10-K 1 form10k.htm SILVERLEAF RESORTS, INC 10K 12-31-2008 form10k.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

Form 10-K
(Mark One)

T
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
  
SECURITIES EXCHANGE ACT OF 1934

For The Fiscal Year Ended December 31, 2008

or

£
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
  
THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM _________ TO _________

Commission File Number 001-13003

Silverleaf Resorts, Inc.

(Exact Name of Registrant as Specified in its Charter)

Texas
75-2259890
(State or Other Jurisdiction of Incorporation or Organization)
(I.R.S. Employer Identification No.)
   
1221 River Bend Drive, Suite 120
75247
Dallas, Texas
(Zip Code)
(Address of Principal Executive Offices)
  

Registrant's Telephone Number, Including Area Code: 214-631-1166

Securities Registered Pursuant to Section 12(b) of the Act:

Common Stock, $.01 par value

Securities Registered Pursuant to Section 12(g) of the Act:

None
_______________

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes £     No T

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Securities Act.     Yes £     No T

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 T     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 the 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.     £

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer     £
Accelerated filer     £
Non-accelerated filer     T
Smaller reporting company     £

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes £     No T
_______________

The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant, based upon the closing sales price of the common stock on June 30, 2008 as reported on The NASDAQ Capital Market, was $29,847,506.  For this purpose, “affiliates” include members of the Board of Directors and executive management of the registrant and all persons known to be the beneficial owners of more than 5% of the registrant’s outstanding common stock.

As of March 10, 2009, 38,146,943 shares of the registrant’s common stock, $0.01 par value, were issued and outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Certain information required by Part III of this report (Items 10, 11, 12, 13, and 14) is incorporated by reference from the registrant’s definitive proxy statement to be filed pursuant to Regulation 14A with respect to the registrant’s fiscal 2009 annual meeting of shareholders.  If such proxy statement is not so filed on or before 120 days after the end of the registrant’s fiscal year, such information will be included in an amendment to this Form 10-K to be filed no later than the end of such 120-day period.

 
2
 

FORM 10-K TABLE OF CONTENTS

Item Number
  
Page
         
PART I
         
 
Item 1.
4
  
         
 
Item 1A.
19
  
         
 
Item 1B.
29
  
         
 
Item 2.
29
  
         
 
Item 3.
35
  
         
 
Item 4.
36
  
         
PART II
 
       
 
Item 5.
37
  
         
 
Item 6.
40
  
         
 
Item 7.
41
  
         
 
Item 7A.
55
  
         
 
Item 8.
57
  
         
 
Item 9.
57
  
         
 
Item 9A.
57
  
         
 
Item 9B.
58
  
         
PART III
         
 
Item 10.
58
  
         
 
Item 11.
58
  
         
 
Item 12.
59
  
         
 
Item 13.
59
  
         
 
Item 14.
59
  
         
PART IV
         
 
Item 15.
60
  
         
   
F-1
  


Forward-Looking Statements

Throughout this annual report on Form 10-K and documents incorporated herein by reference, we make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934, including in particular, statements about our plans, objectives, expectations, and prospects under the headings “Business” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” You can identify these statements by forward-looking words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “plan,” “seek,” and similar expressions. Although we believe that the plans, objectives, expectations, and prospects reflected in or suggested by our forward-looking statements are reasonable, those statements involve uncertainties and risks, and we can give no assurance that our plans, objectives, expectations, and prospects will be achieved. Important factors that could cause our actual results to differ materially from results anticipated by such forward-looking statements are contained herein under the headings “Risk Factors,” “Properties,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” as well as elsewhere herein. Any or all of these factors could cause our actual results and financial or legal status for future periods to differ materially from those expressed or referred to in any forward-looking statement. All written or oral forward-looking statements attributable to us are expressly qualified in their entirety by these cautionary statements.

In addition, forward-looking statements speak only as of the date on which they are made. Such forward-looking statements are based on our beliefs, assumptions, and expectations of our future performance taking into account all information known to us at the time such statements are made. These beliefs, assumptions, and expectations can change as a result of many potential events or factors, not all of which are known to us. If a change occurs, our business, financial condition, liquidity, results of operations, plans, and other objectives may vary materially from those expressed in our forward-looking statements. We caution investors that while forward-looking statements reflect our good-faith beliefs at the time such statements are made, such statements are not guarantees of future performance and are affected by actual events that occur after said statements are made. We expressly disclaim any responsibility to update forward-looking statements, whether as a result of new information, future events, or otherwise. Accordingly, investors should use caution in relying on past forward-looking statements, which were based on results and trends existing when those statements were made, to anticipate future results or trends.

PART I

ITEM 1.
BUSINESS

Overview

Silverleaf Resorts, Inc. (the “Company,” “Silverleaf,” “we,” or “our”) was incorporated in Texas in 1989. Our principal business is the development, marketing, and operation of “getaway” and “destination” timeshare resorts. As of December 31, 2008, we own a) seven “getaway resorts” in Texas, Missouri, Illinois, and Georgia (the “Getaway Resorts”) and b) six “destination resorts” in Texas, Missouri, Massachusetts, and Florida (the “Destination Resorts”). In addition, we own and operate a hotel located near the Winter Park recreational area in Colorado which provides our owners with another destination vacation alternative and gives Silverleaf an entry point into this increasingly popular destination area.

The Getaway Resorts are designed to appeal to vacationers seeking comfortable and affordable accommodations in locations convenient to their residences and are located near major metropolitan areas. Our Getaway Resorts are located close to principal areas where we market our vacation products to facilitate more frequent “short-stay” getaways. We believe such short-stay getaways are growing in popularity as a vacation trend. Our Destination Resorts are located in or near areas with national tourist appeal and offer our customers the opportunity to upgrade into a more upscale resort area as their lifestyles and travel budgets permit. Both the Getaway Resorts and the Destination Resorts (collectively, the “Existing Resorts”) provide a quiet, relaxing vacation environment. We believe our resorts offer our customers an economical alternative to commercial vacation lodging. The average price for an annual one-week vacation ownership interval (“Vacation Interval”) for a two-bedroom unit at the Existing Resorts was $10,328 for 2008 and $9,607 for 2007.

Owners of Vacation Intervals at the Existing Resorts (“Silverleaf Owners”) enjoy certain distinct benefits. These benefits include (i) use of vacant lodging facilities at the Existing Resorts through our “Bonus Time” Program; (ii) year-round access to the Existing Resorts' non-lodging amenities such as fishing, boating, horseback riding, swimming, tennis, or golf on a daily basis for little or no additional charge; (iii) the right to exchange the use of a Vacation Interval at one of our Existing Resorts for a different time period at a different Existing Resort through our internal exchange program; and (iv) use of the Pinnacle Lodge hotel located near the Winter Park recreational area in Colorado.  These benefits are subject to availability and other limitations. Silverleaf Owners may also enroll in the Vacation Interval exchange network operated by RCI, LLC (“RCI”). As of December 31, 2008, all of our Existing Resorts are under contract with the RCI exchange network.


Certain Significant 2008 Events

 
·
In January 2008, we opened our first indoor water park at The Villages Resort in Flint, Texas. The opening of the indoor water park marks a significant milestone for us, as we continue to enhance our resorts and increase our appeal to both new customers and existing owners.

 
·
In June 2008, we executed a term securitization transaction through a newly-formed, wholly-owned and fully consolidated special purpose finance subsidiary, Silverleaf Finance VI, LLC (“SF-VI”). SF-VI was formed for the purpose of issuing approximately $115.4 million of its Timeshare Loan-Backed Notes Series 2008-A (“Series 2008-A Notes”) in a private offering and sale through certain financial institutions. The Series 2008-A Notes were issued in seven classes with a blended coupon rate of 7.263% and at discounts totaling approximately $8.0 million. These discounts are amortized as an adjustment to interest expense over the terms of the related loans using the effective interest method, which generates a blended effective interest rate on these notes of approximately 11.3% at December 31, 2008. The Series 2008-A Notes have a maturity date of March 2020 and are secured by customer notes receivable sold to SF-VI. The cash proceeds from the sale of the customer notes receivable to SF-VI were primarily used to repay approximately $93.8 million in consolidated indebtedness to senior lenders or to Silverleaf Finance IV, LLC (“SF-IV”).

 
·
During 2008 we amended our senior credit facility agreements as follows:

▪▪
We amended our $50 million receivables-based revolver to reduce availability to $20 million and extend the revolving term and maturity date from April 2008 to June 2010. We also amended our inventory facility with this same senior lender to increase availability from $30 million to $50 million and extend the revolving period from April 2009 to April 2010 and the maturity date from April 2011 to April 2012.

▪▪
We amended our $37.5 million receivables-based revolver to increase availability to $72.5 million, extend the revolving period from September 2009 to July 2010, and extend the maturity date from September 2012 to July 2013.

▪▪
We amended our $35 million revolving receivables credit facility to increase availability to $50 million, extend the revolving period from December 2008 to August 2011, and extend the maturity date from December 2011 to August 2014. The increase in borrowing capacity of the receivables credit facility was facilitated based on the termination of our $15 million revolving inventory credit facility with this same senior lender.

 
·
On September 13, 2008, Hurricane Ike caused property damage and business interruption related to our Seaside Resort in Galveston, Texas, and our Piney Shores Resort just north of Houston, Texas. As a result, Seaside Resort was closed from September 10 through October 17, at which time we began taking reservations and gradually opening units. The resort was fully operational by December 12. Piney Shores Resort was closed from September 13 to September 25. We maintain insurance that covers both physical damage and business-interruption losses. We accrued $291,000 related to this incident, which represents our insurance deductibles and expenditures deemed uncollectible. In addition, in November 2008, we received $1.3 million in business-interruption proceeds, which was recorded in other income.

Certain Significant Events Subsequent to 2008

 
·
In February 2009, we received $1.5 million in business-interruption proceeds related to Hurricane Ike. These proceeds will be reflected in other income in the first quarter of 2009 as collection was not assured at December 31, 2008.

Operations

Our primary business is marketing and selling Vacation Intervals from our inventory to individual consumers.  Our principal activities in this regard include:

 
·
acquiring and developing timeshare resorts;
 
·
marketing and selling one-week annual and biennial Vacation Intervals to prospective first-time owners;
 
·
marketing and selling upgraded and additional Vacation Intervals to existing Silverleaf Owners;
 
·
financing the purchase of Vacation Intervals; and
 
·
managing timeshare resorts.


We have in-house capabilities which enable us to coordinate all aspects of development and expansion of the Existing Resorts and the potential development of any future resorts, including site selection, design, and construction pursuant to standardized plans and specifications.

We perform substantial marketing and sales functions internally.  We have made significant investments in operating technology, including telemarketing and computer systems and proprietary software applications. We identify potential purchasers through internally developed marketing techniques and through cooperative arrangements with outside vendors.  We sell Vacation Intervals predominately through on-site sales offices located at certain of our resorts, which are located near major metropolitan areas, and our member services office located in Chicago. This practice provides us an alternative to marketing costs of subsidized airfare or lodging, which are typically associated with the timeshare industry. We also market and sell Vacation Intervals at our off-site sales center, which is located in the Dallas/Fort Worth metroplex.

At the conclusion of the Vacation Interval sales process, we offer potential purchasers financing of up to 90% of the purchase price over a seven-year to ten-year period. We have historically financed our operations by borrowing from third-party lending institutions at an advance rate of 75% to 80% of eligible customer receivables. At December 31, 2008 and 2007, we had a portfolio of approximately 44,912 and 41,481 customer promissory notes, respectively, totaling $397.8 million and $358.7 million, respectively, with a weighted average yield of 16.7% and 16.5% per annum, respectively, which compares favorably to our weighted average cost of borrowings of 6.8% per annum at December 31, 2008. We cease recognition of interest income when collection is no longer deemed probable. At December 31, 2008 and 2007, $7.6 million and $6.0 million, or 1.9% and 1.7%, respectively, of our loans to Silverleaf Owners were 61 to 90 days past due. We record the cancellation of all notes that become 90 days delinquent, net of notes that are no longer 90 days delinquent. Consequently, as of December 31, 2008 and 2007, we had no timeshare loans receivable over 90 days past due. We continue collection efforts with regard to all timeshare notes receivable from customers until all collection techniques that we utilize have been exhausted. We provide for uncollectible notes by reserving an amount sufficient to maintain the allowance for uncollectible notes at a level management considers adequate to provide for anticipated losses resulting from customers' failure to fulfill their obligations under the terms of their notes.

Each timeshare resort has a timeshare owners' association (a “Club”). At December 31, 2008, each Club (other than the club at our Orlando Breeze resort) operates through a centralized organization to manage its respective resort on a collective basis. This centralized organization is Silverleaf Club, a Texas not-for-profit corporation. Silverleaf Club is under contract with each Club for each of the Existing Resorts (with the exception of Orlando Breeze) to operate and manage their resort. In turn, we have a contract (“Management Agreement”) with Silverleaf Club, under which we perform the supervisory and management functions of the resorts on a collective basis. All costs of operating the timeshare resorts, including management fees payable to us under the Management Agreement, are to be covered by monthly dues paid by the timeshare owners to their respective Clubs as well as income generated by the operation of certain amenities at the timeshare resorts.

Orlando Breeze has its own club (“Orlando Breeze Resort Club”), which is operated independently of Silverleaf Club.  We also provide certain supervisory and management functions for Orlando Breeze Resort Club under the terms of a written agreement.

Marketing and Sales

Marketing is the process by which we attract potential customers to visit and tour an Existing Resort or attend a sales presentation. Sales is the process by which we seek to sell a Vacation Interval to a potential customer who arrives for a tour at an Existing Resort or attends a sales presentation.

Marketing. Our in-house marketing staff creates databases of new prospects, which are principally developed through cooperative arrangements with outside vendors to identify prospects who meet our marketing criteria. Using our automated dialing and bulk mailing equipment, in-house marketing specialists conduct coordinated telemarketing and direct mail procedures which invite prospects to tour one of our resorts and receive an incentive, such as a free gift, without regard to whether or not a Vacation Interval is purchased.

Sales. We sell our Vacation Intervals primarily through on-site salespersons at certain Existing Resorts. Upon arrival at an Existing Resort for a scheduled tour, the prospect is met by a member of our sales force who leads the prospect on a 90-minute tour of the resort and its amenities. At the conclusion of the tour, the sales representative explains the benefits and costs of becoming a Silverleaf Owner. The presentation also includes a description of the financing alternatives that we offer. Prior to the closing of any sale, a verification officer interviews each prospect to ensure our compliance with sales policies and regulatory agency requirements. The verification officer also plays a Bonus Time video for the customer to explain the advantages of and limitations on the Bonus Time program.  No sale becomes final until a statutory waiting period (which varies from state to state) of three to fifteen calendar days has passed. We also sell our Vacation Intervals to existing Silverleaf Owners as either upgraded sales of more desirable higher priced Vacation Intervals or additional week Vacation Interval sales.


Sales representatives receive commissions ranging from 4.0% to 14.0% of the sales price of a Vacation Interval depending on established guidelines. In addition, sales managers receive commissions of 1.25% to 4.5% and sales directors receive commissions of 1.0% to 3.5%. Commissions received by sales managers and sales directors are subject to chargebacks in the event the purchaser fails to make the first required payment.

Prospects who are interested in a lower priced product are offered biennial (alternate year) intervals or other lower priced products that entitle the prospect to sample a resort for a specified number of nights. The prospect may apply the cost of a lower priced product against the down payment on a Vacation Interval if the interval is purchased by a certain date. As mentioned, we also market upgraded Vacation Intervals as well as additional weeks to existing Silverleaf Owners through both on-site and off-site marketing programs. In recent years, we have been focusing on shifting our sales mix to more heavily represent sales to existing customers. These upgrade and additional week programs have been well received by Silverleaf Owners and accounted for approximately 59.8% and 59.7% of our gross revenues from Vacation Interval sales for the years ended December 31, 2008 and 2007, respectively. By offering lower priced products and upgraded and additional week Vacation Intervals, we believe we offer an array of affordable products for all prospects in our target market. Also, by offering products with a range of prices, we attempt to broaden our market with initial sales of lower priced products, which we attempt to gradually upgrade and/or augment with additional week sales over time.

In March 2006, we opened our first showroom-style, off-site sales office. The showroom, located in the Dallas/Fort Worth metroplex in Irving, Texas, operates under the name “Silverleaf Vacation Store.” It offers potential customers an interactive “virtual” experience of our resorts, including a model unit and photo gallery. This showroom generated $10.6 million and $10.7 million in annual sales to new members for the years ended December 31, 2008 and December 31, 2007, respectively. The showroom has provided us with a significant sales opportunity by enabling potential customers to experience the quality and service of our resorts without leaving their own community. We expect that new owners who purchase at this showroom will later participate in our upgrade and additional week sales programs.

Our sales representatives are a critical component of our sales and marketing effort.  We continually strive to attract, train, and retain a dedicated sales force. We provide intensive sales instruction and training, which assists sales representatives in acquainting prospects with each particular resort's benefits. Our sales instruction and training also focuses on compliance by each sales representative with all federal, state, and local laws applicable to timeshare sales. At December 31, 2008, we had a sales force of 723 employees.

Seasonality

Our sales of Vacation Intervals have generally been lower in the months of November and December. Cash flow and earnings may be impacted by the timing of development, the completion of future resorts, and the potential impact of weather or other conditions in the regions where we operate. Our operating results could be negatively impacted by these factors.

Customer Financing

We offer financing to buyers of Vacation Intervals at our resorts. Buyers who elect to finance their purchases through us typically make down payments of at least 10% of the purchase prices and deliver promissory notes for the balances. The promissory notes generally bear interest at a fixed rate, are generally payable over a seven-year to ten-year period, and are secured by a deed of trust on the Vacation Interval. We bear the risk of defaults on these promissory notes. In 2005, we began obtaining a pre-screen credit score on touring families. If the credit score does not meet certain minimum credit criteria, a 15% down payment is generally required instead of our standard 10% down payment. There are a number of risks associated with financing customers’ purchases of Vacation Intervals.  For an explanation of these risks, please see the section of this annual report entitled “Risk Factors.”

For the year ended December 31, 2008, we accrued estimated uncollectible revenue, reflected as an offset to Vacation Interval sales, at 24.6% of the Vacation Interval sales. The allowance for uncollectible notes was 19.3% of gross notes receivable as of both December 31, 2008 and December 31, 2007. We will continue to evaluate our collections process and marketing programs with a view toward establishing procedures aimed at reducing note defaults and improving the credit quality of our customers.

If a buyer of a Vacation Interval defaults, we generally must foreclose on the Vacation Interval and attempt to resell it; the associated marketing, selling, and administrative costs from the original sale are not recovered; and such costs must be incurred again to resell the Vacation Interval. Although in many cases we may have recourse against a Vacation Interval buyer for the unpaid note balance, certain states have laws that limit our ability to recover personal judgments against customers who have defaulted on their loans. For example, under Texas law, if we pursue a post-foreclosure deficiency claim against a customer, the customer may file a court proceeding to determine the fair market value of the property foreclosed upon. In such event, we may not recover a personal judgment against the customer for the full amount of the deficiency, but may recover only to the extent that the indebtedness owed to the Company exceeds the fair market value of the property. Accordingly, we have generally not pursued this remedy because we have not found it to be cost effective.


At December 31, 2008, we had notes receivable in the approximate principal amount of $397.0 million with an allowance for uncollectible notes of $76.7 million.

Additionally, at December 31, 2008, our off-balance-sheet finance subsidiary, Silverleaf Finance III, LLC (“SF-III”), held notes receivable totaling $22.5 million with related borrowings of $17.1 million. Except for the repurchase of notes that fail to meet initial eligibility requirements, we are not obligated to repurchase defaulted or any other contracts sold to SF-III. As the servicer of notes receivable sold to SF-III, we are obligated to foreclose upon Vacation Intervals securing defaulted notes receivable.  Although we are not obligated, we may purchase foreclosed Vacation Intervals for an amount equal to the net fair market value of such Vacation Intervals, which may not be less than fifteen percent of the original acquisition price that the customer paid for the Vacation Interval. For the year ended December 31, 2008, we paid $639,000 to repurchase Vacation Intervals securing defaulted notes receivable to facilitate the re-marketing of those Vacation Intervals. The carrying value of our investment in SF-III was $4.9 million at December 31, 2008, which represents our maximum exposure to loss regarding our investment in SF-III.

We recognize interest income as earned. Interest income is accrued on notes receivable, net of an estimated amount that will not be collected, until the individual notes become 90 days delinquent. Once a note becomes 90 days delinquent, the accrual of interest income ceases until collection is deemed probable.

We intend to borrow either directly or through our fully consolidated special purpose finance subsidiaries additional funds under our existing revolving credit facilities with our lenders to finance our operations. At December 31, 2008, we and our fully consolidated subsidiaries had borrowings under our credit facilities in the approximate principal amount of $362.5 million, of which $299.6 million of such facilities are receivables based and currently permit borrowings of 75% to 80% of the principal amount of performing notes. Payments from Silverleaf Owners on such notes are credited directly to our senior lenders and applied against our loan balances. At December 31, 2008, we had a portfolio of approximately 44,912 Vacation Interval customer promissory notes in the approximate principal amount of $397.8 million, of which $7.6 million in principal amount was 61 days or more past due and therefore ineligible as collateral.

At December 31, 2008, our portfolio of customer notes receivable had a weighted average yield of 16.7%. At such date, our borrowings had a weighted average cost of 6.8% with a fixed-to-floating debt ratio of 38% fixed to 62% floating. However, the majority of our floating-rate debt is subject to interest-rate floors between 5.25% and 8.00%.  We have historically derived net interest income from our operating activities because the interest rates we charge our customers who finance the purchase of their Vacation Intervals exceed the interest rates we pay our senior lenders. As 62% of our existing senior indebtedness currently bears interest at variable rates and our customer notes receivable bear interest at fixed rates, increases in interest rates would erode the spread in interest rates that we have historically experienced and could cause our interest expense on borrowings to exceed our interest income on our portfolio of customer loans. Although interest rates declined throughout 2008, any increase in interest rates above applicable floor rates, particularly if sustained, could have a material adverse effect on our results of operations, liquidity, and financial position.

In addition, the Series 2005-A Notes related to our off-balance-sheet special purpose finance subsidiary, SF-III, with a balance of $17.1 million at December 31, 2008, bear interest at a blended fixed rate of 5.4%.

Limitations on availability of financing would inhibit sales of Vacation Intervals due to (i) the lack of funds to finance the initial negative cash flow that results from sales that we finance, and (ii) reduced demand if we are unable to provide financing to purchasers of Vacation Intervals. We ordinarily receive only 10% to 15% of the purchase price as a cash down payment on the sale of a Vacation Interval that we finance, but we incur the full costs of developing, marketing, and selling the Vacation Interval. Maximum borrowings available under our current credit agreements may not be sufficient to cover these costs, thereby straining capital resources, liquidity, and capacity to grow. In addition, to the extent interest rates decrease on alternative financing sources available to our customers, we face an increased risk that customers will pre-pay their loans and reduce our income from operating activities.

We typically provide financing to customers over a seven-year to ten-year period. Our customer notes receivable had a weighted average maturity of seven years at December 31, 2008. Our credit facilities have scheduled maturities between June 2010 and March 2020. Additionally, our revolving credit facilities could be declared immediately due and payable as a result of any default by us. Considering forecasted sales, customer defaults, and expansion plans, our senior credit facilities provide adequate liquidity to meet our needs into 2010.  We are continuing to identify additional financing arrangements beyond such date.


Development and Acquisition Process

We intend to further develop our Existing Resorts and/or acquire new resorts only to the extent we deem such expansion financially beneficial, and then only as the capital markets permit.

If we are able to develop or acquire new resorts, we will do so under our established development policies. Before committing capital to a site, we test the market using our own market analysis testing techniques and explore the zoning and land-use laws applicable to the potential site and the regulatory issues pertaining to licenses and permits for timeshare marketing, sales, and operations. We also contact various governmental entities and review applications for necessary governmental permits and approvals. If we are satisfied with our market analysis and regulatory review, we will prepare a conceptual layout of the resort, including building site plans and resort amenities. After we apply our standard lodging unit design and amenity package, we prepare a budget that estimates the cost of developing the resort, including costs of lodging facilities, infrastructure, and amenities, as well as projected sales, marketing, and general and administrative costs. We typically perform additional due diligence, including obtaining an environmental report by an environmental consulting firm, a survey of the property, and a title commitment. We employ legal counsel to review these documents and pertinent legal issues. If we are satisfied with the site after the environmental and legal review, we will complete the purchase of the property.

We manage all construction activities internally. We typically complete the development of a new resort's basic infrastructure and models within one year, with additional units added within 180 to 270 days, weather permitting, based on demand. In addition, a functional sales office may be established at each new resort.

Clubs / Silverleaf Club

Silverleaf Club directors are elected by the majority of the boards of directors of the individual Clubs. We have the right to supervise the management of our resorts under the terms of the Management Agreement. Silverleaf Owners are obligated to pay monthly dues to their respective Clubs, which obligation is secured by a lien on their Vacation Interval in favor of their Club. If a Silverleaf Owner fails to pay his monthly dues, his Club may institute foreclosure proceedings regarding the delinquent Silverleaf Owner's Vacation Interval. The number of foreclosures that occurred as a result of Silverleaf Owners failing to pay monthly dues was 1,419 in 2008 and 1,558 in 2007. Typically, we purchase at foreclosure all Vacation Intervals that are the subject of foreclosure proceedings instituted by the Club because of delinquent dues.  One of our resorts issues a certificate of beneficial interest to Silverleaf Owners who purchase there.  The obligation to pay monthly dues at this resort is secured by the certificate of beneficial interest.  If a Silverleaf Owner at this resort fails to pay his monthly dues, his Club may terminate the certificate of beneficial interest, rather than foreclose.

The Club at each timeshare resort (other than Orlando Breeze) operates through a centralized organization provided by Silverleaf Club to manage the resorts on a collective basis. The consolidation of resort operations through Silverleaf Club permits: (i) a centralized reservation system for all resorts; (ii) substantial cost savings by purchasing goods and services for all resorts on a group basis, which generally results in a lower cost of goods and services than if such goods and services were purchased by each resort on an individual basis; (iii) centralized management for the entire resort system; (iv) centralized legal, accounting, and administrative services for the entire resort system; and (v) uniform implementation of various rules and regulations governing all resorts. Aside from the marina and water park at The Villages and the golf courses at our Holiday Hills and Apple Mountain resorts, all furniture, furnishings, recreational equipment, and other personal property used in connection with the operation of the Existing Resorts are owned by either that resort’s Club or Silverleaf Club, rather than by us.

Orlando Breeze has its own club, Orlando Breeze Resort Club, which is operated independently of Silverleaf Club. However, we supervise the management and operation of the Orlando Breeze Resort Club under the terms of a written agreement.

At December 31, 2008, Silverleaf Club had 874 full-time employees and Orlando Breeze Resort Club had 11 full-time employees. Each Club is solely responsible for their salaries, as well as the direct expenses of operating the Existing Resorts, while we are responsible for the direct expenses of new development and all marketing and sales activities. To the extent Silverleaf Club provides payroll, administrative, and other services that directly benefit the Company, we reimburse Silverleaf Club for such services and vice versa.

Silverleaf Club and Orlando Breeze Resort Club collect dues from Silverleaf Owners, plus certain other amounts assessed against Silverleaf Owners from time to time, and generate income by the operation of certain amenities at the Existing Resorts. Silverleaf Club and Orlando Breeze Resort Club dues were approximately $64.96 per month ($32.48 for biennial owners) during 2008, except for certain members of Oak N’ Spruce Resort who prepay dues at an annual rate of $546. Such amounts are used by the respective Clubs to pay the costs of operating the Existing Resorts and the management fees due to the Company pursuant to applicable management agreements. Our management agreements with Silverleaf Club and Orlando Breeze Resort Club authorize us to supervise the management and operations of the Existing Resorts and provide for a maximum management fee equal to 15% of gross revenues of either Silverleaf Club or Orlando Breeze Resort Club, but our right to receive such a fee on an annual basis is limited to the net income of Silverleaf Club or Orlando Breeze Resort Club. However, if we do not receive the maximum fee, such deficiency is deferred for payment to succeeding years, subject again to the annual net income limitation. Due to anticipated refurbishment of units at the Existing Resorts, together with the operational and maintenance expenses associated with our current expansion and development plans, our 2008 management fees were subject to the annual net income limitations. Accordingly, for the year ended December 31, 2008, management fees recognized were $3.1 million. For financial reporting purposes, management fees from Silverleaf Club and Orlando Breeze Resort Club are recognized based on the lower of (i) the aforementioned maximum fees or (ii) net income. The Silverleaf Club management agreement expires March 2020 and continues year-to-year thereafter unless cancelled by either party. The Orlando Breeze Resort Club management agreement expires January 2011 and continues in successive 3-year terms thereafter unless cancelled by either party. As a result of the past performance of the Silverleaf Club and Orlando Breeze Resort Club, it is uncertain whether Silverleaf Club and Orlando Breeze Resort Club will consistently generate positive net income. Therefore, future income to the Company under the management agreements with Silverleaf Club and Orlando Breeze Resort Club could be limited. At December 31, 2008, there were approximately 109,000 Vacation Interval owners who pay dues to Silverleaf Club and approximately 2,000 Vacation Interval owners who pay dues to Orlando Breeze Resort Club. If we develop new resorts outside of Florida, their respective Clubs are expected to be added to the Silverleaf Club management agreement.


Other Operations

Operation of Amenities and Other Assets. We own, operate, and receive the revenues from the marina and the water park at The Villages, the golf course and pro shop at Holiday Hills, and the golf course and pro shop at Apple Mountain. Although we own the golf course at Holly Lake, a homeowners’ association in the development operates the golf course. In general, Silverleaf Club receives revenues from the various Clubs’ amenities that require a usage fee, such as watercraft rentals, horseback rides, and restaurants.

Samplers. Revenues related to sampler contracts, which entitle a prospective owner to sample a resort during certain periods, are deferred until the customer uses the stay or allows the contract to expire. Sampler sales and related costs are accounted for as incidental operations, whereby incremental costs in excess of related incremental revenues are charged to expense as incurred. Conversely, incremental revenues in excess of related incremental costs are recorded as a reduction of inventory in the consolidated balance sheet. Incremental costs include costs that would not have been incurred had we not sold samplers. Since our sampler sales primarily function as a marketing program, providing us additional opportunities to sell Vacation Intervals to prospective customers, the incremental costs of our sampler sales typically exceed incremental sampler revenues. Accordingly, during the years ended December 31, 2007 and 2008, all sampler sales were recorded as a reduction to sales and marketing expense, in the amounts of $3.4 million and $3.7 million, respectively.

Mini-Vacations. We began a new marketing program in 2008 which offers prospective customers a free night at a hotel near one of our resorts in exchange for them taking a tour of one of our resorts.

Other Properties. During 2006, we sold 9 acres of an 11-acre tract of land we owned in Mississippi for $789,000 and recognized a gain of $499,000 on the sale. However, we remain entitled to 85% of any profits generated with regards to the remaining portion of the land while an affiliate of a director of the Company owns a 10% net profits interest and non-affiliates own the remaining 5% net profits interest.

We also own a 500-acre tract of land in the Berkshire Mountains of Western Massachusetts that we are in the initial stages of developing. During September 2007, we purchased an additional 394.3 acre tract which adjoins the 500 acres. We have not yet finalized our future development plans for this site.

In November 2007, we purchased 15.3 acres of undeveloped land in Grand County, Colorado with plans to develop up to 136 Vacation Interval units on the property. The acquired land is located approximately two miles from our Pinnacle Lodge hotel.

Policies with Respect to Certain Activities

Our Board of Directors sets policies with regard to all aspects of our business operations without a vote of security holders. In some instances the power to set certain policies may be delegated by the Board of Directors to a committee comprised of its members or to the officers of the Company. As set forth herein under the headings “Customer Financing” and “Description of Our Indebtedness and Senior Credit Facilities,” we finance all of our operations through borrowings and make loans to our customers to finance the purchase of our Vacation Intervals.


We do not:

 
·
invest in the securities of unaffiliated issuers for the purpose of exercising control;
 
·
underwrite securities of other issuers;
 
·
engage in the purchase and sale (or turnover) of investments sponsored by other issuers; or
 
·
offer securities in exchange for property.

Nor do we propose to engage in any of the above activities. From time to time we have repurchased or otherwise reacquired our own common stock and other securities. On July 29, 2008, we authorized the repurchase of up to two million shares of our common stock to be acquired from time to time in the open market or in negotiated transactions. During 2008, we acquired 56,211 outstanding shares of common stock under this program, which we reclassified as treasury stock. This stock repurchase program expires in July 2010. We have no policy or proposed policy with respect to future repurchases or re-acquisitions of our common stock or other securities. However, our Board of Directors may approve such repurchase activities if it finds these activities to be in the best interests of the Company and its shareholders.

Investment Policies

Our Board of Directors determines our policies concerning investments, including the percentage of assets we may invest in any one type of investment and the principles and procedures we employ in connection with the acquisition of assets. The Board of Directors may change these policies without a vote of security holders. We do not propose to invest in any investments or activities not related directly or indirectly to (i) the timeshare business, (ii) the acquisition, development, marketing, selling, or financing of Vacation Intervals, or (iii) the management of timeshare resorts. We currently have no policies limiting the geographic areas in which we might engage in investments in the timeshare business or limiting the percentage of our assets invested in any specific timeshare related property. We primarily acquire assets for use in operations and not to hold for possible capital gain.

Participation in Vacation Interval Exchange Networks

Internal Exchanges. Each Silverleaf Owner has certain exchange privileges through Silverleaf Club which may be used on an annual basis to: (i) exchange an interval for a different interval (week) at the same resort so long as the desired interval is of an equal or lower rating; or (ii) exchange an interval for an interval (week) of equal or lower rating at any of our other Existing Resorts. Silverleaf Owners of Getaway Resorts can only exchange for an interval in a Getaway Resort unless they own a “Presidents,” “Chairmans,” or “Ambassador” Vacation Interval. These exchange rights are a convenience we provide Silverleaf Owners and are conditioned upon availability of the desired interval or resort. Approximately 10,668 exchanges occurred in 2008. Silverleaf Owners pay an exchange fee of $75 to Silverleaf Club for each such internal exchange.

External Exchange Network. We believe participation in a Vacation Interval exchange network operated by RCI makes our Vacation Intervals more attractive. At December 31, 2008, all Existing Resorts are affiliated with RCI, and approximately 40% of Silverleaf Owners participate in RCI's exchange network. RCI membership allows participating Silverleaf Owners to exchange their occupancy right in a unit for an occupancy right in a unit of the same or lower color rating in another participating resort based upon availability and the payment of a variable exchange fee. A member may exchange a Vacation Interval for an occupancy right in another participating resort by a) listing the Vacation Interval as available with the exchange organization and b) requesting occupancy at another participating resort, indicating the particular resort or geographic area to which the member desires to travel, the size of the unit desired, and the period during which occupancy is desired.

RCI assigns a rating of “red,” “white,” or “blue” to each Vacation Interval for participating resorts based upon a number of factors, including the location and size of the unit, the quality of the resort, and the period during which the Vacation Interval is available, and attempts to satisfy exchange requests by providing an occupancy right in another Vacation Interval with a similar rating. For example, an owner of a red Vacation Interval may exchange his interval for a red, white, or blue interval. An owner of a white Vacation Interval may exchange only for a white or blue interval, and an owner of a blue interval may exchange only for a blue interval. At December 31, 2008, RCI’s designation of our units as red, white, and blue Vacation Intervals is approximately 68%, 20%, and 12%, respectively. If RCI is unable to meet the member's initial request, it suggests alternative resorts based on availability. RCI’s annual membership fees, which are at the option and expense of the owner of the Vacation Interval, are currently $89. Exchange rights with RCI require an additional fee of $164 for both domestic and foreign exchanges. Resorts participating in the exchange networks are required to adhere to certain minimum standards regarding available amenities, safety, security, décor, unit supplies, maid service, room availability, and overall ambiance. See “Risk Factors” for a description of risks associated with the exchange programs.


Competition

All of our operations are contained within and are in support of a single industry segment – the vacation ownership industry – and we currently operate in only six geographic areas of the United States. These geographic areas are Texas, Missouri, Massachusetts, Illinois, Georgia, and Florida. We encounter significant competition from other timeshare resorts in the markets that we serve. The timeshare industry is highly fragmented and includes a large number of local and regional resort developers and operators. However, some of the world's most recognized lodging, hospitality, and entertainment companies, such as Marriott International, Inc. (“Marriott”), Walt Disney Company (“Disney”), Hilton Hotels Corporation (“Hilton”), Hyatt Corporation (“Hyatt”), and Four Seasons Hotels, Inc. (“Four Seasons”) have entered the industry. Other companies in the timeshare industry, including Wyndham Worldwide Corporation (“Wyndham”), Starwood Hotels & Resorts Worldwide Inc. (“Starwood”), Bluegreen Corporation (“Bluegreen”), and Diamond Resorts International (“Diamond”), most of which are, or are subsidiaries of, public companies with enhanced access to capital and other resources that public ownership implies.

