the Custodial Receipts Mortgage Loans in default without putting all such Mortgage Loans and Custodial Receipts Mortgage Loans in default. Accordingly, the Borrowers expressly agree that irrespective of the actual payments made by any Borrower under the Mortgage Loans, the Custodial Receipts Mortgage Loans or this Agreement, if the amount actually paid is not sufficient to pay fully and timely all such obligations, then the failure to pay shall exist with respect to all of the Mortgage Loans and Custodial Receipts Mortgage Loans notwithstanding that the amount paid was sufficient to pay fully some but not all of the amounts due and owing with respect to the Mortgage Loans and the Custodial Receipts Mortgage Loans or other Obligations. 95 97 V. ALLOCABLE FACILITY AMOUNTS; SUBSTITUTION, RELEASE, AND ADDITION OF PROPERTIES; CERTAIN PERMITTED TRANSFERS 1 ALLOCABLE FACILITY AMOUNTS. Fannie Mae shall determine the Allocable Facility Amount for each Property annually on or before the Determination Date. The Allocable Facility Amount, once determined by Fannie Mae as aforesaid, shall remain in effect until the next Determination Date. 2 SUBSTITUTION OF ADDITIONAL MORTGAGED PROPERTIES. An Additional Mortgaged Property may be released from the lien of a Mortgage and a New Additional Property substituted therefor if each of the following conditions are met: (a) the New Additional Property is owned by Collateral Inc. and has a Value equal to or greater than the product of 125% (the "SUBSTITUTION PERCENTAGE") times the Minimum Substitute Property Value of the Released Property; (b) the New Additional Property has Net Operating Income (as determined by Fannie Mae in its discretion) for the twelve (12) month period ending within sixty (60) days of the date this test is applied, equal to or greater than the Net Operating Income (as determined by Fannie Mae in its discretion) of the Additional Mortgaged Property being released from the lien for the corresponding twelve (12) month period multiplied by the Substitution Percentage; (c) no Event of Default or Potential Event of Default shall have occurred and be continuing; (d) the applicable Borrower shall cause the Released Property to be immediately conveyed by such Borrower to Guarantor, or such other Person (other than another Borrower) as such Borrower may otherwise determine; (e) the New Additional Property meets all of Fannie Mae's then applicable underwriting criteria for new loans secured by Multifamily Residential Property; (f) all documentation relating to the foregoing is acceptable to Fannie Mae in its discretion in all respects, including legal opinions, title insurance, Security Instruments, Replacement Reserve Agreements, assignments and any amendments to this Agreement or the other Transaction Documents; and 96 98 (g) with respect to each proposed New Additional Property, the Borrowers shall pay Fannie Mae and Servicer a due diligence fee plus all costs and expenses (including reasonable legal fees and expenses) incurred by Fannie Mae or Servicer in connection with the foregoing. Such amounts shall be paid by the Borrowers promptly upon receipt of invoices therefor, and shall be payable regardless of whether the property substitution does or does not (for any reason) ultimately occur. 3 RELEASE OF PROPERTIES. A Property may be released from the lien of a Mortgage without another Multifamily Residential Property being substituted therefor if each of the following conditions are met: (a) the Borrowers shall either redeem or otherwise remove Bonds from the Fannie Mae Credit Facility and/or post cash collateral in a manner acceptable to Fannie Mae in its discretion, in either case in an amount equal to 110% of the Allocable Facility Amount of the Released Property (the "RELEASE PRICE"). The Release Price requirement shall be satisfied by (i) if the Released Property is a Bond Property, the amount of Related Bonds outstanding with respect to such Bond Property immediately prior to such release (provided, that, the requirements of section 5.3(c) have been satisfied), plus (ii) the amount of any other Bonds redeemed by the Borrowers to obtain such release, plus (iii) the amount of any letter of credit in form and substance and provided by a financial institution satisfactory to Fannie Mae in its discretion or any cash collateral deposited with Fannie Mae or its designee and otherwise held in a manner approved by Fannie Mae in its discretion ("RELEASE PRICE CASH COLLATERAL") and posted by the Borrowers to obtain such release; and (b) no Event of Default or Potential Event of Default shall have occurred and be continuing; and (c) if the Released Property is a Bond Property, then either (i) the Related Fannie Mae Credit Enhancement Instrument shall, subject to subsection 5.3(h), terminate on or before the Released Property is released from the lien of any Related Mortgage, or (ii) Fannie Mae, in its discretion, shall have consented to the transfer of such Bond Property and the assumption of the Related Mortgage Note, the Related Mortgage and the other related Transaction Documents in accordance with section 5.6; and (d) the applicable Borrower shall cause the Released Property to be immediately conveyed by such Borrower to Guarantor or such other Person (other than another Borrower) as such Borrower may determine; and (e) if the Released Property is a Custodial Receipts Property, then the Obligations of the Borrower with respect to such Custodial Receipts Property shall be assumed 97 99 by Collateral Inc. pursuant to documentation in form and substance accepted to Fannie Mae in its discretion, and such Borrower shall be released by Fannie Mae from such Obligations pursuant to release documentation prepared by Fannie Mae and reasonably acceptable to such Borrower; and (f) all documentation relating to the foregoing is acceptable to Fannie Mae in all respects, including legal opinions, release documentation and any amendments to this Agreement or the other Transaction Documents; and (g) the Borrowers shall pay, with respect to each Released Property, to Fannie Mae and Servicer, a due diligence fee plus all costs and expenses (including reasonable legal fees and expenses) incurred by Fannie Mae or Servicer in connection with the foregoing. Such amounts shall be paid by the Borrowers promptly upon receipt of invoices therefor, and shall be payable regardless of whether the property is or is not (for any reason) ultimately released from the lien of a Mortgage; and (h) Fannie Mae shall execute and deliver to the appropriate Borrower (i) a release of the lien of the Related Mortgage in recordable form and (ii) if the Released Property is a Custodial Receipts Property, a partial release with respect to those portions of the pledged collateral relating to such Custodial Receipts Property and pledged under the Custodial Receipts Bond Pledge Agreement, provided, in each instance, that Fannie Mae reasonably determines, in light of such opinions of certified public accountants that prepare the audited financial statements of the appropriate Borrower and such other similar information and opinions as may be provided by such Borrower to Fannie Mae, that no part of any payments made by such Borrower prior to or concurrently with the release of the lien of the Related Mortgage will likely result in an avoidance or any other recovery or disgorgement pursuant to the Bankruptcy Code (including sections 544, 547, 549 or 550 thereof) or any other applicable bankruptcy law which would result in Fannie Mae having any liability under any Related Fannie Mae Collateral Agreement, or such Borrower will provide cash collateral or make other arrangements acceptable to Fannie Mae in its discretion to ameliorate such risk of avoidance, recovery or disgorgement. 4 ADDITION OF NEW PROPERTIES TO THE CREDIT FACILITY. (a) IN GENERAL. At the request of the Borrowers and Servicer, Fannie Mae may, from time to time, consent to the addition of a New Bond Property (and to the extent required to meet the underwriting requirements established by Fannie Mae with respect to the addition of a New Bond Property, a New Additional Property) to the Fannie Mae Credit Facility; provided, however, that: (i) such consent may be granted or withheld by Fannie Mae in its discretion; 98 100 (ii) the underwriting with respect to each such New Property shall be conducted by Servicer and reviewed by Fannie Mae and shall take into account all facts and circumstances deemed relevant by Servicer and Fannie Mae in their discretion; (iii) the terms and conditions relating to the addition of such New Property shall be determined by Servicer and Fannie Mae in their discretion; (iv) all documentation deemed necessary by Servicer or Fannie Mae for the making of a new loan, if applicable, and the addition of such New Property shall be fully executed and delivered by each party thereto and shall be in form and substance acceptable to Servicer and Fannie Mae in their discretion; (v) any loan made in conjunction with the addition of such New Property must be originated by an independent third-party lender or issuer and otherwise comply with applicable Fannie Mae Charter Act requirements; (vi) the Borrowers shall pay or cause to be paid all fees, costs, charges and expenses (including the fees and expenses of attorneys, accountants and other experts) incurred by or on behalf of Fannie Mae or Servicer in connection with the addition of such New Property in accordance with section 4.2. The addition of any New Bond Property and any New Additional Property to the Credit Facility shall become effective only upon satisfaction of all of the requirements set forth above and Fannie Mae's execution and delivery to the Borrowers of a Confirmation of Addition of New Property, substantially in the form of Exhibit H attached hereto (a "NEW PROPERTY CONFIRMATION"). Upon the execution and delivery of the New Property Confirmation in accordance with this section 5.4, this Agreement shall be automatically deemed amended and supplemented to incorporate the terms and provisions of such New Property Confirmation including any provisions, (A) specifying whether the New Property is a New Bond Property or a New Additional Property, (B) specifying whether a New Bond Property is a Floating Rate Bond Property or a Fixed Rate Bond Property, (C) specifying whether the Related Bonds with respect to a New Bond Property are Unhedged Bonds, (D) specifying the Credit Enhancement Component, the Reserve Component and if applicable, the Liquidity Component, with respect to a New Bond Property, (E) specifying the amendment and restatement of any of the Exhibits to this Agreement, (F) modifying the Allocable Facility Amount of all or any of the Properties and (G) modifying the Maximum LTV Percentage and/or the Minimum DSC Ratio. (b) ADDITION OF FALKLAND CHASE. On or before December 31, 1996, the Borrowers in conjunction with Servicer, may request that a new tax-exempt housing bond transaction (the "FALKLAND CHASE BOND TRANSACTION") with respect to that certain Multifamily Residential Property located in Silver Spring, Maryland and commonly known as Falkland Chase (the "FALKLAND CHASE PROJECT") be added to the Fannie Mae Credit Facility as a new Floating Rate Bond Transaction and that the bonds with respect to such Falkland Chase Bond Transaction 99 101 be deemed Unhedged Bonds for purposes of Section 3.1(a). Subject to satisfaction in full of the conditions and limitations set forth in this Section 5.4(b), Fannie Mae will consider granting its approval to the addition of the Falkland Chase Bond Transaction and providing credit enhancement and, if applicable, liquidity support (the "FALKLAND CHASE CREDIT ENHANCEMENT") with respect thereto by issuing a collateral agreement substantially in the form of a Related Fannie Mae Collateral Agreement for the benefit of the trustee with respect to the Falkland Chase Bond Transaction. Fannie Mae's consideration of providing the Falkland Chase Credit Enhancement and consenting to the bonds with respect to the Falkland Chase Bond Transaction being qualified as Unhedged Bonds is subject to Fannie Mae's determination in Fannie Mae's discretion that each of the following conditions have been satisfied in full: (i) the Falkland Chase Bond Transaction shall close on or before March 31, 1997; (ii) no Event of Default or Potential Event of Default exists as of the proposed date for the addition of the Falkland Chase Project; (iii) the Falkland Chase Project shall be owned in fee by Collateral Inc.; (iv) the ratio (expressed as a percentage) of the Facility Amount of the proposed Falkland Chase Bond Transaction to the Value of the Falkland Chase Project plus the amount of any Shortfall Cash Collateral (which, if the Shortfall Cash Collateral is a letter of credit, has a term of at least one year and shall be in an "evergreen format") or Value of any proposed New Additional Property offered by the Borrowers in connection with the Falkland Chase Bond Transaction, will be equal to or less than 50%; (v) the ratio of (A) the Net Operating Income of the Falkland Chase Project plus (I) the Net Operating Income of any proposed New Additional Property offered by the Borrowers in connection with the Falkland Chase Bond Transaction for the twelve (12) month period ending within sixty (60) days of the proposed date for the addition of the Falkland Chase Project, and (II) the amount of any Shortfall Cash Collateral (which, if the Shortfall Cash Collateral is a letter of credit, has a term of at least one year and shall be in an "evergreen format") but only to the extent such Shortfall Cash Collateral is not included in the calculation of the loan to value ratio pursuant to section 5.4(b)(iv), to (B) to the anticipated Imputed Debt Service with respect to the