Wyndham, Bluegreen, and Diamond own timeshare resorts in or near Branson, Missouri, which compete with our Holiday Hills and Ozark Mountain resorts, and to a lesser extent with our Timber Creek Resort. Additionally, these and a number of other timeshare resorts operate in most states in which we own Existing Resorts which generates further competition.

We believe Marriott, Disney, Hilton, Hyatt, and Four Seasons generally target consumers with higher annual incomes than our target market. However, many of our other competitors target consumers with similar income levels as our target market. Our competitors may possess significantly greater financial, marketing, personnel, and other resources than we do. We cannot be certain that such competitors will not significantly reduce the price of their Vacation Intervals or offer greater convenience, services, or amenities than we do.

The American Resort Development Association (“ARDA”) recently published a study entitled “State of the Vacation Timeshare Industry: United States Study 2008” (the “ARDA Study”), which reported timeshare sales volume in the United States of $10.6 billion for 2007, compared to $5.5 billion in 2002 and $3.2 billion in 1998, equating to a 10-year compound annual growth rate of approximately 13 percent. The study estimated that 4.7 million households owned one or more U.S. timeshare intervals or equivalent points at January 1, 2008, representing a 6.8% increase over the prior year. However, there can be no assurance that the existing levels of growth in timeshare demand will continue or that we will not have to compete with larger and better capitalized competitors in future periods for a declining number of potential timeshare purchasers.

While our principal competitors are developers of timeshare resorts, we are also subject to competition from other entities engaged in the commercial lodging business, including condominiums, hotels, and motels, as well as others engaged in the leisure business and, to a lesser extent, from campgrounds, recreational vehicles, tour packages, and second home sales. A reduction in the product costs associated with any of these competitors, or an increase in our costs relative to such competitors' costs, could have a material adverse effect on our results of operations, liquidity, and financial position.

Numerous businesses, individuals, and other entities compete with us in seeking properties for acquisition and development of new resorts. Some of these competitors are substantially larger than us and have greater financial and other resources. Such competition may result in a higher cost for properties we wish to acquire and thus prevent us from acquiring suitable properties for the development of new resorts.

Governmental Regulation

General. Our marketing and sales of Vacation Intervals and other operations are subject to extensive regulation by the federal government and the states and jurisdictions in which the Existing Resorts are located and in which our Vacation Intervals are marketed and sold. On a federal level, the Federal Trade Commission has taken the most active regulatory role through the Federal Trade Commission Act, which prohibits unfair or deceptive acts or competition in interstate commerce. Other federal legislation to which the Company is or may be subject includes the Truth-in-Lending Act and Regulation Z, the Equal Opportunity Credit Act and Regulation B, the Interstate Land Sales Full Disclosure Act, the Real Estate Settlement Procedures Act, the Consumer Credit Protection Act, the Telephone Consumer Protection Act, the Telemarketing and Consumer Fraud and Abuse Prevention Act, the Fair Housing Act, the Civil Rights Acts of 1964 and 1968, the Fair Credit Reporting Act, the Fair Debt Collection Practices Act, and the Americans with Disabilities Act (“ADA”). Additionally, as a publicly owned company, we are subject to all federal and state securities laws, including the Sarbanes-Oxley Act of 2002.

Certain states in which we operate have adopted specific laws and regulations regarding the marketing and sale of Vacation Intervals. The laws of most states require us to file a detailed offering statement and supporting documents with a designated state authority, which describe the Company, the project, and our promotion and sale of Vacation Intervals. The offering statement must be approved by the appropriate state agency before we may solicit residents of such state. The laws of certain states require us to deliver an offering statement (or disclosure statement), together with certain additional information concerning the terms of the purchase, to prospective purchasers of Vacation Intervals who are residents of such states, even if the resort is not located in such state. Laws governing Missouri generally only require certain disclosures in marketing and sales documents for prospective purchasers. There are also laws in each state where we sell Vacation Intervals that grant the purchaser the right to cancel a contract of purchase at any time within three to fifteen calendar days following the sale.


We market and sell our Vacation Intervals to residents of certain states adjacent or proximate to the states where our resorts are located. Many of these neighboring states also regulate the marketing and sale of Vacation Intervals to their residents. Most states have additional laws which regulate our activities and protect purchasers, such as real estate licensure laws; travel sales licensure laws; anti-fraud laws; consumer protection laws; telemarketing laws; prize, gift, and sweepstakes laws; and other related laws. We do not register all of our resorts in each of the states where we register certain resorts.

Most of the states where we currently operate have enacted laws and regulations that limit our ability to market our resorts through telemarketing activities. These states have enacted “do not call” lists that permit consumers to block telemarketing activities by registering their telephone numbers for a period of years for a nominal fee. We purchase these lists from the various states quarterly and do not contact those telephone numbers listed. Additionally, the federal Do-Not-Call Implementation Act, enacted on March 11, 2003, provided for the establishment of a National Do Not Call Registry administered by the United States Federal Trade Commission (“FTC”) under its Telemarketing Sales Rule (“TSR”) and the Federal Communications Commission. The FTC began enforcement actions in October 2003 for violations of the TSR by telemarketers. The Do-Not-Call Improvement Act of 2007, which became law in February 2008, ensures that telephone numbers placed on the National Do Not Call Registry will remain on it permanently. Violations could result in penalties up to $11,000 per violation. The FTC reported that approximately 172 million telephone numbers had been registered on the National Do Not Call List Registry as of October 1, 2008. Since the introduction of state and federal Do-Not-Call legislation, we have become more reliant on direct mail solicitations as an alternative to some of the telemarketing techniques we have historically utilized. Existing and future restrictions on telemarketing practices could cause our sales to decline.

We believe we are in material compliance with applicable federal and state laws and regulations relating to the sales and marketing of Vacation Intervals in the jurisdictions in which we currently do business. However, we are routinely and currently the subject of a number of consumer complaints and regulatory inquiries generally relating to our marketing or sales practices. We always attempt to resolve all such complaints or inquiries directly with the consumer or the regulatory authority involved. We cannot be certain that all of these complaints and inquiries by regulators can be resolved without adverse regulatory actions or other consequences, such as class action lawsuits or rescission offers. We expect some level of consumer complaints in the ordinary course of business as we aggressively market and sell Vacation Intervals to households, which may include individuals who may not be financially sophisticated. We cannot be certain that the costs of resolving consumer complaints and regulatory inquiries or of qualifying under Vacation Interval ownership regulations in all jurisdictions in which we conduct sales or wish to conduct sales in the future will not be significant, that we are in material compliance with applicable federal and state laws and regulations, or that violations of law will not have adverse implications, including negative public relations, potential litigation, and regulatory sanctions. The potential expense, negative publicity, and sanctions associated with the failure to comply with applicable laws or regulations could have a material adverse effect on our results of operations, liquidity, or financial position. Further, we cannot be certain that either the federal government or states having jurisdiction over our business will not adopt additional regulations or take other actions that would adversely affect our business, results of operations, or financial position.

Historically, the timeshare industry has been and continues to be afflicted with negative publicity and prosecutorial attention due to, among other things, marketing practices which were widely viewed as deceptive or fraudulent. Included among the many timeshare companies which have been the subject of federal, state, and local enforcement actions and investigations in the past were certain of the partnerships and corporations that were merged into the Company prior to 1996 (the “Merged Companies,” or individually “Merged Company”). Some of the settlements, injunctions, and decrees resulting from litigation and enforcement actions (the “Orders”) to which certain of the Merged Companies consented in the 1980s purport to bind all successors and assigns, and accordingly may also be enforceable against the Company. In addition, at that time the Company was directly a party to one such Order issued in Missouri. No past or present officers, directors, or employees of the Company or any Merged Company were named as subjects or respondents in any of these Orders. However, each Order purports to bind generically unnamed “officers, directors, and employees” of certain Merged Companies. Therefore, certain of these Orders may be interpreted to be enforceable against the present officers, directors, and employees of the Company even though they were not individually named as subjects of the enforcement actions which resulted in these Orders. These Orders require, among other things, that all parties bound by the Orders, including the Company, refrain from engaging in deceptive sales practices in connection with the offer and sale of Vacation Intervals. The requirements of the Orders are substantially what applicable state and federal laws and regulations mandate, but the consequence of violating the Orders may be that sanctions (including possible financial penalties and suspension or loss of licensure) may be imposed more summarily and may be harsher than would be the case if the Orders did not bind the Company. In addition, the existence of the Orders may be viewed negatively by prospective regulators in jurisdictions where the Company does not now do business, with attendant risks of increased costs and reduced opportunities.


In early 1997, we were the subject of consumer complaints that triggered governmental investigations into the Company's affairs. In March 1997, we entered into an Assurance of Voluntary Compliance with the Texas Attorney General, in which we agreed to make additional disclosure to purchasers of Vacation Intervals regarding the limited availability of our Bonus Time program during certain periods. We paid $15,200 for investigatory costs and attorneys' fees of the Texas Attorney General in connection with this matter. Also, in March 1997, we entered into an agreed order (the “Agreed Order”) with the Texas Real Estate Commission requiring that we comply with certain aspects of the Texas Timeshare Act, Texas Real Estate License Act, and Rules of the Texas Real Estate Commission, with which we had allegedly been in non-compliance until mid-1995. The allegations included (i) our admitted failure to register the Missouri Destination Resorts in Texas (due to our misunderstanding of the reach of the Texas Timeshare Act); (ii) payment of referral fees for Vacation Interval sales, the receipt of which was improper on the part of the recipients; and (iii) miscellaneous other actions alleged to violate the Texas Timeshare Act, which we denied. While the Agreed Order acknowledged that we independently resolved ten consumer complaints referenced in the Agreed Order, discontinued the practices complained of, and registered the Missouri Destination Resorts during 1995 and 1996, the Texas Real Estate Commission ordered us to cease these discontinued practices and enhance our disclosure to purchasers of Vacation Intervals. In the Agreed Order, we agreed to make a voluntary donation of $30,000 to the State of Texas. The Agreed Order also directed that we revise our training manual for timeshare salespersons and verification officers. While the Agreed Order resolved all of the alleged violations contained in complaints received by the Texas Real Estate Commission through December 31, 1996, we have encountered and expect to encounter some level of additional consumer complaints, regulatory scrutiny, and periodic remedial action in the ordinary course of our business.

We have established compliance and supervisory methods in training sales and marketing personnel which adhere to legal requirements.  With regard to direct mailings, a designated compliance employee reviews all mailings to determine if they comply with applicable state legal requirements. With regard to telemarketing, our marketing management personnel prepare a script for telemarketers based upon applicable state legal requirements. All telemarketers receive training that includes, among other things, directions to adhere strictly to the approved script. Telemarketers are also monitored by their supervisors to ensure that they do not deviate from the approved script. Additionally, sales personnel receive training as to such applicable legal requirements. We have a salaried employee at each sales office who reviews the sales documents prior to closing a sale to review compliance with legal requirements. Periodically, we are notified by regulatory agencies to revise our disclosures to consumers and to remedy other alleged inadequacies regarding the sales and marketing process. In such cases, we revise our direct mailings, telemarketing scripts, or sales disclosure documents, as appropriate, to comply with such requests. We have managers to monitor compliance with all state and federal Do-Not-Call regulations.

We are not currently aware of any non-compliance with any state or federal statute, rule, or regulation which we believe would have a material adverse effect on our business, results of operations, or financial position.

Environmental Matters. Under various federal, state, and local environmental laws, ordinances, and regulations, a current or previous owner or operator of real estate may be required to investigate and clean up hazardous or toxic substances or petroleum product releases at such property, and may be held liable to a governmental entity or to third parties for property damage and tort liability and for investigation and clean-up costs incurred by such parties in connection with the contamination. Such laws typically impose clean-up responsibility and liability without regard to whether the owner or operator knew of or caused the presence of the contaminants, and the liability under such laws has been interpreted to be joint and several unless the harm is divisible and there is a reasonable basis for allocation of responsibility. The cost of investigation, remediation, or removal of such substances may be substantial, and the presence of such substances, or the failure to properly remediate the contamination on such property, may adversely affect the owner's ability to sell such property or to borrow using such property as collateral. Persons who arrange for the disposal or treatment of hazardous or toxic substances at a disposal or treatment facility also may be liable for the costs of removal or remediation of a release of hazardous or toxic substances at such disposal or treatment facility, whether or not such facility is owned or operated by such person. In addition, some environmental laws create a lien on the contaminated site in favor of the government for damages and costs it incurs in connection with the contamination. Finally, the owner or operator of a site may be subject to common law claims by third parties based on damages and costs resulting from environmental contamination emanating from a site or from environmental regulatory violations. In connection with our ownership and operation of our properties, we may be potentially liable for such claims.

Certain federal, state, and local laws, regulations, and ordinances govern the removal, encapsulation, or disturbance of asbestos-containing materials (“ACMs”) when such materials are in poor condition or in the event of construction, remodeling, renovation, or demolition of a building. Such laws may impose liability for release of ACMs and may provide for third parties to seek recovery from owners or operators of real properties for personal injury associated with ACMs. In connection with our ownership and operation of our properties, we may be potentially liable for such costs. In 2001, we conducted a limited asbestos survey at each of our resorts existing at that time, which did not reveal material potential losses associated with ACMs.


In addition, studies have linked radon, a naturally occurring substance, to increased risks of lung cancer. While there are currently no state or federal requirements regarding the monitoring for, presence of, or exposure to radon in indoor air, the EPA and the Surgeon General recommend testing residences for the presence of radon in indoor air. The EPA further recommends that concentrations of radon in indoor air be limited to less than 4 picocuries per liter of air (Pci/L) (the “Recommended Action Level”). The presence of radon in concentrations equal to or greater than the Recommended Action Level in one or more of our properties may adversely affect our ability to sell Vacation Intervals at such properties and the market value of such property. We have not tested our properties for radon.

Electric transmission lines are located in the vicinity of some of our properties. Electric transmission lines are one of many sources of electromagnetic fields (“EMFs”) to which people may be exposed. Research into potential health impacts associated with exposure to EMFs has produced inconclusive results. Notwithstanding the lack of conclusive scientific evidence, some states now regulate the strength of electric and magnetic fields emanating from electric transmission lines, while others have required transmission facilities to measure for levels of EMFs. In addition, we understand that lawsuits have, on occasion, been filed (primarily against electric utilities) alleging personal injuries resulting from exposure as well as fear of adverse health effects. In addition, fear of adverse health effects from transmission lines has been a factor considered in determining property value in obtaining financing and in condemnation and eminent domain proceedings brought by power companies seeking to construct transmission lines. Therefore, potential exists for the value of a property to be adversely affected as a result of its proximity to a transmission line and for the Company to be exposed to damage claims by persons exposed to EMFs.

We conducted Phase I environmental assessments at each of our resorts during 2001 or later to identify potential environmental concerns. These Phase I assessments were carried out in accordance with accepted industry practices and consisted of non-invasive investigations of environmental conditions at the properties, including a preliminary investigation of the sites and identification of publicly known conditions concerning properties in the vicinity of the sites, physical site inspections, review of aerial photographs and relevant governmental records where readily available, interviews with knowledgeable parties, investigation for the presence of above-ground and underground storage tanks presently or formerly at the sites, and the preparation and issuance of written reports. Our Phase I assessments of the properties did not reveal any environmental liability that we believe would have a material adverse effect on our business, assets, or results of operations taken as a whole; nor are we aware of any such material environmental liability. Nevertheless, it is possible that our Phase I assessments did not reveal all environmental liabilities or that there are material environmental liabilities of which we are unaware. Moreover, there can be no assurance that (i) future laws, ordinances, or regulations will not impose any material environmental liability or (ii) the current environmental condition of the properties will not be affected by the condition of land or operations in the vicinity of the properties (such as the presence of underground storage tanks) or by third parties unrelated to us. We do not believe that compliance with applicable environmental laws or regulations will have a material adverse effect on our results of operations, liquidity, or financial position.

We believe that our properties are in compliance in all material respects with all federal, state, and local laws, ordinances, and regulations regarding hazardous or toxic substances. We have not been notified by any governmental authority or any third party, and are not otherwise aware, of any material noncompliance, liability, or claim relating to hazardous or toxic substances or petroleum products in connection with any of our present properties.

Other Regulation. Under various state and federal laws governing housing and places of public accommodation, including ADA, we are required to meet certain requirements related to access and use by disabled persons. Although we believe that our facilities are generally in compliance with present requirements of such laws, we are aware of certain of our properties that are not in full compliance with all aspects of such laws. We are presently responding, and expect to respond in the future, to inquiries, claims, and concerns from consumers and regulators regarding our compliance with existing state and federal regulations affording the disabled access to housing and accommodations. It is our practice to respond positively to all such inquiries, claims, and concerns and to work with regulators and consumers to resolve all issues arising under existing regulations concerning access and use of our properties by disabled persons. We believe that we will incur additional costs of compliance and/or remediation in the future with regard to the requirements of such existing regulations. Future legislation may also impose new or further burdens or restrictions on owners of timeshare resort properties with respect to access by the disabled. The ultimate cost of compliance with such legislation and/or remediation of conditions found to be non-compliant is not currently ascertainable, and while such costs are not expected to have a material effect on our business, such costs could be substantial. Limitations or restrictions on the completion of certain renovations may limit application of our growth strategy in certain instances or reduce profit margins on our operations. We are also subject to a variety of local, state, and federal laws and regulations concerning health and sanitation, facility operations, fire safety, and occupational safety.


Employees

At December 31, 2008, we had 2,125 full and part-time employees and the Clubs collectively had 885 full and part-time employees.  Our employee relations are good, both at the Company and at the Clubs. None of our employees are represented by a labor union and we are not aware of any union organization efforts with respect to any of our employees.

Insurance

We carry comprehensive liability, fire, hurricane, and storm insurance with respect to our resorts, with policy specifications, insured limits, and deductibles customarily carried for similar properties, which we believe are adequate. However, certain types of losses (such as losses arising from floods in non-floodplain areas and acts of war) generally are not insured because such losses are either uninsurable or not economically insurable. Should an uninsured loss or a loss in excess of insured limits occur, we could lose the capital invested in a resort, as well as the anticipated future revenues from such resort, and would continue to be obligated on any mortgage indebtedness or other obligations related to the property. Any such loss could have a material adverse effect on our results of operations, liquidity, or financial position.

On September 13, 2008, Hurricane Ike caused property damage and business interruption related to our Seaside Resort in Galveston, Texas, and our Piney Shores Resort just north of Houston, Texas. As a result, Seaside Resort was closed from September 10 through October 17, at which time we began taking reservations and gradually opening units. The resort was fully operational by December 12. Piney Shores Resort was closed from September 13 to September 25. We maintain insurance that covers both physical damage and business-interruption losses. We accrued $291,000 related to this incident, which represents our insurance deductibles and expenditures deemed uncollectible.  In addition, in November 2008, we received $1.3 million in business-interruption proceeds, which was recorded in other income.

We self-insure for employee medical claims reduced by certain stop-loss provisions. We also self-insure for property damage to certain vehicles and heavy equipment.


DESCRIPTION OF OUR INDEBTEDNESS AND SENIOR CREDIT FACILITIES AT DECEMBER 31, 2008

We use our credit agreements to finance the sale of Vacation Intervals, to finance construction, and for working capital needs. The loans are collateralized (or cross-collateralized) by customer notes receivable, inventory, construction in process, land, improvements, and related equipment at certain Existing Resorts. The credit facilities secured by customer notes receivable allow advances ranging from 75% to 80% of the unpaid balance of certain eligible customer notes receivable.

The following table summarizes our notes payable, capital lease obligations, and senior subordinated notes at December 31, 2007 and 2008 (in thousands):

               
Revolving
          
Interest
    
Interest
  
   
2007
    
2008
    
Term
    
Maturity
    
Rate
    
Rate Floor
  
$100 million receivables-based revolver ($100 million maximum combined receivable, inventory, and acquisition commitments,  see inventory / acquisition component below).
   $ 63,119     $ 31,284    
1/31/10
    
1/31/13
    
Prime
    
6.00%
  
$20 million receivables-based revolver
     14,122       9,746    
6/29/10
    
6/29/10
    
Prime + 0.75%
    
6.25%
  
$50 million receivables-based revolver
     8,044       5,789    
8/31/11
    
8/31/14
    
Prime
    
6.00%
  
$150 million receivables-based revolver, with an interest rate cap of 7.5%
     59,268       70,183    
9/3/09
    
9/3/11
    
LIBOR + 1.25%
    
—
  
$72.5 million receivables-based revolver
     9,860       43,504    
7/2/10
    
7/2/13
    
LIBOR + 2.40%
    
5.25%
  
$66.4 million receivables-based non-revolving conduit loan
     13,489       6,549    
—
    
3/22/14
    
7.035%
    
—
  
$26.3 million receivables-based non-revolving conduit loan
     7,765       4,140  
 
—
    
9/22/11
    
7.90%
    
—
  
$128.1 million receivables-based non-revolver
     68,761       43,526    
—
    
7/16/18
    
6.70%
    
—
  
$115.4 million receivables-based non-revolver, including a total remaining discount of approximately $5.8 million
     —       84,885    
—
    
3/15/20
    
7.263%
    
—
  
Inventory / acquisition loan agreement (see $100 million receivables-based revolver above)
     30,005       28,407    
1/31/10
    
1/31/12
    
Prime + 1.00%
Prime + 3.00%
  
 
6.00%
8.00%
 
$50 million inventory loan agreement
     20,091       34,464    
4/29/10
    
4/29/12
    
Prime + 1.50%
    
7.00%
  
$15 million inventory loan agreement
     12,982       —    
—
    
—
    
Prime + 2.00%
    
—
  
Various notes, due from February 2009 through August 2016,  collateralized by various assets with interest rates ranging from 6.0% to 8.5%
     6,970       4,684    
—
    
various
    
various
    
—
  
Total notes payable
     314,476       367,161    
 
                
 
  
Capital lease obligations
     1,722       1,910    
—
    
various
    
various
    
—
  
Total notes payable and capital lease obligations
     316,198       369,071    
 
                    
                   
 
                    
10½% senior subordinated notes, due 2008
     2,146      
—
    
—
    
4/1/08
    
10.50%
    
—
  
8.0% senior subordinated notes, due 2010
     24,671       23,121    
—
    
4/1/10
    
8.00%
    
—
  
Total senior subordinated notes
     26,817       23,121    
 
                    
                                         
Total
   $ 343,015     $ 392,192                          

At December 31, 2008, the LIBOR rate on our senior credit facilities was 0.44% (1 month) and the Prime rate on these facilities was 3.25%. Our weighted average cost of borrowings for the year ended December 31, 2008 was 6.8% compared to 7.6% for the year ended December 31, 2007.

At December 31, 2008, our senior credit facilities provided for loans of up to $549.0 million, of which $186.6 million was available for future advances. The following table summarizes our credit agreements with our senior lenders, our wholly-owned and consolidated special purpose finance subsidiaries, our senior subordinated debt and other debt, and our credit agreement with our off-balance-sheet qualified special purpose entity (“SPE”), SF-III, as of December 31, 2008 (in thousands):

   
Maximum Amount Available
    
Balance
  
Receivables-Based Revolvers
   $ 331,534     $ 160,506  
Receivables-Based Non-Revolvers
     139,100       139,100  
Inventory Loans
     78,407       62,871  
Subtotal Senior Credit Facilities
     549,041       362,477  
Senior Subordinated Debt
     23,121       23,121  
Other Debt
     6,594       6,594  
Subtotal On-Balance-Sheet
     578,756       392,192  
Off-Balance-Sheet Receivables-Based Term Loan
     17,135       17,135  
Grand Total
   $ 595,891     $ 409,327  

During 2008, we added to and amended our senior credit facility agreements as follows:

 
·
Silverleaf Finance VI, LLC. In June 2008, we executed a term securitization transaction through a newly-formed, wholly-owned and fully consolidated special purpose finance subsidiary, SF-VI. SF-VI was formed for the purpose of issuing approximately $115.4 million of its Timeshare Loan-Backed Notes Series 2008-A (“Series 2008-A Notes”) in a private offering and sale through certain financial institutions. The Series 2008-A Notes were issued in seven classes with a blended coupon rate of 7.263% and at discounts totaling approximately $8.0 million. These discounts are amortized as an adjustment to interest expense over the terms of the related loans using the effective interest method, which generates a blended effective interest rate on these notes of approximately 11.3% at December 31, 2008. The Series 2008-A Notes have a maturity date of March 2020. The Series 2008-A Notes are secured by customer notes receivable sold to SF-VI by SF-IV and Silverleaf. The customer notes receivable sold to SF-VI were previously sold to SF-IV or pledged as collateral by Silverleaf under revolving credit facilities with senior lenders. The cash proceeds from the sale of the customer notes receivable to SF-VI were primarily used to repay approximately $93.8 million in consolidated indebtedness to senior lenders or to SF-IV.


 
·
In April 2008, we amended our $50 million receivables-based revolver to reduce availability to $20 million and extend the revolving term and maturity date from April 2008 to June 2008. In June 2008, this receivables-based facility was further amended to extend the revolving term and maturity date from June 2008 to June 2010. We also amended our inventory facility with this same senior lender in June 2008 to increase availability from $30 million to $50 million and extend the revolving period from April 2009 to April 2010 and the maturity date from April 2011 to April 2012.

 
·
In July 2008, we amended our $37.5 million receivables-based revolver to increase availability to $72.5 million, extend the revolving period from September 2009 to July 2010, and extend the maturity date from September 2012 to July 2013.

 
·
In September 2008, we amended our $35 million revolving receivables credit facility to increase availability to $50 million, extend the revolving period from December 2008 to August 2011, and extend the maturity date from December 2011 to August 2014. The increase in borrowing capacity of the receivables credit facility from $35 million to $50 million was facilitated based on the termination of our $15 million revolving inventory credit facility with this same senior lender, also effective in September 2008.

In addition, during the fourth quarter of 2008, we retired $1.6 million of 8.0% senior subordinated notes, due April 2010, for $1.3 million, which resulted in a gain of approximately $250,000.

Financial Covenants Under Senior Credit Facilities.

Our senior credit facilities discussed above provide certain financial covenants that we must satisfy. Any failure to comply with the financial covenants in any single loan agreement will result in a cross default under the various facilities. As of and for the years ended December 31, 2006, 2007, and 2008, we have been in full compliance with our debt covenants in our credit facilities with all of our senior lenders. Financial covenants existing at December 31, 2008 are described below.

Tangible Net Worth Covenant.  Although our senior lenders’ requirements vary, the most restrictive “net worth” covenant is that we must maintain Tangible Net Worth at all times greater than the Tangible Net Worth as of December 31, 2004, or $132.1 million, plus 50% of the aggregate Consolidated Net Income after December 31, 2004. “Tangible Net Worth” is (i) the consolidated net worth of the Company and our consolidated subsidiaries, plus (ii) to the extent not otherwise included in the such consolidated net worth, unsecured subordinated indebtedness of the Company and our consolidated subsidiaries, the terms and conditions of which are reasonably satisfactory to the required banks, minus (iii) the consolidated intangibles of the Company and our consolidated subsidiaries, including, without limitation, goodwill, trademarks, trade names, copyrights, patents, patent applications, licenses, and rights in any of the foregoing and other items treated as intangibles in accordance with generally accepted accounting principles. “Consolidated Net Income” is the consolidated net income of the Company and our subsidiaries after deduction of all expenses, taxes, and other proper charges (but excluding any extraordinary profits or losses) determined in accordance with generally accepted accounting principles.

Marketing and Sales Expenses Covenant.  Our ratio of marketing expenses to Vacation Interval sales for the latest rolling 12 months then ended must not equal or exceed 60% as of the last day of any fiscal quarter. One senior lender has increased such ratio to 62% as of the last day of each fiscal quarter for a four-quarter cumulative ratio. As of December 31, 2008 and 2007, the ratio was 52.7% and 50.9%, respectively.  

Maximum Loan Delinquency Covenant.  Our over 30-day delinquency rate on our entire consumer loan portfolio may not be greater than 10% as of the last day of each fiscal quarter, measured on a rolling 12 month basis based on the last day of said most recent quarter and the trailing three quarters. As of December 31, 2008 and 2007, the 30-day delinquency rate was 6.1% and 5.2%, respectively.

Debt Service Covenant.  Our ratio of (i) earnings before interest, income taxes, depreciation, and amortization (“EBITDA”) less capital expenditures as determined in accordance with generally accepted accounting principles to (ii) the interest expense minus all non-cash items constituting interest expense must not be less than 1.25 to 1 as of the last day of each fiscal quarter, for the latest rolling 12 months then ending, or for the average of the last four quarters. As of December 31, 2008 and 2007, the ratio for the latest rolling 12 months was 1.5 to 1 and 2.3 to 1, respectively.


Profitable Operations Covenant.  Our Consolidated Net Income (i) for any fiscal year must not be less than $1.00, (ii) for any two consecutive fiscal quarters (reviewed on an individual rather than on an aggregate basis) must not be less than $1.00, and (iii) for any rolling 12-month period must not be less than $1.00.

Leverage Ratio Covenant.  Our ratio of debt to Tangible Net Worth must not exceed 6.0 to 1 at any time during the term of the loans.  As of December 31, 2008 and 2007, the ratio was 1.8 to 1 and 1.7 to 1, respectively.

FICO® Score Covenant.  Our weighted average FICO® Credit Bureau Score for all sales to Silverleaf Owners with respect to which a FICO® score can be obtained must not be less than 640 for any fiscal calendar quarter. For the fourth quarters of 2008 and 2007, our weighted average FICO® score was 697 and 673, respectively.

Our credit facilities also contain covenants including requirements that we (i) preserve and maintain the collateral securing the loans; (ii) pay all taxes and other obligations relating to the collateral; and (iii) refrain from selling or transferring the collateral or permitting any encumbrances on the collateral. The credit agreements also contain restrictive covenants which include (i) restrictions on liens against and dispositions of collateral, (ii) restrictions on distributions to affiliates and prepayments of loans from affiliates, (iii) restrictions on changes in control and management of the Company, (iv) restrictions on sales of substantially all of the assets of the Company, and (v) restrictions on mergers, consolidations, or other reorganizations of the Company. Under certain credit facilities, a sale of all or substantially all of our assets, a merger, consolidation, or reorganization of the Company, or other changes of control of the Company would constitute an event of default and permit senior lenders to accelerate the maturity of the facility. At December 31, 2008, we are in compliance with these covenants.

ITEM 1A.
RISK FACTORS

If our assumptions and estimates in our business model are not accurate, our future results could be negatively impacted.

The financial covenants in our credit facilities are based upon a business model prepared by our management. We used a number of assumptions and estimates in preparing the business model, including:

 
·
We estimated that we will sell our existing and planned inventory of Vacation Intervals within 15 years;
 
·
We assumed that our level of sales and operating profits and costs can be maintained and will grow in future periods;
 
·
We assumed the availability of credit facilities necessary to sustain our operations and anticipated growth; and
 
·
We assumed that we can raise the prices on our products and services to offset costs of production as market conditions allow.

These assumptions and estimates are subject to significant business, economic, and competitive risks and uncertainties. If our assumptions and estimates are wrong, our future results of operations and financial position may vary significantly from those projected in the business model. Our independent auditors have not reviewed or expressed an opinion about our business model or our ability to achieve it.

Changes in the timeshare industry could affect our operations.

We operate principally within the timeshare industry. Our results of operations and financial position could be negatively affected by any of the following events:

 
·
An oversupply of timeshare units;
 
·
A reduction in demand for timeshare units;
 
·
Changes in travel and vacation patterns;
 
·
A decrease in popularity of our resorts with our consumers;
 
·
Governmental regulations or taxation of the timeshare industry; and
 
·
Negative publicity about the timeshare industry.


We may be vulnerable to the current conditions in the credit markets which could adversely impact our results of operations, liquidity, and financial position.

The capital and credit markets have been experiencing unprecedented levels of volatility and disruption for more than a year.  As a consequence of the recession that the United States now finds itself in, business activity across a wide range of industries face serious difficulties due to the lack of consumer spending and the extreme lack of liquidity in the credit markets.  Unemployment has also increased significantly.  Because we use various mass marketing techniques, a certain percentage of our sales are generated from customers who may be considered to have marginal credit quality. During 2008 and 2007, approximately 14.7% and 21.6%, respectively, of our sales were made to customers with FICO® scores below 600. In addition, we have experienced an increase in defaults in our loan portfolio as compared to historical rates. Due to deteriorating economic conditions, there can be no assurance that defaults have stabilized or that they will not increase further. These and other recent adverse changes in the credit markets and related uncertain economic conditions may eliminate or reduce the availability or increase the cost of significant sources of funding for us in the future. Specifically, if default rates for our borrowers were to rise, it may require an increase in our estimated uncollectible revenue, and it could result in a default of the maximum loan delinquency covenant discussed above.

We may be impacted by general economic conditions.

Our customers may be more vulnerable to deteriorating economic conditions than consumers in the luxury or upscale timeshare markets. The state of the economy in general and deterioration of the residential real estate market could depress consumer spending for Vacation Intervals. Additionally, significant increases in the cost of transportation may limit the number of potential customers who travel to our resorts for a sales presentation. Due to the economic slowdown and recent deterioration of the sub-prime mortgage markets, we could experience increased delinquencies in the payment of Vacation Interval promissory notes and monthly Club dues.  A sustained weakness or weakening in business and economic conditions generally or specifically in the principal markets in which we do business could also cause an increase in the number of our customers who become delinquent, file for protection under bankruptcy laws, or default on their loans. This could result in an increase in our provision for estimated uncollectible revenue in 2009.  Due to these factors, there is no assurance that we will continue to have access to new credit and securitization facilities or that they will be available on favorable terms.

We may have more funds on deposit at banks than is covered by FDIC insurance limits.

At December 31, 2008, we had substantial sums of cash on deposit with various banks.   If a bank becomes insolvent and is taken over by the Federal Deposit Insurance Corporation, we may lose cash in excess of the current insurable limits for our accounts.  A loss of a significant portion of our cash would have a material impact on our ability to operate.

We are at risk for defaults by our customers.

We offer financing to the buyers of Vacation Intervals at our resorts. Notes receivable from timeshare buyers constitute one of our principal assets. These buyers make down payments of at least 10% of the purchase price and deliver promissory notes to us for the balances. The promissory notes generally bear interest at a fixed rate, are payable over a seven-year to ten-year period, and are secured by a deed of trust on the Vacation Interval. We bear the risk of defaults on these promissory notes. Although we prescreen prospects via credit scoring in the early stages of the marketing and sales process, we generally do not perform a detailed credit history review of our customers, as is the case with most other timeshare developers.

For the years ended December 31, 2008 and 2007, we recorded 24.6% and 17.0% of the purchase price of Vacation Intervals as estimated uncollectible revenue, which resulted in decreases in our sales revenue of $63.1 million and $40.1 million, respectively.  When a buyer of a Vacation Interval defaults, we foreclose on the Vacation Interval and attempt to resell it. The associated marketing, selling, and administrative costs from the original sale are not recovered; and we incur such costs again when we resell the Vacation Interval. Although we may have recourse against a Vacation Interval buyer for the unpaid price, certain states have laws that limit our ability to recover personal judgments against customers who have defaulted on their loans. For example, if we were to file a lawsuit to collect the balance owed to us by a customer in Texas (where approximately 55% of Vacation Interval sales occurred in 2008), the customer could file a court proceeding to determine the fair market value of the property foreclosed upon. In such event, we would only recover the amount that the indebtedness owed to us exceeds the property’s fair market value rather than the full amount owed. Accordingly, we have generally not pursued this remedy.

At December 31, 2008, we had Vacation Interval customer notes receivable in the approximate principal amount of $397.8 million, and had an allowance for uncollectible notes of $76.7 million. Due to the current economic conditions and recent deterioration of the sub-prime mortgage markets, the risk of Vacation Interval defaults has heightened. We cannot be certain that this allowance is adequate.


We must borrow funds to finance our operations.

Our business is dependent on our ability to finance customer notes receivable through our lenders. At December 31, 2008, we either directly or through our fully consolidated finance subsidiaries owed $362.5 million of principal to our senior lenders.

Borrowing Base. We have receivables-based loan agreements with senior lenders to borrow up to $470.6 million. We have pledged our customer promissory notes as security under these agreements. Our senior lenders typically lend us 75% to 80% of the principal amount of such customers' notes. Collections from Silverleaf Owners on such notes are credited directly to our senior lenders and applied against our loans receivable balances. At December 31, 2008, we had a portfolio of approximately 44,912 Vacation Interval customer notes receivable in the approximate principal amount of $397.8 million.  Approximately $7.6 million in principal amount of our customer notes were 61 days or more past due and, therefore, ineligible as collateral.  The amount of customer notes receivable eligible as collateral in the future may not be sufficient to support the borrowings we may require for our liquidity and continued growth.

Negative Cash Flow. We ordinarily receive only 10% to 15% of the purchase price as a down payment on the sale of a Vacation Interval, but we must pay in full the cost of developing, marketing, and selling the interval. Maximum borrowings available under our credit facilities may not be sufficient to cover these costs, thereby straining our capital resources, liquidity, and capacity to grow.

Interest Rate Mismatch. At December 31, 2008, our portfolio of customer loans receivable had a weighted average fixed interest rate of 16.7%. At such date, our borrowings (which bear interest predominantly at variable rates) against the portfolio had a weighted average cost of funds of 6.8%. We have historically derived net interest income from our financing activities because the interest rates we charge our customers who finance the purchase of their Vacation Intervals exceed the interest rates we pay to our senior lenders. As 62% of our senior indebtedness bears interest at variable rates and our customer notes receivable bear interest at fixed rates, increases in interest rates will erode the spread in interest rates that we have historically experienced and could cause our interest expense on borrowings to exceed our interest income on our portfolio of customer loans. Although interest rates declined throughout 2008, any increase in interest rates above applicable floor rates, particularly if sustained, could have a material adverse effect on our results of operations, cash flows, and financial position. To the extent interest rates decrease on alternative financing sources available to our customers, we face an increased risk that customers will pre-pay their loans, which would reduce our income from operating activities.

In addition, the Series 2005-A Notes related to our off-balance-sheet special purpose finance subsidiary, SF-III, with a balance of $17.1 million at December 31, 2008, bear interest at a blended fixed rate of 5.4%.

Maturity Mismatch. We typically provide financing to our customers over a seven-year to ten-year period. Our customer notes had a weighted average maturity of seven years at December 31, 2008. Our senior credit facilities have scheduled maturity dates between June 2010 and March 2020. Additionally, should our revolving credit facilities be declared in default, the amount outstanding could be immediately due and payable. Accordingly, there could be a mismatch between our anticipated cash receipts and cash disbursements in future periods. Although we have historically been able to secure financing sufficient to fund our operations, we do not presently have agreements with our senior lenders to extend the terms of our existing funding commitments beyond their scheduled maturity dates or to replace such commitments upon their expiration. If we are unable to refinance our existing loans, we could be required to sell our portfolio of customer notes receivable, probably at a substantial discount, or to seek other alternatives to enable us to continue in business. We cannot be certain that we will be able to obtain required financing in the future.

Impact on Sales. Limitations on the availability of financing would inhibit sales of Vacation Intervals due to (i) the lack of funds to finance the initial negative cash flow that results from sales that we finance and (ii) reduced demand if we are unable to provide financing to purchasers of Vacation Intervals.

We may not be able to obtain additional financing.

Several unpredictable factors may cause our adjusted EBITDA to be insufficient to meet debt service requirements or satisfy financial covenants. We incurred a net loss in 2003. Should we record net losses in future periods, our cash flow and our ability to obtain additional financing could be materially and adversely impacted.


Many factors that determine whether or not we generate sufficient EBITDA to meet current or future debt service requirements and satisfy financial covenants are inherently difficult to predict. These factors include:

 
·
the number of sales of Vacation Intervals;
 
·
the average purchase price per interval;
 
·
the number of customer defaults;
 
·
our cost of borrowing; and
 
·
our sales and marketing costs and other operating expenses.

Our current and planned expenses and debt repayment levels are and will be to a large extent fixed in the short term, and consider historical expectations to project future revenues and cash flows. We may be unable to reduce spending in a timely manner to compensate for any past or future revenue or cash flow shortfall. It is possible that our revenue, cash flow, or operating results may not meet the expectations of our business model, and may even result in our being unable to meet debt repayment schedules or financial covenants contained in our debt agreements.

Our leverage is significant and may impair our ability to obtain additional financing, reduce the amount of cash available for operations, and make us more vulnerable to financial downturns.

Our agreements with our various lenders may:

 
·
require a substantial portion of our cash flow to be used to pay interest expense and principal;
 
·
impair our ability to obtain on acceptable terms, if at all, additional financing that might be necessary for working capital, capital expenditures, or other purposes; and
 
·
limit our ability to further refinance or amend the terms of our existing debt obligations, if necessary or advisable.

We may not be able to manage our financial leverage as we intend, and we may not be able to achieve an appropriate balance between the rate of growth which we consider acceptable and future reductions in financial leverage. If we are not able to achieve growth in adjusted EBITDA, we may not be able to refinance our existing debt obligations and we may be precluded from incurring additional indebtedness due to cash flow coverage requirements under existing or future debt instruments.

One of our senior lenders, Textron Financial Corporation, and other timeshare industry lenders have announced that they will cease or modify their commercial lending activities in the future.  While we have received no notice from any of our lenders that our current financing arrangements will be impacted by these decisions, our ability to obtain financing in the future to replace these facilities may be limited by a lack of commercial lenders.

Continued or increased volatility in the credit markets will likely impair our ability to securitize our assets.

We periodically sell interests in our timeshare loans to our special purpose entities. Adverse conditions in the credit markets for loan-backed notes in general and the performance of the notes receivable will likely continue to impair the timing and volume of the timeshare loans that we sell.  Although we expect to realize the economic value of our timeshare note portfolio even if future note sales are temporarily or indefinitely delayed, such delays in note sales could cause us to reduce spending in order to maintain our leverage and return targets.

The financial crisis may have impacts on our business and financial condition that we currently cannot predict.

The continued credit crisis and related turmoil in the financial system may have a sustained negative impact on our business and our financial condition, and we may face difficult challenges if conditions in the financial markets do not improve.  Our ability to access the capital markets may be restricted at a time when we would like, or need, to raise financing, which could have an impact on our flexibility to react to changing economic and business conditions.  Further, the economic situation could have a negative impact on our lenders or customers causing them to fail to meet their obligations to us.

Our business is highly regulated.

We are subject to substantial governmental regulation in the conduct of our business. See “Item 1. Business - Governmental Regulation, Environmental Matters, Utility Regulation, Other Regulation,” and “Item 3. Legal Proceedings.” If we are found to have violated any statute, rule, or regulation applicable to us, our assets, or our business, it could have a material adverse effect on our results of operations, liquidity, and financial position.


We are dependent on our key personnel.

The loss of the services of key members of our management or our inability to hire, retain, or integrate new or replacement management and employees as needed could have a material adverse effect on our results of operations, liquidity, and financial position in future periods.

We will incur costs at our resorts for additional development and construction activities.

We intend to continue to develop our Existing Resorts and to acquire or develop additional timeshare resorts. However, continued development of our resorts places substantial demands on our liquidity and capital resources, as well as on our personnel and administrative capabilities. Risks associated with our development and construction activities include:

 
·
construction costs or delays at a property may exceed original estimates which could make the development uneconomical or unprofitable;
 
·
sales of Vacation Intervals at a newly completed property may not be sufficient to make the property profitable; and
 
·
financing may not be available on favorable terms for development of or the continued sales of Vacation Intervals at a property.

We cannot be certain that we will have the liquidity and capital resources available to develop and expand our resorts as we presently intend.

Our development and construction activities, as well as our ownership and management of real estate, are subject to comprehensive federal, state, and local laws regulating such matters as environmental and health concerns, protection of endangered species, water supplies, zoning, land development, land use, building design and construction, marketing and sales, and other matters. Our failure to maintain the requisite licenses, permits, allocations, authorizations, and other entitlements pursuant to such laws could impact the development, completion, and sale of Vacation Intervals at our resorts. The enactment of “slow growth” or “no-growth” initiatives or changes in labor or other laws in any area where our resorts are located could also delay, affect the cost or feasibility of, or preclude entirely the expansion planned at one or more of our resorts.

Most of our resorts are located in rustic areas, which in the past have often required us to provide public utility water and sanitation services in order to proceed with development. This development is subject to permission and regulation by governmental agencies, the denial or conditioning of which could limit or preclude development.  We currently own and operate the water utilities and water treatment at one of our resorts.  We are subject to risk of liability in connection with both the quality of fresh water provided and the treatment and discharge of waste-water at this resort.

Failure by utilities providers to supply service to the resorts or to adequately maintain and expand as needed the water distribution and waste-water treatment utilities assets could impact our ability to provide the utilities necessary to operate or expand the resorts, either of which could have a material adverse effect on our business, results of operations and financial position.

We must incur costs to comply with laws governing accessibility of facilities to disabled persons.

We are subject to a number of state and federal laws, including the Fair Housing Act and ADA, which impose requirements related to disabled persons access and use of a variety of public accommodations and facilities. Although ADA did not become effective until 1991, we believe our Existing Resorts are substantially in compliance and we will incur additional costs to fully comply if necessary. Additional federal, state, and local legislation may impose further restrictions or requirements on us with respect to access by disabled persons. The ultimate cost of compliance with such legislation is not currently known, however such costs are not expected to have a material effect on our results of operations, liquidity, and financial position

We may be vulnerable to regional conditions.

Our performance and the value of our properties are affected by regional factors, including local economic conditions (which may be adversely impacted by business layoffs or downsizing, industry slowdowns, changing demographics, and other factors) and the local regulatory climate. Our current geographic concentration could make us more susceptible to adverse events or conditions that affect the particular areas in which we operate. At December 31, 2008, 54% of our owners lived in Texas, 15% lived in Illinois, 7% lived in Massachusetts, and 3% lived in Missouri. Our remaining customer base lives primarily in other states within the United States of America.


We may be liable for environmental claims.

Under various federal, state, and local laws, ordinances, and regulations, as well as common law, the owner or operator of real property generally is liable for the costs of removal or remediation of certain hazardous or toxic substances located on, in, or emanating from such property, as well as related costs of investigation and property damage. Such laws often impose liability without regard to whether the owner knew of, or was responsible for, the presence of the hazardous or toxic substances. The presence of such substances, or the failure to properly remediate such substances, may adversely affect the owner's ability to sell or lease a property or to borrow money using such real property as collateral. Other federal and state laws require the removal or encapsulation of asbestos-containing material when such material is in poor condition or in the event of construction, demolition, remodeling, or renovation. Other statutes may require the removal of underground storage tanks. Noncompliance with these and other environmental, health, or safety requirements may result in the need to cease or alter operations at a property. Further, the owner or operator of a site may be subject to common law claims by third parties based on damages and costs resulting from violations of environmental regulations or from contamination associated with the site. Phase I environmental reports (which typically involve inspection without soil sampling or ground water analysis) were prepared in 2001 or later by independent environmental consultants for all of the Existing Resorts.  The reports did not reveal, nor are we aware of, any environmental liability that would have a material adverse effect on our results of operations, liquidity, or financial position. We cannot be certain that the Phase I reports revealed all environmental liabilities or that no prior owner created any material environmental condition not known to us.

Certain environmental laws impose liability on a previous owner of property to the extent hazardous or toxic substances were present during the prior ownership period. A transfer of the property may not relieve an owner of such liability. Thus, we may have liability with respect to properties previously sold by us or by our predecessors.

We believe that we are in compliance in all material respects with all federal, state, and local ordinances and regulations regarding hazardous or toxic substances. We have not been notified by any governmental authority or third party of any non-compliance, liability, or other claim in connection with any of our present or former properties.

Our sales could decline if our resorts do not qualify for participation in an exchange network.

The attractiveness of Vacation Interval ownership is enhanced by the availability of exchange networks that allow Silverleaf Owners to exchange in a particular year the occupancy right in their Vacation Interval for an occupancy right in another participating network resort. According to ARDA, the ability to exchange Vacation Intervals was cited by many buyers as an important reason for purchasing a Vacation Interval. Several companies, including RCI, provide broad-based Vacation Interval exchange services. As of December 31, 2008, all Existing Resorts are qualified for participation in the RCI exchange network. We cannot be certain that the Existing Resorts or any future resorts will continue to qualify for participation in these networks or any other exchange network. If such exchange networks cease to function effectively, or if our resorts are not accepted as exchanges for other desirable resorts, our sales of Vacation Intervals could decline.

We have no control over RCI, and any changes in their operation could have a material impact on our Vacation Interval Owners’ ability to exchange their week for one in the RCI network.

Our sales would be affected by a secondary market for Vacation Intervals.

We believe the market for resale of Vacation Intervals is very limited and that resale prices are substantially below the original purchase price of a Vacation Interval. This may make ownership of Vacation Intervals less attractive to prospective buyers. Owners of Vacation Intervals who wish to sell their Vacation Interval compete with our sales efforts. Vacation Interval resale clearinghouses and brokers, including Internet-based clearinghouses, do not currently have a material impact on our sales. However, if the secondary market for Vacation Intervals becomes more organized and liquid, whether through Internet-based clearinghouses and brokers or other means, the availability of resale intervals at lower prices could materially and adversely affect our prices and our ability to sell new Vacation Intervals.

Our sales are seasonal in nature.

Our sales of Vacation Intervals have generally been lower in the months of November and December. Cash flow and earnings may be impacted by the timing of development, the completion of future resorts, and the potential impact of weather or other conditions in the regions where we operate. Our operating results could be negatively impacted by these factors.


We are not insured for certain types of losses.

While we believe that we maintain adequate levels of insurance for most casualties and losses, we do not insure certain types of losses (such as losses arising from floods in non-floodplain areas and acts of war) either because insurance is unavailable or unaffordable.  Should an uninsured loss or a loss in excess of insured limits occur, we could be required to repair damage at our expense or lose our capital invested in a damaged resort, as well as lose anticipated future revenues from such resort. However, we would continue to be obligated on any mortgage indebtedness or other obligations related to the property. Hence, our results of operations, liquidity, and financial position could be adversely affected by such losses.

We will continue to be leveraged.

Our ability to finance customer notes receivable and develop our resorts is dependent upon borrowed funds, which would be collateralized by certain of our assets. In addition, our loan agreements contain financial covenants that must be complied with in order to continue to borrow additional funds. Failure to comply with such covenants could result in an event of default which, if not cured or waived, could have a material adverse effect on our results of operations, liquidity, and financial position. Future loan agreements would likely contain similar restrictions.

The indenture pertaining to our 8% senior subordinated notes permits us to incur certain additional indebtedness, including indebtedness secured by our customer notes receivable. Accordingly, to the extent our customer notes receivable increase and we have sufficient credit facilities available, we may be able to borrow additional funds. The indenture pertaining to our 8% senior subordinated notes also permits us to borrow additional funds in order to finance development of our resorts. Future construction loans may result in liens against the respective properties.

Common stock could be impacted by our indebtedness.

The level of our indebtedness could negatively impact holders of our common stock, because:

 
·
a substantial portion of our cash flow from operations must be dedicated to the payment of principal and interest on our indebtedness;
 
·
our ability to obtain additional debt financing in the future for working capital, capital expenditures, or acquisitions may be limited;
 
·
our level of indebtedness could limit our flexibility in reacting to changes in the industry and economic conditions generally;
 
·
negative covenants in our loan agreements may limit our management’s ability to operate our business in the best interests of our shareholders;
 
·
some of our loans are at variable rates of interest, and a substantial increase in interest rates above applicable floor rates, could adversely affect our ability to meet debt service obligations; and
 
·
increased interest expense will reduce earnings, if any.

We could lose the right to manage the Clubs.

Aside from Orlando Breeze, each Existing Resort has a Club that operates through a centralized organization called Silverleaf Club, to manage such resorts on a collective basis. Orlando Breeze has its own Club, which is not part of Silverleaf Club. The consolidation of operations under Silverleaf Club permits:

 
·
a centralized reservation system for these resorts;
 
·
substantial cost savings by purchasing goods and services for these resorts on a group basis, which generally results in a lower cost of goods and services than if such goods and services were purchased by each resort on an individual basis;
 
·
centralized management for the entire resort system;
 
·
centralized legal, accounting, and administrative services for the entire resort system; and
 
·
uniform implementation of various rules and regulations governing these resorts.

We currently have the right to unilaterally appoint the Board of Directors or Governors of the Clubs until the respective control periods expire (typically triggered by the cessation of sales of the planned development), unless otherwise provided by the bylaws of the association or under applicable law. Thereafter, the bylaws of certain Clubs require that a majority of the members of the Board of Directors or Governors of those Clubs be owners of Vacation Intervals of those resorts. The loss of control of the Board of Directors or Governors of the Clubs could result in our being unable to unilaterally cause the renewal of the Management Agreement with the Silverleaf Club when it expires in 2020. This could result in a loss of revenue and have other materially adverse effects on our business, results of operations, or financial position.


We could issue preferred stock that would have rights and preferences senior to common stock.

Our Articles of Incorporation authorize the Board of Directors to issue up to 10,000,000 shares of preferred stock in one or more series and to establish the preferences and rights, including the right to vote and the right to convert into common stock. Such preferences and rights would likely grant such preferred stockholders certain preferences in right of payment upon a dissolution of the Company and the liquidation of our assets that would not be available to common stockholders.  To the extent that our credit facilities would permit, the Board could also establish a dividend payable to the holders of the preferred stock that would not be available to common stockholders.

Our cash flow may not be adequate upon an acceleration of deferred taxes.

While we report sales of Vacation Intervals as income at the time of the sale after receiving a 10% to 15% down payment for financial reporting purposes, we report substantially all of the Vacation Interval sales we finance under the installment method for regular federal income tax purposes. Under this method, income on sales of Vacation Intervals is not recognized until cash is received, either in the form of a down payment or as installment payments on customer notes receivable. Our liability for deferred taxes (i.e., taxes owed to taxing authorities in the future related to income previously reported in the financial statements) was $106.9 million at December 31, 2008, primarily attributable to this method of reporting Vacation Interval sales, before utilization of any available deferred tax benefits (up to $71.8 million at December 31, 2008), including net operating loss carryforwards, limitations on the use of which are discussed below. These amounts do not include accrued interest on the deferred taxes, which will be payable if the deferred taxes become payable, the amount of which is not now reasonably ascertainable. If we should sell our installment notes or be required to factor such notes or if the notes were foreclosed on by one of our senior lenders or otherwise disposed of, the deferred gain would be reportable for regular federal tax purposes and the deferred taxes, including interest on the taxes for the period such taxes were deferred, as computed under Section 453 of the Internal Revenue Code of 1986, as amended (the “Code”), would become due. We cannot be certain that we would have sufficient cash resources to pay those taxes and interest nor can we be certain how the payment of such taxes may affect our operational liquidity needs. Furthermore, if our sales of Vacation Intervals should decrease in the future, our diminished operations may not generate either sufficient tax losses to offset taxable income or funds to pay the deferred tax liability from prior periods.

We are subject to Alternative Minimum Taxes.

For purposes of computing the 20% alternative minimum tax (“AMT”) imposed under Section 55 of the Code on our alternative minimum taxable income (“AMTI”), the installment sales method is generally not allowed. The Code requires an adjustment to our AMTI for a portion of our adjusted current earnings (“ACE”). Our ACE must be computed without application of the installment sales method. Accordingly, we anticipate that we will pay AMT in future years. However, Section 53 of the Code provides for a credit (“minimum tax credit”) against our regular federal income tax liability for all or a portion of any AMT previously paid.

For 2008, we estimate our AMT liability was $6.6 million, which results in total AMT credit carryforwards of $20.2 million as of December 31, 2008. Our credit carryforwards as of December 31, 2007 were $13.6 million, as adjusted.

Due to the exchange offer described under the next heading, an ownership change within the meaning of Section 382(g) of the Code occurred. Under Section 383, the excess credits existing as of the date of an ownership change can be used to offset tax liability for post-change years only to the extent of the Section 383 Credit Limitation, which is defined as the tax liability attributable to taxable income to the extent it does not exceed the Section 382 limitation for such post-change year (to the extent available after the application of various adjustments). As a result of certain refunds of previously paid AMT, there is no minimum tax credit that is subject to Section 383 of the Code as a result of our ownership change. If it is subsequently determined that we have an AMT liability for prior years, and thus a minimum tax credit as of the time of the exchange offer, or if additional “ownership changes” within the meaning of Section 382(g) of the Code occur in the future, the ownership changes may result in a limitation on the use of our minimum tax credit. See the discussion under the next heading regarding possible future ownership changes.

Our use of net operating loss carryforwards could be limited by an ownership change.

We had net operating loss (“NOL”) carryforwards of $140.6 million at December 31, 2008 for regular federal income tax purposes, related primarily to the immediate deduction of expenses and the simultaneous deferral of installment sale gains. In addition to the general limitations on the carryback and carryforward of NOLs under Section 172 of the Code, Section 382 of the Code imposes additional limitations on the utilization of NOLs by a corporation following various types of ownership changes which result in more than a 50 percentage point change in ownership of a corporation within a three-year period.


Our completion in 2002 of our exchange offer with certain holders of our senior subordinated notes resulted in an ownership change within Section 382(g) as of May 2, 2002 (the “change date”). As a result, the future utilization of $15.0 million of our NOL as of December 31, 2008 is subject to limitation for regular federal income tax purposes. There is an annual limitation of $768,000, which was the value of our stock immediately before the ownership change, multiplied by the applicable long-term tax exempt rate.  However, that annual limitation may be increased for any recognized built-in gain, which existed as of the change date to the extent allowed in Section 382 of the Code. We believe that the built-in gain associated with the installment sale gains as of the change date increases the annual limitation and will allow the utilization of most of the $15.0 million portion of our NOL as needed.  Nevertheless, we cannot be certain that the limitations of Section 382 will not limit or deny our future utilization of the $15.0 million portion of our NOL. Such limitation or denial could require us to pay substantial additional federal and state taxes and interest.

Moreover, we cannot be certain that future ownership changes will not limit or deny our future utilization of all of our NOL. The more than 50 percentage point test for a change in ownership is based on a three-year lookback and will be determined for the three years commencing May 26, 2006 by including the 8,000,000 shares sold by two of our principal shareholders on that date, which resulted in an approximately 21.3 percentage point change in ownership based on the shares outstanding on that date.  Therefore, that change in ownership, when combined with other changes before and after that date, could result in another more than 50 percentage point change in ownership in the future.

If we cannot utilize our NOL, we will be required to pay substantial additional federal and state taxes and interest. Such tax and interest liabilities may adversely affect our liquidity.

We could be liable for back payroll taxes if our independent contractors are reclassified as employees.

Although we treat all on-site sales personnel as employees for payroll tax purposes, we do have independent contractor agreements with certain sales and marketing persons or entities. We have not treated these independent contractors as employees and do not withhold payroll taxes from the amounts paid to such persons or entities. In the event the Internal Revenue Service or any state or local taxing authority were to successfully classify such persons or entities as employees, rather than as independent contractors, we could be liable for back payroll taxes. This could have a material adverse effect on our results of operations, liquidity, and financial position.

We could be negatively impacted by national and state Do-Not-Call Lists.

We rely heavily on telemarketing activities to arrange tours of our resorts to potential customers. On July 3, 2003, the Federal Communications Commission (“FCC”) released new rules and regulations promulgated under the Telephone Consumer Protection Act of 1991, which could have a future negative impact on our telemarketing activities. The FCC has implemented, in conjunction with the Federal Trade Commission (“FTC”), a National Do Not Call Registry, which applies to both interstate and intrastate commercial telemarketing calls. The FTC has reported that approximately 172 million telephone numbers had been registered on the National Do Not Call Registry as of October 1, 2008. This will continue to limit the number of contacts we will be able to make through our telemarketing activities. We will continue to telemarket to individuals who do not place their telephone numbers on a do-not-call list and those with whom we have an established business relationship. Our use of autodialers to call potential customers in our database could also be restricted by new call abandonment standards specified in the FCC rules and regulations. The large quantity of telephone numbers registered on the National Do Not Call Registry and the restrictions on our use of autodialers could negatively affect our sales and marketing efforts and require us to use less effective, more expensive alternative marketing methods such as direct mail. The new rules became effective on October 1, 2003 and we have experienced a decline in the number of telemarketing calls we are able to complete as a result of the changes in the rules relating to the use of automatic dialers. All companies involved in telemarketing have experienced some negative impact to their businesses as a result of the do-not-call rules and other federal and state legislation, which seeks to protect the privacy of consumers from various types of marketing solicitations. Because of our historical dependence on telemarketing, we believe that these changes in the law will continue to have a material impact on our operations and will require us to modify our historical marketing practices in order to both remain compliant with the law and to achieve the levels of resort tours by consumers which are necessary for our profitable operation. We will continue to assess the do-not-call rules' impact on both operations and alternative methods of marketing, such as direct mail, that are not impacted by the new rules. In addition to the National Do-Not-Call List, various states have implemented Do-Not-Call legislation that also may affect our business.

The substantially increased costs of our compliance with the requirements of the Sarbanes-Oxley Act, including the requirements of Section 404, may adversely affect our available cash, our management team’s attention to our core business, and the price of our stock.

As of December 31, 2008, we are required to comply with the internal control reporting provisions of §404 of the Sarbanes-Oxley Act of 2002 and the rules and regulations promulgated thereunder by the Securities and Exchange Commission (“SEC”) to implement §404. However, we are not required to obtain an attestation report of our independent registered public accounting firm for this annual report due to the transition of our filing status from accelerated to non-accelerated, effective with this Form 10-K.  In response to this, we have taken steps over the last several years to increase the effectiveness of our internal control over financial reporting. These internal control enhancements have resulted in substantially increased costs to us. Our management also regularly evaluates the effectiveness and design and operation of our disclosure controls and procedures and our internal control over financial reporting. While we currently believe our disclosure controls and procedures and our internal controls over financial reporting are effective and properly documented, we may find it necessary to continue to incur substantially increased costs in future periods to further enhance our internal controls over financial reporting. There can be no assurance that our continuing assessment of the effectiveness of our internal control over financial reporting will not result in increased costs of compliance which may adversely affect our available cash, our management team’s attention to our core business, and our stock price.


The market trading price and trading volume of our common stock has been and is likely to continue to be volatile.

The market trading price of our common stock has recently been, and may continue to be, volatile. In addition, the trading volume in our common stock may fluctuate and cause significant price variations to occur. For example, the closing market trading price for our common stock has fluctuated over the past two years from a low of $0.53 to a high of $6.89. Because of our stock’s history of trading volatility and current economic conditions, we believe that significant market fluctuations are likely to continue in future periods. Some of the factors that could negatively affect our share price or result in fluctuations in the price or trading volume of our common stock include:

 
·
actual or anticipated variations in our quarterly operating results;
 
·
publication of research reports about us or the real estate industry;
 
·
adverse market reaction to any additional debt we incur;
 
·
additions or departures of key management personnel;
 
·
actions by institutional stockholders;
 
·
speculation in the press or investment community;
 
·
the realization of any of the other risk factors presented in this report; and
 
·
general market and economic conditions.

The trading market for our common stock may be limited.

Approximately 38.4% of our shares are held by non-affiliates and there has historically been a low and inconsistent trading volume for our shares. For example, the average daily trading volume for our shares for the two-month period ended February 28, 2009 was approximately 35,000 shares. There can be no assurance that an active and steady trading market, which is not subject to extreme fluctuations, will develop for our shares.

Sales of common stock by existing shareholders, including officers or directors, may adversely affect the market price of our common stock.

Approximately 61.6% of our common stock is held by affiliates, including our officers and directors. Volume sales of stock by these affiliates in the trading market coupled with the historically low daily trading volume for our common stock may materially and adversely affect the market price of our common stock.

We may fail to meet the continued listing requirements of The NASDAQ Capital Market.

Effective February 28, 2007, we began trading on The NASDAQ Capital Market and ceased trading on AMEX. However, due to the historic volatility of the market trading price of our common stock, there can be no assurance that we will continue to meet the requirements for continued listing on NASDAQ. Our failure to comply with NASDAQ listing standards could result in the delisting of our common stock by NASDAQ, thereby limiting the ability of our shareholders to sell our common stock. During October 2008, due to market conditions, NASDAQ suspended the bid price and market value of publicly held shares requirements through January 16, 2009. Effective January 16, 2009, the SEC extended the temporary suspension of the NASDAQ rules requiring a minimum $1 closing bid price and a minimum market value of publicly held shares through April 20, 2009. Also in January 2009, the SEC approved a NASDAQ proposal that extended the compliance period for companies that fail to meet the continued listing requirement for market value of listed securities from 30 to 90 days.


Certain of our existing shareholders have the ability to exert a significant amount of control over the Company.

As of December 31, 2008, Robert E. Mead, our Chairman of the Board and Chief Executive Officer, beneficially owned approximately 24.5% of our outstanding common stock, and Bradford Whitmore and a partnership controlled by him, Grace Brothers, Ltd., beneficially owned 19.3% of our common stock.  As a result, these stockholders are able to exert significant influence over the Company and its activities, including the nomination, election, and removal of our Board of Directors, the adoption of amendments to our charter documents, and the outcome of any corporate transaction or other matter submitted to our shareholders for approval, including mergers, consolidations, and the sale of all or substantially all of our assets.

Mr. Mead and Mr. Whitmore’s interests may conflict with the interests of other holders of our common stock and they may take actions affecting us with which other shareholders may disagree. For example, if Mr. Mead and Mr. Whitmore acted in concert, they may jointly decide not to enter into a transaction in which our shareholders would receive consideration for their shares that is much higher than the cost of their investment in our common stock or than the then current market price of our common stock.

Available Information

We file reports with the SEC, including our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished to the SEC pursuant to the requirements of the Securities Exchange Act of 1934. The general public may read and copy any materials that we file with the SEC at the SEC’s Public Reference Room located at 100 F Street N.E., Washington, DC 20549. The public may also obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site, www.sec.gov, which contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

Our Internet address is www.silverleafresorts.com. On our Internet website, we provide a link to the SEC’s website where our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished to the SEC pursuant to the requirements of the Securities Exchange Act of 1934 can be viewed. Upon request, we will make available free of charge copies of the aforementioned reports, as well as copies of the charters of the three independent committees of our Board of Directors and our Code of Business Conduct and Ethics. This information can be obtained by written request to us at: Silverleaf Resorts, Inc. Attention: Sandra G. Cearley, Corporate Secretary, 1221 River Bend Drive, Suite 120, Dallas, Texas 75247. The information contained on our website, or on other websites linked to our website, is not part of this report.

ITEM 1B.
UNRESOLVED STAFF COMMENTS

None.

PROPERTIES

Corporate Offices. Our principal executive office, located in Dallas, Texas, is approximately 66,000 square feet of leased space. We also maintain two leased telemarketing centers in the Dallas area. Our sales are conducted primarily through sales centers located at our various resorts, a leased off-site sales center in Irving, Texas, and a leased member services office in Lombard, Chicago. The square footage of our leased telemarketing centers and off-site sales centers are approximately 21,000, 40,000, 16,500, and 16,000, respectively. We also lease small office facilities in San Antonio and Houston, Texas, which we use in our marketing efforts in those locales.

Pinnacle Lodge. In 2006, we purchased Pinnacle Lodge, a 64-room hotel property located near the Winter Park recreational area in Colorado which provides our owners with another destination vacation alternative and gives Silverleaf an entry point into this increasingly popular destination area. We generated $1.3 million and $1.1 million of revenues at the Pinnacle Lodge during the years 2008 and 2007, respectively.

Other Properties.  We own a 500-acre tract of land in the Berkshire Mountains of Western Massachusetts that we are in the initial stages of developing. During September 2007, we purchased an additional 394.3 acre tract which adjoins the 500 acres. We have not yet finalized our future development plans for this site.

In November 2007, we purchased 15.3 acres of undeveloped land in Grand County, Colorado with plans to develop up to 136 Vacation Interval units on the property. The acquired land is located only two miles from the Pinnacle Lodge hotel.

Resorts.  At December 31, 2008, we owned a total of 13 timeshare resorts. Each of these resorts was encumbered by various liens and security agreements at December 31, 2008 due to inventory from each resort being pledged as collateral under our inventory credit facilities with our senior lenders. See “Note 8 – Debt” in the Notes to our Consolidated Financial Statements for a further description of these credit facilities. A description of our Existing Resorts, principal developmental activity which occurred during 2008, and future plans are summarized below.


Getaway Resorts

Holly Lake Resort. Holly Lake Resort is a family-oriented golf resort located in the Piney Woods of east Texas, approximately 105 miles east of Dallas, Texas. The timeshare portion of Holly Lake is part of a 4,300 acre mixed-use development of single-family lots and timeshare units with other third-party developers. The resort has 130 existing units. No additional units are planned for development at this resort.

The Villages and Lake O’ The Woods Resorts. The Villages and Lake O’ The Woods are sister resorts located on the shores of Lake Palestine, approximately 100 miles east of Dallas, Texas.

The Villages Resort is an active sports resort popular for water-skiing and boating. In the first quarter of 2008, we opened our indoor water park and Beach Club amenity, which are popular attractions at the resort. The Villages Resort is a mixed-use development of single-family lots and timeshare units. The resort has 378 existing units. We plan to develop approximately 220 additional units at this resort in the future, which would yield an additional 11,440 Vacation Intervals available for sale. During 2008, we added 16 new units at this resort.

Lake O' The Woods Resort is a quiet wooded resort where Silverleaf Owners can enjoy the seclusion of dense pine forests. The resort is also popular for its fishing pier, nature trails, and recreational beach area. Lake O’ The Woods Resort has 64 existing units. No additional units are planned for development at this resort.

Piney Shores Resort. Piney Shores Resort is located on the shores of Lake Conroe, approximately 40 miles north of Houston, Texas. Piney Shores Resort is a quiet, wooded resort ideally located for day-trips from metropolitan areas in the southeastern Gulf Coast area of Texas. The resort has 250 existing units. We plan to develop approximately 188 additional units at this resort in the future, which would yield an additional 9,776 Vacation Intervals available for sale. During 2008, we added 48 new units at this resort. During 2008, we purchased approximately 10 additional acres of land contiguous to the Piney Shores Resort.

Timber Creek Resort. Timber Creek Resort, in Desoto, Missouri, is located approximately 50 miles south of St. Louis, Missouri. The primary recreational amenity available at the resort is a 40-acre fishing lake. In addition, the resort has a five-hole par-three executive golf course. The resort has 72 existing units and 24 additional units are planned for future development, which would yield an additional 1,248 Vacation Intervals available for sale.

Fox River Resort. Fox River Resort, in Sheridan, Illinois, is located approximately 70 miles southwest of Chicago. The gentle rolling hills and seven-acre stocked lake provide an ideal environment for outdoor activities such as canoeing, fishing, and swimming. We also offer winter recreational activities at this resort, including ice-skating, snowmobiling, and cross-country skiing. The resort has 240 existing units. We plan to develop approximately 276 additional units at this resort in the future, which would yield an additional 14,352 Vacation Intervals available for sale.

Apple Mountain Resort. Apple Mountain Resort, in Clarkesville, Georgia, is located approximately 125 miles north of Atlanta, Georgia. The resort is situated on 285 acres of beautiful open pastures and rolling hills, with 150 acres being the resort’s golf course. The resort has 84 existing units and approximately 180 additional units are planned for future development, which would yield an additional 9,360 Vacation Intervals available for sale.

Destination Resorts

Ozark Mountain Resort. Ozark Mountain Resort is a family-oriented resort located on the shores of Table Rock Lake, which features bass fishing. The resort is located approximately 15 miles from Branson, Missouri, a family music and entertainment center, 233 miles from Kansas City, and 276 miles from St. Louis. Ozark Mountain Resort is a mixed-use development of timeshare and condominium units. Ozark Mountain Resort has 160 existing units. No additional units are planned for development at this resort. During 2008, we added 12 new units at this resort.

Holiday Hills Resort. Holiday Hills Resort is a resort community located in Taney County, Missouri, two miles east of Branson, Missouri. Taneycomo Lake, a popular lake for trout fishing, is approximately three miles from the resort, and Table Rock Lake is approximately ten miles from the resort. The resort is 224 miles from Kansas City and 267 miles from St. Louis. Holiday Hills Resort is heavily wooded by cedar, pine, and hardwood trees, and is favored by Silverleaf Owners seeking quality golf and nightly entertainment in nearby Branson. The resort is a mixed-use development of single-family lots, condominiums, and timeshare units. The resort has 482 existing units. We have future plans to develop approximately 516 additional units at this resort, which would yield an additional 26,832 Vacation Intervals available for sale. During 2008, we added 24 new units at this resort.