Falkland Chase Project for the twelve (12) month period immediately following the proposed date for the addition of the Falkland Chase Project, each as determined by Fannie Mae in its discretion, will equal or exceed 2.2:1; (vi) the mortgage loan with respect to the Falkland Chase Bond Transaction shall be originated by an independent third-party lender or issuer and comply with applicable Fannie Mae Charter Act requirements; 100 102 (vii) all documentation (including any amendments to this Agreement and the other Transaction Documents) relating to Falkland Chase Bond Transaction shall be the same in all material respects as the documentation with respect to the Related Bonds, subject to such modifications as may be necessary and which, in any event, are approved by Fannie Mae in its discretion and the terms and conditions of the bonds, the related bond documents, mortgage loan documents and other documents delivered in connection with the Falkland Chase Bond Transaction (the "FALKLAND CHASE REFUNDING DOCUMENTS"), shall be satisfactory to Fannie Mae, including the following: (A) such Falkland Chase Bond Transaction shall be incorporated into and be governed by the terms of this Agreement; (B) the principal amount of the mortgage loan with respect to the Falkland Chase Bond Transaction shall be equal to or less than $26,000,000.00; (C) if the Falkland Chase Bond Transaction will be a Floating Rate Bond Transaction, then, the terms and conditions governing the availability of and conversion between interest rate modes applicable to such Falkland Chase Bond Transaction and the related mortgage loan shall conform to the interest rate mode provisions applicable to the existing Bonds and the existing Mortgage Loans in Floating Rate Bond Transactions; (D) the maturity date of the mortgage loan with respect to the Falkland Chase Bond Transaction shall be June 1, 2026, provided, however, that the principal amortization schedule or principal reserve fund payment schedule, as the case may be, of such mortgage loan shall be sufficient to cause such mortgage loan to fully amortize by April 1, 2027; (E) the Falkland Chase Refunding Documents shall contain cross-default and cross-collateralization provisions that conform to the Bond Documents; Notwithstanding the foregoing, the Prepayment Premium with respect to the Falkland Chase Bond Transaction shall continue for not less than seven (7) (assuming the bonds bear interest at other than a fixed rate) years from the Fannie Mae Facility Closing Date; (viii) the Borrowers shall execute and deliver to Fannie Mae a certificate confirming that all of the representations and warranties set forth in this Agreement (including those with respect to the Aggregate Debt Service Coverage Ratio and the Aggregate Loan to Value Ratio as set forth in section 2.1(h)) shall be true, correct and complete after giving effect to the Falkland Chase Bond Transaction, subject to such modifications as the Borrowers may determine are necessary to make the representations and warranties contained in such certificate true, correct and complete as of such date; 101 103 provided, however, that such modifications may be considered by Fannie Mae in its determination to grant or withhold its approval to the addition of the Falkland Chase Bond Transaction; (ix) if the Falkland Chase Bond Transaction will be a Floating Rate Bond Transaction, then, so long as Fannie Mae provides credit enhancement for the such Falkland Chase Bond Transaction, only Fannie Mae shall provide liquidity support, if applicable; (x) each of the Borrowers and Guarantor, to the extent applicable, shall have delivered to Fannie Mae appropriate evidence satisfactory to Fannie Mae of its authority to execute and deliver the Falkland Chase Refunding Documents to which it is a party; (xi) Fannie Mae shall have received from Servicer such representations, warranties, undertakings and such other certificates as Fannie Mae shall customarily require relating to the Falkland Chase Bond Transaction; (xii) Fannie Mae shall have received such opinions of bond counsel, trustee's counsel and issuer's counsel, and such other opinions and certificates as Fannie Mae shall reasonably require relating to the Falkland Chase Bond Transaction; (xiii) Fannie Mae shall have received an opinion of counsel to the Borrowers concerning such matters as Fannie Mae may reasonably require relating to the Falkland Chase Bond Transaction and Fannie Mae shall otherwise have received satisfactory evidence that all conditions to the effectiveness and enforceability of the Falkland Chase Refunding Documents have been fully satisfied; (xiv) all legal opinions relating to the Falkland Chase Bond Transaction shall be the same in all material respects as the opinions relating to the Bond Documents and otherwise in form and substance satisfactory to Fannie Mae; (xv) Fannie Mae shall have received certified copies of all consents and authorizations (including Governmental Approvals, if any), necessary for the Issuer or the Borrowers to execute, deliver and perform their respective obligations under the Falkland Chase Refunding Documents; (xvi) Fannie Mae shall have received certified copies of (A) the Issuer's charter or certificate of incorporation and by-laws, if any, (B) the resolution or resolutions of the Issuer authorizing the execution, delivery and performance of its obligations under the Falkland Chase Refunding Documents to which it is a party and (C) certified copies of all other documents evidencing any other official action of such Issuer taken with respect to the Falkland Chase Bond Transaction, as each such item is then in full force and effect; 102 104 (xvii) Fannie Mae shall have received copies of all documents relating to the closing of such Falkland Chase Bond Transaction, authenticated to Fannie Mae's reasonable satisfaction; (xviii) Fannie Mae shall have received true and correct copies of rating letters from the Rating Agency rating the Falkland Chase Bond Transaction confirming that the bonds issued in such transaction have received the same rating afforded other debt instruments of the character of the bonds issued in the Falkland Chase Bond Transaction and which are credit enhanced by Fannie Mae; (xix) the Borrowers shall have executed and delivered to Fannie Mae such amendments and modifications to this Agreement or the other Transaction Documents and Fannie Mae shall have received such other documents, certificates, filings, legal opinions, approvals or instruments, as Fannie Mae shall deem necessary in order to effectuate the Falkland Chase Bond Transaction; (xx) Fannie Mae shall have received payment in full of all fees and expenses (including reasonable fees and disbursements of Fannie Mae's and the Servicer's counsel and accountants), incurred in connection with or related to the Falkland Chase Bond Transaction and the preparation, review, execution and delivery of the Falkland Chase Refunding Documents; and (xxi) Subject to the qualifications set forth above, all documentation relating to the foregoing shall be acceptable to Fannie Mae in its discretion in all respects, including all legal opinions, title insurance policies and endorsements, Security Instruments, Replacement Reserve Agreements, indentures, collateral agreements, assignments and any amendments necessary to this Agreement or the other Transaction Documents. Upon satisfaction in full of the conditions and limitations set forth in this section 5.4(b) with respect to the Falkland Chase Bond Transaction, the Falkland Chase Project shall thereafter be deemed a New Bond Property that shall be added to the Fannie Mae Credit Facility. The addition of the Falkland Chase Project to the Fannie Mae Credit Facility shall become effective only upon Fannie Mae's execution and delivery to the Borrowers of a New Property Confirmation. Upon the execution and delivery of any such New Property Confirmation in accordance with this section 5.4(b), this Agreement shall be automatically deemed amended and supplemented to incorporate the terms and provisions of such New Property Confirmation. 103 105 5 CREDIT ENHANCEMENT OF THE INTERIM CUSTODIAL RECEIPTS TRANSACTIONS AND PERMANENT REFUNDING BOND ISSUES. (a) AGREEMENT TO CREDIT ENHANCE. Subject to satisfaction in full of the conditions and limitations set forth in sections 5.5(b) 5.5(d) and 5.5(e), at the request of the Borrowers and Servicer, Fannie Mae will provide credit enhancement and, if applicable, liquidity support for (i) the Permanent Chase Lea Refunding Bonds (the "PERMANENT CHASE LEA CREDIT ENHANCEMENT"), and/or (ii) the Permanent Chase Ridge Bonds (the "PERMANENT CHASE RIDGE CREDIT ENHANCEMENT"), in either case, by issuing a collateral agreement or Fannie Mae Mortgage Backed Security, substantially in the form of the applicable Related Fannie Mae Credit Enhancement Instruments. In addition, subject to satisfaction in full of the conditions and limitations set forth in sections 5.5(c) 5.5(d) and 5.5(e), at the request of the Borrowers and Servicer, Fannie Mae will provide credit enhancement for (i) the Interim Replacement Chase Lea Custodial Receipts (the "INTERIM REPLACEMENT CHASE LEA CREDIT ENHANCEMENT"), and/or (ii) the Interim Replacement Chase Ridge Custodial Receipts (the "INTERIM REPLACEMENT CHASE RIDGE CREDIT ENHANCEMENT"), in either case, by issuing a collateral agreement or other credit enhancement instrument, substantially in the form of the Related Custodial Receipts Collateral Agreements. Fannie Mae's obligation to issue the Permanent Chase Lea Credit Enhancement, the Permanent Chase Ridge Credit Enhancement, the Interim Replacement Chase Lea Credit Enhancement and the Interim Replacement Chase Ridge Credit Enhancement shall be separate and distinct obligations of Fannie Mae. (b) CERTAIN CONDITIONS TO PERMANENT CHASE RIDGE CREDIT ENHANCEMENT AND PERMANENT CHASE LEA CREDIT ENHANCEMENT. Fannie Mae's obligation to issue the Permanent Chase Lea Credit Enhancement and the Permanent Chase Ridge Credit Enhancement shall be separate and distinct obligations of Fannie Mae, but each such obligation shall be subject to Fannie Mae's determination in Fannie Mae's discretion that each of the following conditions have been satisfied in full: (i) No Event of Default or Potential Event of Default shall have occurred; (ii) concurrently with the consummation of each such Permanent Refunding Bond Transaction (A) the applicable Custodial Receipts Property shall be conveyed to Collateral Inc., (B) the Obligations of Chase Ridge Inc. or Chase Lea Inc., as the case may be, with respect to such Custodial Receipts Property shall be assumed by Collateral Inc. pursuant to documentation in form and substance acceptable to Fannie Mae in its reasonable discretion, and (C) such Borrower shall be released by Fannie Mae from all remaining Obligations of such Borrower pursuant to release documentation prepared by Fannie Mae and reasonably acceptable to such Borrower; 104 106 (iii) The mortgage loan with respect to each Permanent Refunding Transaction (each a "PERMANENT REFUNDING MORTGAGE LOAN"; and collectively, the "PERMANENT REFUNDING MORTGAGE LOANS") shall be originated by an independent third-party lender or issuer and comply with applicable Fannie Mae Charter Act requirements; (iv) With respect to each Permanent Refunding Transaction, the following underwriting tests shall be satisfied: (A) The effective interest rate with respect such Permanent Refunding Mortgage Loan (i.e. the actual fixed rate that would be payable under the mortgage note, if such Permanent Refunding Bond Transaction will be a Fixed Rate Bond Transaction or the initial Pass-Through Rate plus the Facility Fee plus the Bond Fees that would be payable under the mortgage note, if such Permanent Refunding Transaction will be a Floating Rate Bond Transaction) shall not exceed the applicable Underwriting Rate; (B) the ratio (expressed as a percentage) of (1) the Facility Amount of each proposed Permanent Refunding Transaction to (2) the Value of the applicable project plus the amount of any Shortfall Cash Collateral (which, if the Shortfall Cash Collateral is a letter of credit, has a term of at least one year and shall be in an "evergreen format") and/or the Value of any proposed New Additional Property offered by the Borrowers in connection with such Permanent Refunding Transaction, will be equal to or less than (I) 99.1% with respect to the Permanent Chase Ridge Credit Enhancement and (II) 97.7% with respect to the Permanent Chase Lea Credit Enhancement; and (C) the ratio of (1) the Net Operating Income of the applicable project plus (I) the Net Operating Income of any proposed New Additional Property offered by the Borrowers in connection with such Permanent Refunding Transaction for the twelve (12) month period ending within sixty (60) days of the proposed closing date for such Permanent Refunding Transaction, and/or (II) the amount of any Shortfall Cash Collateral (which, if the Shortfall Cash Collateral is a letter of credit, has a term of at least one year and shall be in an "evergreen format") but only to the extent such Shortfall Cash Collateral is not included in the calculation of the loan to value ratio pursuant to section 5.5(b)(iv)(B), for the twelve (12) month period ending within sixty (60) days of the proposed date for the 105 107 addition such project, to (2) to the anticipated Imputed Debt Service with respect to the applicable project for the twelve (12) months immediately following the anticipated date for the addition of the applicable project, each as determined by Fannie Mae in its discretion, will be equal to or exceed 1.14:1; (v) All documentation (including any amendments to this Agreement and the other Transaction Documents) relating to each Permanent Refunding