Hill Country Resort. Hill Country Resort is located near Canyon Lake in the hill country of central Texas between Austin and San Antonio. Area sights and activities include water-tubing on the nearby Guadalupe River and visiting the many tourist attractions in San Antonio, such as Sea World, The Alamo, The River Walk, Fiesta Texas, and the San Antonio Zoo. The resort has 342 existing units. We have future plans to develop approximately 188 additional units at this resort, which would yield an additional 9,776 Vacation Intervals available for sale. During 2008, we purchased approximately 8 additional acres of land that is adjacent to the existing resort.

Oak N' Spruce Resort. Oak N’ Spruce Resort, located in the Berkshire mountains of western Massachusetts, is approximately 134 miles west of Boston, Massachusetts, and 114 miles north of New York City. Oak N' Spruce Resort is a mixed-use development which includes a hotel and timeshare units. The resort is an active sports resort popular for hiking in the Appalachian Trail, boating, fishing, snowmobiling, and cross-country skiing. The resort has 340 existing units. We have future plans to develop approximately 10 additional units at this resort, which would yield an additional 520 Vacation Intervals available for sale. During 2008, we added 20 new units at this resort.

Silverleaf’s Seaside Resort. Silverleaf’s Seaside Resort is located in Galveston, Texas, approximately 50 miles south of Houston, Texas. With 635 feet of beachfront, the primary amenity at the resort is the Gulf of Mexico. The resort has 144 existing units. We have future plans to develop approximately 264 additional units at this resort, which would yield an additional 13,728 Vacation Intervals available for sale. During 2008, we added 12 new units at this resort.

Orlando Breeze Resort. Orlando Breeze Resort is located in Davenport, Florida, just outside Orlando, Florida, near the major tourist attractions of Walt Disney World, Sea World, and Universal Studios. The resort has 60 existing units. We plan to develop approximately 12 additional units at this resort, which would yield an additional 624 Vacation Intervals available for sale. During 2008, we added 12 new units at this resort. We also own an additional 31 acres contiguous to the Orlando Breeze Resort. We have not yet finalized plans for development of this property.


Resorts Summary

The following tables set forth certain information regarding each of the Existing Resorts at December 31, 2008, unless otherwise indicated.

Existing Resorts
 
       
Units at Resorts
    
Vacation Intervals At Resorts
      
Vacation Intervals Sold
    
 
        
Resort/Location
  
Primary Market Served
  
Inventory At 12/31/08
    
Planned Expansion(b)
    
Inventory At 12/31/08
    
Planned Expansion
  
Date Sales Commenced
  
Through 12/31/08 (c)
    
In 2008 Only (a)
    
Percentage Through 12/31/08
    
Average
Sales Price in 2008 (a)
    
Amenities/ Activities(d)
  
Getaway Resorts
                                                            
Holly Lake
  
Dallas-
     130       —       389       —  
1982
     6,111       2,213       94.0 %   $ 7,475    
B,F,G,M,S,T
  
Hawkins, TX
  
Ft. Worth, TX
                                                                        
The Villages
  
Dallas-
     378       220 (g)     3,633       11,440 (g)
1980
     15,615       2,793       81.1 %     9,648    
B,F,H,M,S,T,W
  
Flint, TX
  
Ft. Worth, TX
                                                                        
Lake O' The Woods
Flint, TX
  
Dallas- Ft. Worth, TX
     64       —       349       —  
1987
     2,851       463       89.1 %     7,255    
F,M,S,T
 (e)
Piney Shores
  
Houston, TX
     250       188 (g)     5,451       9,776 (g)
1988
     7,357       1,793       57.4 %     10,550    
B,F,H,M,S,T
  
Conroe, TX
                                                                            
Timber Creek
  
St. Louis,
     72       24 (g)     1,800       1,248 (g)
1997
     1,944       461       51.9 %     8,139    
B,F,G,H,M,S,T
  
DeSoto, MO
  
MO
                                                                        
Fox River
  
Chicago, IL
     240       276 (g)     2,772       14,352 (g)
1997
     9,708       1,141       77.8 %     11,023    
B,F,G,H,M,S,T
  
Sheridan, IL
                                                                            
Apple Mountain
  
Atlanta, GA
     84       180 (g)     1,746       9,360 (g)
1999
     2,622       712       60.0 %     10,166    
G,H,M,S,T
  
Clarkesville, GA
                                                                            
                                                                             
                                                                             
Destination Resorts
  
Locations
                                                                        
Ozark Mountain
Kimberling City, MO
  
Branson, MO
     160       —       1,166       —  
1982
     6,930       705       85.6 %     10,486    
B,F,M,S,T
  
Holiday Hills
Branson, MO
  
Branson, MO
     482       516 (g)     2,865       26,832 (g)
1984
     22,063       1,773       88.5 %     12,356       G,S,T (e)
Hill Country
Canyon Lake, TX
  
Austin-San
Antonio, TX
     342 (f)     188 (g)     1,969       9,776 (g)
1984
     15,443       1,703       88.7 %     12,046       M,S,T (e)
Oak N' Spruce
South Lee, MA
  
Boston, MA-
New York, NY
     340       10 (g)     2,900       520 (g)
1998
     14,780       1,454       83.6 %     10,804       F,M,S,T  
Silverleaf's Seaside
Galveston, TX
  
Galveston, TX
     144       264 (g)     1,339       13,728 (g)
2000
     6,149       581       82.1 %     13,765       M,S,T  
Orlando Breeze
Davenport, FL
  
Orlando, FL
     60       12 (g)     794       624 (g)
2005
     2,326       21       74.6 %     21,673       S  
Total
         2,746       1,878       27,173       97,656         113,899       15,813       80.7 %   $ 10,328          
 

(a)
These totals do not reflect sales of upgraded Vacation Intervals to existing Silverleaf Owners. An “upgraded Vacation Interval” sale refers to an exchange of a lower priced interval for a higher priced interval in which the Silverleaf Owner is given credit for all principal payments previously made toward the purchase of the lower priced interval. For the year ended December 31, 2008, upgrade sales at the Existing Resorts were as follows:

Resort
  
Upgraded Vacation Intervals Sold
    
Average Sales Price — Net of Exchanged Interval
  
Holly Lake
     155     $ 5,549  
The Villages
     917       8,430  
Lake O' The Woods
     29       6,586  
Piney Shores
     590       8,719  
Hill Country
     1,688       10,065  
Timber Creek
     23       8,589  
Fox River
     815       9,155  
Ozark Mountain
     278       8,851  
Holiday Hills
     2,372       9,998  
Oak N’ Spruce
     937       8,696  
Apple Mountain
     299       9,145  
Silverleaf's Seaside
     1,248       8,954  
Orlando Breeze
     563       10,981  
      9,914          

The average sales price for the 9,914 upgraded Vacation Intervals sold was $9,380 for the year ended December 31, 2008.

(b)
Represents units included in our master plan. This plan is subject to change based upon various factors, including consumer demand, the availability of financing, grant of governmental land-use permits, and future land-planning and site layout considerations. The following chart reflects the status of certain planned units at December 31, 2008:

   
Land-Use Process Not Started
    
Land-Use Process Pending
    
Land-Use Process Complete
    
Currently in Construction
    
Total
  
The Villages
     —       —       204       16       220  
Piney Shores
     —       —       172       16       188  
Timber Creek
     —       —       24       —       24  
Fox River
     —       —       264       12       276  
Apple Mountain
     —       —       168       12       180  
Holiday Hills
     —       —       500       16       516  
Hill Country
     —       —       156       32       188  
Oak N' Spruce
     —       —       10       —       10  
Silverleaf's Seaside
     —       —       264       —       264  
Orlando Breeze
     —       —       12       —       12  
      —       —       1,774       104       1,878  

“Land-Use Process Pending” means that we have commenced the process which we believe is required under current law in order to obtain the necessary land-use authorizations from the applicable local governmental authority with jurisdiction, including submitting for approval any architectural drawings, preliminary plats, or other attendant items as may be required.

“Land-Use Process Complete” means either that (i) we believe that we have obtained all necessary land-use authorizations under current law from the applicable local governmental authority with jurisdiction, including the approval and filing of any required preliminary or final plat and the issuance of building permit(s), in each case to the extent applicable, or (ii) upon payment of any required filing or other fees, we believe that we will under current law obtain such necessary authorizations without further process.

(c)
These totals are net of intervals received from upgrading customers and from intervals received from cancellations.

(d)
Principal amenities available to Silverleaf Owners at each resort are indicated by the following symbols: B — boating; F — fishing; G — golf; H — horseback riding; M — miniature golf; S — swimming pool; T — tennis; and W — indoor water park.

(e)
Boating is available near the resort.

(f)
Includes three units which have not been finished-out for accommodations and which are currently used for other purposes.


(g)
Engineering, architectural, and construction estimates have not been completed, and we cannot be certain that we will develop these properties at the unit numbers currently projected.

Features Common to Existing Resorts

Getaway Resorts are primarily located in rustic areas offering Silverleaf Owners a quiet, relaxing vacation environment. Furthermore, the resorts offer different vacation activities, including golf, fishing, boating, swimming, horseback riding, tennis, and archery. Destination Resorts are located in or near areas with national tourist appeal. Features common to the Existing Resorts include the following:

Bonus Time Program. Silverleaf Club’s Bonus Time program offers Silverleaf Owners a benefit not typically enjoyed by other timeshare owners. In addition to the right to use a unit one week per year, the Bonus Time program allows all Silverleaf Owners, who are current on their dues and timeshare loan installment payments, to use vacant units for up to three nights at a time at any of our owned resorts. Sunday through Thursday night stays are currently without charge, while Friday through Saturday stays presently cost $49.95 per night payable to Silverleaf Club. The Bonus Time program is limited based on the availability of units. Availability is created when a Silverleaf Owner does not use his or her owned week. Silverleaf Owners who have utilized the resort less frequently are given priority to use the program and may only use an interval with an equal or lower rating than their owned Vacation Interval. We believe this program is important as many vacationers prefer shorter two to three day vacations. Owners of unused intervals that are utilized by the Bonus Time program are not compensated other than by their participation in the Bonus Time program.

Year-Round Use of Amenities. Even when not using the lodging facilities, Silverleaf Owners have unlimited year-round day usage of the amenities located at the Existing Resorts, such as boating, fishing, miniature golf, tennis, swimming, or hiking, for little or no additional cost. Certain amenities, however, such as our indoor water park, golf, horseback riding, or watercraft rentals, may require a usage fee.

Exchange Privileges. Each Silverleaf Owner has certain exchange privileges through Silverleaf Club which may be used on an annual basis to (i) exchange an interval for a different interval (week) at the same resort so long as the desired interval is of an equal or lower rating; or (ii) exchange an interval for an interval (week) of equal or lower rating at any other of our Existing Resorts. Silverleaf Owners of Getaway Resorts can only exchange for an interval in a Getaway Resort unless they own a “Presidents,” “Chairmans,” or “Ambassador” Vacation Interval. These exchange rights are a convenience we provide Silverleaf Owners and are conditioned upon availability of the desired interval or resort. Approximately 10,668 exchanges occurred in 2008. Silverleaf Owners pay an exchange fee of $75 to Silverleaf Club for each such internal exchange. In addition, Silverleaf Owners may join the exchange program administered by RCI for an annual fee of $89.

Deeded Ownership. We typically sell a Vacation Interval that entitles the owner to use a specific unit for a designated one-week interval each year. The Vacation Interval purchaser receives a recorded deed, which grants the purchaser a percentage interest in a specific unit for a designated week. We also sell a biennial (alternate year) Vacation Interval that allows the owner to use a unit for a one-week interval every other year with reduced dues.

Management Club. Each of the Existing Resorts has a Club for the benefit of the timeshare owners. At December 31, 2008, the Clubs (except for the club at Orlando Breeze) operate under Silverleaf Club to manage the Existing Resorts on a centralized and collective basis. We have contracted with Silverleaf Club to perform the supervisory and management functions granted by the Clubs. Costs of these operations are covered by monthly dues paid by timeshare owners to their respective Clubs together with income generated by the operation of certain amenities at each respective resort. Our destination resort in Florida, Orlando Breeze, has its own club, Orlando Breeze Resort Club, which operates independently of Silverleaf Club. However, we supervise the management and operation of Orlando Breeze Resort Club under the terms of a written agreement.

On-Site Security. Each of the Existing Resorts is patrolled by security personnel who are either employees of the various management clubs or employees of independent security service companies that have contracted with the Clubs.

Competitive Advantages

We believe our business affords us the following competitive advantages:

Convenient Getaway Locations. Our Getaway Resorts are located within a two-hour drive of a majority of our target customers' residences, which accommodates what we believe to be the growing demand for shorter, more frequent, close-to-home vacations. This proximity of our customer base to our resorts facilitates use of our Bonus Time program, allowing Silverleaf Owners to use vacant units, subject to availability and certain limitations. We believe we are the only timeshare operator that offers customers these expanded use benefits. Silverleaf Owners can also conveniently drive to and enjoy non-lodging resort amenities at our resorts year-round on a day use “country-club” type basis.


Substantial Internal Growth Capacity. At December 31, 2008, we had an inventory of 27,173 Vacation Intervals and a master plan to construct new units which will result in up to 97,656 additional Vacation Intervals at our Existing Resorts. Our master plan for construction of new units is contingent upon future sales at our Existing Resorts and the availability of financing, granting of governmental permits, and future land-planning and site-layout considerations.

In-House Operations. We have in-house marketing, sales, financing, development, and property management capabilities. While we utilize outside contractors to supplement internal resources, our internal capabilities provide greater control over all phases of our operations, help maintain operating standards, and reduce overall costs.

Lower Construction and Operating Costs. We have developed and generally employ standard architectural designs and operating procedures, which we believe significantly reduce construction and operating expenses. Standardization and integration also allow us to rapidly develop new inventory in response to demand. Weather permitting, new units at Existing Resorts can typically be constructed on an “as needed” basis within 180 to 270 days.

Centralized Property Management Supervision. We presently supervise the operation of all of our Existing Resorts (except for Orlando Breeze) on an integrated, centralized, and collective basis through our Management Agreement with Silverleaf Club with operating and maintenance costs paid from Silverleaf Owners' monthly dues. While our Orlando Breeze resort in Florida has its own separate Club (Orlando Breeze Resort Club), we also provide centralized supervision of its operations under the terms of a written agreement to ensure the quality of services provided to Orlando Breeze timeshare owners. We believe that consolidation of resort operations benefits Silverleaf Owners by providing a uniform level of service, accommodations, and amenities on a standardized, cost-effective basis. Integration also facilitates our internal exchange program and the Bonus Time program.

Experienced Management. Our senior management has extensive experience in the acquisition, development, marketing, sales, and operation of timeshare resorts. The senior officers have an average of nineteen years of experience in the timeshare industry.

Future Growth Strategy

Our future growth strategy is to conservatively increase annual revenues through a combination of:

 
·
continuing to develop new or existing resorts;
 
·
maintaining marketing, sales, and development activities at those resorts in accordance with our current business model;
 
·
concentrating on marketing to existing members, including sales of upgraded Vacation Intervals, additional week sales, and existing owner referral programs;
 
·
adding other assets and amenities to attract our customers by enhancing vacation experiences; and
 
·
emphasizing our secondary products, such as biennial (alternate year) intervals, to broaden our potential market with a wider price range of products for first-time buyers.

ITEM 3.
LEGAL PROCEEDINGS

We are currently subject to litigation arising in the normal course of our business. From time to time, such litigation includes claims regarding employment, tort, contract, truth-in-lending, the marketing and sale of Vacation Intervals, and other consumer protection matters. Litigation has been initiated from time to time by persons seeking individual recoveries for themselves, as well as, in some instances, persons seeking recoveries on behalf of an alleged class. In our judgment, none of the lawsuits currently pending against us, either individually or in the aggregate, is expected to have a material adverse effect on our business, results of operations, liquidity, or financial position.

Various legal actions and claims may be instituted or asserted in the future against us and our subsidiaries, including those arising out of our sales and marketing activities and contractual arrangements. Some of the matters may involve claims, which, if granted, could be materially adverse to our financial position.

Litigation is subject to many uncertainties, and the outcome of individual litigated matters is not predictable with assurance. We will establish reserves from time to time when deemed appropriate under generally acceptable accounting principles. However, the outcome of a claim for which we have not deemed a reserve to be necessary may be decided unfavorably against us and could require us to pay damages or incur other expenditures that could be materially adverse to our business, results of operations, or financial position.


We are a co-plaintiff with two other parties in two related matters brought in the Land Court Department of the Trial Court of the Commonwealth of Massachusetts, each styled as Silverleaf Resorts, Inc., et al. v. Zoning Board of Appeals of the Town of Lanesborough, et al., Civil Action No. 07 MISC 351155 and Civil Action No. 09 MISC 393464.  In these actions, we and the co-plaintiffs have challenged the validity of a special permit issued by the Lanesborough Zoning Board of Appeals to Berkshire Wind Power Cooperative Corporation (“Berkshire”), for a portion of a road that Berkshire needs to access property located where Berkshire plans to construct a wind farm.  We initiated this lawsuit because the predecessor in interest of the defendant was seeking to construct a wind farm directly adjacent to the property line of a 500-acre tract of land we own in Berkshire County, Massachusetts.  Our concern was that if the defendant was ultimately successful in developing this neighboring site in accordance with its plans, the proximity of such a wind farm facility to our property line could adversely affect our property.  We seek a court decree that the special permit expired from non-use and is therefore no longer valid, or alternatively, that the road was not built as permitted.  We will seek to consolidate these matters.  We are in fast track discovery in the Land Court, but no final trial date has been set.

ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.


PART II

ITEM 5.
MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES

STOCK PERFORMANCE GRAPH

The stock performance graph below shall not be deemed incorporated by reference by any general statement incorporating by reference this Annual Report on Form 10-K into any filing under the Securities Act or under the Exchange Act, except to the extent we specifically incorporate this information by reference, and it shall not otherwise be deemed filed under such Acts.

Set forth below is a line graph comparing the total cumulative return of our common stock since December 31, 2003 to (a) the S&P 500 Index, a broad equity market index, and (b) the Russell MicroCap Index, an index that measures the performance of stocks in the micro-cap segment of market capitalization. The comparisons in this table are required by the Securities and Exchange Commission and are not intended to forecast or be indicative of possible future performance of our common stock.

Only a few other publicly held companies engage in our principal line of business - the sale of vacation ownership intervals. Prominent among this limited group are Walt Disney Company, Hilton Hotels Corporation, and Marriott International, Inc., which are (i) diversified, with far less than 50% of their respective revenues attributable to vacation ownership interval sales, and (ii) substantially larger than we are in terms of revenue, assets, and market capitalization. Therefore, we concluded that a sufficient body of reliable market data to use as a comparison peer group is not available. In 2006 our common stock was added to the Russell MicroCap Index. In the below graph, we have elected to compare the performance of our common stock to the S&P 500 Index and the Russell MicroCap Index.
 
The graph assumes $100 was invested on December 31, 2003 in our common stock, the S&P 500, and the Russell MicroCap and assumes dividends are reinvested. Silverleaf’s cumulative total return of $90 is due to the decline in the bid price of our common stock from $0.77 at December 31, 2003 to $0.72 at December 31, 2008.
 
 
*100 invested on 12/31/03 in stock or index-including reinvestment of dividends. Fiscal year ending December 31. Copyright © 2009 S&P, a division of the McGraw-Hill Companies Inc. All rights reserved. Copyright © 2009 Dow Jones & Co. All rights reserved.



   
Measurement Period (Fiscal Year Covered)
  
      12/03       12/04       12/05       12/06       12/07       12/08  
Silverleaf Resorts, Inc.
     100.00       172.50       407.50       558.75       520.00       90.00  
S & P 500
     100.00       110.88       116.33       134.70       142.10       89.53  
Russell MicroCap
     100.00       114.14       117.07       136.44       125.52       75.59  


The following table sets forth the high and low closing prices of our common stock for the quarterly periods indicated, which correspond to the quarterly fiscal periods for financial reporting purposes. The common stock prices from January 1, 2007 to February 27, 2007 are the closing bid prices as quoted on the American Stock Exchange under the symbol “SVL.” Effective February 28, 2007, we listed our common stock on The NASDAQ Capital Market (“NASDAQ”), under the symbol “SVLF.” From that point forward the common stock prices shown are the closing bid prices as quoted on NASDAQ.

   
High
    
Low
  
Year Ended December 31, 2007:
            
First Quarter
   $ 5.00     $ 4.25  
Second Quarter
     5.95       4.56  
Third Quarter
     6.89       4.60  
Fourth Quarter
     6.50       4.05  
                 
Year Ended December 31, 2008:
                
First Quarter
   $ 4.08     $ 2.05  
Second Quarter
     3.03       2.02  
Third Quarter
     2.28       1.24  
Fourth Quarter
     1.36       0.53  

As of December 31, 2008, we believe that there were approximately 2,200 holders of our common stock, which is the only class of our equity securities outstanding.  During October 2008, due to market conditions, NASDAQ suspended the bid price and market value of publicly held shares requirements through January 16, 2009. Effective January 16, 2009, the SEC extended the temporary suspension of the NASDAQ rules requiring a minimum $1 closing bid price and a minimum market value of publicly held shares through April 20, 2009. Also in January 2009, the SEC approved a NASDAQ proposal that extended the compliance period for companies that fail to meet the continued listing requirement for market value of listed securities from 30 to 90 days.

Our stock option plans provide for awarding nonqualified stock options to directors, officers, and key employees and incentive stock options to key salaried employees. Stock options provide for the right to purchase common stock at a specified price, which may be less than or equal to fair market value on the date of grant (but not less than par value). Stock options may be granted for any term and upon such conditions determined by our Board of Directors.

On July 29, 2008, our shareholders approved our 2008 Stock Option Plan, which reserved for issuance up to two million shares of our common stock as either incentive or nonqualified stock options to our directors, officers, and key employees. In August 2008, we granted 1,925,000 stock options under this plan of which 300,000 were nonqualified stock options granted to our directors and 1,625,000 were incentive stock options granted to certain officers and key employees. In September 2008, we granted the remaining 75,000 stock options that were reserved for issuance as incentive stock options. The options granted to our officers and key employees will vest in equal increments over a five-year period. The options granted to our directors will vest in equal increments over a four-year period.

Dividend Policy

We have never declared or paid any cash dividends on our capital stock and do not anticipate paying cash dividends on our common stock in the foreseeable future. We currently intend to retain future earnings to finance our operations and fund the growth of our business.  In addition, certain of our debt agreements include restrictions on the Company's ability to pay dividends based on minimum levels of net income and cash flow.  Any payment of future dividends will be at the discretion of our Board of Directors and will depend upon, among other things, our earnings, financial position, capital requirements, level of indebtedness, contractual and other restrictions related to payment of dividends under our senior credit facilities, and other factors that our Board of Directors deem relevant.

Shares Authorized for Issuance under Equity Compensation Plans

Information regarding shares authorized under our equity compensation plans is discussed under the heading “Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters” in Item 12 of this Annual Report on Form 10-K.

Recent Sales of Unregistered Securities

There have been no recent sales of unregistered securities.


Issuer Purchases of Equity Securities

On July 29, 2008, we authorized the repurchase of up to two million shares of our common stock to be acquired from time to time in the open market or in negotiated transactions. This stock repurchase program expires in July 2010 or upon the purchase of an aggregate of 2,000,000 shares of our common stock. In the third quarter of 2008, we acquired 56,211 outstanding shares of common stock, which we reclassified as treasury stock, for $108,000.  However, in the fourth quarter of 2008, 115,000 stock options were exercised and 56,211 shares of treasury stock were reissued in these transactions. We did not repurchase any treasury shares during the fourth quarter of 2008. As of December 31, 2008, 1,943,789 shares may yet be repurchased under this program.


ITEM 6.
SELECTED FINANCIAL DATA

Selected Consolidated Historical Financial and Operating Information

The Selected Consolidated Historical Financial and Operating Information shown below should be read in conjunction with the Consolidated Financial Statements and notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations appearing elsewhere in this report on Form 10-K. In 2006, we changed our accounting for real estate time-sharing transactions in connection with the adoption of Statement of Financial Accounting Standards No. 152, “Accounting for Real Estate Time-Sharing Transactions” and changed our accounting for stock-based compensation in connection with the adoption of Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment.” As a result, certain amounts presented in the following tables for years preceding 2006 may not be comparable to 2006 and subsequent years.

   
Year Ended December 31,
  
   
2004
    
2005
    
2006
    
2007
    
2008
  
   
(in thousands, except share and per share amounts)
  
Statement of Income Data:
                              
Revenues:
                              
Vacation Interval sales
   $ 138,046     $ 146,416     $ 187,481     $ 235,135     $ 256,300  
Estimated uncollectible revenue
     —       —       (32,491 )     (40,071 )     (63,051 )
Sampler sales
     2,150       2,623       —       —       —  
Net sales
     140,196       149,039       154,990       195,064       193,249  
                                         
Interest income
     37,843       38,154       46,248       53,019       61,077  
Management fee income
     1,201       1,856       1,861       2,806       3,121  
Gain on sale of notes receivable
     1,915       6,457       —       —       —  
Other income
     2,522       6,402       3,785       4,141       6,515  
Total revenues
     183,677       201,908       206,884       255,030       263,962  
                                         
Costs and operating expenses:
                                        
Cost of Vacation Interval sales
     24,964       23,427       19,003       23,027       24,903  
Sales and marketing
     71,890       74,667       93,957       119,679       135,059  
Provision for uncollectible notes
     26,811       23,649       —       —       —  
Operating, general and administrative
     25,639       28,038       32,315       39,101       41,154  
Depreciation
     3,588       2,723       2,539       3,511       4,929  
Interest expense and lender fees:
                                        
Related to receivables-based credit facilities
     15,525       13,524       17,550       19,285       22,213  
Related to other indebtedness
     2,102       3,729       4,112       5,325       6,341  
                                         
Total costs and operating expenses
     170,519       169,757       169,476       209,928       234,599  
                                         
Income before provision for income taxes and discontinued operations
     13,158       32,151       37,408       45,102       29,363  
Provision for income taxes
     23       9,725       14,402       17,398       11,437  
                                         
Income from continuing operations
     13,135       22,426       23,006       27,704       17,926  
                                         
Discontinued operations:
                                        
Gain on sale of discontinued operations (net of taxes)
     —       613       —       —       —  
Income from discontinued operations (net of taxes)
     624       128       —       —       —  
Income from discontinued operations
     624       741       —       —       —  
                                         
Net income
   $ 13,759     $ 23,167     $ 23,006     $ 27,704     $ 17,926  
                                         
Net income per share — Basic:
                                        
Income from continuing operations
   $ 0.35     $ 0.61     $ 0.61     $ 0.73     $ 0.47  
Income from discontinued operations
     0.02       0.02       —       —       —  
Net income
   $ 0.37     $ 0.63     $ 0.61     $ 0.73     $ 0.47  
                                         
Net income per share — Diluted:
                                        
Income from continuing operations
   $ 0.33     $ 0.57     $ 0.59     $ 0.70     $ 0.46  
Income from discontinued operations
     0.02       0.02       —       —       —  
Net income
   $ 0.35     $ 0.59     $ 0.59     $ 0.70     $ 0.46  
                                         
Weighted average number of common shares issued and  outstanding:
                                        
Basic
     36,852,133       36,986,926       37,579,462       37,811,387       38,037,635  
Diluted
     38,947,854       39,090,921       39,261,652       39,417,017       38,897,619  

 
     
December 31,
  
     
2004
    
2005
    
2006
    
2007
    
2008
  
     
(in thousands)
  
 
Balance Sheet Data:
                              
 
Cash and cash equivalents
   $ 10,935     $ 10,990     $ 11,450     $ 13,170     $ 11,431  
 
Notes receivable, net of allowance for uncollectible notes
     196,466       177,572       229,717       289,907       320,306  
 
Amounts due from affiliates
     288       680       1,251       1,358       1,738  
 
Inventories
     109,303       117,597       147,759       179,188       190,318  
 
Total assets
     369,506       361,796       474,530       581,059       644,822  
 
Amounts due to affiliates
     929       544       246       —       —  
 
Notes payable and capital lease obligations
     218,310       177,269       254,550       316,198       369,071  
 
Senior subordinated notes
     34,883       33,175       31,467       26,817       23,121  
 
Total liabilities
     268,038       236,961       326,338       405,018       450,576  
 
Shareholders' equity
     101,468       124,835       148,192       176,041       194,246  
                                           
 
Cash Flows Data:
                                        
 
Net cash provided by (used in) operating activities
   $ 9,404     $ 75,681     $ (45,648 )   $ (39,895 )   $ (21,341 )

   
As of and for the Year Ended December 31,
  
   
2004
    
2005
    
2006
    
2007
    
2008
  
Other Operating Data:
                              
Number of Existing Resorts at period end
     12       13       13       13       13  
Number of Vacation Intervals sold (excluding Upgrades)(a)
     10,431       8,332       9,855       15,394       15,813  
Number of in-house Vacation Intervals sold
     4,816       6,576       8,777       9,988       9,914  
Number of Vacation Intervals in inventory
     22,857       27,396       28,801       27,300       27,173  
Average price of Vacation Intervals sold (excluding Upgrades)(a)(b)
   $ 10,031     $ 11,124     $ 11,681     $ 9,607     $ 10,328  
Average price of upgraded Vacation Intervals sold (net of exchanged interval)
   $ 6,938     $ 8,171     $ 8,245     $ 8,735     $ 9,380  

__________

(a)
Vacation Intervals sold during the years ended December 31, 2004, 2005, 2006, 2007, and 2008, include 2,556 biennial intervals (counted as 1,278 annual Vacation Intervals), 2,780 biennial intervals (counted as 1,390 annual Vacation Intervals), 5,117 biennial intervals (counted as 2,558 annual Vacation Intervals), 3,588­ biennial intervals (counted as 1,794 annual Vacation Intervals), and 4,536 biennial intervals (counted as 2,268 annual Vacation Intervals), respectively.

(b)
Includes annual and biennial Vacation Interval sales for one-bedroom, two-bedroom, and three-bedroom units.

ITEM 7.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with “Selected Financial Data,” our consolidated financial statements and notes thereto, and other financial data included elsewhere herein. The following Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements.

Executive Summary

We are in the business of owning and operating thirteen timeshare resorts as of December 31, 2008. Our income is derived principally from marketing and selling timeshare interests at our resorts in one-week intervals and from the interest earned from financed sales of such timeshare interests. As of December 31, 2008, we own a) seven Getaway Resorts located within 1.5 to 2 hours of major metropolitan areas, which are the primary market for timeshare sales to new purchasers, and b) six Destination Resorts located farther from major metropolitan areas. The principal purchasers of timeshare interests at the Destination Resorts are existing owners who are upgrading or buying additional interests.

The Company anticipates a continuation of the challenging economic environment which it experienced in 2008. Our biggest challenges include the current economic weaknesses, constrained consumer spending, collection of customer receivables, our ability to access the capital markets, and our ability to manage inventory levels.  Although we do not anticipate a significant decline in our Vacation Interval sales in 2009, our success in collecting payments due on customers’ loans in this challenging environment will continue to pressure our bottom-line. However, we believe that conservative business decisions and aggressive cash flow management in 2009, along with other measures in the coming year, will allow us to maintain adequate liquidity into 2010, including the payment of our $23.1 million 8.0%senior subordinated notes, due April 1, 2010. These other measures include continuing to focus on improving the credit quality of our notes receivable, a continued favorable sales mix trend toward upgrades and second-week sales to existing customers as such sales have relatively lower associated sales and marketing costs, reductions in capital expenditures for expansion at existing resorts, including construction of lodging units and additional amenities, and the prudent management of our liquidity through controlled and measured growth.  However, there can be no assurance that economic conditions will not deteriorate further, which could increase customer loan delinquencies and defaults. Increases in loan delinquencies and defaults could impair our ability to pledge or sell such loans to lenders in order to obtain sufficient cash advances to meet our obligations through 2010, including payment of the aforementioned 8.0% senior subordinated notes.


The following economic or industry-wide factors are relevant to us:

 
·
We predominantly sell vacation and recreational products to customers who drive to our locations. We believe that this type of usage is somewhat immune from issues that would affect the travel industry as a whole (i.e., the disruptions to the airline industry and destination resort industry after September 11, 2001 and the current state of the economy). However, major increases in gasoline prices or other issues that cause the U.S population to drive less could have a negative impact on us.

 
·
Telemarketing is a very important element in the generation of tours to potential new customers of timeshare interests. We presently comply with state and national do-not-call regulations. Changes to existing regulations could have a negative impact on our ability to generate the necessary tours to sell timeshare interests.  We will continue to assess the do-not-call rules' impact on both operations and alternative methods of marketing, such as direct mail, that are not impacted by the new rules.

 
·
We finance the majority of our sales over seven to ten years. A sustained economic downturn could negatively affect the ability of our customers to pay the principal and interest due on their loans, which would result in additional estimated uncollectible revenue.

 
·
Our fixed-to-floating debt ratio is 38% fixed and 62% floating. However, the majority of our floating-rate debt is subject to interest-rate floors between 5.25% and 8.00%.  Although interest rates declined throughout 2008, an increase in interest rates above applicable floor rates on our variable-rate facilities could have a negative impact on our profitability.

 
·
Since we predominantly finance our sales of timeshare interests, we require credit facilities to provide the liquidity necessary to fund our day-to-day costs and expenses. We presently have adequate credit facilities to fund our operations into 2010. A disruption in the availability of credit facilities would severely impact our ability to continue marketing and selling timeshare interests as we do today.
 
·
We believe there are three areas which are particularly important to our success as a business:

▪▪
Identifying potential customers who are likely to pay their principal and interest payments when due after purchasing timeshare intervals, thereby resulting in an acceptable level of estimated uncollectible revenue.

▪▪
Maintaining sales and marketing expenses at an acceptable level to result in a favorable percentage relationship between sales and marketing expense and Vacation Interval sales.

▪▪
Maintaining adequate credit facilities to finance our operations and support the borrowings that are required for our liquidity and continued growth.

We earn revenue and income and finance our operations as follows:

 
·
Our primary source of revenue is Vacation Interval sales. Vacation Interval sales are a combination of sales to new customers and upgrade and/or additional week sales to existing customers. We have been focusing on increasing the percentage mix of sales to existing customers in recent years. In addition, we have been focusing on identifying potential new customers who have more favorable credit characteristics and will ultimately be more likely to pay principal and interest on their timeshare notes when due. To manage sales, we separately assess sales to potential new customers and sales to existing customers as different factors affect these types of sales. For example, for sales to potential new customers, we measure sales per tour in order to ascertain that our marketing programs are delivering the proper types of family tours to effectively and efficiently generate sales and we closely monitor rescission rates.


One product that is sold to new customers is a sampler, which gives the customer the right to use the resorts on an “as available” basis from Sunday to Thursday. Revenues related to sampler contracts, which entitle the prospective owner to sample a resort during certain periods, have been and will continue to be deferred until the customer uses the stay or allows the contract to expire. Sampler sales and related costs are accounted for as incidental operations, whereby incremental costs in excess of related incremental revenues are charged to expense as incurred. Conversely, incremental revenues in excess of related incremental costs are recorded as a reduction of inventory in the consolidated balance sheet. Incremental costs include costs that would not have been incurred had we not sold samplers. Since our sampler sales primarily function as a marketing program, providing us additional opportunities to sell Vacation Intervals to prospective customers, the incremental costs of our sampler sales typically exceed incremental sampler revenues. Accordingly, during the years ended December 31, 2006, 2007, and 2008, all sampler sales were recorded as a reduction to sales and marketing expense in the amounts of $2.9 million, $3.4 million, and $3.7 million, respectively.

The following table shows the elements management considers important to assessing our Vacation Interval sales (in thousands, except for tours and sales per tour):

   
Year Ended December 31,
  
   
2006
    
2007
    
2008
  
                   
Tours to potential new purchasers
     86,950       108,541       116,713  
Sales per tour
   $ 1,217     $ 1,123     $ 1,094  
Gross sales to new customers
     105,785       121,867       127,735  
Rescissions of sales to new customers
     (19,970 )     (23,809 )     (20,981 )
Net sales to new customers
     85,815       98,058       106,754  
                         
Gross sales to existing customers
     109,524       150,026       165,920  
Rescissions of sales to existing customers
     (4,953 )     (9,559 )     (12,631 )
Net sales to existing customers
     104,571       140,467       153,289  
                         
Total sales
     190,386       238,525       260,043  
Less sampler sales
     (2,905 )     (3,390 )     (3,743 )
Total Vacation Interval sales
   $ 187,481     $ 235,135     $ 256,300  
                         
Rescission rate for new customers
     18.9 %     19.5 %     16.4 %
Rescission rate for existing customers
     4.5 %     6.4 %     7.6 %
Rescission rate for all customers
     11.6 %     12.3 %     11.4 %

 
·
In assessing the effectiveness of our sales and marketing programs, we believe it is also important to compare sales and marketing expenses to Vacation Interval sales. The separate elements of sales and marketing expense that we assess are the cost of marketing to new purchasers, the cost of marketing to existing purchasers, offsite marketing, commissions, and sales and marketing overhead as detailed in the following table (in thousands, except for tours and cost per tour):

   
Year Ended December 31,
  
   
2006
    
2007
    
2008
  
                   
Tours to potential new purchasers
     86,950       108,541       116,713  
Cost per tour
   $ 424     $ 464     $ 516  
Cost of marketing to new purchasers
     36,875       50,324       60,230  
Cost of marketing to existing purchasers
     11,649       15,424       17,286  
Offsite marketing
     6,041       6,118       6,839  
Commissions
     29,733       37,780       39,972  
Sales and marketing overhead
     12,564       13,423       14,475  
Sampler sales offset
     (2,905 )     (3,390 )     (3,743 )
Total sales and marketing expense
   $ 93,957     $ 119,679     $ 135,059  
                         
As a percentage of Vacation Interval  sales:
                        
Cost of marketing to new purchasers
     19.7 %     21.4 %     23.5 %
Cost of marketing to existing purchasers
     6.2 %     6.5 %     6.7 %
Offsite marketing
     3.2 %     2.6 %     2.7 %
Commissions
     15.9 %     16.1 %     15.6 %
Sales and marketing overhead
     6.7 %     5.7 %     5.7 %
Sampler sales offset
     (1.6 )%     (1.4 )%     (1.5 )%
Total sales and marketing expense
     50.1 %     50.9 %     52.7 %

 
·
Our second most important source of revenue is interest income, which is predominantly earned on our notes receivable. Interest income as a percentage of average annual notes receivable has increased each year from 2004 through 2008 as a result of periodically increasing the interest rate we charged our new customers.


 
·
We have two lesser revenue sources, management fees, predominantly from Silverleaf Club, and other income.

 
·
We generate cash from the collection of down payments, from the collection of principal and interest from timeshare notes receivable, from sales of notes receivable, and from management fees and other income. We also generated cash during 2006 and 2007 from the sale of undeveloped land at locations that had been previously acquired for the possible development of new resorts.

 
·
Since the majority of our sales are financed, we have revolving credit facilities that are drawn upon monthly to fund our day-to-day costs, expenses, and capital expenditures.

We operate principally in only one business segment, the timeshare industry. Further, we only operate in the United States. As of December 31, 2008, we operate resorts in six states (Texas, Missouri, Illinois, Massachusetts, Georgia, and Florida), and sell primarily to residents of those states, with limited sales to residents of nearby states. In addition, we own and operate a hotel located near the Winter Park recreational area in Colorado, which provides our owners with another destination vacation alternative and gives Silverleaf an entry point into this increasingly popular destination area.

Our principal short-term focus is on continuing to conservatively increase annual revenues. We will continue to identify new and existing customers with acceptable credit characteristics that will allow us to profitably sell new, upgrade, and additional Vacation Intervals at our Existing Resorts. Long term, if the opportunities present themselves, we will consider adding and developing new resorts where timeshare intervals can be marketed and sold at a profit.

Critical Accounting Policies

Timeshare Accounting Practices — We follow industry specific guidance established by Statement of Financial Accounting Standards No. 152, “Accounting for Real Estate Time-Sharing Transactions” (“SFAS No. 152”). In general, SFAS No. 152 provides guidance on determining revenue recognition for timeshare transactions, evaluation of uncollectibility of Vacation Interval receivables, accounting for costs of Vacation Interval sales, accounting for operations during holding periods (or incidental operations), and other accounting transactions specific to timeshare operations.

Revenue and Expense Recognition (including Cost of Sales) — A substantial portion of Vacation Interval sales are consummated in exchange for installment notes receivable secured by deeds of trust on each Vacation Interval sold. If development costs related to a particular project or phase are complete, we recognize related Vacation Interval sales under the full accrual method after a binding sales contract has been executed, the buyer has made a down payment of at least 10%, and the statutory rescission period has expired. If all such criteria are met yet significant development costs remain to complete the project or phase, revenues are recognized on the percentage-of-completion basis. Under this method, once the sales criteria are met, revenues are recognized proportionate to costs already incurred relative to total costs expected for the project or phase. There were no sales deferred at December 31, 2008 related to the percentage-of-completion method.

Both of these revenue recognition methods employ the relative sales value method in determining related costs of sales and inventory applicable to each Vacation Interval sale recognized. Under the relative sales value method, a cost of sales percentage is used to apply costs to related sales as follows:

·
Total revenues to be recognized over an entire project or phase, considering both revenues recognized to date plus estimated revenues to be recognized over future periods (considering an estimate of uncollectibility and subsequent resale of recovered Vacation Intervals), are determined.
·
Total costs of a project or phase, considering both costs already incurred plus estimated costs to complete the phase, if any, are determined. Common costs, including amenities, are included in total estimated costs and allocated to inventory phases that such costs are expected to benefit.
·
The cost of sales ratio applied to each sale represents total estimated costs as a percentage of total estimated revenues, which is specific to each inventory phase. Generally, each building type is considered a separate phase.

The estimate of total revenue for a particular phase also considers factors such as trends in uncollectibles, changes in sales mix and unit sales prices, repossessions of Vacation Intervals, effects of upgrade programs, and past and expected sales programs to sell slow moving inventory units. At least quarterly, we evaluate the estimated cost of sales percentage applied to each sale using updated information for total estimated phase revenue and total estimated phase costs. The effects of changes in estimates are accounted for in the period in which such changes first become known on a retrospective basis, such that the balance sheet at the end of the period of change and the accounting in subsequent periods reflect the revised estimates as if such estimates had been the original estimates.


As mentioned, certain Vacation Interval sales transactions are deferred until the minimum down payment has been received. We account for these transactions utilizing the deposit method. Under this method, the sale is not recognized, a receivable is not recorded, and inventory is not relieved. Any cash received is carried as a deposit until the sale can be recognized. When these types of sales are cancelled without a refund, deposits forfeited are recognized as other income and the interest portion is recognized as interest income. This income is not significant.

We also sell additional and upgraded Vacation Intervals to existing owners. Revenues are recognized on an additional Vacation Interval sale, which represents a new Vacation Interval sale treated as a separate transaction from the original Vacation Interval sale, when the buyer makes a down payment of at least 10%, excluding any equity from the original Vacation Interval purchased.  Revenues are recognized on an upgrade Vacation Interval sale, which is a modification and continuation of the original sale, by including the buyer’s equity from the original Vacation Interval towards the down payment of at least 10%. Revenue recognized on upgrade Vacation Interval sales represents the difference between the upgrade sales price and traded-in sales price, while related cost of sales represents the incremental increase in the cost of the Vacation Interval purchased.

We recognize interest income as earned. Interest income is accrued on notes receivable, net of an estimated amount that will not be collected, until the individual notes become 90 days delinquent. Once a note becomes 90 days delinquent, the accrual of interest income ceases until collection is deemed probable.

We receive fees for management services provided to Silverleaf Club and Orlando Breeze Resort Club. These revenues are recognized on an accrual basis in the period the services are provided if collection is deemed probable.

Services and other income are recognized on an accrual basis in the period such services are provided.

Sales and marketing costs are charged to expense in the period incurred. Commissions, however, are recognized in the same period the related revenues are recognized.

Cash and Cash Equivalents — Cash and cash equivalents consist of all highly liquid investments with an original maturity at the date of purchase of three months or less. Cash and cash equivalents include cash, certificates of deposit, and money market funds.

Restricted Cash — Restricted cash consists of certificates of deposit, collateral for construction bonds, surety bonds, and cash reserved for payments of debt.

Allowance for Uncollectible Notes — Estimated uncollectible revenue is recorded at an amount sufficient to maintain the allowance for uncollectible notes at a level management considers adequate to provide for anticipated losses resulting from customers' failure to fulfill their obligations under the terms of their notes. The allowance for uncollectible notes is adjusted based upon a periodic static-pool analysis of the notes receivable portfolio, which tracks uncollectible notes for each year’s sales over the lives of the notes. Other factors considered in the assessment of uncollectibility include the aging of notes receivable, historical collection experience and credit losses, customer credit scores (FICO® scores), and current economic factors.

Credit losses represent three varieties as follows:

·
A full cancellation of the note, whereby the customer is relieved of the obligation and we recover the underlying inventory,
·
A deemed cancellation, whereby we record the cancellation of all notes that become 90 days delinquent, net of notes that are no longer 90 days delinquent, and
·
A note receivable reduction that occurs when a customer trades a higher value product for a lower value product.

The allowance for uncollectible notes is reduced by actual cancellations and losses experienced, including losses related to previously sold notes receivable which became delinquent and were reacquired pursuant to certain recourse obligations. Recourse on sales of customer notes receivable is governed by agreements between the purchasers of said notes and the Company, though we typically do not have an obligation to repurchase defaulted notes held by our financing subsidiaries.

Our estimated uncollectible revenue as a percentage of Vacation Interval sales was 24.6%, 17.0% and 17.3% for the years ended December 31, 2008, 2007 and 2006, respectively. Under the relative sales value method, an estimate of the value of inventory recoveries is considered in determining inventory costing and allocation to sales. Due to the state of the economy in general, and recent deterioration of the residential real estate market and sub-prime mortgage markets, the risk of Vacation Interval defaults has heightened. We will continue our current collection programs and seek new programs to reduce note defaults. We will also maintain our focus on tour lead procurement in an effort to improve the credit quality of our customers. During 2008 and 2007, approximately 14.7% and 21.6%, respectively, of our sales were made to customers with FICO® scores below 600. However, there can be no assurance that these efforts will be successful.


Inventories — Inventories are stated at the lower of cost or market value less cost to sell.  Cost includes amounts for land, construction materials, amenities and common costs, direct labor and overhead, taxes, and capitalized interest incurred in the construction or through the acquisition of resort dwellings held for timeshare sale. At December 31, 2008, the estimated costs not yet incurred but expected to complete promised amenities was $625,000. Inventory costs are allocated to cost of Vacation Interval sales using the relative sales value method, as described above. We periodically review the carrying value of our inventory on an individual project basis for impairment to ensure that the carrying value does not exceed market value.

Vacation Intervals may be reacquired as a result of (i) foreclosure (or deed in lieu of foreclosure) or (ii) trade-in associated with the purchase of an upgraded or downgraded Vacation Interval. Vacation Intervals reacquired are recorded in inventory at the lower of their original cost or market value.

Liquidity and Capital Resources

As of and for the years ended December 31, 2006, 2007, and 2008, we have been in full compliance with our debt covenants in our credit facilities with all of our senior lenders.

At December 31, 2008, our senior credit facilities provided for loans of up to $549.0 million, of which $186.6 million was available for future advances. The following table summarizes our credit agreements with our senior lenders, our wholly-owned and consolidated special purpose finance subsidiaries, our senior subordinated debt and other debt, and our credit agreement with our off-balance-sheet qualified SPE, SF-III, as of December 31, 2008 (in thousands):

   
MaximumAmount Available
    
Balance
  
Receivables-Based Revolvers
   $ 331,534     $ 160,506  
Receivables-Based Non-Revolvers
     139,100       139,100  
Inventory Loans
     78,407       62,871  
Subtotal Senior Credit Facilities
     549,041       362,477  
Senior Subordinated Debt
     23,121       23,121  
Other Debt
     6,594       6,594  
Subtotal On-Balance-Sheet
     578,756       392,192  
Off-Balance-Sheet Receivables-Based Term Loan
     17,135       17,135  
Grand Total
   $ 595,891     $ 409,327  

We use these credit agreements to finance the sale of Vacation Intervals, to finance construction, and for working capital needs.

The loans mature between June 2010 and March 2020 and are collateralized (or cross-collateralized) by customer notes receivable, inventory, construction in process, land, improvements, and related equipment at certain of the Existing Resorts. Our fixed-to-floating debt ratio at December 31, 2008 was 38% fixed to 62% floating. However, the majority of our floating-rate debt is subject to interest-rate floors between 5.25% and 8.00%.  The credit facilities that bear interest at variable rates are tied to the Prime rate or LIBOR.  At December 31, 2008, the LIBOR rate on our senior credit facilities was 0.44% (1 month) and the Prime rate on these facilities was 3.25%. The credit facilities secured by customer notes receivable allow advances of 75% to 80% of eligible customer notes receivable. In addition, we have $23.1 million of senior subordinated notes due April 2010, with interest payable semi-annually on April 1 and October 1, guaranteed by all of our present and future domestic restricted subsidiaries.

We are aware that our outstanding debt securities are currently trading at substantial discounts to face amount.  During the fourth quarter of 2008, we retired $1.6 million of our 8.0% senior subordinated notes, due April 2010, for $1.3 million, which resulted in a gain of approximately $250,000.  In order to reduce future cash interest payments, as well as future amounts due at maturity or upon redemption, we may from time to time in future periods seek to retire or purchase our outstanding senior subordinated notes through cash purchases and/or exchanges for equity securities, in open market purchases, privately negotiated transactions, or otherwise.  Such repurchases or exchanges, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions, and other factors.  The amounts involved may be material.


Contractual Obligations and Commitments

The following table summarizes our scheduled contractual commitments as of December 31, 2008 (in thousands):

   
2009
    
2010
    
2011
    
2012
    
2013
    
Thereafter
  
Long-term debt
   $ 79,307     $ 85,045     $ 111,568     $ 77,111     $ 85,637     $ 8,614  
Capital leases
     1,010       597       345       104       18       —  
Operating leases
     2,337       1,504       968       519       306       475  
Construction commitments
     16,349       —       —       —       —       —  
Total
   $ 99,003     $ 87,146     $ 112,881     $ 77,734     $ 85,961     $ 9,089  

Principal maturities on our term securitizations (SF-II, SF-V, and SF-VI) are shown proportionate to the projected collections of the corresponding notes receivable that serve as collateral to this debt. Long-term debt includes $57.0 million of future interest, using an approximate interest rate of 6.8%, which is our weighted average cost of borrowings at December 31, 2008. Capital leases include $164,000 of future interest, using an approximate interest rate of 6.2%, which is our weighted average cost of borrowings on our capital lease obligations at December 31, 2008. Construction commitments of $16.3 million relate to the continued development of our resorts and will be funded via availability under our credit facilities. As of December 31, 2008, we had availability under our credit facilities of $186.6 million.  We also have a $15.7 million demand note with SF-II, our wholly owned on-balance-sheet conduit financing subsidiary, which is excluded from long-term debt as the note represents only a potential, future cash outlay and is eliminated on a consolidated basis.

Net Cash Used in Operating Activities. We generate cash primarily from the cash received on the sale of Vacation Intervals, the financing and collection of customer notes receivable from Vacation Interval owners, the sale of notes receivable to our special purpose entities, management fees, sampler sales, marina income, golf course and pro shop income, and hotel income. We typically receive a 10% to 15% down payment on sales of Vacation Intervals and finance the remainder with the issuance of a seven-to-ten-year customer promissory note. We generate cash from customer notes receivable (i) by borrowing at an advance rate of 75% to 80% of eligible customer notes receivable, (ii) by selling notes receivable, and (iii) from the spread between interest received on customer notes receivable and interest paid on related borrowings. Because we use significant amounts of cash in the development and marketing of Vacation Intervals but collect cash on customer notes receivable over a seven-to-ten-year period, borrowing against receivables has historically been a necessary part of normal operations.

During the year ended December 31, 2008, cash used in operating activities was $21.3 million compared to $39.9 million and $45.6 million during the same periods of 2007 and 2006, respectively. This $18.6 million decrease in cash used in operating activities during 2008 versus 2007 primarily resulted from the reduction in capital expenditures for expansion at existing resorts, including construction of lodging units and additional amenities. This reduction in capital expenditures is consistent with our moderate growth initiative in effect for 2008.

Net Cash Used in Investing Activities. During 2008, investing activities used $19.5 million of cash compared to $16.8 million during 2007 and $13.6 million during 2006. The $13.6 million net cash used during 2006 resulted primarily from the purchase of the following assets: Pinnacle Lodge (our 64-room hotel located near the Winter Park recreational area in Colorado), two offsite sales offices, and a corporate aircraft. We also began construction on the water park at The Villages Resort in 2006. These purchases were partially offset by net proceeds of $789,000 received from the sale of two parcels of land in Mississippi. The $16.8 million net cash used during 2007 consisted of capital expenditures totaling $17.0 million, partially offset by net proceeds of $242,000 received from the sale of a land parcel in Texas. The $17.0 million capital expenditures resulted primarily from construction of the water park at The Villages Resort and purchases of unimproved real property in Massachusetts and Missouri. The Massachusetts land is a 394.3 acre tract which adjoins 500 acres that we own in Berkshire County, Massachusetts, and the Missouri land consists of 36.7 acres and is adjacent to our Holiday Hills resort in Taney County, Missouri. The $19.5 million cash used for investing activities in 2008 resulted primarily from the construction or expansion of member services buildings at six of our existing resorts, completion of construction on the water park at The Villages Resort which opened in January 2008, and purchases of two parcels of land in Texas. We purchased approximately 10 acres adjacent to our Piney Shores Resort located on the shores of Lake Conroe, approximately 40 miles north of Houston, Texas, and 8 acres adjacent to our Hill Country Resort, near Canyon Lake in the hill country of central Texas between Austin and San Antonio.

Net Cash Provided by Financing Activities. During 2008, net cash provided by financing activities was $39.1 million compared to $58.4 million and $59.7 million for 2007 and 2006, respectively. The net cash of $59.7 million provided by financing activities during 2006 was primarily the result of $320.3 million of proceeds received from borrowings against pledged notes receivable and our inventory loans, partially offset by $250.6 million of payments on borrowings against pledged notes receivable and our inventory loans, and $10.2 million of increases in restricted cash reserved for payments of debt, all of which were primarily due to our transactions with SF-IV and Silverleaf Finance V, L.P. (“SF-V”). The net cash of $58.4 million provided by financing activities during 2007 was primarily the result of $181.3 million of proceeds received from borrowings against pledged notes receivable and our inventory loans, offset by $124.3 million of payments on borrowings against pledged notes receivable and our inventory loans. The net cash of $39.1 million provided by financing activities during 2008 was primarily the result of $339.4 million of proceeds received from borrowings against pledged notes receivable and our inventory loans, partially offset by $292.4 million of payments on borrowings against pledged notes receivable and our inventory loans, and $7.9 million of increases in restricted cash reserved for payments of debt. The securitization transaction we closed in June 2008 through our newly-formed, wholly-owned and fully consolidated special purpose finance subsidiary, SF-VI, generated $107.4 million of the $339.4 million of proceeds received from borrowings and $93.8 million of the $292.4 million of payments on borrowings for the year ended December 31, 2008.


At December 31, 2008, our senior credit facilities provided for loans of up to $549.0 million, of which $362.5 million of principal related to advances under the credit facilities was outstanding. As of December 31, 2008, the weighted average cost of funds for all borrowings was 6.8%. Customer defaults have a significant impact on our cash available from financing customer notes receivable in that notes more than 60 days past due are not eligible as collateral. As a result, we must repay borrowings against such delinquent notes. As of December 31, 2008, $7.6 million of notes, net of accounts charged off, were more than 60 days past due.

Considering forecasted sales, customer defaults, and expansion plans, our senior credit facilities provide adequate liquidity to meet our needs into 2010. To finance our growth, development, and any future expansion plans, we may at some time be required to consider the issuance of other debt, equity, or collateralized mortgage-backed securities. Any debt we incur or issue may be secured or unsecured, have fixed or variable rate interest, and may be subject to such terms as we deem prudent.

Certain debt agreements include restrictions on our ability to pay dividends based on minimum levels of net income and cash flow. Our ability to pay dividends might also be restricted by the Texas Business Corporation Act.

Off-Balance-Sheet Arrangements. In 2005, we consummated a securitization transaction with our wholly-owned off-balance-sheet qualified special purpose finance subsidiary, SF-III, which was formed for the purpose of issuing $108.7 million of its Series 2005-A Notes in a private placement. In connection with this transaction, we sold SF-III $132.8 million in timeshare receivables that were previously pledged as collateral under revolving credit facilities with our senior lenders and Silverleaf Finance I, Inc., our former qualified SPE which was dissolved in 2005.

In accordance with Statement of Financial Accounting Standards No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities” (“SFAS No. 140”), our bases for classifying SF-III as a qualified SPE are i) SF-III is demonstrably distinct from the transferor as dissolution of the SPE would require an affirmative vote of 100% of the SPE’s Board of Directors, one of which is independent, ii) there are limits on permitted activities that the SPE has the power to carry out, and iii) financial assets transferred to the SPE are passive in nature.

The Series 2005-A Notes are secured by timeshare receivables we sold to SF-III. The timeshare receivables we sold to SF-III are without recourse to us, except for breaches of certain representations and warranties at the time of sale. In accordance with the agreement, we continue servicing these timeshare receivables and receive fees for our services equal to 1.75% of eligible timeshare receivables held by the facility. Such fees were $1.5 million, $854,000, and $491,000 for the years ended December 31, 2006, 2007, and 2008, respectively.

At December 31, 2008, SF-III held notes receivable totaling $22.5 million with related borrowings of $17.1 million. Except for the repurchase of notes that fail to meet initial eligibility requirements, we are not obligated to repurchase defaulted or any other contracts sold to SF-III. As the servicer of notes receivable sold to SF-III, we are obligated to foreclose upon Vacation Intervals securing defaulted note receivables. Although we are not obligated, we may purchase foreclosed Vacation Intervals for an amount equal to the net fair market value of such Vacation Intervals, which may not be less than fifteen percent of the original acquisition price that the customer paid for the Vacation Interval. For the year ended December 31, 2008, we paid $639,000 to repurchase Vacation Intervals securing defaulted notes receivable to facilitate the re-marketing of those Vacation Intervals. The carrying value of our investment in SF-III was $4.9 million at December 31, 2008, which represents our maximum exposure to loss regarding our investment in SF-III.

Our special purpose entities provide us with additional credit availability under our facilities with our current senior lenders. As we require credit facilities to provide liquidity necessary to fund our costs and expenses, it is vitally important to our liquidity plan to have financing available to us in order to continue to finance the majority of our timeshare sales over seven to ten years.

Income Taxes. For regular federal income tax purposes, we report substantially all of the Vacation Interval sales we finance under the installment method. Under this method, income on sales of Vacation Intervals is not recognized until cash is received, either in the form of a down payment or as installment payments on customer notes receivable. The deferral of income tax liability conserves cash resources on a current basis. Interest is imposed, however, on the amount of tax attributable to the installment payments for the period beginning on the date of sale and ending on the date the payment is received.  If we are not subject to tax in a particular year, no interest is imposed since the interest is based on the amount of tax paid in that year. The consolidated financial statements do not contain an accrual for any interest expense that would be paid on the deferred taxes related to the installment method as the interest expense is not reasonably estimable.  As we expect to fully realize our deferred tax assets, we do not currently have a valuation reserve for deferred taxes.


As of January 1, 2008, we had no unrecognized tax benefits, and as a result, no benefits that would affect the effective income tax rate. We do not anticipate any significant changes related to unrecognized tax benefits in the next 12 months.  As of December 31, 2008, we did not require an accrual for interest and penalties related to unrecognized tax benefits.

In addition, we are subject to current AMT as a result of the deferred income that results from the installment sales treatment. Payment of AMT creates a deferred tax asset in the form of a minimum tax credit, which, unless otherwise limited, reduces the future regular tax liability attributable to Vacation Interval sales. Due to AMT losses in certain years prior to 2003, which offset all AMT income for years prior to 2003, no minimum tax credit exists for years prior to 2003. However, we have paid AMT in subsequent years, and anticipate that we will pay AMT in future periods.

Federal NOLs of $140.6 million existing at December 31, 2008 expire between 2020 and 2021. Realization of the deferred tax assets arising from NOLs is dependent on generating sufficient taxable income prior to the expiration of the loss carryforwards.

Due to a 2002 corporate restructuring, an ownership change within the meaning of Section 382(g) of the Internal Revenue Code (the “Code”) occurred. As a result, a portion of our NOL is subject to an annual limitation for the current and future taxable years. This annual limitation may be increased for any recognized built-in gain to the extent allowed in Section 382(h) of the Code. The current annual limitation of $768,000 represents the value of our stock immediately before the ownership change multiplied by the applicable long-term tax-exempt rate. We believe that $15.0 million of our net operating loss carryforwards as of December 31, 2008 were subject to the Section 382 limitations.

Results of Operations

The following table summarizes key ratios from our consolidated statements of operations for the years ended December 31, 2006, 2007, and 2008:

   
2006
    
2007
    
2008
  
                   
As a percentage of total revenues:
                  
Vacation Interval sales
     90.6 %     92.2 %     97.1 %
Estimated uncollectible revenue
     (15.7 )%     (15.7 )%     (23.9 )%
Net sales
     74.9 %     76.5 %     73.2 %
                         
Interest income
     22.4 %     20.8 %     23.1 %
Management fee income
     0.9 %     1.1 %     1.2 %
Other income
     1.8 %     1.6 %     2.5 %
Total revenues
     100.0 %     100.0 %     100.0 %
                         
As a percentage of Vacation Interval sales:
                        
Cost of Vacation Interval sales
     10.1 %     9.8 %     9.7 %
Sales and marketing
     50.1 %     50.9 %     52.7 %
                         
As a percentage of total revenues:
                        
Operating, general and administrative
     15.6 %     15.3 %     15.6 %
Depreciation
     1.2 %     1.4 %     1.9 %
                         
As a percentage of interest income:
                        
Interest expense and lender fees
     46.8 %     46.4 %     46.8 %

Results of Operations for the Years Ended December 31, 2008 and 2007

Revenues

Revenues for the year ended December 31, 2008 were $264.0 million, representing a $9.0 million, or 3.5%, increase compared to revenues of $255.0 million for the year ended December 31, 2007. As discussed below, the increase is primarily attributable to a $21.2 million increase in Vacation Interval sales and an $8.1 million increase in interest income offset by a $23.0 million increase in estimated uncollectible revenue during the year ended December 31, 2008.


The following table summarizes our Vacation Interval sales for the years ended December 31, 2008 and 2007 (dollars in thousands, except average price):

   
2007
    
2008
  
               
Average
                
Average
  
   
Sales
    
Intervals
    
Price
    
Sales
    
Intervals
    
Price
  
Interval Sales to New Customers
   $ 94,668       9,121     $ 10,379     $ 103,011       9,580     $ 10,753  
Upgrade Interval Sales to Existing Customers
     87,243       9,988       8,735       92,989       9,914       9,380  
Additional Interval Sales to Existing Customers
     53,224       6,273       8,485       60,300       6,233       9,674  
Total
   $ 235,135                     $ 256,300                  

Vacation Interval sales increased 9.0% in 2008 versus 2007 primarily due to a 6.0% increase in tours. The number of interval sales to new customers increased 5.0% and average prices increased 3.6%, which resulted in an 8.8% increase in sales to new customers in 2008 versus 2007. The number of upgrade interval sales to existing customers decreased 0.7% but average prices increased 7.4%, resulting in a 6.6% net increase in upgrade interval sales to existing customers during the year ended December 31, 2008 compared to the year ended December 31, 2007. The number of additional interval sales to existing customers decreased 0.6% but average prices increased 14.0%, resulting in a 13.3% net increase in additional interval sales to existing customers during 2008 versus 2007. Vacation Interval sales to existing customers comprised 59.8% and 59.7% of total Vacation Interval sales in the years ended December 31, 2008 and 2007, respectively, which maintains our favorable sales mix trend toward upgrades and second-week sales to existing customers as such sales have relatively lower associated sales and marketing costs.

On September 13, 2008, Hurricane Ike struck the Texas Coast near our Seaside Resort in Galveston, Texas, causing property damage and business-interruption losses at this resort and, to a lesser extent, our Piney Shores Resort just north of Houston, Texas. Seaside Resort was fully operational by December 12. Piney Shores Resort reopened September 25. We are still assessing the full extent of business-interruption losses related to this hurricane.

Estimated uncollectible revenue, which represents estimated future gross cancellations of notes receivable, was $63.1 million for the year ended December 31, 2008 versus $40.1 million for the year ended December 31, 2007. Our estimated uncollectible revenue as a percentage of Vacation Interval sales was 24.6% for the year 2008 compared to 17.0% for 2007. Our receivables charged off as a percentage of beginning of period gross notes receivable was 15.5% for 2008 compared to 13.1% for the same period of 2007. Since the fourth quarter of 2007, we have increased the provision for estimated uncollectible revenue each successive quarter as follows: 22.0% for the first quarter of 2008, 23.9% for the second quarter of 2008, 24.9% for the third quarter of 2008, and 28.1% for the fourth quarter of 2008. Due to the increased defaults during 2008, our provision for estimated uncollectible revenue has increased to maintain the allowance for uncollectible notes at a level management considers adequate to provide for anticipated losses resulting from customer defaults.  However, there can be no assurance that the percentage of estimated uncollectible revenue will remain at its current level. We review the allowance for uncollectible notes quarterly and make adjustments as necessary.

Interest income increased $8.1million, or 15.2%, to $61.1 million for the year ended December 31, 2008 from $53.0 million for 2007. The increase primarily resulted from a higher average notes receivable balance in 2008 versus the same period of 2007, and an increase in the weighted average yield on our outstanding notes receivable to 16.7% at December 31, 2008 from 16.5% at December 31, 2007.

Management fee income, which consists of management fees collected from the resorts’ management clubs, cannot exceed the management clubs’ net income. Management fee income increased $315,000 to $3.1 million for the year ended December 31, 2008 compared to $2.8 million for the year ended December 31, 2007 primarily due to increased profitability of the resorts’ management clubs.

Other income consists of water park income, marina income, golf course and pro shop income, hotel income, and other miscellaneous items. Other income was $6.5 million for the year ended December 31, 2008 compared to $4.1 million for the year ended December 31, 2007. The increase is primarily attributable to $1.3 million of insurance proceeds we received in November 2008 for business-interruption losses incurred as a result of Hurricane Ike and $1.1 million of income from our water park at The Villages Resort which opened in January 2008.

Cost of Vacation Interval Sales

Under the relative sales value method, cost of sales is estimated as a percentage of net sales using a cost of sales percentage which represents the ratio of total estimated cost, including both costs already incurred plus estimated costs to complete the phase, if any, to total estimated Vacation Interval revenues under the project, including amounts already recognized and estimated future revenues. Common costs, including amenities, are allocated to inventory cost among the phases that those costs are expected to benefit. The estimate of total revenue for a phase considers factors such as trends in uncollectibles, changes in sales mix and unit sales prices, repossessions of Vacation Intervals, effects of upgrade programs, and past and expected future sales programs to sell slow moving inventory units. Cost of Vacation Interval sales remained relatively flat at 9.7% of Vacation Interval sales during 2008 compared to 9.8% during 2007.


Sales and Marketing

Sales and marketing expense as a percentage of Vacation Interval sales increased to 52.7% for the year ended December 31, 2008 versus 50.9% for the comparable prior year period. The $15.4 million increase in sales and marketing expense is attributable to the increased volume of Vacation Interval sales and the higher cost of various marketing efforts to improve the credit quality of our customers. The sales mix remained fairly constant for the year ended December 31, 2008 compared to the same period of 2007 at 59.8% of sales to existing customers in 2008 versus 59.7% of sales to existing customers in 2007.

In accordance with SFAS No. 152, sampler sales and related costs are accounted for as incidental operations, whereby incremental costs in excess of related incremental revenues are charged to expense as incurred. Since our sampler sales primarily function as a marketing program, providing us additional opportunities to sell Vacation Intervals to prospective customers, the incremental costs of our sampler sales typically exceed incremental sampler revenues. Accordingly, $3.7 million and $3.4 million of sampler revenues were recorded as a reduction to sales and marketing expense for the years ended December 31, 2008 and 2007, respectively.

Operating, General and Administrative

Operating, general and administrative expenses as a percentage of total revenues increased to 15.6% in 2008 from 15.3% in 2007. Overall, operating, general and administrative expenses increased by $2.1 million during 2008 as compared to 2007, primarily due to expenses of $1.4 million for our water park at The Villages Resort which opened in January 2008 and an increase in bank fees of $821,000 (resulting from higher credit card processing fees related to increased sales volume), partially offset by a decrease of $473,000 in group insurance. In addition, we accrued $291,000 related to Hurricane Ike in 2008, which represents our insurance deductibles and expenditures deemed uncollectible.  We also wrote off predevelopment costs associated with potential land acquisitions of $1.1 million and $1.0 million for the years ended December 31, 2008 and 2007, respectively.

Depreciation

Depreciation expense as a percentage of total revenues increased to 1.9% in 2008 versus 1.4% in 2007. Overall, depreciation expense increased by $1.4 million during 2008 as compared to 2007 due to capital expenditures of $19.5 million during the year ended December 31, 2008.

Interest Expense and Lender Fees

Interest expense and lender fees as a percentage of interest income increased to 46.8% for the year ended December 31, 2008, compared to 46.4% for the same period of 2007. Overall, interest expense and lender fees increased $3.9 million for 2008 versus 2007 primarily due to a larger average debt balance outstanding during 2008, which was $367.6 million compared to $314.5 million for the prior year period, and to a lesser extent an increase in lender fees related to our SF-VI securitization which closed in the second quarter of 2008. These increases were partially offset by a decrease in our weighted average cost of borrowings to 6.8% for the year ended December 31, 2008 as compared to 7.6% for the year ended December 31, 2007.

Income before Provision for Income Taxes

Income before provision for income taxes decreased to $29.4 million for the year ended December 31, 2008 compared to $45.1 million for the year ended December 31, 2007 as a result of the above-mentioned operating results.

Provision for Income Taxes

Provision for income taxes as a percentage of income before provision for income taxes was 38.9% for the year ended December 31, 2008 compared to 38.6% for 2007. As of January 1, 2008, we had no unrecognized tax benefits, and as a result, no benefits that would affect the effective income tax rate. We do not anticipate any significant changes related to unrecognized tax benefits in the next 12 months. As of December 31, 2008, we did not require an accrual for interest and penalties related to unrecognized tax benefits.


Net Income

Net income was $17.9 million for the year ended December 31, 2008 compared to $27.7 million for the year ended December 31, 2007 as a result of the above-mentioned operating results.

Results of Operations for the Years Ended December 31, 2007 and 2006

Revenues

Revenues for the year ended December 31, 2007 were $255.0 million, representing a $48.1 million, or 23.3% increase, compared to revenues of $206.9 million for the year ended December 31, 2006. As discussed below, the increase is primarily attributable to a $47.7 million increase in Vacation Interval sales during the year 2007.

The following table summarizes our Vacation Interval sales for the years ended December 31, 2007 and 2006 (dollars in thousands, except average price):

   
2006
    
2007
  
               
Average
                
Average
  
   
Sales
    
Intervals
    
Price
    
Sales
    
Intervals
    
Price
  
Interval Sales to New Customers
   $ 82,909       6,557     $ 12,644     $ 94,668       9,121     $ 10,379  
Upgrade Interval Sales to Existing Customers
     72,366       8,777       8,245       87,243       9,988       8,735  
Additional Interval Sales to Existing Customers
     32,206       3,298       9,765       53,224       6,273       8,485  
Total
   $ 187,481                     $ 235,135                  

Vacation Interval sales increased 25.4% in 2007 versus 2006 as a result of increased interval sales to both new and existing customers as a result of an overall growth in customer tours and continued high closing percentages on our sales to both new and existing customers. The number of interval sales to new customers increased 39.1% offset by a decrease in average prices of 17.9% (due to promotional pricing we offered during the third and fourth quarters of 2007 on select products) resulting in a 14.2% increase in sales to new customers in 2007 versus 2006. The number of upgrade interval sales to existing customers increased 13.8% and average prices increased 5.9%, resulting in a 20.6% increase in upgrade interval sales to existing customers during the year ended December 31, 2007 compared to the year ended December 31, 2006. The number of additional interval sales to existing customers increased 90.2% and average prices decreased 13.1% (also due to promotional pricing on additional interval sales) resulting in a 65.3% net increase in additional interval sales to existing customers during 2007 versus 2006.

Estimated uncollectible revenue, which represents estimated future gross cancellations of notes receivable, was $40.1 million for the year ended December 31, 2007 versus $32.5 million for the year ended December 31, 2006. Our estimated uncollectible revenue as a percentage of Vacation Interval sales was 17.0% for the year 2007 compared to 17.3% for 2006. Our receivables charged off as a percentage of beginning of period gross notes receivable was 13.1% for 2007 compared to 12.4% for the same period of 2006. We believe our notes receivable are adequately reserved, however, there can be no assurance that the percentage of estimated uncollectible revenue will remain at its current level.