Transaction shall be the same in all material respects as the documentation relating to the existing Bonds, subject to such modifications as may be necessary and which, in any event, are agreed to by the Borrowers and approved by Fannie Mae in its discretion and the terms and conditions of each Permanent Refunding Bond Issue, the related bond documents, mortgage loan documents and other documents delivered in connection with each Permanent Refunding Transaction (the "PERMANENT REFUNDING DOCUMENTS"), shall be satisfactory to Fannie Mae, including the following: (A) such Permanent Refunding Transaction shall be incorporated into and be governed by the terms of this Agreement; (B) the principal amount of (x) the Permanent Refunding Mortgage Loan with respect to the Chase Lea project shall be equal to or less than $16,835,000.00 and (y) the Permanent Refunding Mortgage Loan with respect to the Chase Ridge project shall be equal to or less than $26,815,000.00; (C) if either such Permanent Refunding Transaction will be a Floating Rate Bond Transaction, then, the terms and conditions governing the availability of and conversion between interest rate modes applicable to such Permanent Refunding Transaction and the related Permanent Refunding Mortgage Loan shall conform to the interest rate mode provisions applicable to the existing Bonds and the existing Mortgage Loans in Floating Rate Bond Transactions; (D) the Maturity Date of each Permanent Refunding Mortgage Loan shall be June 1, 2026, provided however, that the principal amortization schedule of each such Permanent Refunding Mortgage Loan shall be sufficient to cause such Permanent Refunding Mortgage Loan to fully amortize by November 1, 2027; (E) the Permanent Refunding Documents shall contain cross-default and cross-collateralization provisions that conform to the existing Transaction Documents; 106 108 (F) if either such Permanent Refunding Transaction will be a Floating Rate Bond Transaction, then, such transaction shall be subject to the interest rate protection provisions of section 3.2 and shall not be eligible for the exceptions set forth in section 3.1(a); and Notwithstanding the foregoing, the Prepayment Premium with respect to each such Permanent Refunding Transaction shall continue for not less than ten (10) years from the Fannie Mae Facility Closing Date; (vi) the Borrowers shall execute and deliver to Fannie Mae (A) a certificate in form and substance approved by Fannie Mae confirming that all of the representations and warranties set forth in this Agreement are true, correct and complete in all material respects with respect to the applicable Custodial Receipts Property after giving effect to each such Permanent Refunding Transaction and (B) a certificate confirming that no Event of Default or Potential Event of Default exists or will exist after giving effect to such Permanent Refunding Transaction; (vii) if either Permanent Refunding Bond Issue will be a Floating Rate Bond Transaction, then, so long as Fannie Mae provides credit enhancement for the such Permanent Refunding Bond Issue, only Fannie Mae shall provide liquidity support, if applicable; (viii) each of the Borrowers and Guarantor, to the extent applicable, shall have delivered to Fannie Mae appropriate evidence satisfactory to Fannie Mae of its authority to execute and deliver the Permanent Refunding Documents to which it is a party; (ix) Fannie Mae shall have received from Servicer such representations, warranties, undertakings and such other certificates as Fannie Mae shall customarily require relating to the Permanent Refunding Transaction; (x) Fannie Mae shall have received such opinions of bond counsel, trustee's counsel and issuer's counsel, and such other opinions and certificates as Fannie Mae shall reasonably require relating to the Permanent Refunding Transaction; (xi) Fannie Mae shall have received an opinion of counsel to the Borrowers concerning such matters as Fannie Mae may reasonably require relating to the Permanent Refunding Transaction and Fannie Mae shall otherwise have received satisfactory evidence that all conditions to the effectiveness and enforceability of the Permanent Refunding Documents have been fully satisfied; 107 109 (xii) All legal opinions relating to the Permanent Refunding Transaction shall be the same in all material respects as the opinions relating to the existing Transaction Documents and otherwise in form and substance satisfactory to Fannie Mae; (xiii) Fannie Mae shall have received certified copies of all consents and authorizations (including Governmental Approvals, if any), necessary for the Chase Ridge Issuer or the Chase Lea Issuer or the Borrowers to execute, deliver and perform their respective obligations under the applicable Permanent Refunding Documents; (xiv) Fannie Mae shall have received certified copies of (A) each Issuer's charter or certificate of incorporation and by-laws, if any, (B) the resolution or resolutions of such Issuer authorizing the execution, delivery and performance of its obligations under the applicable Permanent Refunding Documents to which it is a party and (C) certified copies of all other documents evidencing any other official action of such Issuer taken with respect thereto as each such item is then in full force and effect; (xv) Fannie Mae shall have received copies of all documents relating to the closing of such Permanent Refunding Transaction, authenticated to Fannie Mae's reasonable satisfaction; (xvi) Fannie Mae shall have received true and correct copies of rating letters from the Rating Agency rating the Permanent Refunding Bond Issue confirming that such bonds have received the same rating afforded other debt instruments of the character of the Permanent Refunding Bond Issue which are enhanced by Fannie Mae; (xvii) the Borrowers shall have executed and delivered to Fannie Mae such amendments and modifications to this Agreement or the other Transaction Documents and Fannie Mae shall have received such other documents, certificates, filings, legal opinions, approvals or instruments, as Fannie Mae shall deem necessary in order to effectuate the Permanent Refunding Transaction; (xviii) Fannie Mae shall have received payment in full of all fees and expenses (including reasonable fees and disbursements of Fannie Mae's and the Servicer's counsel and accountants), incurred in connection with or related to the Permanent Refunding Transaction and the preparation, review, execution and delivery of the Permanent Refunding Documents; and (xix) Subject to the qualifications set forth above, all documentation relating to the foregoing shall be acceptable to Fannie Mae in its discretion in all 108 110 respects, including all legal opinions, title insurance policies and endorsements, Security Instruments, Replacement Reserve Agreements, indentures, collateral agreements, assignments and any amendments necessary to this Agreement or the other Transaction Documents. (c) CERTAIN CONDITIONS TO INTERIM REPLACEMENT CREDIT ENHANCEMENT. Fannie Mae's obligation to issue the Interim Replacement Chase Lea Credit Enhancement and the Interim Replacement Chase Ridge Credit Enhancement shall be separate and distinct obligations of Fannie Mae, but each such obligation shall be subject to Fannie Mae's determination in Fannie Mae's discretion that each of the following conditions have been satisfied in full: (i) No Event of Default or Potential Event of Default shall have occurred; (ii) Fannie Mae determines in its reasonable discretion that the Borrowers used best efforts to commence and diligently pursue to completion, the implementation of the Permanent Refunding Transaction with respect to each Custodial Receipts Property and such Permanent Refunding Transaction failed to occur because the issuer and/or the underwriter with respect to such Permanent Refunding Transaction required economic terms or requirements (which economic terms and requirements shall include but not be limited to (A) rental restrictions, (B) initial or annual fees payable to such issuer, (C) initial or annual fees payable to such underwriter and/or (D) indemnification obligations required by such issuer or underwriter) such that the economic terms and requirements of the issuer and/or the underwriter for such Permanent Refunding Transaction, when taken as a whole, were materially more burdensome in terms of their economic impact on the Borrowers than the economic terms and requirements imposed by the Related Issuer with respect to the Bond Transaction relating to the Bond Property identified on Exhibit A as Avalon Knoll, Montgomery County, Maryland; provided, however, that (1) rental restrictions comparable to the existing rental restrictions with respect to each Custodial Receipts Property will not be considered to be materially more burdensome in terms of their economic impact than the requirements imposed with respect to the above transaction and (2) indemnification obligations to the issuer and/or the underwriter for the Permanent Refunding Transaction that are not greater in scope than the indemnification obligations guaranteed by the Guarantor pursuant to the Guaranty will not be deemed to be materially more burdensome in terms of their economic impact than those imposed with respect to the above transaction; (iii) With respect to each Interim Replacement Custodial Receipts Transaction, the following underwriting tests shall be satisfied: 109 111 (A) the ratio (expressed as a percentage) of (1) the Facility Amount of each proposed Interim Replacement Custodial Receipts Transaction to (2) the Value of the applicable project plus the amount of any Shortfall Cash Collateral (which, if the Shortfall Cash Collateral is a letter of credit, has a term of at least one year and shall be in an "evergreen format") and/or the Value of any proposed New Additional Property offered by the Borrowers in connection with such Interim Replacement Custodial Receipts Transaction, will be equal to or less than (I) 99.1% with respect to the Interim Replacement Chase Ridge Credit Enhancement and (II) 97.7% with respect to the Interim Replacement Chase Lea Credit Enhancement; and (B) the ratio of (1) the Net Operating Income of the applicable project plus (I) the Net Operating Income of any proposed New Additional Property offered by the Borrowers in connection with such Interim Replacement Custodial Receipts Transaction for the twelve (12) month period ending within sixty (60) days of the proposed closing date for such Interim Replacement Custodial Receipts Transaction, and/or (II) the amount of any Shortfall Cash Collateral (which, if the Shortfall Cash Collateral is a letter of credit, has a term of at least one year and shall be in an "evergreen format") but only to the extent such Shortfall Cash Collateral is not included in the calculation of the loan to value ratio pursuant to section 5.5(b)(iv)(B), for the twelve (12) month period ending within sixty (60) days of the proposed date for the addition such project, to (2) to the anticipated Imputed Debt Service with respect to the applicable project for the twelve (12) months immediately following the anticipated date for the addition of the applicable project, each as determined by Fannie Mae in its discretion, will be equal to or exceed 1.14:1; (iv) All documentation (including any amendments to this Agreement and the other Transaction Documents) relating to each Interim Replacement Custodial Receipts Transaction shall be the same in all material respects as the documentation relating to the existing Custodial Receipts subject to such modifications as may be necessary and which, in any event, are agreed to by the Borrowers and approved by Fannie Mae in its discretion and the terms and conditions of the Interim Replacement Custodial Receipts and the related documents delivered in connection with each Interim Replacement Custodial Receipts Transaction (the "INTERIM REPLACEMENT CUSTODIAL RECEIPTS DOCUMENTS"), shall be satisfactory to Fannie Mae, including the following: 110 112 (A) such Interim Replacement Custodial Receipts Transaction shall be incorporated into and be governed by the terms of this Agreement; (B) the Facility Amount of (x) the Interim Replacement Custodial Receipts Transaction with respect to the Chase Lea Bond Property shall be equal to or less than $16,835,000.00 and (y) the Interim Replacement Custodial Receipts Transaction with respect to the Chase Ridge Bond Property shall be equal to or less than $26,815,000.00; (D) the termination date of each of the Interim Replacement Chase Lea Credit Enhancement and the Interim Replacement Chase Ridge Credit Enhancement shall be on or before August 31, 2001; (E) the Interim Replacement Custodial Receipts Documents shall contain cross-default and cross-collateralization provisions that conform to the existing Transaction Documents with respect to which Fannie Mae is a party or of which Fannie Mae is a beneficiary; (F) the Interim Replacement Custodial Receipts Documents shall contain provisions requiring the Borrowers to deposit funds on a monthly basis into a trust or escrow fund to be established for the benefit of Fannie Mae and otherwise in form and substance in acceptable to Fannie Mae in its discretion, which payments will be sufficient in amount to amortize the Custodial Receipts Mortgage Loan over three hundred and sixty (360) months at an assumed interest rate equal to 7.05% per annum; (v) the Borrowers shall execute and deliver to Fannie Mae (A) a certificate in form and substance approved by Fannie Mae confirming that all of the representations and warranties set forth in this Agreement are true, correct and complete in all material respects with respect to the applicable Custodial Receipts Property after giving effect to each such Interim Replacement Custodial Receipts Transaction and (B) a certificate confirming that no Event of Default or Potential Event of Default exists or will exist after giving effect to such Interim Replacement Custodial Receipts Transaction; (vi) each of the Borrowers and Guarantor, to the extent applicable, shall have delivered to Fannie Mae appropriate evidence satisfactory to Fannie Mae of its authority to execute and deliver the Interim Replacement Custodial Receipts Documents to which it is a party; 111 113 (vii) Fannie Mae shall have received from Servicer such representations, warranties, undertakings and such other certificates as Fannie Mae shall customarily require relating to the Interim Replacement Custodial Receipts Transaction; (viii) Fannie Mae shall have received such opinions of custodian's counsel, trustee's counsel and depositor's counsel, and such other opinions and certificates as Fannie Mae shall reasonably require relating to the Interim Replacement Custodial Receipts Transaction; (ix) Fannie Mae shall have received an opinion of counsel to the Borrowers concerning such matters as Fannie Mae may reasonably require relating to the Interim Replacement Custodial Receipts Transaction and Fannie Mae shall otherwise have received satisfactory evidence that all conditions to the effectiveness and enforceability of the Interim Replacement Custodial Receipts Documents have been fully satisfied; (x) All legal opinions relating to the Interim Replacement Custodial Receipts Transaction shall be the same in all material respects as the opinions relating to the existing Transaction Documents and otherwise in form and substance satisfactory to Fannie Mae; (xi) the Borrowers shall have executed and delivered to Fannie Mae such amendments and modifications to this Agreement or the other Transaction Documents and Fannie Mae shall have received such other documents, certificates, filings, legal opinions, approvals or instruments, as Fannie Mae shall deem necessary in order to effectuate the Interim Replacement Custodial Receipts Transaction; (xii) Fannie Mae shall have received payment in full of all fees and expenses (including reasonable fees and disbursements of Fannie Mae's and the Servicer's counsel and accountants), incurred in connection with or related to the Interim Replacement Custodial Receipts Transaction and the preparation, review, execution and delivery of the Interim Replacement Custodial Receipts Documents; and (xiii) Subject to the qualifications set forth above, all documentation relating to the foregoing shall be acceptable to Fannie Mae in its discretion in all respects, including all legal opinions, title insurance policies and endorsements, Security Instruments, Replacement Reserve Agreements, indentures, collateral agreements, assignments and any amendments necessary to this Agreement or the other Transaction Documents. 112 114 (d) FACILITY FEE COMPONENTS WITH RESPECT TO PERMANENT AND INTERIM CREDIT ENHANCEMENT TRANSACTIONS. (i) With respect to each Permanent Refunding Transaction: (A) if such Permanent Refunding Transaction is brought into the Fannie Mae Credit Facility as a Fixed Rate Bond Transaction that is not subject to remarketing or interest rate adjustment prior to maturity, then the Credit Enhancement Component with respect to such Permanent Refunding Transaction shall be equal to .50% or 50 "basis points" per annum; (B) if such Permanent Refunding Transaction is brought into the Fannie Mae Credit Facility as a Fixed Rate Bond Transaction that is subject to remarketing or interest rate adjustment prior to maturity, then the Credit Enhancement Component with respect to such Permanent Refunding Transaction shall be equal to .53% or 53 "basis points" per annum; and (C) if such Permanent Refunding Transaction is brought into the Fannie Mae Credit Facility as a Floating Rate Bond Transaction, then (A) the Credit Enhancement Component with respect to such Permanent Refunding Transaction shall be equal to .53% or 53 "basis points" per annum, (B) the Reserve Component with respect to such Permanent Refunding Transaction shall be equal to .30% or 30 "basis points" per annum and (C) the Liquidity Component with respect to such Permanent Refunding Transaction shall be equal to .125% or 12.5 "basis points" per annum. (ii) With respect to each Interim Replacement Custodial Receipts Transaction, the Credit Enhancement Component shall be equal to .50% or 50 "basis points" per annum. (e) CONFIRMATION OF PERMANENT AND INTERIM CREDIT ENHANCEMENT TRANSACTIONS. Upon satisfaction in full of the conditions and limitations set forth in section 5.5(c) with respect to either the Interim Replacement Chase Lea Custodial Receipts or the Interim Replacement Chase Ridge Custodial Receipts, the applicable Custodial Receipts Property shall continue to be part of the Fannie Mae Credit Facility as a Custodial Receipts Property. Fannie Mae's consent to each such Interim Custodial Receipts Transaction shall be evidenced by Fannie Mae's execution and delivery of a collateral agreement substantially in the form of the Related Custodial Receipts Collateral Agreements. Upon satisfaction in full of the conditions and limitations set forth in this section 5.5 with respect to either the Permanent Chase Lea Bonds or the Permanent 113 115 Chase Ridge Bonds, the applicable Custodial Receipts Property shall cease to be a Custodial Receipts Property for purposes of this Agreement and shall thereafter be deemed a New Bond Property that shall be added to the Fannie Mae Credit Facility. The addition of each such Custodial Property to the Fannie Mae Credit Facility shall become effective only upon Fannie Mae's execution and delivery to the Borrowers of a New Property Confirmation. Upon the execution and delivery of any such New Property Confirmation in accordance with this section 5.5, this Agreement shall be automatically deemed amended and supplemented to incorporate the terms and provisions of such New Property Confirmation. 6 CERTAIN PERMITTED TRANSFERS OF BOND PROPERTIES. (a) CONDITIONS TO PERMITTED TRANSFERS. At the request of the Borrowers, Fannie Mae shall, from time to time, consent to the sale and transfer of a Bond Property subject to Fannie Mae credit enhancement (a "PROPOSED TRANSFER") to an independent third-party purchaser if Fannie Mae determines that each of the following conditions have been satisfied in full: (i) no Event of Default or Potential Event of Default shall have occurred and be continuing either immediately before or immediately after giving effect to the Proposed Transfer; (ii) at the time of such Proposed Transfer, Fannie Mae continues to provide credit enhancement, and if applicable, liquidity support, with respect to new bond transactions similar to the Related Bonds pursuant to guaranteed mortgage pass-through certificates or collateral agreements, as the case may be, similar to the Related Fannie Mae Credit Enhancement Instrument and the provision of such credit enhancement and, if applicable, liquidity support, continues to be permitted under the Fannie Mae Charter Act; (iii) the Borrowers shall either redeem or otherwise remove Bonds from the Fannie Mae Credit Facility and/or post cash collateral in a manner acceptable to Fannie Mae, in either case in an amount equal to 110% of the Allocable Facility Amount of the Bond Property that is proposed to be transferred, which redemption, removal or cash collateral requirement shall be satisfied by (1) the amount of Related Bonds outstanding immediately prior to the Proposed Transfer, plus (2) the amount of any other Bonds redeemed by the Borrowers to obtain approval of the Proposed Transfer, plus (3) the amount of any Release Price Cash Collateral posted by the Borrowers to obtain approval for the Proposed Transfer; (iv) the Borrowers cause to be submitted to Fannie Mae all information required by Fannie Mae to evaluate the Proposed Transferee and the Bond Property as if 114 116 a new loan were being made to the Proposed Transferee and secured by the Bond Property proposed to be transferred; (v) the proposed transferee shall be a Single-Purpose entity, shall not be an Affiliate of any Borrower or Guarantor and meets the eligibility, credit, management and otherwise satisfies the then applicable underwriting standards customarily applied by Fannie Mae for approval of new borrowers (the "PROPOSED TRANSFEREE"); (vi) at the time of such Proposed Transfer, the Bond Property proposed to be transferred shall be subject to re-underwriting in accordance with Fannie Mae's then applicable standards (including satisfaction of loan to value ratio requirements, debt service coverage ratio requirements, physical maintenance requirements, replacement reserve requirements and all other applicable conditions, requirements and limitations), customarily applied by Fannie Mae for approval of new loans secured by liens on new Multifamily Residential Properties and such re-underwriting shall be conducted by or on behalf of Servicer and Fannie Mae taking into account all facts and circumstances deemed relevant by Servicer and Fannie Mae; (vii) the Proposed Transferee shall: (1) assume, from and after the transfer date, all of the obligations of the Borrowers under and with respect to the Related Bonds, the other Bond Documents, the Bond Property Loan Documents with respect to such Bond Property, and the related Fannie Mae credit enhancement pursuant to documentation in form and substance acceptable to Fannie Mae; (2) enter into a reimbursement agreement and such other documentation deemed necessary by Fannie Mae to evidence and secure its reimbursement and other obligations to Fannie Mae; (3) agree to credit enhancement pricing and, if applicable, liquidity pricing that shall be determined by Fannie Mae; and (4) amend, modify, supplement or amend and restate the Related Bond Documents and the Bond Property Loan Documents with respect to such Bond Property, all as deemed necessary by Fannie Mae; (viii) the Borrowers shall have obtained the consent of the Issuer with respect to the Related Bonds, the Related Trustee and each other party to the Related Bond Documents and the Bond Property Loan Documents if such consent to a transfer of a Bond Property is required under the terms of such documents; (ix) all documentation relating to the foregoing shall be acceptable to Fannie Mae in all respects, including legal opinions, release documentation and any amendments to this Agreement or the other Transaction Documents; (x) the Borrowers or the Permitted Transferee shall have paid to Fannie Mae its customary transfer and assumption fees consisting of a $3000 non-refundable application fee and, upon completion of the Proposed Transfer transaction, a transfer fee equal to one percent (1%) of the Allocable Facility Amount of the Bond Property that is 115 117 proposed to be transferred. In addition, the Borrowers shall have paid or caused to have been paid to Fannie Mae and Servicer, customary due diligence fees plus all costs and expenses (including reasonable legal fees and expenses) incurred by Fannie Mae or Servicer in connection with the foregoing, to the extent such expenses exceed $3000. Such additional amounts shall be paid by the Borrowers promptly upon receipt of invoices therefor, and shall be payable regardless of whether the Bond Property is or is not (for any reason) ultimately transferred; and (xi) the Borrowers or the Permitted Transferee shall have paid to the appropriate parties all other fees, costs and expenses (including legal fees and expenses) payable by the Borrowers to each of the related Issuer, the Related Trustee, the related Remarketing Agent, Fannie Mae and Servicer under the terms of the Bond Property Loan Documents and the Bond Documents with respect to such Bond Property in connection with the Proposed Transfer. (b) PERMITTED TRANSFERS. Fannie Mae's consent to a Proposed Transfer shall become effective upon (i) Fannie Mae's determination, that each of the conditions set forth in section 5.6(a) above have been satisfied in full, and (ii) Fannie Mae's execution and delivery to the Borrowers of a written instrument confirming that each of the conditions set forth in section 5.6(a) above have been satisfied in full and releasing the Borrowers from their Obligations under this Agreement from and after the transfer date, solely to the extent such Obligations relate to the Bond Property to be released. Any transfer of a Bond Property consented to by Fannie Mae in accordance with the provisions set forth above (a "PERMITTED TRANSFER") shall be made together with and subject to (1) the Related Bonds, (2) the other Related Bond Documents (subject to any amendments and modifications required by Fannie Mae in accordance with subsection (a) above), (3) the Bond Property Loan Documents with respect to such Bond Property (subject to any amendments and modifications required by Fannie Mae in accordance with subsection (a) above), and (4) appropriate Fannie Mae credit enhancement with respect to such Bond Property. Notwithstanding anything herein or in the Bond Property Loan Documents with respect to such Bond Property to the contrary, the Borrowers shall not be required to pay the Prepayment Premium otherwise required under any the Related Mortgage Note in connection with a Permitted Transfer. 