Interest income increased $6.8 million, or 14.6%, to $53.0 million for the year ended December 31, 2007 from $46.2 million for 2006. The increase primarily resulted from a higher average notes receivable balance in 2007 versus the same period of 2006, and an increase in the weighted average yield on our outstanding notes receivable to 16.5% at December 31, 2007 from 16.0% at December 31, 2006.

Management fee income, which consists of management fees collected from the resorts’ management clubs, cannot exceed the management clubs’ net income. Management fee income increased $945,000 to $2.8 million for the year ended December 31, 2007 compared to $1.9 million for the year ended December 31, 2006, due primarily to increased profitability of the resorts’ management clubs during 2007 versus 2006.

Other income consists of marina income, golf course and pro shop income, hotel income, and other miscellaneous items. Other income was $4.1 million for the year ended December 31, 2007 compared to $3.8 million for the year ended December 31, 2006. The increase is primarily attributable to hotel income of $1.1 million during 2007 versus $522,000 during 2006, offset by gains on sales of land of $242,000 in 2007 compared to $499,000 in 2006.


Cost of Vacation Interval Sales

Under the relative sales value method, cost of sales is estimated as a percentage of net sales using a cost of sales percentage which represents the ratio of total estimated cost, including both costs already incurred plus estimated costs to complete the phase, if any, to total estimated Vacation Interval revenues under the project, including amounts already recognized and estimated future revenues. Common costs, including amenities, are allocated to inventory cost among the phases that those costs are expected to benefit. The estimate of total revenue for a phase considers factors such as trends in uncollectibles, changes in sales mix and unit sales prices, repossessions of Vacation Intervals, effects of upgrade programs, and past and expected future sales programs to sell slow moving inventory units.

Cost of Vacation Interval sales decreased to 9.8% in 2007 compared to 10.1% in 2006. During 2007, cost of sales decreased due to increases in our future relative sales value related to an increase in repossession and resale of timeshare intervals, an increase in expected future sales price on some of our higher-end products, and an increase in our master plan for new units added across our properties as we continue to execute on our long-term growth strategy of adding lodging units, amenities, and other assets to our existing properties. In addition, we experienced an increase in sales of lower cost-basis timeshare intervals during 2007 versus 2006. These increases were partially offset by costs recognized during 2007 related to past construction projects that were terminated as we revamped our master plan during the year.

Sales and Marketing

Sales and marketing expense as a percentage of Vacation Interval sales increased to 50.9% for the year ended December 31, 2007 versus 50.1% for the comparable prior year period. The $25.7 million increase in sales and marketing expense is primarily attributable to our increased volume of Vacation Interval sales as well as increased costs related to new and existing promotional programs used to generate tours. These promotional programs were a primary factor in providing us with a 24.8% growth in tours to potential new purchasers and a 25.4% increase in Vacation Interval sales during the year of 2007 versus 2006.

In accordance with SFAS No. 152, sampler sales and related costs are accounted for as incidental operations, whereby incremental costs in excess of related incremental revenues are charged to expense as incurred. Since our sampler sales primarily function as a marketing program, allowing us additional opportunities to sell Vacation Intervals to prospective customers, the incremental costs of our sampler sales typically exceed incremental sampler revenues. Accordingly, $3.4 million and $2.9 million of sampler revenues were recorded as a reduction to sales and marketing expense for the years ended December 31, 2007 and 2006, respectively.

Operating, General and Administrative

Operating, general and administrative expenses as a percentage of total revenues decreased to 15.3% in 2007 from 15.6% in 2006. Overall, operating, general and administrative expenses increased by $6.8 million during 2007 as compared to 2006, primarily due to an increase in salaries of $2.7 million, a write-off of $1.0 million of predevelopment costs associated with a potential land acquisition that was terminated, an increase in bank fees of $900,000 (resulting from higher credit card processing fees related to increased sales volume), and a $474,000 increase in legal fees.

Depreciation

Depreciation expense as a percentage of total revenues increased to 1.4% in 2007 versus 1.2% in 2006. Overall, depreciation expense was $3.5 million for 2007 compared to $2.5 million for 2006, an increase of $972,000 due to capital expenditures of $17.1 million during the year ended December 31, 2007.

Interest Expense and Lender Fees

Interest expense and lender fees as a percentage of interest income decreased to 46.4% for the year ended December 31, 2007, compared to 46.8% for the same period of 2006.  Overall, interest expense and lender fees increased $2.9 million for 2007 versus 2006 primarily due to a larger average debt balance outstanding during 2007, partially offset by a decrease in our weighted average cost of borrowings to 7.6% for the year ended December 31, 2007 as compared to 7.9% for the year ended December 31, 2006.

Income before Provision for Income Taxes

Income before provision for income taxes increased to $45.1 million for the year ended December 31, 2007 compared to $37.4 million for the year ended December 31, 2006 as a result of the above-mentioned operating results.


Provision for Income Taxes

Provision for income taxes as a percentage of income before provision for income taxes was 38.6% for the year ended December 31, 2007 compared to 38.5% for 2006. As of January 1, 2007, we had no unrecognized tax benefits, and as a result, no benefits that would affect the effective income tax rate. We do not anticipate any significant changes related to unrecognized tax benefits in the next 12 months. As of December 31, 2007, we did not require an accrual for interest and penalties related to unrecognized tax benefits.

Net Income

Net income was $27.7 million for the year ended December 31, 2007 compared to $23.0 million for the year ended December 31, 2006 as a result of the above-mentioned operating results.

Inflation

Inflation and changing prices have not had a material impact on our revenues, operating income, and net income during any of the three most recent fiscal years. However, to the extent inflationary trends affect short-term interest rates, a portion of our debt service costs may be affected as well as the rates we charge on our customer notes receivable.

Recent Accounting Pronouncements

SFAS No. 157 – We adopted the provisions of Statement of Financial Accounting Standards No. 157, “Fair Value Measurements” (“SFAS No. 157”), on January 1, 2008. SFAS No. 157 defines fair value, establishes a market-based framework or hierarchy for measuring fair value, and expands disclosures about fair value measurements. SFAS No. 157 is applicable whenever another accounting pronouncement requires or permits assets and liabilities to be measured at fair value. SFAS No. 157 does not expand or require any new fair value measures. In February 2008, the FASB issued Staff Position (“FSP”) No. 157-2, which deferred its effective date for one year relative to non-financial assets and liabilities that are recognized or disclosed at fair value in the financial statements on a nonrecurring basis. Accordingly, our adoption of this standard in 2008 was limited to financial assets and liabilities, which primarily affected the disclosures for the investment in our SPE and our derivative contracts as shown in Note 13. This adoption did not impact our consolidated financial position, results of operations, or cash flows. The remaining aspects of SFAS No. 157, which will be adopted effective January 1, 2009, apply to our non-financial long-lived assets (land, equipment, buildings, and leasehold improvements) which are measured at fair value based on a periodic impairment assessment. Adoption of the remaining aspects of SFAS No. 157 will result in additional disclosures, however, will not impact our consolidated financial position, results of operations, or cash flows.

SFAS No. 159 – We adopted the provisions of Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”), on January 1, 2008. SFAS No. 159 allows an irrevocable election to measure certain financial assets and financial liabilities at fair value on an instrument-by-instrument basis, with unrealized gains and losses recognized currently in earnings. Under SFAS No. 159, the fair value option may only be elected at the time of initial recognition of a financial asset or financial liability or upon the occurrence of certain specified events. Additionally, SFAS No. 159 provides that application of the fair value option must be based on the fair value of an entire financial asset or financial liability and not selected risks inherent in those assets or liabilities. SFAS No. 159 requires that assets and liabilities which are measured at fair value pursuant to the fair value option be reported in the financial statements in a manner that separates those fair values from the carrying amounts of similar assets and liabilities which are measured using another measurement attribute. SFAS No. 159 also provides expanded disclosure requirements regarding the effects of electing the fair value option on the financial statements. The adoption of SFAS No. 159 did not impact our consolidated financial position, results of operations, or cash flows as we did not elect to measure additional items at fair value under SFAS No. 159.

SFAS No. 141R – In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141 (revised 2007), “Business Combinations” (“SFAS No. 141R”), which changes the accounting for business combinations including the following: i) the measurement of acquirer shares issued in consideration for a business combination, ii) the recognition of contingent consideration, iii) the accounting for preacquisition gain and loss contingencies, iv) the recognition of capitalized in-process research and development, v) the accounting for acquisition-related restructuring cost accruals, vi) the treatment of acquisition related transaction costs, and vii) the recognition of changes in the acquirer’s income tax valuation allowance. SFAS No. 141R is effective prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning after December 15, 2008. Early adoption is not permitted. The adoption of SFAS No. 141(R) as of January 1, 2009 is not expected to impact our consolidated financial position, results of operations, or cash flows as we do not have any planned acquisitions that fall under the definition of a business combination.


SFAS No. 160 – In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, “Noncontrolling Interests in Consolidated Financial Statements” (“SFAS No. 160”). SFAS No. 160 amends Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” and Financial Accounting Standards Board Statement No. 128, “Earnings Per Share.” A noncontrolling interest is defined in SFAS No. 160 as the portion of equity in a subsidiary not attributable, directly or indirectly, to a parent. SFAS No. 160 states that accounting and reporting for minority interests will be recharacterized as noncontrolling interests and classified as a component of equity. SFAS No. 160 applies to all entities that prepare consolidated financial statements, except not-for-profit organizations. SFAS No. 160 is effective prospectively for fiscal years beginning after December 15, 2008. The adoption of SFAS No. 160 as of January 1, 2009 will not impact our consolidated financial position, results of operations, or cash flows as we do not own minority interests in any entities.

SFAS No. 161 – In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS No. 161”). SFAS No. 161 amends and expands the disclosure requirements of Statement of Financial Accounting Standard No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”). Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. Early adoption is encouraged. The adoption of SFAS No. 161 as of January 1, 2009 will not impact our consolidated financial position, results of operations, or cash flows. Disclosures regarding our derivative instruments and hedging activities are included in Note 2 and in disclosures related to interest rate risk and market risk.

SFAS No. 162 – In May 2008, the FASB issued Statement of Financial Accounting Standards No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS No. 162”). SFAS No. 162 identifies the sources of accounting principles and a framework for selecting the principles to be used in preparation of financial statements of nongovernmental entities that are prepared in conformity with generally accepted accounting principles in the United States (“the GAAP hierarchy”). The current GAAP hierarchy is set forth in the AICPA Statement on Auditing Standards No. 69, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles” (“SAS No. 69”). However, the FASB believes the GAAP hierarchy should be directed to entities rather than auditors because the entity is responsible for selecting accounting principles for financial statements that are presented in conformity with GAAP. SFAS No. 162 is effective 60 days following the SEC’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles.” The adoption of SFAS No. 162 will not impact our consolidated financial position, results of operations, or cash flows.

FSP No. 157-3 – In October 2008, the FASB Staff issued an  FSP related to SFAS No. 157, FSP 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset is not Active.” The provisions of FSP 157-3 are effective upon issuance, or October 10, 2008. FSP 157-3 clarifies the application of SFAS No. 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. The adoption of FSP 157-3 did not impact our consolidated financial position, results of operations, or cash flows.

FSP No. FAS 140-4 and FIN 46(R)-8 – In December 2008, the FASB Staff issued an FSP related to SFAS No. 140 and FIN No. 46(R), FSP FAS 140-4 and FIN 46(R)-8, “Disclosures by Public Entities (Enterprises) about Transfers of Financial Assets and Interests in Variable Interest Entities.” The provisions of FSP FAS 140-4 and FIN 46(R)-8 are effective for fiscal periods (quarterly and annually) ending after December 15, 2008. The purpose of this FSP is to require enhanced disclosures by public entities (enterprises) about transfers of financial assets (securitizations) and interests in variable interest entities (consolidations of certain special-purpose investment entities) as part of the FASB’s projects to amend SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities” and FIN No. 46(R), “Consolidation of Variable Interest Entities” (“VIEs”). The adoption of FSP FAS 140-4 and FIN 46(R)-8 did not impact our consolidated financial position, results of operations, or cash flows. Disclosures in accordance with FSP FAS 140-4 and FIN 46(R)-8 have been included herein.

ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

General - Interest on our notes receivable portfolio, senior subordinated debt, capital leases, and miscellaneous notes is fixed, whereas interest on our primary loan agreements, which had a total facility amount of $549.0 million at December 31, 2008, have a fixed-to-floating debt ratio of 38% fixed to 62% floating. However, the majority of our floating-rate debt is subject to interest-rate floors between 5.25% and 8.00%.  The impact of a one-point effective interest rate change on the $223.4 million balance of variable-rate financial instruments at December 31, 2008 would be approximately $432,000 on our results of operations, after taxes, for the year ended December 31, 2008, or approximately $0.01 per diluted share.

At December 31, 2008, the carrying value of our notes receivable portfolio approximates fair value because the weighted average interest rate on the portfolio approximates current interest rates received on similar notes. Our fixed-rate notes receivable are subject to interest rate risk and will decrease in fair value if market rates increase, which may negatively impact our ability to sell our fixed-rate notes in the marketplace. A hypothetical one-point interest rate increase in the marketplace at December 31, 2008 would result in a fair value decrease of approximately $12.8 million on our notes receivable portfolio.


Credit Risk — We are exposed to on-balance-sheet credit risk related to our notes receivable. We are exposed to off-balance-sheet credit risk related to notes sold.

We offer financing to the buyers of Vacation Intervals at our resorts. These buyers generally make a down payment of 10% to 15% of the purchase price and deliver a promissory note to us for the balance. The promissory notes generally bear interest at a fixed rate, are payable over a seven to ten year period, and are secured by a deed of trust on the Vacation Interval. We bear the risk of defaults on these promissory notes. Although we prescreen prospects via credit scoring techniques in the early stages of the marketing and sales process, we generally do not perform a detailed credit history review of our customers. Due to the state of the economy in general, and recent deterioration of the residential real estate market and sub-prime mortgage markets, the risk of Vacation Interval defaults has heightened. Because we use various mass marketing techniques, a certain percentage of our sales are generated from customers who may be considered to have marginal credit quality. During 2008 and 2007, approximately 14.7% and 21.6%, respectively, of our sales were made to customers with FICO® scores below 600. In addition, we have experienced an increase in defaults in our loan portfolio as compared to historical rates. Due to deteriorating economic conditions, there can be no assurance that defaults have stabilized or that they will not increase further. These and other recent adverse changes in the credit markets and related uncertain economic conditions may eliminate or reduce the availability or increase the cost of significant sources of funding for us in the future. We increased our estimated uncollectible revenue as a percentage of Vacation Interval sales to 24.6% for the year ended December 31, 2008 from 17.0% for the comparable period of 2007. However, if default rates for our borrowers were to continue to rise, it may require an additional increase in our estimated uncollectible revenue. We will continue to evaluate our collections process and marketing programs with a view toward establishing procedures aimed at reducing note defaults and improving the credit quality of our customers. However, there can be no assurance that these efforts will be successful.

If a buyer of a Vacation Interval defaults, we generally must foreclose on the Vacation Interval and attempt to resell it; the associated marketing, selling, and administrative costs from the original sale are not recovered; and such costs must be incurred again to resell the Vacation Interval. Although in many cases we may have recourse against a Vacation Interval buyer for the unpaid note balance, certain states have laws that limit our ability to recover personal judgments against customers who have defaulted on their loans. Accordingly, we have generally not pursued this remedy.

Interest Rate Risk — We have historically derived net interest income from our financing activities because the interest rates we charge our customers who finance the purchase of their Vacation Intervals exceed the interest rates we pay to our senior lenders. As 62% of our senior indebtedness bears interest at variable rates and our customer notes receivable bear interest at fixed rates, increases in interest rates will erode the spread in interest rates that we have historically experienced and could cause our interest expense on borrowings to exceed our interest income on our portfolio of customer loans. Although interest rates declined throughout 2008, any increase in interest rates above applicable floor rates, particularly if sustained, could have a material adverse effect on our results of operations, cash flows, and financial position.

To partially offset potential increases in interest rates, we have executed two interest rate swaps related to our conduit loan with SF-II, with fixed rates of 7.04% and 7.90%, for a total notional amount of $2.6 million at December 31, 2008. Such interest rate swaps expire between September 2011 and March 2014. Our variable funding note with SF-IV also acts as an interest rate hedge since it contains a provision for an interest rate cap. The balance outstanding under this line of credit at December 31, 2008 was $70.2 million. Such variable funding note will mature in September 2011.

In addition, the Series 2005-A Notes related to our off-balance-sheet special purpose finance subsidiary, SF-III, with a balance of $17.1 million at December 31, 2008, bear interest at a blended fixed rate of 5.4%.

Availability of Funding Sources — We fund substantially all of our notes receivable, timeshare inventories, and land inventories which we originate or purchase with borrowings through our financing facilities, sales of notes receivable, internally generated funds, and proceeds from public debt and equity offerings. Borrowings are in turn repaid with the proceeds we receive from collections on such notes receivable. To the extent that we are not successful in maintaining or replacing existing financings, we would have to curtail our operations or sell assets, thereby having a material adverse effect on our results of operations, cash flows, and financial position.

Geographic Concentration — Our notes receivable and Vacation Interval inventories are primarily originated in Texas, Missouri, Illinois, Massachusetts, Georgia, and Florida. Risks inherent in such concentrations are:

·
regional and general economic stability, which affects property values and the financial stability of the borrowers, and
·
the continued popularity of our resort destinations, which affects the marketability of our products and the collection of notes receivable.


ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

See the information set forth on Index to Consolidated Financial Statements appearing on page F-1 of this report on Form 10-K.

ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A.
CONTROLS AND PROCEDURES

Management's Report on Internal Control over Financial Reporting

Our disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports that are filed or submitted under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. These disclosure controls and procedures include controls and procedures designed to ensure that information required to be disclosed under the Exchange Act is accumulated and communicated to our management on a timely basis to allow decisions regarding required disclosure. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of December 31, 2008 based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) as well as criteria established in Item 307 of Regulation S-K.

Our internal control over financial reporting includes policies and procedures that (1) pertain to maintenance of records that, in reasonable detail, accurately and fairly reflect transactions and dispositions of assets; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures are being made only in accordance with authorizations of our management and Board of Directors; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of assets that could have a material effect on the financial statements.

Due to its inherent limitations, internal control over financial reporting may not prevent or detect misstatements and, even when determined to be effective, can only provide reasonable, not absolute, assurance with respect to financial statement preparation and presentation. Projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate as a result of changes in conditions or deterioration in the degree of compliance.

Based upon our evaluation of the effectiveness and design of our disclosure controls and procedures as of December 31, 2008, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.  The results of management's assessment were reviewed with the Audit Committee of our Board of Directors.

This annual report does not include an attestation report of our independent registered public accounting firm regarding internal control over financial reporting.  Management’s report was not subject to attestation by our independent registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit us to provide only management’s report in this annual report.

Changes in Internal Control over Financial Reporting

During the fourth quarter of 2008, there were no changes in our internal control over financial reporting that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


ITEM 9B.
OTHER INFORMATION

None.

PART III

MANAGEMENT

ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE

The required information is incorporated by reference from our Proxy Statement to be filed with respect to the Annual Meeting of Shareholders to be held on May 7, 2009.

The following table sets forth certain information concerning each person who was a director or executive officer of the Company as of December 31, 2008.

Name
Age
Position
     
Robert E. Mead
62
Chairman of the Board and Chief Executive Officer
Sharon K. Brayfield
48
President
David T. O'Connor
66
Senior Executive Vice President — Sales
Joe W. Conner
51
Chief Operating Officer
Robert M. Sinnott
43
Chief Financial Officer
Harry J. White, Jr.
54
Vice President - Treasurer
Michael D. Jones
42
Chief Information Officer
Edward L. Lahart
44
Executive Vice President — Operations
Thomas J. Morris
43
Executive Vice President — Capital Markets & Strategic Planning
Sandra G. Cearley
47
Corporate Secretary
James B. Francis, Jr.
60
Director
J. Richard Budd
56
Director
Herbert B. Hirsch
72
Director
Rebecca Janet Whitmore
54
Director
____________________

Effective February 4, 2008, the Company’s Board of Directors elected Robert M. Sinnott as Chief Financial Officer. Mr. Sinnott succeeded Harry J. White, Jr., who served as Chief Financial Officer since June 1998. Mr. White then served as Chief Accounting Officer from February 2008 to May 2008, at which time our Board of Directors elected him as Vice President - Treasurer.

The following table sets forth certain information concerning other officers of the Company as of December 31, 2008.

Name
Age
Position
     
Robert G. Levy
60
Vice President — Resort Operations
Darla K. Cordova
44
Vice President — Sales Administration
Herman Jay Hankamer
69
Vice President — Resort Development
Barbara L. Lewis
44
Vice President — Financial Services
Michael P. Lowrey
50
Vice President — Call Center Operations
Phillip B. Davis
38
Vice President — Finance
Ginger M. Ford
41
Vice President — ­­­Owner Marketing
Allen G. Jowers
37
Vice President — ­­­Sales
Jeremy T. Brayfield
29
Vice President — ­­­Sales
____________________

ITEM 11.
EXECUTIVE COMPENSATION

The required information is incorporated by reference from our Proxy Statement to be filed with respect to the Annual Meeting of Shareholders to be held on May 7, 2009.


ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Equity Compensation Plan Information

The following table sets forth information about our equity compensation plans as of December 31, 2008:

Plan Category
  
Number of Securities to be Issued Upon Exercise of Outstanding Options, Warrants, and Rights
    
Weighted Average Exercise Price of Outstanding Options, Warrants, and Rights
    
Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans
  
Equity Compensation Plans Approved by Security Holders
     3,790,307     $ 1.60       59  
                         
Equity Compensation Plans Not  Approved by Security Holders
     —       —       —  
                         
Total
     3,790,307     $ 1.60       59  

On July 29, 2008, our shareholders approved our 2008 Stock Option Plan, which reserved for issuance up to two million shares of our common stock as either incentive or nonqualified stock options to our directors, officers, and key employees. In August 2008, we granted 1,925,000 stock options under this plan of which 300,000 were nonqualified stock options granted to our directors and 1,625,000 were incentive stock options granted to certain officers and key employees. In September 2008, we granted the remaining 75,000 stock options that were reserved for issuance to certain officers and key employees as incentive stock options. The options granted to our officers and key employees will vest in equal increments over a five-year period. The options granted to our directors will vest in equal increments over a four-year period.

Issuer Purchases of Equity Securities

On July 29, 2008, we authorized the repurchase of up to two million shares of our common stock to be acquired from time to time in the open market or in negotiated transactions. This stock repurchase program expires in July 2010 or upon the purchase of an aggregate of 2,000,000 shares of our common stock. In the third quarter of 2008, we acquired 56,211 outstanding shares of common stock, which we reclassified as treasury stock, for $108,000. However, in the fourth quarter of 2008, 115,000 stock options were exercised and 56,211 shares of treasury stock were reissued in these transactions. We did not repurchase any treasury shares during the fourth quarter of 2008. As of December 31, 2008, 1,943,789 shares may yet be repurchased under this program.

Security Ownership of Certain Beneficial Owners and Management

The required information is incorporated by reference from our Proxy Statement to be filed with respect to the Annual Meeting of Shareholders to be held on May 7, 2009.

ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

The required information is incorporated by reference from our Proxy Statement to be filed with respect to the Annual Meeting of Shareholders to be held on May 7, 2009.

ITEM 14.
PRINCIPAL ACCOUNTANT FEES AND SERVICES

The required information is incorporated by reference from our Proxy Statement to be filed with respect to the Annual Meeting of Shareholders to be held on May 7, 2009.
 

PART IV

ITEM 15.
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

 
(a)
The following documents are filed as part of this report:

Exhibit
Number
  
Description
         
3.1
    
—
Third Amended and Restated Articles of Incorporation of the Registrant dated December 17, 2003 (incorporated by reference to Exhibit 3.1 to Registrant's Form 8-K filed December 29, 2003).
3.2
    
—
Articles of Correction dated February 9, 2004 to Articles of Incorporation of the Registrant (incorporated by reference to Exhibit 3.2 of Registrant’s Form 10-K for year ended December 31, 2003).
3.3
    
—
Third Amended and Restated Bylaws of Silverleaf Resorts, Inc. (incorporated by reference to Exhibit 3.1 to Registrant’s Form 8-K dated November 14, 2007).
3.4
    
—
Amended and Restated Certificate of Incorporation of Silverleaf Finance II, Inc. dated December 23, 2003 (incorporated by reference to Exhibit 3.2 to Registrant's Form 8-K filed December 29, 2003).
4.1
    
—
Form of Stock Certificate of Registrant (incorporated by reference to Exhibit 4.1 to Amendment No. 1 dated May 16, 1997 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
4.2
    
—
Indenture dated June 7, 2004 by and among the Registrant, the Subsidiary Guarantors, and Wells Fargo Bank, National Association for the Registrant’s 8% Senior Subordinated Notes due 2010 (incorporated by reference to Exhibit 4.1 of Registrant’s Form 10-Q for the quarter ended June 30, 2004).
4.3
    
—
Certificate No. 001 dated June 7, 2004 of 8% Senior Subordinated Notes due 2010 (incorporated by reference to Exhibit 4.2 of Registrant’s Form 10-Q for the quarter ended June 30, 2004).
4.4
    
—
Subsidiary Guarantee dated June 7, 2004 by Awards Verification Center, Inc., Silverleaf Travel, Inc., Silverleaf Resort Acquisition, Inc.,  Bull’s Eye Marketing, Inc., Silverleaf Berkshires, Inc., eStarCommunications, Inc., People Really Win Sweepstakes, Inc., and SLR Research, Inc. (incorporated by reference to Exhibit 4.3 of Registrant’s Form 10-Q for the quarter ended June 30, 2004).
9.1
    
—
Voting Trust Agreement dated November 1, 1999 between Robert E. Mead and Judith F. Mead (incorporated by reference to Exhibit 9.1 of the Registrant’s Form 10-K for the year ended December 31, 1999).
10.1
    
—
Form of Registration Rights Agreement between Registrant and Robert E. Mead (incorporated by reference to Exhibit 10.1 to Amendment No. 1 dated May 16, 1997 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
10.2
    
—
Form of Indemnification Agreement (between Registrant and all officers, directors, and proposed directors) (incorporated by reference to Exhibit 10.18 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
10.3
    
—
Silverleaf Club Agreement between the Silverleaf Club and the resort clubs named therein (incorporated by reference to Exhibit 10.4 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
10.4
    
—
First Amendment to Silverleaf Club Agreement, dated March 28, 1990, among Silverleaf Club, Ozark Mountain Resort Club, Holiday Hills Resort Club, the Holly Lake Club, The Villages Condoshare Association, The Villages Club, Piney Shores Club, and Hill Country Resort Condoshare Club (incorporated by reference to Exhibit 10.22 to Amendment No. 1 dated May 16, 1997 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
10.5
    
—
Management Agreement between Registrant and the Silverleaf Club (incorporated by reference to Exhibit 10.5 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
10.6
    
—
First Amendment to Management Agreement, dated January 1, 1993, between Master Endless Escape Club and Ascension Resorts, Ltd. (incorporated by reference to Exhibit 10.23 to Amendment No. 1 dated May 16, 1997 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
10.7
    
—
Second Amendment to Management Agreement, dated December 31, 1997, between Silverleaf Club and Registrant (incorporated by reference to Exhibit 10.33 to Registrant’s Annual Report on Form 10-K for year Ended December 31, 1997).
10.8
    
—
Eighth Amendment to Management Agreement, dated March 9, 1999, between the Registrant and the Silverleaf Club (incorporated by reference to Exhibit 10.47 to Registrant's Form 10-K for the year ended December 31, 1999).
10.9
    
—
Ninth Amendment to Management Agreement dated September 27, 2002 between the Registrant and Silverleaf Club (incorporated by reference to Exhibit 10.1 to Registrant’s Form 10-Q for quarter dated September 30, 2002).
10.10
    
—
Tenth Amendment to Management Agreement dated September 6, 2007 between the Registrant and Silverleaf Club (incorporated by reference to Exhibit 10.62 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.11
    
—
Resort Affiliation and Owners Association Agreement between the Registrant, RCI, LLC, and Hill Country Resort Condoshare Club, dated July 29, 1995 (similar agreements for all other Existing Owned Resorts) (incorporated by reference to Exhibit 10.19 to Registrant's Registration Statement on Form S-1, File No. 333-24273).
10.12
    
—
Resort Affiliation and Owners Association Agreement dated October 18, 2007 between the Registrant, Orlando Breeze Resort Club and RCI, LLC (incorporated by reference to Exhibit 10.56 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.13
    
—
Master Club Agreement, dated November 13, 1997, between Master Club and Fox River Resort Club (incorporated by reference to Exhibit 10.43 to Registrant’s Annual Report on Form 10-K for year ended December 31, 1997).
10.14
    
—
Silverleaf Club Agreement dated September 25, 1997, between Registrant and Timber Creek Resort Club (incorporated by reference to Exhibit 10.13 to Registrant's Form 10-Q for quarter ended September 30, 1997).
10.15
    
—
Silverleaf Club Agreement, dated January 5, 1998, between Silverleaf Club and Oak N' Spruce Resort Club (incorporated by reference to Exhibit 10.34 to Registrant’s Annual Report on Form 10-K for year ended December 31, 1997).
10.16
    
—
Management Agreement dated October 13, 1998, by and between the Registrant and Eagle Greens, Ltd. (incorporated by reference to Exhibit 10.6 to Registrant’s Form 10-Q for quarter ended September 30, 1998).
10.17
    
—
Developer Transfer Agreement dated as of December 19, 2003 between the Registrant and Silverleaf Finance II, Inc. (incorporated by reference to Exhibit 10.1 of Registrant’s Form 8-K filed on December 29, 2003).
10.18
    
—
Amendment No. 1 dated as of March 28, 2005 to Developer Transfer Agreement between the Registrant and Silverleaf Finance II, Inc. (incorporated by reference to Exhibit 10.1 to Registrant's Form 8-K filed on March 31, 2005).

 
10.19
    
—
Loan and Security Agreement dated as of December 19, 2003 between Silverleaf Finance II, Inc. and Textron Financial Corporation (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on December 29, 2003).
10.20
    
—
Amendment No. 1 dated as of March 28, 2005 to Loan and Security Agreement between the Registrant and Textron Financial Corporation (incorporated by reference to Exhibit 10.2 to Registrant's Form 8-K filed on March 31, 2005).
10.21
    
—
Defined Terms to Transfer Agreement and Loan and Security Agreement dated as of December 19, 2003 between Silverleaf Finance II, Inc. and Textron Financial Corporation (incorporated by reference to Exhibit 10.3 to Registrant’s Form 8-K filed on December 29, 2003).
10.22
    
—
2003 Stock Option Plan of the Registrant (incorporated by reference to Exhibit 10.55 to Registrant's Form 10-K for year ended December 31, 2003).
10.23
    
—
2008 Stock Option Plan of the Registrant (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on July 31, 2008).
10.24
    
—
Form of Services Agreements dated as of March 8, 2005 between the Registrant and the Purchasers of the water utilities and waste water facilities at the Registrant’s resorts in Texas, Missouri and Illinois (incorporated by reference to Exhibit 10.10 to Registrant's Form 8-K filed on March 16, 2005).
10.25
    
—
Receivables Loan and Security Agreement between the Registrant and CapitalSource Finance LLC dated as of April 29, 2005 (incorporated by reference to Exhibit 10.2 to Registrant's Form 8-K filed on May 5, 2005).
10.26
    
—
First Amendment to Receivables Loan and Security Agreement dated as of April 28, 2006 between CapitalSource Finance LLC and the Registrant (incorporated by reference to Registrant’s Exhibit 10.7 to Form 10-Q for the period ended March 31, 2006).
10.27
    
—
Third Amendment to Receivables Loan and Security Agreement dated as of April 1, 2008 between the Registrant and CapitalSource Finance LLC (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on April 7, 2008).
10.28
    
—
Fourth Amendment to Receivables Loan and Security Agreement dated as of June 4, 2008 between the Registrant and CapitalSource Finance LLC (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on June 11, 2008).
10.29
    
—
Amended and Restated Inventory Loan and Security Agreement dated as of April 28, 2006 between CapitalSource Finance LLC and the Registrant (incorporated by reference to Registrant’s Exhibit 10.8 to Form 10-Q for the period ended March 31, 2006).
10.30
    
—
First Amendment to Amended and Restated Inventory Loan and Security Agreement dated as of June 4, 2008 between the Registrant and CapitalSource Finance LLC (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed June 11, 2008).
10.31
    
—
Indenture dated as of July 1, 2005 between Silverleaf Finance III, LLC, the Registrant and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.1 to Registrant's Form 8-K filed on July 28, 2005).
10.32
    
—
First Supplement to Indenture dated as of February 8, 2006 between the Registrant, Silverleaf Finance III, LLC and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.1 to Registrant’s Form 10-Q for the period ended June 30, 2006).
10.33
    
—
Second Supplement to Indenture dated as of July 14, 2006 between the Registrant, Silverleaf Finance III, LLC and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.2 to Registrant’s Form 10-Q for the period ended June 30, 2006).
10.34
    
—
Standard Definitions to Indenture and Transfer Agreement (incorporated by reference to Exhibit 10.2 to Registrant's Form 8-K filed on July 28, 2005).
10.35
    
—
Transfer Agreement dated as of July 1, 2005 between the Registrant and Silverleaf Finance III, LLC (incorporated by reference to Exhibit 10.3 to Registrant's Form 8-K filed on July 28, 2005).
10.36
    
—
Loan and Security Agreement--Receivables between the Registrant and Well Fargo Foothill, Inc. dated as of December 16, 2005 (incorporated by reference to Exhibit 10.2 to Registrant's Form 8-K filed on December 23, 2005).
10.37
    
—
First Amendment to Loan and Security Agreement-Receivables dated as of October 6, 2006, between the Registrant and Wells Fargo Foothill, Inc. (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on October 6, 2006).
10.38
    
—
Letter Modification Agreement to Loan and Security Agreement-Receivables dated as of March 1, 2007, between the Registrant and Wells Fargo Foothill, Inc. (incorporated by reference to Exhibit 10.62 to Registrant’s Form 10-K for year ended December 31, 2006).
10.39
    
—
Second Amendment to Loan and Security Agreement-Receivables dated June 4, 2008 between the Registrant and Wells Fargo Foothill, Inc. (incorporated by reference to Exhibit 10.6 to Registrant’s Form 8-K filed on June 10, 2008).
10.40
    
—
Third Amendment to Loan and Security Agreement – Receivables dated as of September 18, 2008 between the Registrant and Wells Fargo Foothill, Inc. (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on September 23, 2008).
10.41
    
—
Indenture dated as of March 2, 2006 by and among Silverleaf Finance IV, LLC, UBS Real Estate Securities Inc. and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on March 8, 2006).
10.42
    
—
First Supplement to Indenture dated as of December 22, 2006 by and among Silverleaf Finance IV, LLC, UBS Real Estate Securities Inc. and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on December 29, 2006).
10.43
    
—
Second Supplement to Indenture dated as of September 12, 2007, by and among Silverleaf Finance IV, LLC, UBS Real Estate Securities Inc. and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.1 of Registrant’s Form 10-Q for the quarter ended September 30, 2007).
10.44
    
—
Amended and Restated Sale and Servicing Agreement dated as of December 22, 2006 between the Registrant, Silverleaf Finance IV, LLC and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on December 29, 2006).
10.45
    
—
First Amendment to Amended and Restated Sale and Servicing Agreement dated as of September 12, 2007, by and among Silverleaf Finance IV, LLC, Silverleaf Resorts, Inc. and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.2 of Registrant’s Form 10-Q for the quarter ended September 30, 2007).
10.46
    
—
Annex A—Amended and Restated Defined Terms to Indenture and Amended and Restated Sale and Servicing Agreement dated as of December 22, 2006 (incorporated by reference to Exhibit 10.3 to Registrant’s Form 8-K filed on December 29, 2006).
10.47
    
—
Indenture dated as of August 1, 2006 between the Registrant, Silverleaf Finance V, L.P., Silverleaf Finance V, LLC and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.1 of Registrant’s Form 8-K filed on August 31, 2006).

 
10.48
    
—
Standard Definitions to Indenture and Transfer Agreement (incorporated by reference to Exhibit 10.2 of Registrant’s Form 8-K filed on August 31, 2006).
10.49
    
—
Transfer Agreement dated as of August 1, 2006 between the Registrant and Silverleaf Finance V, L.P. (incorporated by reference to Exhibit 10.3 of Registrant’s Form 8-K filed on August 31, 2006).
10.50
    
—
Loan Sale Agreement dated as of August 1, 2006 between the Registrant and Silverleaf Finance V, L.P. (incorporated by reference to Exhibit 10.4 of Registrant’s Form 8-K filed on August 31, 2006).
10.51
    
—
Consolidated, Amended and Restated Loan and Security Agreement dated as of February 21, 2007 between the Registrant and Textron Financial Corporation (incorporated by reference to Exhibit 10.61 to Registrant’s Form 10-K for year ended December 31, 2006).
10.52
    
—
Amendment to Consolidated, Amended and Restated Loan and Security Agreement dated October 31, 2007 between the Registrant and Textron Financial Corporation (incorporated by reference to Exhibit 10.59 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.53
    
—
Second Amendment to Consolidated, Amended and Restated Loan and Security Agreement and Loan Documents dated as of May 20, 2008 between the Registrant and Textron Financial Corporation (incorporated by reference to Exhibit 10.5 to Registrant’s Form 8-K filed on June 10, 2008).
10.54
    
—
Loan and Security Agreement dated September 28, 2007 between the Registrant and Liberty Bank (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on October 4, 2007).
10.55
    
—
Letter Agreement dated November 15, 2007 to Loan and Security Agreement between the Registrant and Liberty Bank (incorporated by reference to Exhibit 10.61 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.56
    
—
First Amendment to Loan and Security Agreement dated as of July 2, 2008 between the Registrant and Liberty Bank (incorporated by reference to Registrant’s Form 8-K filed on July 8, 2008).
10.57
    
—
Indenture dated as of June 1, 2008 between the Registrant, Silverleaf Finance VI, LLC, and Wells Fargo Bank, National Association (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on June 10, 2008).
10.58
    
—
Standard Definitions to Indenture (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on June 10, 2008).
10.59
    
—
Transfer Agreement dated as of June 1, 2008 between the Registrant and Silverleaf Finance VI, LLC (incorporated by reference to Exhibit 10.3 to Registrant’s Form 8-K filed on June 10, 2008).
10.60
    
—
Loan Sale Agreement dated as of June 1, 2008 between the Registrant, Silverleaf Finance IV, LLC, and Silverleaf Finance VI, LLC (incorporated by reference to Exhibit 10.4 to Registrant’s Form 8-K filed on June 10, 2008).
10.61
    
—
Employment Agreement dated March 8, 2007 between the Registrant and Sharon K. Brayfield (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on March 12, 2007).
10.62
    
—
Employment Agreement dated March 8, 2007 between the Registrant and Harry J. White, Jr. (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on March 12, 2007).
10.63
    
—
Amendment No. 1 to Employment Agreement dated February 4, 2008 between the Registrant and Harry J. White, Jr. (incorporated by reference to Exhibit 10.2 of Registrant’s Form 8-K filed on February 6, 2008).
10.64
    
—
Employment Agreement dated March 8, 2007 between the Registrant and Joe W. Conner (incorporated by reference to Exhibit 10.3 to Registrant’s Form 8-K filed on March 12, 2007).
10.65
    
—
Employment Agreement dated March 8, 2007 between the Registrant and David T. O’Connor (incorporated by reference to Exhibit 10.4 to Registrant’s Form 8-K filed on March 12, 2007).
10.66
    
—
Employment Agreement dated February 4, 2008 between the Registrant and Robert M. Sinnott (incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed on February 6, 2008).
10.67
    
—
Employment Agreement dated March 4, 2008 between the Registrant and Thomas J. Morris (incorporated by reference to Exhibit 10.2 to Registrant’s Form 8-K filed on April 1, 2008).
10.68
    
—
Contract of Sale dated July 24, 2007 by and between J. W. Kelly’s Enterprises, Inc., James W. Kelly and Dorothy H. Kelly and James J. Oestreich, as assigned pursuant to the Assignment Of Contract Rights dated August 1, 2007 between James J. Oestreich and Silverleaf Resorts, Inc. (incorporated by reference to Exhibit 10.4 of Registrant’s Form 10-Q for the quarter ended September 30, 2007).
10.69
    
—
Contract of Sale dated July 24, 2007 among J. W. Kelly’s Enterprises, Inc., James W. Kelly and Dorothy H. Kelly and James J. Oestreich, as assigned pursuant to the Assignment Of Contract Rights dated August 1, 2007 between James J. Oestreich and Silverleaf Resorts, Inc. (incorporated by reference to Exhibit 10.4 of Registrant’s Form 10-Q for the quarter ended September 30, 2007).
10.70
    
—
Contract of Sale dated May 1, 2006 between the Registrant and Summit at Winter Park Land Co., LLC (incorporated by reference to Exhibit 10.63 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.71
    
—
Amendment to Contract of Sale dated June 26, 2006 between the Registrant and Summit at Winter Park Land Co., LLC (incorporated by reference to Exhibit 10.64 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.72
    
—
Second Amendment to Contract of Sale dated February 23, 2007 between the Registrant and Summit at Winter Park Land Co., LLC (incorporated by reference to Exhibit 10.65 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.73
    
—
Third Amendment to Contract of Sale dated March 1, 2007 between the Registrant and Summit at Winter Park Land Co., LLC (incorporated by reference to Exhibit 10.66 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.74
    
—
Fourth Amendment to Contract of Sale dated April 26, 2007 between the Registrant and Summit at Winter Park Land Co., LLC (incorporated by reference to Exhibit 10.67 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.75
    
—
Fifth Amendment to Contract of Sale dated May 10, 2007 between the Registrant and Summit at Winter Park Land Co., LLC (incorporated by reference to Exhibit 10.68 to Registrant’s Form 10-K for the year ended December 31, 2007).
10.76
    
—
Sixth Amendment to Contract of Sale dated September 6, 2007 between the Registrant and Summit at Winter Park Land Co., LLC (incorporated by reference to Exhibit 10.69 to Registrant’s Form 10-K for the year ended December 31, 2007).
   
—
Computation of Ratio of Earnings to Fixed Charges.
14.1
    
—
Code of Ethics adopted by the Registrant on December 16, 2003 (incorporated by reference to Exhibit 14.1  to Registrant's Form 10-K for year ended December 31, 2003).
   
—
Subsidiaries of Silverleaf Resorts, Inc.
   
—
Consent of BDO Seidman, LLP.
   
—
Certification of Chief Executive Officer Pursuant to Rule 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 
   
—
Certification of Chief Financial Officer Pursuant to Rule 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
—
Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
   
—
Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
*filed herewith

(b)
The exhibits required by Item 601 of Regulation S-K have been listed in Item 15(a) above. The exhibits listed in Item 15(a) above are either (a) filed with this report, or (b) have previously been filed with the SEC and are incorporated herein by reference to the particular previous filing.

(c)
Financial Statement Schedules

None. Schedules are omitted because of the absence of the conditions under which they are required or because the information required by such omitted schedules is set forth in the consolidated financial statements or the notes thereto.


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 in the City of Dallas, State of Texas, on March 10, 2009.

 
SILVERLEAF RESORTS, INC.
     
 
By:
/s/ ROBERT E. MEAD
 
Name:
Robert E. Mead
 
Title:
Chairman of the Board and
   
Chief Executive Officer

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, this report has been signed below on behalf of the Registrant in the capacities and on the dates indicated.

Signature
  
Title
  
Date
         
/s/ ROBERT E. MEAD
   Chairman of the Board and Chief Executive Officer (Principal Executive Officer)  
March 10, 2009
Robert E. Mead
      
         
/s/ ROBERT M. SINNOTT
  
Chief Financial Officer
  
March 10, 2009
Robert M. Sinnott
        
         
/s/ J. RICHARD BUDD
  
Director
  
March 10, 2009
J. Richard Budd
        
         
/s/ JAMES B. FRANCIS, JR.
  
Director
  
March 10, 2009
James B. Francis, Jr.
        
         
/s/ HERBERT B. HIRSCH
  
Director
  
March 10, 2009
Herbert B. Hirsch
        
         
/s/ REBECCA JANET WHITMORE
  
Director
  
March 10, 2009
Rebecca Janet Whitmore
        


INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 
Page
   
Report of Independent Registered Public Accounting Firm
F-2
   
Financial Statements
  
   
Consolidated Balance Sheets as of December 31, 2007 and 2008
F-3
   
Consolidated Statements of Operations for the years ended December 31, 2006, 2007, and 2008..
F-4
   
Consolidated Statements of Shareholders' Equity for the years ended December 31, 2006, 2007, and 2008
F-5
   
Consolidated Statements of Cash Flows for the years ended December 31, 2006, 2007, and 2008
F-6
   
Notes to Consolidated Financial Statements
F-7


REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Shareholders of
Silverleaf Resorts, Inc.
Dallas, Texas

We have audited the accompanying consolidated balance sheets of Silverleaf Resorts, Inc. (the “Company”) as of December 31, 2008 and 2007 and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2008. These financial statements are the responsibility of the Company’s management.  Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.  The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting.  Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.  An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Silverleaf Resorts, Inc. at December 31, 2008 and 2007, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2008, in conformity with accounting principles generally accepted in the United States of America.


/s/ BDO Seidman, LLP
Dallas, Texas
March 10, 2009


SILVERLEAF RESORTS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)

   
December 31,
  
ASSETS
  
2007
    
2008
  
             
             
Cash and cash equivalents
   $ 13,170     $ 11,431  
Restricted cash
     12,816       22,623  
Notes receivable, net of allowance for uncollectible notes of $69,128 and $76,696, respectively
     289,907       320,306  
Accrued interest receivable
     3,744       4,154  
Investment in special purpose entity
     7,315       4,908  
Amounts due from affiliates
     1,358       1,738  
Inventories
     179,188       190,318  
Land, equipment, buildings, and leasehold improvements, net
     41,565       55,393  
Land held for sale
     509       509  
Prepaid and other assets
     31,487       33,442  
                 
TOTAL ASSETS
   $ 581,059     $ 644,822  
                 
                 
LIABILITIES AND SHAREHOLDERS' EQUITY
                
                 
LIABILITIES
                
Accounts payable and accrued expenses
   $ 21,071     $ 12,701  
Accrued interest payable
     2,470       2,380  
Unearned Vacation Interval sales
     296       —  
Unearned samplers
     6,921       6,247  
Income taxes payable
     782       1,942  
Deferred income taxes
     30,463       35,114  
Notes payable and capital lease obligations
     316,198       369,071  
Senior subordinated notes
     26,817       23,121  
                 
Total Liabilities
     405,018       450,576  
                 
COMMITMENTS AND CONTINGENCIES (Note 9)
                
                 
SHAREHOLDERS' EQUITY
                
Preferred stock, 10,000,000 shares authorized, none issued and outstanding
     —       —  
Common stock, par value $0.01 per share, 100,000,000 shares authorized, 37,818,154 and 38,146,943 shares issued and outstanding at December 31, 2007 and 2008, respectively
     378       381  
Additional paid-in capital
     112,700       112,976  
Retained earnings
     62,963       80,889  
                 
Total Shareholders' Equity
     176,041       194,246  
                 
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY
   $ 581,059     $ 644,822  

The accompanying notes are an integral part of these consolidated financial statements.


SILVERLEAF RESORTS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share amounts)

   
Year Ended December 31,
  
   
2006
    
2007
    
2008
  
                   
Revenues:
                  
Vacation Interval sales
   $ 187,481     $ 235,135     $ 256,300  
Estimated uncollectible revenue
     (32,491 )     (40,071 )     (63,051 )
Net sales
     154,990       195,064       193,249  
                         
Interest income
     46,248       53,019       61,077  
Management fee income
     1,861       2,806       3,121  
Other income
     3,785       4,141       6,515  
Total revenues
     206,884       255,030       263,962  
                         
Costs and Operating Expenses:
                        
Cost of Vacation Interval sales
     19,003       23,027       24,903  
Sales and marketing
     93,957       119,679       135,059  
Operating, general and administrative
     32,315       39,101       41,154  
Depreciation
     2,539       3,511       4,929  
Interest expense and lender fees:
                        
Related to receivables-based credit facilities
     17,550       19,285       22,213  
Related to other indebtedness
     4,112       5,325       6,341  
Total costs and operating expenses
     169,476       209,928       234,599  
                         
Income before provision for income taxes
     37,408       45,102       29,363  
Provision for income taxes
     14,402       17,398       11,437  
                         
Net Income
   $ 23,006     $ 27,704     $ 17,926  
                         
Basic net income per share
   $ 0.61     $ 0.73     $ 0.47  
                         
Diluted net income per share
   $ 0.59     $ 0.70     $ 0.46  
                         
Weighted average basic common shares outstanding
     37,579,462       37,811,387       38,037,635  
                         
Weighted average diluted common shares outstanding
     39,261,652       39,417,017       38,897,619  

The accompanying notes are an integral part of these consolidated financial statements.


SILVERLEAF RESORTS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(in thousands, except share amounts)

   
Common Stock
                                
   
Number of
    
$ 0.01
    
Additional
                          
   
Shares
    
Par
    
Paid-in
    
Retained
    
Treasury Stock
        
   
Issued
    
Value
    
Capital
    
Earnings
    
Shares
    
Cost
    
Total
  
                                             
January 1, 2006
     37,494,304     $ 375     $ 112,207     $ 12,253       —     $ —     $ 124,835  
                                                         
Stock-based compensation
     —       —       252       —       —       —       252  
Exercise of stock options
     313,850       3       96       —       —       —       99  
Net income
     —       —       —       23,006       —       —       23,006  
                                                         
December 31, 2006
     37,808,154       378       112,555       35,259       —       —       148,192  
                                                         
Stock-based compensation
     —       —       142       —       —       —       142  
Exercise of stock options
     10,000       —       3       —       —       —       3  
Net income
     —       —       —       27,704       —       —       27,704  
                                                         
December 31, 2007
     37,818,154       378       112,700       62,963       —       —       176,041  

Stock-based compensation
     —       —       272       —       —       —       272  
Purchases of treasury shares
     —       —       —       —       56,211       (108 )     (108 )
Exercise of stock options
     328,789       3       4       —       (56,211 )     108       115  
Net income
     —       —       —       17,926       —       —       17,926  
                                                         
December 31, 2008
     38,146,943     $ 381     $ 112,976     $ 80,889       —     $ —     $ 194,246  

The accompanying notes are an integral part of these consolidated financial statements.


SILVERLEAF RESORTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

   
Year Ended December 31,
  
   
2006
    
2007
    
2008
  
                   
                   
OPERATING ACTIVITIES:
                  
Net income
   $ 23,006     $ 27,704     $ 17,926  
Adjustments to reconcile net income to net cash used in operating activities:
                        
Estimated uncollectible revenue
     32,491       40,071       63,051  
Deferred income taxes
     9,198       12,780       4,651  
Depreciation
     2,539       3,511       4,929  
Debt discount amortization
     —       —       2,180  
Gain on sale of land held for sale
     (499 )     (242 )     —  
Stock-based compensation
     252       142       272  
Cash effect from changes in operating assets and liabilities:
                        
Restricted cash
     (663 )     1,547       (1,942 )
Notes receivable
     (96,422 )     (100,261 )     (93,450 )
Accrued interest receivable
     (693 )     (808 )     (410 )
Investment in special purpose entity
     9,794       5,693       2,407  
Amounts due from affiliates
     (869 )     (353 )     (380 )
Inventories
     (18,376 )     (31,429 )     (11,130 )
Prepaid and other assets
     (10,310 )     (7,398 )     (1,955 )
Accounts payable and accrued expenses
     4,636       6,879       (7,590 )
Accrued interest payable
     438       678       (90 )
Unearned Vacation Interval sales
     —       296       (296 )
Unearned samplers
     935       676       (674 )
Income taxes payable
     (1,105 )     619       1,160  
Net cash used in operating activities
     (45,648 )     (39,895 )     (21,341 )
                         
INVESTING ACTIVITIES:
                        
Purchases of land, equipment, buildings, and leasehold improvements
     (14,347 )     (17,050 )     (19,523 )
Proceeds from sale of land held for sale
     789       242       —  
Net cash used in investing activities
     (13,558 )     (16,808 )     (19,523 )
                         
FINANCING ACTIVITIES:
                        
Proceeds from borrowings of debt
     320,341       181,311       339,430  
Payments of debt and capital leases
     (250,559 )     (124,299 )     (292,447 )
Restricted cash reserved for payments of debt
     (10,215 )     1,408       (7,865 )
Proceeds from exercise of stock options
     99       3       115  
Purchases of treasury shares
     —       —       (108 )
Net cash provided by financing activities
     59,666       58,423       39,125  
                         
Net change in cash and cash equivalents
     460       1,720       (1,739 )
                         
CASH AND CASH EQUIVALENTS:
                        
Beginning of period
     10,990       11,450       13,170  
                         
End of period
   $ 11,450     $ 13,170     $ 11,431  
                         
SUPPLEMENTAL CASH FLOW INFORMATION:
                        
Interest paid, net of amounts capitalized
   $ 19,192     $ 21,627     $ 22,485  
Income taxes paid
   $ 7,500     $ 7,755     $ 4,793  
Income tax refund
   $ —     $ —     $ 1,646  
                         
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
                        
Land, equipment, buildings, and leasehold improvements acquired under capital leases
   $ 1,691     $ 552     $ 1,072  
Land, equipment, buildings, and leasehold improvements acquired through seller financing
   $ 4,100     $ 1,100     $ —  

The accompanying notes are an integral part of these consolidated financial statements.


SILVERLEAF RESORTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Years Ended December 31, 2006, 2007, and 2008

1.
NATURE OF BUSINESS

Silverleaf Resorts, Inc., a Texas Corporation (the “Company,” “Silverleaf,” “we,” or “our”), is in the business of marketing and selling vacation intervals (“Vacation Intervals”). Our principal activities, in this regard, consist of (i) developing and acquiring timeshare resorts; (ii) marketing and selling one-week annual and biennial Vacation Intervals to new owners; (iii) marketing and selling upgrade and additional week Vacation Intervals to existing Silverleaf owners (“Silverleaf Owners”); (iv) providing financing for the purchase of Vacation Intervals; and (v) operating timeshare resorts under management agreements. We have in-house sales, marketing, financing, and property management capabilities and coordinate the operation of our 13 owned resorts (the “Existing Resorts”) and our one hotel property, Pinnacle Lodge, as of December 31, 2008, and the development of any new timeshare resort, including site selection, design, and construction. Sales of Vacation Intervals are marketed to individuals primarily through direct mail and telephone solicitation.

Each Existing Resort has a timeshare owners’ association (a “Club”). Each Club (other than Orlando Breeze) operates through a centralized organization, Silverleaf Club, to manage the Existing Resorts on a collective basis. Orlando Breeze has its own club, (“Orlando Breeze Resort Club”), which operates independently of Silverleaf Club; however, we supervise the management and operation of the Orlando Breeze Resort Club under the terms of a written agreement. Silverleaf Club has contracted with us to perform the supervisory, management, and maintenance functions at the twelve Existing Resorts that it oversees. All costs of operating these Existing Resorts, including management fees paid to the Company, are to be covered by monthly dues paid by Silverleaf Owners to their respective Clubs as well as income generated by the operation of certain amenities and revenue-producing assets at these Existing Resorts. Subject to availability of funds from the Clubs, we are entitled to a management fee to compensate us for the services provided. We evaluate the Clubs in accordance with Financial Accounting Standards Board (“FASB”) Interpretation No. 46, “Consolidation of Variable Interest Entities.” As the Clubs are not-for-profit entities, consolidation is not necessary.

In addition to Vacation Interval sales revenues, we generate revenue from interest income derived from operating activities, management fees received from Silverleaf Club, and other sources. All of the operations are directly related to the resort real estate development industry.

Our consolidated financial statements as of and for the years ended December 31, 2006, 2007, and 2008 reflect the operations of the Company and its wholly-owned subsidiaries, Silverleaf Travel, Inc., Awards Verification Center, Inc., Silverleaf Berkshires, Inc., People Really Win Sweepstakes, Inc., SLR Research, Inc., Silverleaf Finance II, Inc. (“SF-II”), Silverleaf Finance IV, LLC (“SF-IV”), Silverleaf Finance V, L.P. (“SF-V”), and Silverleaf Finance VI, LLC (“SF-VI”). SF-II, SF-IV, SF-V, and SF-VI are all described in more detail in Note 8.

2.
SIGNIFICANT ACCOUNTING POLICIES SUMMARY

Basis of Presentation — The accompanying consolidated financial statements have been prepared in conformity with accounting policies generally accepted in the United States of America and in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”).

Use of Estimates — The preparation of these consolidated financial statements requires the use of management’s estimates and assumptions in determining the carrying values of certain assets and liabilities, the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts for certain revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant management estimates include the allowance for uncollectible notes, estimates for income taxes, valuation of our investment in Silverleaf Finance III, LLC (“SF-III”), our wholly-owned off-balance-sheet qualified special purpose finance subsidiary, and the future sales plan and estimated recoveries used to allocate certain costs to inventory phases and cost of sales.

Principles of Consolidation — The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, excluding SF-III. All significant intercompany accounts and transactions have been eliminated in the consolidated financial statements.

Timeshare Accounting Practices — We follow industry specific guidance established by Statement of Financial Accounting Standards No. 152, “Accounting for Real Estate Time-Sharing Transactions” (“SFAS No. 152”). In general, SFAS No. 152 provides guidance on determining revenue recognition for timeshare transactions, evaluation of uncollectibility of Vacation Interval receivables, accounting for costs of Vacation Interval sales, accounting for operations during holding periods (or incidental operations), and other accounting transactions specific to timeshare operations.


Revenue and Expense Recognition (including Cost of Sales) — A substantial portion of Vacation Interval sales are consummated in exchange for installment notes receivable secured by deeds of trust on each Vacation Interval sold. If development costs related to a particular project or phase are complete, we recognize related Vacation Interval sales under the full accrual method after a binding sales contract has been executed, the buyer has made a down payment of at least 10%, and the statutory rescission period has expired. If all such criteria are met yet significant development costs remain to complete the project or phase, revenues are recognized on the percentage-of-completion basis. Under this method, once the sales criteria are met, revenues are recognized proportionate to costs already incurred relative to total costs expected for the project or phase. There were no sales deferred at December 31, 2008 related to the percentage-of-completion method.

Both of these revenue recognition methods employ the relative sales value method in determining related cost of sales and inventory applicable to each Vacation Interval sale recognized. Under the relative sales value method, a cost of sales percentage is used to apply costs to related sales as follows:

·
Total revenues to be recognized over an entire project or phase, considering both revenues recognized to date plus estimated revenues to be recognized over future periods (considering an estimate of uncollectibility and subsequent resale of recovered Vacation Intervals), are determined.
·
Total costs of a project or phase, considering both costs already incurred plus estimated costs to complete the phase, if any, are determined. Common costs, including amenities, are included in total estimated costs and allocated to inventory phases that such costs are expected to benefit.
·
The cost of sales ratio applied to each sale represents total estimated costs as a percentage of total estimated revenues, which is specific to each inventory phase. Generally, each building type is considered a separate phase.

The estimate of total revenue for a particular phase also considers factors such as trends in uncollectibles, changes in sales mix and unit sales prices, repossessions of Vacation Intervals, effects of upgrade programs, and past and expected sales programs to sell slow moving inventory units. At least quarterly, we evaluate the estimated cost of sales percentage applied to each sale using updated information for total estimated phase revenue and total estimated phase costs. The effects of changes in estimates are accounted for in the period in which such changes first become known on a retrospective basis, such that the balance sheet at the end of the period of change and the accounting in subsequent periods reflect the revised estimates as if such estimates had been the original estimates.

As mentioned, certain Vacation Interval sales transactions are deferred until the minimum down payment has been received. We account for these transactions utilizing the deposit method. Under this method, the sale is not recognized, a receivable is not recorded, and inventory is not relieved. Any cash received is carried as a deposit until the sale can be recognized. When these types of sales are cancelled without a refund, deposits forfeited are recognized as other income and the interest portion is recognized as interest income. This income is not significant.

We also sell additional and upgraded Vacation Intervals to existing owners. Revenues are recognized on an additional Vacation Interval sale, which represents a new Vacation Interval sale treated as a separate transaction from the original Vacation Interval sale, when the buyer makes a down payment of at least 10%, excluding any equity from the original Vacation Interval purchased.  Revenues are recognized on an upgrade Vacation Interval sale, which is a modification and continuation of the original sale, by including the buyer’s equity from the original Vacation Interval towards the down payment of at least 10%. Revenue recognized on upgrade Vacation Interval sales represents the difference between the upgrade sales price and traded-in sales price, while related cost of sales represents the incremental increase in the cost of the Vacation Interval purchased.

We recognize interest income as earned. Interest income is accrued on notes receivable, net of an estimated amount that will not be collected, until the individual notes become 90 days delinquent. Once a note becomes 90 days delinquent, the accrual of interest income ceases until collection is deemed probable.

We receive fees for management services provided to Silverleaf Club and Orlando Breeze Resort Club. These revenues are recognized on an accrual basis in the period the services are provided if collection is deemed probable.

Services and other income are recognized on an accrual basis in the period such services are provided.

Sales and marketing costs are charged to expense in the period incurred. Commissions, however, are recognized in the same period the related revenues are recognized.

Cash and Cash Equivalents — Cash and cash equivalents consist of all highly liquid investments with an original maturity at the date of purchase of three months or less. Cash and cash equivalents include cash, certificates of deposit, and money market funds.

Restricted Cash — Restricted cash consists of certificates of deposit, collateral for construction bonds, surety bonds, and cash reserved for payments of debt.


Allowance for Uncollectible Notes — Estimated uncollectible revenue is recorded at an amount sufficient to maintain the allowance for uncollectible notes at a level management considers adequate to provide for anticipated losses resulting from customers' failure to fulfill their obligations under the terms of their notes. The allowance for uncollectible notes is adjusted based upon a periodic static-pool analysis of the notes receivable portfolio, which tracks uncollectible notes for each year’s sales over the lives of the notes. Other factors considered in the assessment of uncollectibility include the aging of notes receivable, historical collection experience and credit losses, customer credit scores (FICO® scores), and current economic factors.

Credit losses represent three varieties as follows:

·
A full cancellation of the note, whereby the customer is relieved of the obligation and we recover the underlying inventory,
·
A deemed cancellation, whereby we record the cancellation of all notes that become 90 days delinquent, net of notes that are no longer 90 days delinquent, and
·
A note receivable reduction that occurs when a customer trades a higher value product for a lower value product.

The allowance for uncollectible notes is reduced by actual cancellations and losses experienced, including losses related to previously sold notes receivable which became delinquent and were reacquired pursuant to certain recourse obligations. Recourse on sales of customer notes receivable is governed by agreements between the purchasers of said notes and the Company, though we typically do not have an obligation to repurchase defaulted notes held by our financing subsidiaries.

Investment in Special Purpose Entity — In 2005, we consummated a securitization transaction with SF-III, which is a qualified special purpose entity (“SPE”) formed for the purpose of issuing $108.7 million of Timeshare Loan-Backed Notes Series 2005-A (“Series 2005-A Notes”) in a private placement. In connection with this transaction, we sold SF-III $132.8 million in timeshare receivables that were previously pledged as collateral under revolving credit facilities with our senior lenders and Silverleaf Finance I, Inc., our former qualified SPE which was dissolved in 2005. This transaction qualified as a sale for accounting purposes. The Series 2005-A Notes are secured by timeshare receivables we sold to SF-III. The timeshare receivables we sold to SF-III are without recourse, except for breaches of certain representations and warranties at the time of sale. Pursuant to the terms of an agreement, we continue servicing these timeshare receivables and receive fees for our services. As such fees approximate both our internal cost of servicing such timeshare receivables and fees a third party would charge to service such receivables, the related servicing asset or liability was estimated to be insignificant.

We account for and evaluate the investment in our SPE in accordance with Statement of Financial Accounting Standards No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities” (“SFAS No. 140”), EITF 99-20, “Recognition of Interest Income and Impairment on Purchased Beneficial Interests and Beneficial Interests That Continue to Be Held by a Transferor in Securitized Financial Assets,” and Statement of Financial Accounting Standards No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” as applicable. Effective January 1, 2007, SFAS No. 140 was amended by Statement of Financial Accounting Standards No. 156, “Accounting for Servicing of Financial Assets” (“SFAS No. 156”), which did not affect the manner in which we account for our investment in our SPE. On January 1, 2008, we adopted the provisions of Statement of Financial Accounting Standards No. 157, “Fair Value Measurements” (“SFAS No. 157”), which also amended SFAS No. 140. The adoption of SFAS No. 157 did not impact the method in which we calculate the fair value of the investment in our SPE, however, did require expanded disclosures about the fair value measurement. See Note 13.  In December 2008, we adopted the provisions of FASB Staff Position (“FSP”) FAS 140-4 and FIN 46(R)-8, “Disclosures by Public Entities (Enterprises) about Transfers of Financial Assets and Interests in Variable Interest Entities.” The adoption of FSP FAS 140-4 and FIN 46(R)-8 requires expanded disclosures, which are included herein.

In accordance with SFAS No. 140, our bases for classifying SF-III as a qualified special purpose entity are i) SF-III is demonstrably distinct from the transferor as dissolution of the SPE would require an affirmative vote of 100% of the SPE’s Board of Directors, one of which is independent, ii) there are limits on permitted activities that the SPE has the power to carry out, and iii) financial assets transferred to the SPE are passive in nature.

The fair value of the investment in our SPE is estimated based on the present value of future cash flows we expect to receive from the notes receivable sold. We utilized the following key assumptions to estimate the fair value of such cash flows: customer prepayment rate (including expected accounts paid in full as a result of upgrades) – 15.9% to 23.7%; expected credit losses – 15.9%; discount rate – 0% to 44.9%; base interest rate – 5.37%; and loan servicing fees – 1.75%. Our assumptions are based on experience with our notes receivable portfolio, available market data, estimated prepayments, the cost of servicing, and net transaction costs. Such assumptions are assessed quarterly and, if necessary, adjustments are made to the carrying value of the investment in our SPE on a prospective basis as a change in accounting estimate, with the amount of periodic interest accretion adjusted over the remaining life of the beneficial interest. The carrying value of the investment in our SPE represents our maximum exposure to loss regarding our involvement with our SPE. We periodically review the carrying value of our investment in SPE for impairment to ensure that the carrying value does not exceed market value.


At December 31, 2008, the sensitivity of the current fair value of residual cash flows to immediate 10 percent and 20 percent adverse changes to key assumptions are as follows (in thousands):

Customer Prepayment Rate (including accounts paid in full as a result of upgrades):
      
Impact on fair value of a 10% adverse change
   $ 15  
Impact on fair value of a 20% adverse change
   $ 30  
         
Expected Credit Losses Rate:
        
Impact on fair value of a 10% adverse change
   $ 113  
Impact on fair value of a 20% adverse change
   $ 225  
         
Discount Rate:
        
Impact on fair value of a 10% adverse change
   $ 114  
Impact on fair value of a 20% adverse change
   $ 225  

Inventories — Inventories are stated at the lower of cost or market value less cost to sell.  Cost includes amounts for land, construction materials, amenities and common costs, direct labor and overhead, taxes, and capitalized interest incurred in the construction or through the acquisition of resort dwellings held for timeshare sale. At December 31, 2008, the estimated costs not yet incurred but expected to complete promised amenities was $625,000. Inventory costs are allocated to cost of Vacation Interval sales using the relative sales value method, as described above. We periodically review the carrying value of our inventory on an individual project basis for impairment to ensure that the carrying value does not exceed market value.

Vacation Intervals may be reacquired as a result of (i) foreclosure (or deed in lieu of foreclosure) or (ii) trade-in associated with the purchase of an upgraded or downgraded Vacation Interval. Vacation Intervals reacquired are recorded in inventory at the lower of their original cost or market value.

Land, Equipment, Buildings, and Leasehold Improvements — Land, equipment (including equipment under capital lease), buildings, and leasehold improvements are stated at cost. When assets are disposed of, the cost and related accumulated depreciation are removed, and any resulting gain or loss is reflected in income for the period. Maintenance and repairs are charged to expense as incurred. Significant betterments and renewals, which extend the useful life of a particular asset, are capitalized. Depreciation is calculated for all fixed assets, other than land, using the straight-line method over the estimated useful life of the assets, which range from 3 to 20 years.

Valuation of Long-Lived Assets - In accordance with Statement of Financial Accounting Standards No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” we assess potential impairments to our long-lived assets, including land, equipment, buildings, and leasehold improvements, when there is evidence that events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If circumstances require a long-lived asset be tested for possible impairment, we compare undiscounted cash flows expected to be generated by an asset to the carrying value of the asset. If the carrying value of the long-lived asset is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent that the carrying value exceeds its fair value. Fair value is determined through various valuation techniques including discounted cash flow models, quoted market values, and third-party independent appraisals, as considered necessary. We did not recognize any impairments for our long-lived assets in the years ended December 31, 2006, 2007, and 2008.

Prepaid and Other Assets — Prepaid and other assets consist primarily of prepaid insurance, prepaid postage, commitment fees, debt issuance costs, deferred commissions, novelty inventories, deposits, collected cash in senior lender lock boxes which has not yet been applied to related loan balances, and miscellaneous receivables. Commitment fees and debt issuance costs are amortized over the lives of the related debt.

During the years ended December 31, 2008, 2007, and 2006, we wrote off predevelopment costs associated with potential land acquisitions of $1.1 million, $1.0 million, and $0, respectively.  Such costs were recorded in prepaid and other assets and were written off to operating, general and administrative expense.  

Income Taxes — Deferred income taxes are recorded for temporary differences between the basis of assets and liabilities as recognized by tax laws and their carrying value as reported in the consolidated financial statements. A provision or benefit is recognized for deferred income taxes relating to such temporary differences. To the extent a deferred tax asset does not meet the criteria of “more likely than not” for realization, a valuation allowance is recorded. Although we do not currently have any material charges related to interest and penalties, such costs, if incurred, are reported within the provision for income taxes. Our federal tax return includes all items of income, gain, loss, expense, and credit of SF-III, which is a non-consolidated subsidiary for reporting purposes and a disregarded entity for federal income tax purposes. We have a tax sharing agreement with SF-III.

We file U.S. federal income tax returns as well as income tax returns in various states. We are no longer subject to income tax examinations by the Internal Revenue Service for years prior to 2004, although carryforward attributes that were generated prior to 2004 may still be subject to examination. For the majority of state tax jurisdictions, we are no longer subject to income tax examinations for years prior to 2004. In the state of Texas, we are no longer subject to franchise tax examinations for years prior to 2003.


As of January 1, 2008, we had no unrecognized tax benefits, and as a result, no benefits that would affect the effective income tax rate. We do not anticipate any significant changes related to unrecognized tax benefits in the next 12 months. As of December 31, 2008, we did not require an accrual for interest and penalties related to unrecognized tax benefits.

Derivative Financial Instruments — Statement of Financial Accounting Standard No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”), as amended, establishes accounting and reporting standards for derivative financial instruments, including certain derivative instruments embedded in other contracts and hedging activities. All derivatives, whether designed as hedging relationships or not, are required to be recorded on the balance sheet at fair value. Accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting designation. Derivatives used to hedge exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives used to hedge exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges.

For derivatives designated as fair value hedges, changes in the fair value of the derivative and the hedged item related to the hedged risk are recognized in earnings. For derivatives designated as cash flow hedges, the effective portion of changes in the fair value of the derivative is initially reported in other comprehensive income (outside of earnings) and subsequently reclassified to earnings when the hedged transaction affects earnings, while the ineffective portion of changes in the fair value of the derivative is recognized directly in earnings. We assess the effectiveness of each hedging relationship by comparing the changes in fair value or cash flows of the derivative hedging instrument with the changes in fair value or cash flows of the designated hedged item or transaction. For derivatives not designated as hedges, changes in the fair value are recognized in earnings.

Our objective in using derivatives is to increase stability related to interest expense and to manage our exposure to interest rate movements or other identified risks. To accomplish this objective, we primarily use interest rate swaps and caps within our cash flow hedging strategy. Interest rate swaps involve the receipt of variable-rate amounts in exchange for fixed-rate payments over the life of the agreements without exchange of the underlying principal amount. Interest rate caps provide interest rate protection above the strike rate on the cap and result in our receipt of interest payments when actual rates exceed the cap strike. We recognize changes in fair value of our derivatives in earnings. The amounts recognized for such derivatives for the years ended December 31, 2006, 2007, and 2008 were not significant.

Earnings Per Share — Basic earnings per share is computed by dividing net income by the weighted average common shares outstanding during the period. Earnings per share assuming dilution is computed by dividing net income by the weighted average number of common shares and potentially dilutive shares outstanding during the period. The number of potentially dilutive shares is computed using the treasury stock method, which assumes that the increase in the number of common shares resulting from the exercise of the stock options is reduced by the number of common shares that we could have repurchased with the proceeds from the exercise of the stock options.