7 CERTAIN PREPAYMENT PREMIUM WAIVERS. Notwithstanding anything to the contrary contained in this Agreement, any Related Fannie Mae Credit Enhancement Instrument or any Related Mortgage Note, the Borrowers shall not be required to pay the Prepayment Premium otherwise required under any of the Related Mortgage Notes upon the release or substitution of any Bond Property in accordance with section 5.2 or section 5.3 hereof, except to the extent that, after giving effect to such prepayment, either (i) the Aggregate Facility Amount is less than either (a) $91,000,000.00, if such prepayment occurs prior to the addition of the Falkland Chase Bond Transaction to the Fannie Mae Credit Facility, or (b) $117,000,000.00, if such prepayment occurs upon or after the 116 118 addition of the Falkland Chase Bond Transaction to the Fannie Mae Credit Facility, or (ii) the amount of any such prepayment when added to the aggregate amount of all prior reductions in the Aggregate Facility Amount exceeds $10,000,000.00. 8 CERTAIN PERMITTED CHANGES IN CONTROL. Notwithstanding anything to the contrary contained in this Agreement or any of the Mortgages, Fannie Mae acknowledges and agrees that Fannie Mae will not unreasonably withhold its consent to a "Change of Control" under the Uniform Covenant 19(b)(iii) of the Mortgages, provided that Collateral Inc. gives Fannie Mae not less than forty-five (45) days prior written notice of such Change of Control. The Borrowers acknowledge and agree that time is of the essence with respect to such notice and that the preceding agreement of Fannie Mae and the remaining provisions of this section 5.8 shall be null and void unless such notice is timely given by Collateral Inc. If Fannie Mae shall have received such notice not less than forty-five (45) days prior to any such Change of Control and Fannie Mae determines in its reasonable discretion not to grant its consent to such Transfer, then Fannie Mae and the Borrowers acknowledge and agree that (a) within one hundred and eighty (180) days from the date that Fannie Mae provides Collateral Inc. with written notice of its refusal to grant its consent to such Transfer, the Borrowers shall cause the Related Trustees to replace each and every Facility with alternate credit enhancement in accordance with the requirements of section 6.2 and (b) notwithstanding the provisions of Section 6.2(e), the Borrowers shall not be required to pay the Prepayment Premium otherwise required under any of the Related Mortgage Notes. 117 119 VI. SERVICING; REPLACEMENT OF CREDIT ENHANCEMENT 1 Servicing. The Borrowers acknowledge that Fannie Mae has designated or may designate an independent contractor to service the Mortgage Loans, the Bond Property Loan Documents and the Reimbursement Loan Documents. The Borrowers agree that to the extent that any provision in this Agreement or any other Transaction Document requires, at stipulated dates or at the request of Fannie Mae, the delivery by the Borrowers of certain notices, documents, certificates, opinions, and financial or other information to Fannie Mae or the Lender (as such term is used and defined in the Mortgage Documents), all such items shall instead be delivered to, or at the request of, Servicer, subject to the provisions of this section. The Borrowers acknowledge and agree that Fannie Mae has delegated or may delegate certain functions to Servicer with respect to the Transaction Documents, subject to and in accordance with the Servicing Agreement. The Borrowers further acknowledge and agree that in connection with any provision in this Agreement or in any other Transaction Document requiring that any notices, documents or other information shall be given to Servicer, or that Servicer shall have the right to request any documents or other information from the Borrowers, Fannie Mae shall have the right to instruct the Borrowers to instead (a) deliver such items directly to Fannie Mae or to such other Person as Fannie Mae may, from time to time, designate, and (b) act in accordance with the instructions of Fannie Mae with respect to any such items or any other rights Servicer may have under this Agreement or under any other Transaction Document. In addition, the Borrowers agree that any right of Fannie Mae to give or deliver to the Borrowers any notice or other communications, or to receive from the Borrowers any document or other information, may be given, delivered or received by Servicer, unless otherwise directed by Fannie Mae. The Borrowers shall act in accordance with any instructions received from Fannie Mae pursuant to this section. The Borrowers further acknowledge and agree that Fannie Mae reserves the unconditional right to remove or replace Servicer with or without cause, with a substitute Servicer chosen by Fannie Mae and upon any such removal or replacement, Fannie Mae shall notify the Borrowers of the identity of the new servicer, if any. 2 REPLACEMENT OF FANNIE MAE CREDIT ENHANCEMENT. Except as otherwise permitted upon a substitution or release of a Property pursuant to section 5.2 or section 5.3, respectively, the Borrowers will not cause any Related Trustee to terminate any Facility (except in connection with the repayment of all of the outstanding Related Securities or in connection with a Permitted Transfer) or replace any Facility with alternate credit enhancement unless prior to or simultaneously with the effectiveness of such termination or replacement: 118 120 (a) Fannie Mae's Facility is replaced or terminated with respect to all of the outstanding Bonds, and all of the Related Fannie Mae Credit Enhancement Instruments are terminated in full except to the extent that such Related Fannie Mae Credit Enhancement Instruments continue to impose liability on Fannie Mae for any avoidance, recovery or disgorgement risk that is addressed to Fannie Mae's satisfaction in accordance with the requirements of subsection 6.2(d); (b) the alternate credit enhancer's short term debt obligations are rated in the highest short term category and long term debt obligations are rated at least "A" by the Rating Agencies; (c) the Borrowers shall have received a statement from Fannie Mae to the effect that the Borrowers have paid to Fannie Mae the amount of all Advances, Activity Fees and any other outstanding obligations of the Borrowers to Fannie Mae hereunder, whether or not such Advances, Activity Fees or other amounts are otherwise then due; (d) Fannie Mae reasonably determines, in light of such opinions of legal counsel, opinions of certified public accountants that prepare the audited financial statements of the Borrowers and Guarantor and such other similar information and opinions as may be provided by the Borrowers to Fannie Mae, that no part of any payments made by the Borrowers prior to or concurrently with the credit enhancement termination or replacement will likely result in an avoidance or any other recovery or disgorgement pursuant to the Bankruptcy Code (including sections 544, 547, 549 or 550 thereof) or any other applicable bankruptcy or insolvency law which would result in Fannie Mae having any liability under any Related Fannie Mae Collateral Agreement, or the Borrowers will provide cash collateral or make other arrangements acceptable to Fannie Mae in its discretion to ameliorate such risk of avoidance, recovery or disgorgement; and (e) the Borrowers shall have paid the Prepayment Premium with respect to the Mortgage Loans in accordance with the requirements of the Related Mortgage Notes calculated based on the assumption that the Mortgage Loan is being prepaid in full on the day immediately preceding the effective date of the alternative credit enhancement. 119 121 VII. EVENTS OF DEFAULT AND REMEDIES 1 EVENTS OF DEFAULT. Each of the following events shall constitute an "Event of Default" under this Agreement, whatever the reason for such event and whether it shall be voluntary or involuntary, or within or without the control of the Borrowers, or be effected by operation of law or pursuant to any judgment or order of any court or any order, rule or regulation of any Governmental Authority: (a) the occurrence of an "EVENT OF DEFAULT" under any other Transaction Document or the occurrence of any other default under any Transaction Document beyond any specified cure period set forth therein; or (b) the failure by any Borrower to pay when due any amount payable by such Borrower under any Related Mortgage Note, any Mortgage, this Agreement or any other Transaction Document, including any fees, costs or expenses; or (c) the failure by any Borrower to perform or observe any covenant set forth in subsections 2.2(b), (c), (g), (h), (j) or (q), in subsections 2.3 (a), (b), (d), (e), (g) to (i) inclusive or (k), in section 2.4, in section 2.5, in section 2.6, in section 2.7 or in Article III; or (d) the failure by any Borrower to perform or observe any covenant set forth in subsection 2.2(a), (e), (d), or (k) to (m), inclusive, hereunder, within ten (10) days after receipt of notice from Servicer or Fannie Mae; or (e) the failure by any Borrower to perform or observe any covenant set forth in subsection 2.2(i) or 2.3(j) hereunder, within twenty (20) days after receipt of notice from Servicer or Fannie Mae; or (f) any warranty, representation or other written statement made by or on behalf of any Borrower contained in this Agreement, any other Transaction Document or in any instrument furnished in compliance with or in reference to any of the foregoing, is false or misleading in any material respect on any date when made or deemed made; or (g) any other Indebtedness in an aggregate amount in excess of $100,000 of or assumed by the Borrowers (i) is not paid when due nor within any applicable grace period in any agreement or instrument relating to such Indebtedness or (ii) becomes due and payable before its normal maturity by reason of a default or event of default, however described, or any other event 120 122 of default shall occur and continue after the applicable grace period, if any, specified in the agreement or instrument relating to such Indebtedness; or (h) (i) any Borrower or Guarantor shall (A) commence a voluntary case under the Federal bankruptcy laws (as now or hereafter in effect), (B) file a petition seeking to take advantage of any other laws, domestic or foreign, relating to bankruptcy, insolvency, reorganization, debt adjustment, winding up or composition or adjustment of debts, (C) consent to or fail to contest in a timely and appropriate manner any petition filed against it in an involuntary case under such bankruptcy laws or other laws, (D) apply for or consent to, or fail to contest in a timely and appropriate manner, the appointment of, or the taking of possession by, a receiver, custodian, trustee or liquidator of itself or of a substantial part of its property, domestic or foreign, (E) admit in writing its inability to pay, or generally not be paying, its debts as they become due, (F) make a general assignment for the benefit of creditors, (G) assert that the any Borrower or Guarantor has no liability or obligations under this Agreement or any other Transaction Document to which it is a party, or (H) take any action for the purpose of effecting any of the foregoing; or (ii) a case or other proceeding shall be commenced against any Borrower or Guarantor in any court of competent jurisdiction seeking (A) relief under the Federal bankruptcy laws (as now or hereafter in effect) or under any other laws, domestic or foreign, relating to bankruptcy, insolvency, reorganization, winding upon or composition or adjustment of debts, or (B) the appointment of a trustee, receiver, custodian, liquidator or the like of any Borrower or Guarantor, or of all or a substantial part of the property, domestic or foreign, of any Borrower or Guarantor and any such case or proceeding shall continue undismissed or unstayed for a period of 60 consecutive calendar days, or any order granting the relief requested in any such case or proceeding against any Borrower or Guarantor (including an order for relief under such Federal bankruptcy laws) shall be entered; or (i) if any provision of this Agreement or any other Transaction Document or the lien and security interest purported to be created hereunder or under any Transaction Document shall at any time for any reason cease to be valid and binding in accordance with its terms on any Borrower or shall be declared to be null and void, or the validity or enforceability hereof or thereof or the validity or priority of the lien and security interest created hereunder or under any other Transaction Document shall be contested by any Borrower seeking to establish the invalidity or unenforceability hereof or thereof, any Borrower shall deny that it has any further liability or obligation hereunder or thereunder; or (j) if a "Transfer" (as defined in any Related Mortgage) or a "Change in Control" (as defined in any Related Mortgage) shall occur in violation of Uniform Covenant 19(b) of any Related Mortgage or if any Property or any part thereof is otherwise conveyed, assigned, mortgaged, pledged, leased or encumbered in any way other than as permitted under this Agreement or any Related Mortgage without the prior written consent of Fannie Mae; or (k) (x) the execution by any Borrower of a chattel mortgage or other security agreement on any materials, fixtures or articles used in the construction or operation of the 121 123 improvements located on any Property or on articles of personal property located therein, excluding equipment leases and security interests granted in the ordinary course of business in office equipment at Borrowers' rental office, or (y) if any such materials, fixtures or articles are purchased pursuant to any conditional sales contract or other security agreement or otherwise so that the ownership thereof will not vest unconditionally in any of the Borrowers free from encumbrances, or (z) if the Borrowers do not furnish to Fannie Mae upon request the contracts, bills of sale, statements, receipted vouchers and agreements, or any of them, under which any Borrower claims title to such materials, fixtures, or articles; or (l) failure of any Borrower, upon request, to furnish to Fannie Mae the results of official searches made by any Governmental Authority, or failure by any Borrower to comply with any requirement of any Governmental Authority within 30 days after written notice of such requirement shall have been given to the Borrowers by such Governmental Authority; provided that, if action is commenced and diligently pursued by the Borrowers within such 30 days, then the Borrowers shall have an additional 30 days to comply with such requirement; or (m) a dissolution or liquidation for any reason (whether voluntary or involuntary) of any Borrower or Guarantor; or (n) if any Borrower shall fail to qualify as a "qualified REIT subsidiary" of Guarantor under Subchapter M of the Code; or (o) if Guarantor shall fail to qualify as a real estate investment trust under Subchapter M of the Code; (p) the failure by Guarantor to perform or observe any term, covenant, condition or agreement under the Guaranty within ten (10) days after receipt of notice from Servicer or Fannie Mae; (q) any judgment against any of the Borrowers or any attachment or other levy against any portion of the assets of any Borrower with respect to a claim in an amount in excess of $100,000.00 individually, and/or $250,000.00 in the aggregate for all such claims for all of the Borrowers, remains unpaid, unstayed on appeal, undischarged, unbonded, not fully insured or undismissed for a period of sixty (60) days; or (r) if, following an optional or mandatory tender of Related Bonds in accordance with the Related Indenture in any Floating Rate Bond Transaction, the Related Bonds have not been remarketed, but have been purchased by the Related Trustee on behalf of and as agent for the applicable Borrower with funds provided by Fannie Mae under the Related Fannie Mae Collateral Agreement and such Related Bonds have not been remarketed as of the ninetieth (90th) day following such purchase, then, at any time following such ninetieth (90th) day, and provided the Related Bonds have not then been remarketed, such failed remarketing shall, at Fannie Mae's option, constitute an Event of Default under this Agreement; or 122 124 (s) the failure by any Borrower to maintain insurance with respect to each Property in accordance with the terms of the Related Mortgage with respect to each such Property; or (t) the failure by any Borrower to perform or observe the covenants with respect to Hazardous Materials or Hazardous Materials Laws set forth in any Mortgages or in any other Transaction Document including, the covenants set forth in Paragraph D of the Rider to Multifamily Instrument constituting a part of each Mortgage; or (u) the failure by any Borrower to perform or observe any term, covenant, condition or agreement hereunder, other than as set forth in subsections (a) through (t) above, or in any other Transaction Document, within thirty (30) days after receipt of notice from Servicer or Fannie Mae identifying such failure; provided, however, that if in Fannie Mae's judgment, (i) the cure of such failure requires a period in excess of 30 days, (ii) such failure will not result in a Material Adverse Effect, and (iii) corrective action is instituted by the Borrowers within such period and pursued diligently and in good faith, then such failure shall not constitute an Event of Default unless such failure is not cured by the Borrowers within sixty (60) days after receipt of notice from Servicer or Fannie Mae identifying such failure; or (v) any Borrower or Guarantor shall have asserted that it has no liability or obligations under this Agreement or under any Transaction Document to which it is a party or that the liens and the security interests purported to be created by the Mortgage Loan Documents shall not be a valid and perfected first priority security interest subject to no Liens except Permitted Liens; or (b) any Governmental Authority having jurisdiction over any Borrower or Guarantor shall find or rule that any material provision of this Agreement or any Transaction Document to which it is a party is not valid and binding on such person or that the lien and the security interest purported to be created by any Mortgage Loan Document shall not be a valid and perfected first priority security interest subject to no Liens except Permitted Liens; or (w) a Reset Period expires and the Borrowers have not either (i) received the prior written consent of Fannie Mae to a change in Mode or the maintenance of the existing Mode or (ii) delivered Alternate Credit Facilities in accordance with the terms of the Related Bond Documents and section 6.2. 2 REMEDIES. Upon the occurrence of an Event of Default and, solely with respect to subsection (d) below, upon the occurrence of a Potential Event of Default, Fannie Mae may in its discretion, but shall not be obligated to, exercise any or all of the following remedies: (a) declare all amounts payable by the Borrowers under this Agreement or the other Transaction Documents to be forthwith due and payable, and the same shall thereupon 123 125 become due and payable without demand, presentment, protest or notice of any kind, all of which are hereby expressly waived; or (b) exercise all or any of its rights and remedies as it may otherwise have under Applicable Law and under this Agreement or the other Transaction Documents or otherwise by such suits, actions, or special proceedings in equity or at law, or by proceedings in the office of any board or officer having jurisdiction, either for specific performance of any covenant or agreement contained in this Agreement or any other Transaction Document, or in aid or execution of any power therein granted or for the enforcement of any proper legal or equitable remedy; or (c) demand and the Borrowers shall provide cash collateral or Government Obligations in the full amount of the outstanding obligations under all of the Bonds whether or not due and payable; or (d) apply all or any portion of the Collateral to any Obligations or other obligation of the Borrowers under this Agreement or any other Transaction Document, in such amounts, at such times and in such order as determined by Fannie Mae in its discretion. The Borrowers acknowledge that this may include, among other things, applying funds or directing any Related Trustee to apply funds on deposit in a Principal Reserve Fund or the Cash Management Account to prepay the applicable Related Securities or to prepay any other Related Securities or reimbursement or other payment obligations under this Agreement or any other Transaction Document. Such funds may be applied to prepay or reduce amounts outstanding under one or more issues of Related Securities regardless of whether such amounts are then due and owing; or (e) deliver to the Related Trustees written notice that an Event of Default has occurred under this Agreement and directing the Related Trustees to take such action pursuant to the Transaction Documents as Fannie Mae may determine, including a request that the Related Trustees declare the principal of all or a portion of the Related Securities then outstanding and the interest accrued thereon to be immediately due and payable in accordance with the terms and conditions of the Related Indentures. No failure or delay on the part of Fannie Mae to exercise 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 further exercise thereof or the exercise of any further right or remedy hereunder or under any other Transaction Document. The remedies herein provided are cumulative and not exclusive of any remedies provided by law or under any Transaction Document. No exercise by Fannie Mae of any remedy under any Transaction Document shall operate as a limitation on any rights or remedies of Fannie Mae under this Agreement. In order to entitle Fannie Mae to exercise any remedy reserved to Fannie Mae in this Article, it shall not be necessary to give any notice, other than such notice as may be required under the 124 126 applicable provisions of any of the Transaction Documents. The rights and remedies of Fannie Mae specified in this Agreement are for the sole and exclusive benefit, use and protection of Fannie Mae, and Fannie Mae is entitled, but shall have no duty or obligation to the Borrowers, any Issuer, any Related Trustee, any Bondholder with respect to any of the Bonds, or otherwise, (a) to exercise or to refrain from exercising any right or remedy reserved to Fannie Mae hereunder, or (b) to cause any Related Trustee or any other party to exercise or to refrain from exercising any right or remedy available to it under any of the Transaction Documents. VIII. MISCELLANEOUS 1 WAIVERS, AMENDMENTS. This Agreement may be amended only by a written instrument duly executed by each of the parties hereto. The Borrowers may take any action herein prohibited or omit to perform any act herein required to be performed or omit to perform any act herein required to be performed by it, only if the Borrowers shall first obtain the written consent of Fannie Mae thereto. No course of dealing between the Borrowers and Fannie Mae, nor any delay in exercising any rights hereunder, shall operate as a waiver of any rights of Fannie Mae hereunder. Unless otherwise specified in such waiver or consent, a waiver or consent given hereunder shall be effective only in the specific instance and for the specific purpose for which given. 2 SURVIVAL OF REPRESENTATION AND WARRANTIES. All statements contained in any Transaction Document or in any certificate, financial statement or other instrument delivered by or on behalf of any Borrower pursuant to or in connection with this Agreement (including any such statement made in or in connection with any amendment hereto or thereto) shall constitute representations and warranties made under this Agreement. All representations and warranties made under this Agreement (a) shall be made and shall be true at and as of the date of this Agreement, the Fannie Mae Facility Closing Date and the date of each Advance, and (b) shall survive the execution and delivery of this Agreement, regardless of any investigation made by Fannie Mae or on its behalf. 125 127 3 NOTICES. All notices, directions, certificates or other communications hereunder shall be given by certified or registered mail, return receipt requested, OR by overnight courier addressed to the appropriate notice address set forth below. Any of the parties hereto may, by a notice to the other party specifically captioned "Notice of Change of Address pursuant to section 8.3 of the Master Reimbursement Agreement", designate any further or different address to which subsequent notices, certificates or other communications shall be sent without any requirement of execution of any amendment to this Agreement. Any such notice, certificate or communication shall be deemed to have been given as of the date of actual delivery or the date of failure to deliver by reason of refusal to accept delivery or changed address of which no notice was given pursuant to this section 8.3. Unless otherwise directed by Fannie Mae pursuant to section 8.19, all notices pursuant to this Agreement shall also be given to Servicer in accordance with this section 8.3. The notice addresses are as follows: (a) if to Borrowers: c/o Avalon Properties, Inc. 5904 Richmond Highway, Suite 300 Alexandria, Virginia 22303 Attention: Chief Financial Officer with copies to: c/o Avalon Properties, Inc. 15 River Road, Suite 210 Wilton, Connecticut 06897 Attention: Joanne Lockridge and to: Baber & Kalinowski, P.C. 3050 Chain Bridge Road, Suite 305 Fairfax, Virginia 22030 Attention: Brant Baber, Esq. (b) if to Fannie Mae: if by mail or overnight courier: Fannie Mae 3900 Wisconsin Avenue, N.W. 126 128 Washington, D.C. 20016 Attention: Senior Vice President - Multifamily Activities if by messenger: Fannie Mae 3939 Wisconsin Avenue, N.W. Washington, D.C. 20016 Attention: Senior Vice President - Multifamily Activities in each case, with copies to: Fannie Mae Southeast Regional Office 950 East Paces Ferry Road Suite 1900 Atlanta, Georgia 30326 Attention: Vice President - Multifamily Activities and to: Fannie Mae 3900 Wisconsin Avenue, N.W. Washington, D.C. 20016 Attention: Multifamily Mortgage Operations-Manager Multifamily Deliveries (c) if to Servicer: Washington Capital DUS, Inc. 1616 North Fort Myer Drive, Suite 1210 Arlington, Virginia 22209 Attention: Bridget O. Schmitz Executive Vice President 127 129 4 PAYMENT PROCEDURE. The Borrowers agree that, unless otherwise directed pursuant to section 6.1, all amounts due to Fannie Mae under Article 4 of this Agreement shall be paid to Servicer for remittance to Fannie Mae pursuant to the Servicing Agreement. All payments to be made to Servicer, for the account of Fannie Mae, pursuant to this Agreement shall be paid in immediately available funds to Servicer in accordance with the Related Mortgage Note or in accordance with instructions given to the Borrowers by Servicer. Except as otherwise provided above in this section 8.4, all payments to be made to Fannie Mae pursuant to this Agreement shall be made before 2:00 p.m., Washington, D.C. time, on the date when due, in lawful currency of the United States of America and in immediately available funds by wire transfer to an account designated in writing by Fannie Mae unless the Borrowers are otherwise instructed in writing by Fannie Mae. Notwithstanding the foregoing, in connection with Borrowers' obligation to reimburse Fannie Mae by 2:00 p.m., Washington, D.C. time for certain payments made by Fannie Mae as provided in Article 4 of this Agreement, such payment will, unless otherwise directed pursuant to section 8.19, be deemed to have been timely made if made to Servicer, for remittance to Fannie Mae, by wire transfer to an account designated in writing by Servicer, before 2:00 p.m., Washington, D.C. time. 5 CONTINUING OBLIGATION. This Agreement is a continuing obligation of the Borrowers and shall, until the later of the date upon which all amounts due and owing to Fannie Mae hereunder shall have been paid in full and the date Fannie Mae's obligations under the last remaining Related Fannie Mae Credit Enhancement Instrument are terminated, (a) be binding upon the Borrowers and its successors and assigns and (b) inure to the benefit of and be enforceable by Fannie Mae and its successors, transferees and assigns; provided, that the Borrowers may not assign all or any part of this Agreement without the prior written consent of Fannie Mae. Notwithstanding the foregoing, the Obligations of (i) Chase Ridge Inc. shall terminate upon Chase Ridge Inc.'s receipt of a release from Fannie Mae in accordance with Section 5.3(e) or Section 5.5(b)(ii) and (ii) Chase Lea Inc. shall terminate upon Chase Lea Inc.'s receipt of a release from Fannie Mae in accordance with Section 5.3(e) or Section 5.5(b)(ii). 6 SATISFACTION REQUIREMENT. If any agreement, certificate or other writing, or any action taken or to be taken, is by the terms of this Agreement required to be satisfactory to, or subject to the satisfaction of, Fannie Mae, then, unless otherwise expressly specified herein, the determination of such satisfaction shall be made by Fannie Mae in its sole and exclusive judgment. 128 130 7 CONSENT OF FANNIE MAE. If any provision of this Agreement provides for the approval, consent, election, determination, exercise of discretion, choice, designation, judgment or waiver of or by Fannie Mae and if a basis for Fannie Mae granting such approval, consent, determination, election, exercise of discretion, choice, designation, judgment or waiver is not otherwise stated (i.e., that such approval, consent, election, determination, exercise of discretion, choice, designation, judgment or waiver will be "reasonable"), then in each case such approval, consent, determination, election, exercise of discretion, choice, designation, judgment or waiver will be given by Fannie Mae in its sole and absolute discretion. 8 GOVERNING LAW. This Agreement shall be construed and enforced in accordance with, and the rights and remedies of the parties hereto shall be governed by, the laws of the District of Columbia without regard to conflicts of law, principles, except to the extent that Federal laws may prevail; provided, however, that matters respecting the creation, perfection, priority and foreclosure of the Lien on each Property granted pursuant to or in connection with the Transaction Documents shall be governed by, and construed and enforced in accordance with, the internal law of the state or commonwealth in which such Property is situated without giving effect to the conflicts of law principles of such state or commonwealth. 9 JURISDICTION, CONSENT TO SERVICE . (a) Each of the Borrowers hereby irrevocably and unconditionally submits, for itself and its property, to the nonexclusive jurisdiction of any District of Columbia court or Federal court of the United States of America sitting in the District of Columbia, and any appellate court from any thereof, in any action or proceeding arising out of or relating to this Agreement, the Bond Documents, the Mortgage Documents, the Custodial Receipts Documents and every other Transaction Document, or for recognition or enforcement of any judgment, and each of the parties hereto hereby irrevocably and unconditionally agrees that all claims in respect of any such action or proceeding may be heard and determined in such District of Columbia court or, to the extent permitted by law, in such Federal court. Each of the parties hereto agrees that a final judgment in any such action or proceeding shall be conclusive and may be enforced in other jurisdictions by suit on the judgment or in any other manner provided by law. Nothing in this Agreement shall effect any right that Fannie Mae may otherwise have to bring any action or proceeding relating to this Agreement, the Bond Documents, the Mortgage Documents, the Custodial Receipts Documents or the other Transaction Documents against any Borrower or its properties in the courts of any jurisdiction. (b) Each Borrower hereby irrevocably and unconditionally waives, to the fullest extent it may legally and effectively do so, any objection which it may now or hereafter 129 131 have to the laying of venue of any suit, action or proceeding arising out of or relating to this Agreement, the Bond Documents, the Mortgage Documents, the Custodial Receipts Documents or the other Transaction Documents in any District of Columbia or Federal court. Each of the parties hereto hereby irrevocably waives, to the fullest extent permitted by law, the defense of an inconvenient forum to the maintenance of such action or proceeding in any such court. (c) Each party to this Agreement irrevocably consents to service of process in the manner provided for notices in section 8.3. Nothing in this Agreement will affect the right of any party to this Agreement to serve process in any other manner permitted by law. 10 WAIVERS OF JURY TRIAL. BORROWERS AND FANNIE MAE (A) COVENANT AND AGREE NOT TO ELECT A TRIAL BY JURY WITH RESPECT TO ANY ISSUE ARISING UNDER THIS AGREEMENT OR ANY OF THE OTHER TRANSACTION DOCUMENTS TRIABLE BY A JURY AND (B) WAIVE ANY RIGHT TO TRIAL BY JURY TO THE EXTENT THAT ANY SUCH RIGHT SHALL NOW OR HEREAFTER EXIST. THIS WAIVER OF RIGHT TO TRIAL BY JURY IS SEPARATELY GIVEN, KNOWINGLY AND VOLUNTARILY WITH THE BENEFIT OF COMPETENT LEGAL COUNSEL BY EACH BORROWER, AND THIS WAIVER IS INTENDED TO ENCOMPASS INDIVIDUALLY EACH INSTANCE AND EACH ISSUE AS TO WHICH THE RIGHT TO A JURY TRIAL WOULD OTHERWISE ACCRUE. FURTHER, EACH BORROWER HEREBY CERTIFIES THAT NO REPRESENTATIVE OR AGENT OF FANNIE MAE (INCLUDING, BUT NOT LIMITED TO, THE FANNIE MAE'S COUNSEL) HAS REPRESENTED, EXPRESSLY OR OTHERWISE, TO OWNER THAT FANNIE MAE WILL NOT SEEK TO ENFORCE THE PROVISIONS OF THIS SECTION 8.10. 11 COUNTERPARTS. This Agreement may be executed simultaneously in two or more counterparts, each of which shall be deemed an original, and all of which together shall constitute one and the same instrument, and it shall not be necessary in making proof of this Agreement to produce or account for more than one such counterpart. 130 132 12 SEVERABILITY. Any provision of this Agreement that is prohibited, unenforceable or not authorized in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such prohibition, unenforceability or nonauthorization without invalidating the remaining provisions hereof or affecting the validity, enforceability or legality of such provision in any other jurisdiction and the remaining portion of such provision and all other remaining provisions will be construed to render them enforceable to the fullest extent. The parties shall endeavor in good-faith negotiations to replace the invalid, illegal or unenforceable provisions with valid provisions the economic effect of which comes as close as possible to that of the invalid, illegal or unenforceable provisions. 13 BUSINESS DAYS. If any payment under this Agreement shall be specified to be made upon a day which is not a Business Day, it shall be made on the next succeeding day which is a Business Day and such extension of time shall in any case be included in computing interest, if any, in connection with such payment. 14 ENTIRE AGREEMENT. This Agreement and the other Transaction Documents constitute the entire contract between the parties relative to the subject matter hereof. Any previous agreement among the parties with respect to the subject matter hereof is superseded by this Agreement and the other Transaction Documents. Nothing in this Agreement or the other Transaction Documents, expressed or implied, is intended to confer upon any party other than the respective parties hereto and thereto any rights, remedies, obligations or liabilities under or by reason of this Agreement or the other Transaction Documents; provided, however, that as to Persons other than Fannie Mae and the Borrowers that are parties to any of the Transaction Documents, such Persons shall not have any rights, remedies, obligations or liabilities under this Agreement or any of the Transaction Documents except under such Transaction Documents as to which such Persons are direct parties. 15 HEADINGS. Section, subsection and paragraph headings in this Agreement are included herein for convenience of reference only and shall not constitute a part of this Agreement for any other purposes. 131 133 16 FURTHER ASSURANCES AND CORRECTIVE INSTRUMENTS. To the extent permitted by law, the parties to this Agreement agree that they will, from time to time, execute, acknowledge and deliver, or cause to be executed, acknowledged and delivered, such supplements to this Agreement and such further instruments as Fannie Mae may request and as may be reasonably required in the opinion of Fannie Mae or its counsel to effectuate the intention of or facilitate the performance of this Agreement or any other Transaction Document. 17 ASSIGNMENT; TRANSFERS; THIRD-PARTY RIGHTS. The Borrowers shall not assign this Agreement, or delegate any of the Obligations hereunder, without the prior written consent of Fannie Mae. This Agreement may not be transferred in any respect without the prior written consent of Fannie Mae. Nothing in this Agreement shall confer any right upon any holder of any Bond or any other Person other than the parties hereto and their successors and permitted assigns; provided, however, that notwithstanding anything to the contrary herein, Servicer shall be a third-party beneficiary with respect to Borrowers' covenants and obligations under section 4.5. 18 WAIVER OF CLAIMS. IN ORDER TO INDUCE FANNIE MAE TO EXECUTE AND DELIVER THE AGREEMENTS, THE BORROWERS HEREBY REPRESENT AND WARRANT THAT THEY HAVE NO CLAIMS, SET-OFFS OR DEFENSES AS OF THE FANNIE MAE FACILITY CLOSING DATE IN CONNECTION WITH THE TRANSACTIONS CONTEMPLATED BY THIS AGREEMENT OR IN CONNECTION WITH ANY OF THE OTHER TRANSACTION DOCUMENTS. TO THE EXTENT ANY SUCH CLAIMS, SET-OFFS OR DEFENSES MAY EXIST, WHETHER KNOWN OR UNKNOWN, THEY ARE EACH HEREBY WAIVED AND RELINQUISHED IN THEIR ENTIRETY. 19 DISCLAIMER; ACKNOWLEDGEMENTS. Approval by Fannie Mae of the Borrowers, the Mortgage Loans, the Bonds or otherwise shall not constitute a warranty or representation by Fannie Mae as to any matter. Nothing set forth in this Agreement, in any of the Transaction Documents or in the subsequent conduct of the parties shall be deemed to constitute Fannie Mae as the partner or joint venturer of any person for any purpose whatsoever. 132 134 20 CONFLICTS BETWEEN AGREEMENTS. Any terms and conditions contained in this Agreement that may also be contained in any of the Related Mortgage Notes, any of the Related Mortgages, any of the Reimbursement Loan Documents or any other Transaction Document to which any of the Borrowers and Fannie Mae are parties, shall not, to the extent reasonably practicable, be construed to be in conflict with each other but rather shall be construed as duplicative, confirming, additional, or cumulative provisions. To the extent that any ultimate conflict is determined to exist between the terms and conditions of this Agreement and those set forth in any of the Related Mortgage Notes, any of the Related Mortgages, any of the Reimbursement Loan Documents or any of the other Transaction Document to which any of the Borrowers and Fannie Mae are parties, the terms and conditions of this Agreement shall control. 21 JOINT AND SEVERAL LIABILITY. (a) JOINT AND SEVERAL LIABILITY. Notwithstanding anything contained in this Agreement or any of the other Transaction Documents to the contrary (but subject, however, to the provisions of subsection 8.21(b)), all Obligations of any or all the Borrowers under this Agreement and the other Loan Documents shall be joint and several Obligations of each Borrower. (b) MAXIMUM LIABILITY OF EACH BORROWER; CONTRIBUTION AMONG BORROWERS. (i) Maximum Liability of each Borrower. Notwithstanding anything contained in this Agreement or any of the other Transaction Documents to the contrary, if the Obligations of any Borrower hereunder exceed the limitations imposed under any Fraudulent Transfer Law (as hereinafter defined), then such Obligations of such Borrower shall be limited to a maximum aggregate amount equal to the largest amount that would not render its Obligations subject to avoidance as a fraudulent transfer or conveyance under Section 548 of Title 11 of the United States Code or any applicable provisions of comparable state law (collectively, the "FRAUDULENT TRANSFER LAWS"), in each case after giving effect to all other liabilities of such Borrower, contingent or otherwise, that are relevant under the Fraudulent Transfer Laws (specifically excluding, however, any liabilities of such Borrower in respect of intercompany indebtedness to any other Borrower or any other Affiliate of the Borrowers to the extent that such indebtedness would be discharged in an amount equal to the amount paid by such Borrower in respect of the Obligations) and after giving effect (as assets) to the value (as determined under the applicable provisions of the Fraudulent Transfer Laws) of any rights to subrogation, reimbursement, indemnification or contribution of such Borrower pursuant to applicable law or pursuant to the terms of any agreement. 133 135 (ii) Contribution Among Borrowers. The Borrowers together desire to allocate among themselves in a fair and equitable manner, their Obligations arising under this Agreement. Accordingly, in the event any payment or distribution is made on any date by any Borrower under this Agreement that exceeds its Fair Share (as defined below) as of such date, that Borrower shall be entitled to a contribution from each of the other the Borrowers in the amount of such other Borrower's Fair Share Shortfall (as defined below) as of such date, with the result that all such contributions will cause each Borrower's Aggregate Payments (as defined below) to equal its Fair Share as of such date provided, however, that notwithstanding the foregoing, no Borrower shall be entitled to receive contribution payments which exceed the amount of payments such Borrower has made on account of the Obligations as of any date of determination. "FAIR SHARE" means, with respect to a Borrower as of any date of determination, an amount equal to (a) the ratio of (X) the Adjusted Maximum Amount (as defined below) with respect to such Borrower to (Y) the aggregate of the Adjusted Maximum Amounts with respect to all the Borrowers multiplied by (b) the aggregate amount paid or distributed on or before such date by all the Borrowers hereunder in respect of the Obligations. "FAIR SHARE SHORTFALL" means, with respect to a Borrower as of any date of determination, the excess, if any, of the Fair Share of such Borrower over the Aggregate Payments of such Borrower. "ADJUSTED MAXIMUM AMOUNT" means, with respect to a Borrower as of any date of determination, the maximum aggregate amount of the Obligations of such Borrower under this Agreement determined as of such date in accordance with subsection 8.21(b)(i); provided that, solely for purposes of calculating the "Adjusted Maximum Amount" with respect to any Borrower for purposes of this subsection 8.21(b)(ii), any assets or liabilities of such Borrower arising by virtue of any rights to subrogation, reimbursement or indemnification or any rights to or obligations of contribution hereunder shall not be considered as assets or liabilities of such Borrower. "AGGREGATE PAYMENTS" means, with respect to a Borrower as of any date of determination, an amount equal to (a) the aggregate amount of all payments and distributions made on or before such date by such Borrower in respect of this Agreement (including in respect of this subsection 8.21(b)(ii)) minus (b) the aggregate amount of all payments received on or before such date by such Borrower from the other Borrowers as contributions under this subsection 8.21(b)(ii). The amounts payable as contributions under this subsection 8.21(b)(ii) shall be determined as of the date on which the related payment or distribution is made by the applicable Borrower. The allocation among the Borrowers of their obligations as set forth in this subsection 8.21(b)(ii) shall not be construed in any way to limit the liability of any Borrower hereunder. (c) BORROWERS' RIGHTS OF SUBROGATION, ETC.. Until the Obligations shall have been paid and performed in full, each Borrower shall withhold exercise of any right of subrogation, contribution, reimbursement or indemnity (whether contractual (including any such right under subsection 8.21(b)(ii)), statutory, equitable, under common law or otherwise) and any other rights to enforce any claims or remedies which it now has or may hereafter have against any other Borrower or any of the Collateral or against any other guarantor or security for the 134 136 Obligations. Each Borrower further agrees that, to the extent its agreement to withhold exercise of such rights of subrogation, contribution, reimbursement and indemnity and such other rights as set forth above is found by a court of competent jurisdiction to be void or voidable for any reason, any such rights such Borrower may have against any other Borrower, any Collateral or any other guarantor or security for the Obligations shall be junior and subordinate to any rights Fannie Mae may have against such Borrower, such Collateral, such guarantor or such security. (d) SUBORDINATION OF OBLIGATIONS BETWEEN BORROWERS. Any indebtedness of a Borrower (a "DEBTOR AFFILIATE") now or hereafter held by any other Borrower (a "CREDITOR AFFILIATE") is hereby subordinated to the Obligations of such Debtor Affiliate to Fannie Mae. If Fannie Mae so requests after an Event of Default has occurred and is continuing, such indebtedness shall be collected, enforced and received by such Creditor Affiliate as trustee for Fannie Mae and be paid over to Fannie Mae on account of the Obligations. (e) FANNIE MAE' RIGHTS. Each Borrower hereby agrees that Fannie Mae may, without demand and at any time and from time to time and without the consent of, or notice to, such Borrower, without incurring responsibility to such Borrower, and without impairing or releasing the obligations of such Borrower hereunder, upon or without any terms or conditions and in whole or in part: (i) change the manner, place or terms of payment of, and/or change or extend the time of payment of, renew, increase, accelerate or alter, any of the Obligations of any other Borrower, any security therefor, or any liability incurred directly or indirectly in respect thereof, and the Obligations of such Borrower shall apply to the Obligations of such other Borrower as so changed, extended, renewed or altered; (ii) subject to the limitations imposed by subsection 8.21(b)(i), if any, take and hold security for the payment of the Obligations of any other Borrower and sell, exchange, release, surrender, realize upon or otherwise deal with in any manner and in any order any property by whomsoever at any time pledged or mortgaged to secure, or howsoever securing, such Obligations or any liabilities (including any of those hereunder) incurred directly or indirectly in respect thereof or hereof, and/or any offset thereagainst; (iii) exercise or refrain from exercising any rights against any other Borrower or any Collateral; (iv) release or substitute any one or more endorsers, guarantors, or other obligors in respect of the Obligations of any other Borrower; (v) settle or compromise any of the Obligations of any other Borrower, any security therefor or any liability (including any of those hereunder) incurred directly or indirectly in respect thereof or hereof, or subordinate the payment of all or any part 135 137 thereof to the payment of any liability (whether due or not) of such other Borrower to its creditors other than Fannie Mae; (vi) subject to the limitations imposed by subsection 8.21(b)(i), if any, apply any sums by whomsoever paid or howsoever realized to any liability or liabilities of any other Borrower to Fannie Mae regardless of what liability or liabilities of such Borrower to Fannie Mae remain unpaid; and/or (vii) consent to or waive any breach by any other Borrower of, or any act, omission or default by any other Borrower under, this Agreement or any of the other Transaction Documents. (f) OBLIGATIONS ABSOLUTE. No invalidity, irregularity or unenforceability of all or any part of the Obligations of any Borrower shall affect, impair or be a defense to the Obligations of any other Borrower in respect thereof, and the Obligations of each Borrower under subsection 8.21(a) in respect of the Obligations of each other Borrower shall be primary, absolute and unconditional notwithstanding the occurrence of any event or the existence of any other circumstances which might constitute a legal or equitable discharge of a surety or guarantor for the Obligations of such other Borrower except payment and performance in full thereof. (g) RELIANCE. Fannie Mae shall not be required to inquire into the capacity or powers of any Borrower, or any of the officers, directors, partners or agents acting or purporting to act on behalf of any Borrower, as a condition to the liability of any other Borrower hereunder, and any Obligations made or created in reliance upon the professed exercise of such powers shall become Obligations of such other Borrower hereunder. [The remainder of this page has been intentionally left blank] 136 138 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed and delivered by their respective duly authorized officers or representatives as of the date hereof. AVALON COLLATERAL, INC., a Maryland corporation By: ----------------------------- Thomas J. Sargeant Chief Financial Officer and Secretary AVALON CHASE RIDGE, INC., a Maryland corporation By: ----------------------------- Thomas J. Sargeant Chief Financial Officer and Secretary AVALON CHASE LEA, INC., a Maryland corporation By: ----------------------------- Thomas J. Sargeant Chief Financial Officer and Secretary FEDERAL NATIONAL MORTGAGE ASSOCIATION By: ----------------------------- Thomas W. White Senior Vice President S-1 139 EXHIBIT A BOND PROPERTIES, ISSUERS AND RELATED INFORMATION SECTION A. FLOATING RATE BOND PROPERTIES:
Bond/Loan Bond Project Issuer Amount Trustee - ------- ------ ------ ------- 1. Avalon Meadows Howard County, $11,500,000 Crestar Bank Apartments Project Maryland Howard County, MD 2. Avalon at Hampton I Hampton Redevelopment $8,060,000 Crestar Bank Project and Housing Authority City of Hampton, VA 3. Avalon Pointe Project Hampton Redevelopment $6,387,000 Crestar Bank Stafford County, VA and Housing Authority
Fees ------------------ Issuer Trustee Remark. Total Project Agent Bonds - ------- ----- 1. Avalon Meadows -- .0374% .125% .1624% Howard County, Maryland Multifamily Housing Apartments Project Revenue Refunding Bonds (Avalon Meadows Howard County, MD Apartments Project), Series 1996 2. Avalon at Hampton I -- .05335% .125% .17835% Hampton Redevelopment and Housing Authority Project Multifamily Housing Revenue Refunding Bonds City of Hampton, VA Series 1996A (Avalon at Hampton I Project) 3. Avalon Pointe Project -- .067325% .125% .192325% Hampton Redevelopment and Housing Authority Stafford County, VA Multifamily Housing Revenue Bonds 1996 Series (Avalon Pointe Project)
NY1-419670 (AVALON Master Reimbursement Agreement) 140 SECTION B. FIXED RATE BOND PROPERTIES:
Bond/Loan Bond Project Issuer Amount Trustee - ------- ------ ------ ------- 1. Avalon Landing Apartments Anne Arundel County, $7,000,000 Crestar Bank Project Maryland Anne Arundel County, MD 2. Avalon Knoll Apartments Housing $14,130,000 Crestar Bank Montgomery County, MD Opportunities Commission of Montgomery County
Mortgage Loan Interest Components ----------------------------------------- Pass- Servicing Facility Actual Project Through Fee Fee Note Rate Bonds - ------- Rate ----- 1. Avalon Landing Apartments 6.15%(1) .09% .50% 6.74% Anne Arundel County, Maryland Project Multifamily Housing Revenue Anne Arundel County, MD Refunding Bonds (Avalon Landing Apartments Project), Series 1996 2. Avalon Knoll Apartments 6.287%(2) .09% .50% 6.877% Housing Opportunities Commission Montgomery County, MD of Montgomery County Multifamily Housing Revenue Bonds (Avalon Knoll Apartments) 1996 Issue C
- ----------------------------- (1) The Pass-Through Rate for the Anne Arundel County, Maryland Multifamily Housing Revenue Refunding Bonds (Avalon Landing Apartments Project), Series 1996 includes the Trustee's fee equal to .0472% per annum of the outstanding principal amount of the related Mortgage Loan. There is no Issuer's fee payable in connection with this transaction. (2) The Pass-Through Rate for the Housing Opportunities Commission of Montgomery County Multifamily Housing Revenue Bonds (Avalon Knoll Apartments), 1996 Issue C includes the Trustee's fee equal to .02357% per annum of the outstanding principal amount of the related Mortgage Loan and the Issuer's Fee equal to .145% per annum of the outstanding principal amount of the related Mortgage Loan. Exh. A-2 141 SECTION C. CUSTODIAL RECEIPTS PROPERTIES:
Project Bond Issuer Bonds ------- ----------- ----- 1. Avalon Ridge Community Development Community Development Administration Montgomery County, MD Administration, Department of Multifamily Development Revenue Bonds, 1985 Economic and Community Issue A (Chase Ridge) Development State of Maryland 2. Avalon Lea Community Development Community Development Administration Baltimore County, MD Administration, Department of Multifamily Development Revenue Bonds, 1985 Economic and Community Issue B (Chase Lea) Development State of Maryland
Project Custodial Receipts Amount ------- ------------------ ------ 1. Avalon Ridge Avalon Properties, Inc., $26,815,000 Montgomery County, MD Custodial Receipts, Series 1995 A 2. Avalon Lea Avalon Properties, Inc., $16,835,000 Baltimore County, MD Custodial Receipts, Series 1995-B
Exh. A-3 EX-21.1 3 SUBSIDIARIES. 1 EXHIBIT 21.1 SCHEDULE OF SUBIDIARIES OF AVALON PROPERTIES, INC. Avalon Chase Glen, Inc. Avalon Chase Grove, Inc. Avalon Chase Hampton II, Inc. Avalon Chase Heritage, Inc. Avalon Chase Lea, Inc. Avalon Chase Ridge, Inc. Avalon 4100 Massachusett Ave., Inc. Avalon Town Green II, Inc. Avalon Town Meadows, Inc. Avalon Town View, Inc. Avalon Transactions, Inc. Lexington Ridge-Avalon, Inc. Town Cove Jersey City Urban Renewal, Inc. Avalon Decoverly, Inc. Avalon Lake Arbor, Inc. Avalon Commons, Inc. Avalon Collateral, Inc. Town Cove II Jersey City Urban Renewal, Inc. Avalon Fairway II, Inc. Avalon Ballston II, Inc. EX-23.1 4 CONSENT. 1 CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the incorporation by reference in the registration statement of Avalon Properties, Inc. on Form S-3 (File No. 333-2281) of our report dated January 16, 1997, on our audits of the consolidated financial statements and financial statement schedule of Avalon Properties, Inc. as of December 31, 1996 and 1995, and for each of the three years in the period ended December 31, 1996, which report is included in this Annual Report on Form 10-K. Coopers & Lybrand, L.L.P. New York, New York March 26, 1997 EX-27.1 5 FDS.
5 1,000 YEAR DEC-31-1996 JAN-01-1996 DEC-31-1996 14,241 0 0 0 0 10,956 1,081,906 44,547 1,082,771 33,177 310,606 0 88 334 737,566 1,082,771 0 125,213 0 68,111 0 0 9,545 46,157 0 0 0 2,356 0 51,651 1.34 0
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