Outstanding stock options totaling approximately 2.0 million, 2.0 million, and 3.6 million were dilutive securities that were included in the computation of diluted earnings per share at December 31, 2006, 2007, and 2008, respectively. Outstanding stock options totaling 827,000, 492,000, and 229,000 were not dilutive at December 31, 2006, 2007, and 2008, respectively, because the exercise price for such options exceeded the market price for our common shares.

Stock-Based Compensation — We adopted Statement of Financial Accounting Standards No. 123R, “Share Based Payment” (“SFAS No. 123R”), as of January 1, 2006, using the modified prospective method for all stock options granted on or prior to December 31, 2005 that were outstanding as of that date.  Under this transition method, compensation cost is recognized for the unvested portion of stock option grants outstanding at December 31, 2005 over the remaining requisite service period using the fair value for these options as estimated at the date of grant using the Black-Scholes option-pricing model under the original provisions of SFAS No. 123 for pro-forma disclosure purposes. We recognize stock-based compensation for all stock options granted after the adoption of SFAS No. 123R over the requisite service period using the fair value for these options as estimated at the date of grant using the Black-Scholes option-pricing model.  As of December 31, 2008, stock-based compensation expense related to stock options granted prior to 2006 was fully recognized and the unamortized compensation expense related to stock options granted after the adoption of SFAS No. 123R was $2.2 million.


Other Recent Accounting Pronouncements —

SFAS No. 157 – We adopted the provisions of Statement of Financial Accounting Standards No. 157, “Fair Value Measurements,” on January 1, 2008. SFAS No. 157 defines fair value, establishes a market-based framework or hierarchy for measuring fair value, and expands disclosures about fair value measurements. SFAS No. 157 is applicable whenever another accounting pronouncement requires or permits assets and liabilities to be measured at fair value. SFAS No. 157 does not expand or require any new fair value measures. In February 2008, the FASB issued FSP No. 157-2, which deferred its effective date for one year relative to non-financial assets and liabilities that are recognized or disclosed at fair value in the financial statements on a nonrecurring basis. Accordingly, our adoption of this standard in 2008 was limited to financial assets and liabilities, which primarily affected the disclosures for the investment in our SPE and our derivative contracts as shown in Note 13. This adoption did not impact our consolidated financial position, results of operations, or cash flows. The remaining aspects of SFAS No. 157, which will be adopted effective January 1, 2009, apply to our non-financial long-lived assets (land, equipment, buildings, and leasehold improvements) which are measured at fair value based on a periodic impairment assessment. Adoption of the remaining aspects of SFAS No. 157 will result in additional disclosures, however, will not impact our consolidated financial position, results of operations, or cash flows.

SFAS No. 159 – We adopted the provisions of Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”), on January 1, 2008. SFAS No. 159 allows an irrevocable election to measure certain financial assets and financial liabilities at fair value on an instrument-by-instrument basis, with unrealized gains and losses recognized currently in earnings. Under SFAS No. 159, the fair value option may only be elected at the time of initial recognition of a financial asset or financial liability or upon the occurrence of certain specified events. Additionally, SFAS No. 159 provides that application of the fair value option must be based on the fair value of an entire financial asset or financial liability and not selected risks inherent in those assets or liabilities. SFAS No. 159 requires that assets and liabilities which are measured at fair value pursuant to the fair value option be reported in the financial statements in a manner that separates those fair values from the carrying amounts of similar assets and liabilities which are measured using another measurement attribute. SFAS No. 159 also provides expanded disclosure requirements regarding the effects of electing the fair value option on the financial statements. The adoption of SFAS No. 159 did not impact our consolidated financial position, results of operations, or cash flows as we did not elect to measure additional items at fair value under SFAS No. 159.

SFAS No. 141R – In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141 (revised 2007), “Business Combinations” (“SFAS No. 141R”), which changes the accounting for business combinations including the following: i) the measurement of acquirer shares issued in consideration for a business combination, ii) the recognition of contingent consideration, iii) the accounting for preacquisition gain and loss contingencies, iv) the recognition of capitalized in-process research and development, v) the accounting for acquisition-related restructuring cost accruals, vi) the treatment of acquisition related transaction costs, and vii) the recognition of changes in the acquirer’s income tax valuation allowance. SFAS No. 141R is effective prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning after December 15, 2008. Early adoption is not permitted. The adoption of SFAS No. 141(R) as of January 1, 2009 is not expected to impact our consolidated financial position, results of operations, or cash flows as we do not have any planned acquisitions that fall under the definition of a business combination.

SFAS No. 160 – In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160, “Noncontrolling Interests in Consolidated Financial Statements” (“SFAS No. 160”). SFAS No. 160 amends Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” and Financial Accounting Standards Board Statement No. 128, “Earnings Per Share.” A noncontrolling interest is defined in SFAS No. 160 as the portion of equity in a subsidiary not attributable, directly or indirectly, to a parent. SFAS No. 160 states that accounting and reporting for minority interests will be recharacterized as noncontrolling interests and classified as a component of equity. SFAS No. 160 applies to all entities that prepare consolidated financial statements, except not-for-profit organizations. SFAS No. 160 is effective prospectively for fiscal years beginning after December 15, 2008. The adoption of SFAS No. 160 as of January 1, 2009 will not impact our consolidated financial position, results of operations, or cash flows as we do not own minority interests in any entities.

SFAS No. 161 – In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS No. 161”). SFAS No. 161 amends and expands the disclosure requirements of Statement of Financial Accounting Standard No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”). Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. Early adoption is encouraged. The adoption of SFAS No. 161 as of January 1, 2009 will not impact our consolidated financial position, results of operations, or cash flows. Disclosures regarding our derivative instruments and hedging activities are included in Note 2 and in disclosures related to interest rate risk and market risk.


SFAS No. 162 – In May 2008, the FASB issued Statement of Financial Accounting Standards No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS No. 162”). SFAS No. 162 identifies the sources of accounting principles and a framework for selecting the principles to be used in preparation of financial statements of nongovernmental entities that are prepared in conformity with generally accepted accounting principles in the United States (“the GAAP hierarchy”). The current GAAP hierarchy is set forth in the AICPA Statement on Auditing Standards No. 69, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles” (“SAS No. 69”). However, the FASB believes the GAAP hierarchy should be directed to entities rather than auditors because the entity is responsible for selecting accounting principles for financial statements that are presented in conformity with GAAP. SFAS No. 162 is effective 60 days following the SEC’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles.” The adoption of SFAS No. 162 will not impact our consolidated financial position, results of operations, or cash flows.

FSP No. 157-3 – In October 2008, the FASB Staff issued an  FSP related to SFAS No. 157, FSP 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset is not Active.” The provisions of FSP 157-3 are effective upon issuance, or October 10, 2008. FSP 157-3 clarifies the application of SFAS No. 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. The adoption of FSP 157-3 did not impact our consolidated financial position, results of operations, or cash flows.

FSP No. FAS 140-4 and FIN 46(R)-8 – In December 2008, the FASB Staff issued an FSP related to SFAS No. 140 and FIN No. 46(R), FSP FAS 140-4 and FIN 46(R)-8, “Disclosures by Public Entities (Enterprises) about Transfers of Financial Assets and Interests in Variable Interest Entities.” The provisions of FSP FAS 140-4 and FIN 46(R)-8 are effective for fiscal periods (quarterly and annually) ending after December 15, 2008. The purpose of this FSP is to require enhanced disclosures by public entities (enterprises) about transfers of financial assets (securitizations) and interests in variable interest entities (consolidations of certain special-purpose investment entities) as part of the FASB’s projects to amend SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities” and FIN No. 46(R), “Consolidation of Variable Interest Entities” (“VIEs”). The adoption of FSP FAS 140-4 and FIN 46(R)-8 did not impact our consolidated financial position, results of operations, or cash flows. Disclosures in accordance with FSP FAS 140-4 and FIN 46(R)-8 have been included herein.

3.
CONCENTRATIONS OF RISK

General - Interest on our notes receivable portfolio, senior subordinated debt, capital leases, and miscellaneous notes is fixed, whereas interest on our primary loan agreements, which had a total facility amount of $549.0 million at December 31, 2008, have a fixed-to-floating debt ratio of 38% fixed to 62% floating. However, the majority of our floating-rate debt is subject to interest-rate floors between 5.25% and 8.00%.  The impact of a one-point effective interest rate change on the $223.4 million balance of variable-rate financial instruments at December 31, 2008 would be approximately $432,000 on our results of operations, after taxes, for the year ended December 31, 2008, or approximately $0.01 per diluted share.

At December 31, 2008, the carrying value of our notes receivable portfolio approximates fair value because the weighted average interest rate on the portfolio approximates current interest rates received on similar notes. Our fixed-rate notes receivable are subject to interest rate risk and will decrease in fair value if market rates increase, which may negatively impact our ability to sell our fixed-rate notes in the marketplace. A hypothetical one-point interest rate increase in the marketplace at December 31, 2008 would result in a fair value decrease of approximately $12.8 million on our notes receivable portfolio.

Credit Risk — We are exposed to on-balance-sheet credit risk related to our notes receivable. We are exposed to off-balance-sheet credit risk related to notes sold.

We offer financing to the buyers of Vacation Intervals at our resorts. These buyers generally make a down payment of 10% to 15% of the purchase price and deliver a promissory note to us for the balance. The promissory notes generally bear interest at a fixed rate, are payable over a seven to ten year period, and are secured by a deed of trust on the Vacation Interval. We bear the risk of defaults on these promissory notes. Although we prescreen prospects via credit scoring techniques in the early stages of the marketing and sales process, we generally do not perform a detailed credit history review of our customers. Due to the state of the economy in general, and recent deterioration of the residential real estate market and sub-prime mortgage markets, the risk of Vacation Interval defaults has heightened.

If a buyer of a Vacation Interval defaults, we generally must foreclose on the Vacation Interval and attempt to resell it; the associated marketing, selling, and administrative costs from the original sale are not recovered; and such costs must be incurred again to resell the Vacation Interval. Although in many cases we may have recourse against a Vacation Interval buyer for the unpaid note balance, certain states have laws that limit our ability to recover personal judgments against customers who have defaulted on their loans. Accordingly, we have generally not pursued this remedy.


Interest Rate Risk — We have historically derived net interest income from our financing activities because the interest rates we charge our customers who finance the purchase of their Vacation Intervals exceed the interest rates we pay to our senior lenders. As 62% of our senior indebtedness bears interest at variable rates and our customer notes receivable bear interest at fixed rates, increases in interest rates will erode the spread in interest rates that we have historically experienced and could cause our interest expense on borrowings to exceed our interest income on our portfolio of customer loans. Although interest rates declined throughout 2008, any increase in interest rates above applicable floor rates, particularly if sustained, could have a material adverse effect on our results of operations, cash flows, and financial position.

To partially offset potential increases in interest rates, we have executed two interest rate swaps related to our conduit loan with SF-II, with fixed rates of 7.04% and 7.90%, for a total notional amount of $2.6 million at December 31, 2008. Such interest rate swaps expire between September 2011 and March 2014. Our variable funding note with SF-IV also acts as an interest rate hedge since it contains a provision for an interest rate cap. The balance outstanding under this line of credit at December 31, 2008 was $70.2 million. Such variable funding note will mature in September 2011.

In addition, the Series 2005-A Notes related to our off-balance-sheet special purpose finance subsidiary, SF-III, with a balance of $17.1 million at December 31, 2008, bear interest at a blended fixed rate of 5.4%.

Availability of Funding Sources — We fund substantially all of our notes receivable, timeshare inventories, and land inventories which we originate or purchase with borrowings through our financing facilities, sales of notes receivable, internally generated funds, and proceeds from public debt and equity offerings. Borrowings are in turn repaid with the proceeds we receive from collections on such notes receivable. To the extent that we are not successful in maintaining or replacing existing financings, we would have to curtail our operations or sell assets, thereby having a material adverse effect on our results of operations, cash flows, and financial position.

Geographic Concentration — Our notes receivable and Vacation Interval inventories are primarily originated in Texas, Missouri, Illinois, Massachusetts, Georgia, and Florida. Risks inherent in such concentrations are:

·
regional and general economic stability, which affects property values and the financial stability of the borrowers, and
·
the continued popularity of our resort destinations, which affects the marketability of our products and the collection of notes receivable.

4.
NOTES RECEIVABLE

We provide financing to the purchasers of Vacation Intervals in the form of notes receivable, which are collateralized by their interest in such Vacation Intervals. Such notes receivable generally have initial terms of seven to ten years. The weighted average yield on outstanding notes receivable at December 31, 2008 and 2007 was 16.7% and 16.5%, respectively, with individual rates ranging from 0% to 17.9%. As of December 31, 2008, $1.2 million of timeshare notes receivable have interest rates below 10%. In connection with the sampler program, we routinely enter into notes receivable with terms of 10 months. Notes receivable from sampler sales were $2.5 million and $3.4 million at December 31, 2008 and 2007, respectively, and are non-interest bearing.

Once a note becomes 90 days delinquent, the accrual of interest income ceases until collection is deemed probable. We ceased accruing interest on delinquent notes of $53.2 million and $46.8 million as of December 31, 2008 and 2007, respectively, as collection of interest on such notes was deemed improbable.

Notes receivable are scheduled to mature as follows at December 31, 2008 (in thousands):

2009
   $ 44,108  
2010
     44,190  
2011
     50,498  
2012
     55,354  
2013
     56,190  
Thereafter
     146,662  
      397,002  
Less allowance for uncollectible notes
     (76,696 )
Notes receivable, net
   $ 320,306  

There were no notes sold with recourse during the years ended December 31, 2006, 2007, and 2008.

At December 31, 2008, SF-III, our wholly-owned off-balance-sheet qualified special purpose finance subsidiary, discussed under the heading “Investment in Special Purpose Entity” in Note 2, held notes receivable totaling $22.5 million with related borrowings of $17.1 million. For servicing the timeshare receivables, we receive a fee equal to 1.75% of eligible timeshare receivables held by the facility. Such fees were $1.5 million, $854,000, and $491,000 for the years ended December 31, 2006, 2007, and 2008, respectively.


Except for the repurchase of notes that fail to meet initial eligibility requirements, we are not obligated to repurchase defaulted or any other contracts sold to SF-III. As the servicer of notes receivable sold to SF-III, we are obligated to foreclose upon Vacation Intervals securing defaulted note receivables. Although we are not obligated, we may purchase foreclosed Vacation Intervals for an amount equal to the net fair market value of such Vacation Intervals, which may not be less than fifteen percent of the original acquisition price that the customer paid for the Vacation Interval. For the years ended December 31, 2006, 2007, and 2008, we paid $2.1 million, $1.2 million, and $639,000, respectively, to repurchase the Vacation Intervals securing defaulted contracts to facilitate the re-marketing of those Vacation Intervals.

In the event cash flows from the notes receivable held by SF-III are sufficient to pay all debt service obligations, fees, and expenses, we receive distributions from SF-III. Such distributions were $16.6 million, $8.6 million, and $3.6 million during the years 2006, 2007, and 2008, respectively.

We consider accounts over 60 days past due to be delinquent. As of December 31, 2008, $7.6 million of notes receivable, net of accounts charged off, were considered delinquent. An additional $28.4 million of notes receivable, of which $25.7 million is pledged to senior lenders, would have been considered to be delinquent had we not granted payment concessions to the customers, which brings a delinquent note current and extends the maturity date once a payment is made.

The activity in gross notes receivable is as follows for the years ended December 31, 2006, 2007, and 2008 (in thousands):

   
2006
    
2007
    
2008
  
                   
Balance, beginning of period
   $ 230,051     $ 297,835     $ 359,035  
Sales
     164,208       181,048       183,371  
Collections
     (67,786 )     (80,787 )     (89,921 )
Receivables charged off, gross
     (28,638 )     (39,061 )     (55,483 )
Balance, end of period
   $ 297,835     $ 359,035     $ 397,002  

We provide for estimated Vacation Interval defaults at the time the Vacation Interval revenue is recorded as a reduction to Vacation Interval sales. The estimated uncollectible revenue represents gross losses for newly originated Vacation Interval sales. Estimated inventory recoveries are a component of the relative sales value method in determining cost of sales.

The activity in the allowance for uncollectible notes is as follows for the years ended December 31, 2006, 2007, and 2008 (in thousands):

   
2006
    
2007
    
2008
  
                   
Balance, beginning of period
   $ 52,479     $ 68,118     $ 69,128  
Reclassification of estimated inventory recoveries on future charge offs related to the adoption of SFAS No. 152
     11,786       —       —  
Estimated uncollectible revenue
     32,491       40,071       63,051  
Receivables charged off, gross
     (28,638 )     (39,061 )     (55,483 )
Balance, end of period
   $ 68,118     $ 69,128     $ 76,696  

The allowance for uncollectible notes remained constant at 19.3% of gross notes receivable as of December 31, 2007 and 2008. We will continue our current collection programs and seek new programs to reduce note defaults. We will also maintain our focus on tour lead procurement in an effort to improve the credit quality of our customers. However, there can be no assurance that these efforts will be successful.

5.
INVENTORIES

Inventories consist of the following at December 31, 2007 and 2008 (in thousands):

   
2007
    
2008
  
Timeshare units
   $ 96,869     $ 105,627  
Amenities
     52,390       54,053  
Land
     28,504       29,963  
Other
     1,425       675  
Total
   $ 179,188     $ 190,318  

Realization of inventories is dependent upon execution of our long-term sales plan for each resort, which extends for up to fifteen years. Such sales plans depend upon our ability to obtain financing to facilitate the build-out of each resort and marketing of the Vacation Intervals over the planned time period.


6.
LAND, EQUIPMENT, BUILDINGS, AND LEASEHOLD IMPROVEMENTS

Land, equipment, buildings, and leasehold improvements consist of the following at December 31, 2007 and 2008 (in thousands):

   
2007
    
2008
  
Land
   $ 2,734     $ 2,734  
Vehicles and equipment
     9,911       10,677  
Office equipment and furniture
     36,375       39,642  
Buildings and leasehold improvements
     33,640       48,191  
      82,660       101,244  
Less accumulated depreciation
     (41,095 )     (45,851 )
Land, equipment, buildings, and leasehold improvements, net
   $  41,565     $  55,393  

Depreciation expense for the years ended December 31, 2006, 2007, and 2008 was $2.5 million, $3.5 million, and $4.9 million, respectively, which includes amortization of equipment acquired under capital leases.

7.
INCOME TAXES

Income tax expense consists of the following components for the years ended December 31, 2006, 2007, and 2008 (in thousands):

   
2006
    
2007
    
2008
  
Current income tax expense – Federal
   $ 5,025     $ 3,836     $ 5,697  
Current income tax expense – State
     179       782       1,089  
Total current income tax expense
     5,204       4,618       6,786  
                         
Deferred income tax expense – Federal
     7,811       11,391       4,187  
Deferred income tax expense – State
     1,387       1,389       464  
Total deferred income tax expense
     9,198       12,780       4,651  
                         
Total income tax expense
   $ 14,402     $ 17,398     $ 11,437  

A reconciliation of income tax expense on reported pre-tax income at statutory rates to actual income tax expense for the years ended December 31, 2006, 2007, and 2008 is as follows (in thousands):

   
2006
    
2007
    
2008
  
   
Dollars
    
Rate
    
Dollars
    
Rate
    
Dollars
    
Rate
  
Income tax expense at statutory rates
   $ 13,093       35.0 %   $ 15,786       35.0 %   $ 10,277       35.0 %
State income taxes, net of Federal income tax benefit
     1,309       3.5 %     1,579       3.5 %     1,069       3.6 %
Permanent differences
     96       0.3 %     77       0.2 %     137       0.5 %
Other
     (96 )     (0.3 )%     (44 )     (0.1 )%     (46 )     (0.2 )%
Total income tax expense
   $ 14,402       38.5 %   $ 17,398       38.6 %   $ 11,437       38.9 %

Deferred income tax assets and liabilities as of December 31, 2007 and 2008 are as follows (in thousands):

   
2007
    
2008
  
Deferred tax liabilities:
            
Depreciation
   $ 850     $ 1,305  
Installment sales income
     99,827       105,641  
Total deferred tax liabilities
     100,677       106,946  
                 
Deferred tax assets:
                
Net operating loss carryforward – pre exchange offer
     8,635       5,900  
Net operating loss carryforward – post exchange offer
     47,682       45,068  
AMT tax credit
     13,627       20,185  
Other
     270       679  
Total deferred tax assets
     70,214       71,832  
                 
Net deferred tax liability
   $ 30,463     $ 35,114  

For regular federal income tax purposes, we report substantially all of the Vacation Interval sales we finance under the installment method. Under this method, income on sales of Vacation Intervals is not recognized until cash is received, either in the form of a down payment or as installment payments on customer notes receivable. The deferral of income tax liability conserves cash resources on a current basis. Interest is imposed, however, on the amount of tax attributable to the installment payments for the period beginning on the date of sale and ending on the date the payment is received. If we are not subject to tax in a particular year, no interest is imposed since the interest is based on the amount of tax paid in that year. The consolidated financial statements do not contain an accrual for any interest expense that would be paid on the deferred taxes related to the installment method as the interest expense is not reasonably estimable. As we expect to fully realize our deferred tax assets, we do not currently have a valuation reserve for deferred taxes.


In addition, we are subject to current alternative minimum tax ("AMT") as a result of the deferred income that results from the installment sales treatment.  Payment of AMT creates a deferred tax asset in the form of a minimum tax credit, which, unless otherwise limited, reduces the future regular tax liability attributable to Vacation Interval sales. This deferred tax asset has an unlimited carryover period. The AMT credit can be utilized to the extent regular tax exceeds AMT tax liability for a given year. Due to AMT losses in certain years prior to 2003, which offset all AMT income for years prior to 2003, no minimum tax credit exists for years prior to 2003. However, we have paid AMT in subsequent years, and anticipate that we will pay AMT in future periods.

Federal net operating losses (“NOLs”) of $140.6 million existing at December 31, 2008 expire between 2020 and 2021. Realization of the deferred tax assets arising from NOLs is dependent on generating sufficient taxable income prior to the expiration of the loss carryforwards.

Due to a 2002 corporate restructuring, an ownership change within the meaning of Section 382(g) of the Internal Revenue Code (the “Code”) occurred. As a result, a portion of our NOL is subject to an annual limitation for the current and future taxable years. This annual limitation may be increased for any recognized built-in gain to the extent allowed in Section 382(h) of the Code. The current annual limitation of $768,000 represents the value of our stock immediately before the ownership change multiplied by the applicable long-term tax-exempt rate. We believe that $15.0 million of our net operating loss carryforwards as of December 31, 2008 were subject to the Section 382 limitations.

The following table summarizes approximate net operating loss carryforwards and related expiration dates at December 31, 2008 (in thousands):

Expiration Dates
2020
   $ 113,162  
2021
     27,455  
    $ 140,617  
 
8.
DEBT

The following table summarizes our notes payable, capital lease obligations, and senior subordinated notes at December 31, 2007 and 2008 (in thousands):

         
Revolving
          
Interest
    
Interest
  
   
2007
    
2008
    
Term
    
Maturity
    
Rate
    
Rate Floor
  
$100 million receivables-based revolver ($100 million maximum combined receivable, inventory, and acquisition commitments, see inventory / acquisition component below).
   $ 63,119     $ 31,284    
1/31/10
    
1/31/13
    
Prime
    
6.00%
  
$20 million receivables-based revolver
     14,122       9,746    
6/29/10
    
6/29/10
    
Prime + 0.75%
    
6.25%
  
$50 million receivables-based revolver
     8,044       5,789    
8/31/11
    
8/31/14
    
Prime
    
6.00%
  
$150 million receivables-based revolver, with an interest rate cap of 7.5%
     59,268       70,183    
9/3/09
    
9/3/11
    
LIBOR + 1.25%
    
—
  
$72.5 million receivables-based revolver
     9,860       43,504    
7/2/10
    
7/2/13
    
LIBOR + 2.40%
    
5.25%
  
$66.4 million receivables-based non-revolving conduit loan
     13,489       6,549    
—
    
3/22/14
    
7.035%
    
—
  
$26.3 million receivables-based non-revolving conduit loan
     7,765       4,140    
—
    
9/22/11
    
7.90%
    
—
  
$128.1 million receivables-based non-revolver
     68,761       43,526    
—
    
7/16/18
    
6.70%
    
—
  
$115.4 million receivables-based non-revolver, including a total remaining discount of approximately $5.8 million
     —       84,885    
—
    
3/15/20
    
7.263%
    
—
  
Inventory / acquisition loan agreement (see $100 million receivables-based revolver above)
     30,005       28,407    
1/31/10
    
1/31/12
    
Prime + 1.00%
Prime + 3.00%
    
6.00%
8.00 %
  
$50 million inventory loan agreement
     20,091       34,464    
4/29/10
    
4/29/12
    
Prime + 1.50%
    
7.00%
  
$15 million inventory loan agreement
     12,982       —    
—
    
—
    
Prime + 2.00%
    
—
  
Various notes, due from February 2009 through August 2016, collateralized by various assets with interest rates ranging from 6.0% to 8.5%
     6,970       4,684    
—
    
various
    
various
    
—
  
Total notes payable
     314,476       367,161                          
Capital lease obligations
     1,722       1,910    
—
    
various
    
various
    
—
  
Total notes payable and capital lease obligations
     316,198       369,071                          
                                         
10½% senior subordinated notes, due 2008
     2,146       —    
—
    
4/1/08
    
10.50%
    
—
  
8.0% senior subordinated notes, due 2010
     24,671       23,121    
—
    
4/1/10
    
8.00%
    
—
  
Total senior subordinated notes
     26,817       23,121                          
                                         
Total
   $ 343,015     $ 392,192                          

At December 31, 2008, the LIBOR rate on our senior credit facilities was 0.44% (1 month) and the Prime rate on these facilities was 3.25%. Our weighted average cost of borrowings for the year ended December 31, 2008 was 6.8% compared to 7.6% for the year ended December 31, 2007.


At December 31, 2008, our senior credit facilities provided for loans of up to $549.0 million, of which $186.6 million was available for future advances. The following table summarizes our credit agreements with our senior lenders, our wholly-owned and consolidated special purpose finance subsidiaries, our senior subordinated debt and other debt, and our credit agreement with our off-balance-sheet qualified special purpose entity, SF-III, as of December 31, 2008 (in thousands):

   
MaximumAmount Available
    
Balance
  
Receivables-Based Revolvers
   $ 331,534     $ 160,506  
Receivables-Based Non-Revolvers
     139,100       139,100  
Inventory Loans
     78,407       62,871  
Subtotal Senior Credit Facilities
     549,041       362,477  
Senior Subordinated Debt
     23,121       23,121  
Other Debt
     6,594       6,594  
Subtotal On-Balance-Sheet
     578,756       392,192  
Off-Balance-Sheet Receivables-Based Term Loan
     17,135       17,135  
Grand Total
   $ 595,891     $ 409,327  

During 2007, we amended our revolving senior credit facility through our wholly-owned and consolidated special purpose finance subsidiary, SF-IV, to increase the availability from $125 million to $150 million and to extend the funding period from December 2008 to September 2009. The maturity date of the amended facility was extended from December 2010 to September 2011. The variable funding note is secured by customer notes receivable sold to SF-IV. Proceeds from the sale of customer notes receivable to SF-IV are used to fund normal business operations and for general working capital purposes. Pursuant to the terms of an agreement, we continue servicing these customer notes receivable and receive fees for our services.

During 2007, we amended our loan agreement with one of our senior lenders to consolidate our receivables and inventory financing arrangements into one facility, with an additional financing arrangement included for acquisitions. The maximum aggregate commitment is $100 million, which can be borrowed under the receivables financing arrangement provided we have no borrowings under either of the inventory or acquisition financing arrangements. The maximum commitments with respect to the inventory and acquisition financing arrangements were $40 million and $20 million, respectively, with a maximum aggregate combined commitment of $40 million.  In October 2007, we further amended the agreement to increase our inventory financing arrangement from $40 million to $50 million, with the maximum aggregate combined commitment on the inventory and acquisition components being $50 million.  The interest rate on the receivables component was reduced from Prime plus 1% with a 6% floor to Prime with no floor. The interest rate on the inventory and acquisition components is Prime plus 1%. The interest rates charged on our prior inventory loan agreements with this senior lender were Prime plus 3% and LIBOR plus 3.25%.  The funding period was extended from June 2008 to January 2010. The receivables component matures January 31, 2013 and the acquisition and inventory components each mature on January 31, 2012.

During 2007, we entered into a $37.5 million receivables-based revolving loan agreement with a senior lender and other lenders. The loan is secured by customer notes receivable at an advance rate of up to 75% of the aggregate outstanding principal balance of all eligible notes receivable pledged as security. The revolving period expires September 28, 2009, and the loan matures September 28, 2012, or if the revolving period is extended, 36 months from the expiration of the revolving period. The facility bears interest at LIBOR plus 2.40%.

In April 2008, we amended our $50 million receivables-based revolver to reduce availability to $20 million and extend the revolving term and maturity date from April 2008 to June 2008. In June 2008, this receivables-based facility was further amended to extend the revolving term and maturity date from June 2008 to June 2010, with the option to extend for a one-year term. The interest rate on the receivables facility remained the same at the Prime rate plus 0.75%, with the addition of a Prime rate floor of 5.5%. In June 2008, we also amended our inventory facility with this same senior lender to increase availability from $30 million to $50 million and extend the revolving period from April 2009 to April 2010 and the maturity date from April 2011 to April 2012, with the option to extend both for additional one-year terms. The interest rate on the inventory facility remained the same at the Prime rate plus 1.5%, with the addition of a Prime rate floor of 5.5%. Regarding the inventory facility, the financial covenant for the maximum allowable limit on the ratio of sales and marketing expense to revenue from the sale of Vacation Intervals was increased from .55 to 1 to .60 to 1. In addition, in the event that this ratio is no longer required to be tested under our $100 million consolidated receivables, inventory, and acquisition revolving line of credit with another of our senior lenders, this covenant would no longer be required by this senior lender.

In June 2008, we executed a term securitization transaction through a newly-formed, wholly-owned and fully consolidated special purpose finance subsidiary, Silverleaf Finance VI, LLC. SF-VI was formed for the purpose of issuing approximately $115.4 million of its Timeshare Loan-Backed Notes Series 2008-A (“Series 2008-A Notes”) in a private offering and sale through certain financial institutions. The Series 2008-A Notes were issued in seven classes with a blended coupon rate of 7.263% and at discounts totaling approximately $8.0 million. These discounts are amortized as an adjustment to interest expense over the terms of the related loans using the effective interest method, which generates a blended effective interest rate on these notes of approximately 11.3% at December 31, 2008. The Series 2008-A Notes have a maturity date of March 2020. As discussed below, credit facilities with certain of our other senior lenders have been amended to modify the availability under the loan agreements as a result of such lenders’ participation in the securitization.


The Series 2008-A Notes are secured by customer notes receivable sold to SF-VI by SF-IV and Silverleaf. The customer notes receivable sold to SF-VI were previously sold to SF-IV or pledged as collateral by Silverleaf under revolving credit facilities with senior lenders. The cash proceeds from the sale of the customer notes receivable to SF-VI were primarily used to repay approximately $93.8 million in consolidated indebtedness to senior lenders or to SF-IV. All customer notes receivable purchased by SF-VI were acquired without recourse, except in the case of breaches of customary representations and warranties made in connection with the sale of the notes. Silverleaf, however, is obligated to pay up to an aggregate of $1 million to SF-VI in the event there are insufficient funds available on scheduled payment dates to make required debt payments. Pursuant to the terms of an agreement, we continue to service these customer notes receivable and receive fees for our services.

In June 2008, we amended our $100 million consolidated receivables, inventory, and acquisition revolving line of credit. The availability under the acquisition loan component of the $100 million line of credit was reduced from $20 million to $10 million. The total availability under the facility was reduced by the aggregate of the outstanding principal balance of the Series 2008-A Notes owned by the senior lender, which was $31.4 million at December 31, 2008, and an amount equal to 10.5% of the outstanding principal balance of the two conduit loan facilities for $66.4 million and $26.3 million provided by the senior lender to SF-II, which was $1.1 million at December 31, 2008. The interest rate on the acquisition line was increased from Prime rate plus 1% to Prime rate plus 3%, but never less than 8%. The interest rate on the receivables line remained Prime rate, with the addition of a 6% floor. The interest rate on the inventory line remained Prime rate plus 1%, with the addition of a 6% floor. In addition, certain financial covenants were also modified. The maximum allowable limit on the ratio of sales and marketing expense to revenue from the sale of Vacation Intervals was increased from .57 to 1 to .60 to 1. The interest coverage ratio of at least 1.25 to 1 was modified to calculate the ratio based upon a trailing twelve-month period as opposed to a calculation based upon the calendar quarter as previously required.

In July 2008, we amended our $37.5 million receivables-based revolver to increase availability to $72.5 million, extend the revolving period from September 2009 to July 2010, and extend the maturity date from September 2012 to July 2013, or if the revolving period is further extended, 36 months from the expiration of the revolving period. The financial covenant for the maximum allowable limit on the four-quarter cumulative ratio of sales and marketing expense to revenue from the sale of Vacation Intervals was increased from .57 to 1 to .60 to 1. The interest rate on the receivables facility remained unchanged at the LIBOR rate plus 2.40%, with the addition of a LIBOR floor of 2.85%.

During September 2008, we amended our $35 million revolving receivables credit facility to increase availability to $50 million, extend the revolving period from December 2008 to August 2011, and extend the maturity date from December 2011 to August 2014.  The commitment for financing of our receivables is the lesser of a) $50 million or b) the amount by which $75 million exceeds the aggregate amount outstanding under the Series 2008-A Notes purchased by the senior lender, which was $23.6 million at December 31, 2008. In a previous amendment, during June 2008, the senior lender’s commitment was the lesser of a) $35 million or b) the amount by which $75 million exceeded the aggregate amount outstanding under the Series 2008-A Notes purchased by the senior lender plus the amount outstanding under the $15 million inventory credit facility with the senior lender. The increase in borrowing capacity of our receivables credit facility from $35 million to $50 million was facilitated based on the termination of our $15 million revolving inventory credit facility, also effective in September 2008. The terminated facility was originally scheduled to revolve through December 31, 2008 and mature on December 31, 2010. In September 2008, we paid the $7.8 million balance due on the terminated inventory credit facility from a draw against our existing $50 million inventory credit facility with another of our senior lenders. The interest rate on our amended receivables line remained Prime rate with a 6% floor. In addition, certain financial covenants were modified under the terms of the amendment. The maximum allowable limit on the four-quarter cumulative ratio of sales and marketing expense to revenue from the sale of Vacation Intervals was increased from .57 to 1 to .62 to 1. The tangible net worth minimum was increased from $108 million to $150 million.

During the fourth quarter of 2008, we retired $1.6 million of 8.0% senior subordinated notes, due April 2010, for $1.3 million, which resulted in a gain of approximately $250,000.

Notes payable secured by customer notes receivable require that collections from customers be remitted to our senior lenders upon receipt. In addition, we are required to calculate the appropriate “Borrowing Base” for each note payable monthly. Such Borrowing Base determines whether the loans are collateralized in accordance with the applicable loan agreements and whether additional amounts can be borrowed. In preparing the monthly Borrowing Base reports for our senior lenders, we have classified certain customer notes as eligible for Borrowing Base that might be considered ineligible in accordance with the loan agreements. Such potentially ineligible notes included in the Borrowing Base relate to a) cancelled notes from customers who have upgraded to a higher value product and b) notes that have been subject to payment concessions.


We have developed programs under which customers may be granted payment concessions in order to encourage delinquent customers to make additional payments. The effect of these concessions is to extend the term of the customer notes. Upon granting a concession, we consider the customer account to be current. Under our notes payable agreements, customer notes that are less than 60 days past due are considered eligible as Borrowing Base. As of December 31, 2007 and 2008, a total of $22.5 million and $25.7 million of customer notes, respectively, have been considered eligible for Borrowing Base purposes which would have been considered ineligible had payment concessions and the related reclassification as current not been granted. In addition, as of December 31, 2007 and 2008, $2.1 million and $2.1 million, respectively, of cancelled notes from customers who have upgraded to a different product have been treated as eligible for Borrowing Base purposes.

Principal maturities of notes payable, capital lease obligations, and senior subordinated notes are as follows at December 31, 2008 (in thousands):

2009
   $ 59,625  
2010
     69,793  
2011
     100,372  
2012
     70,699  
2013
     83,651  
Thereafter
     8,052  
Total
   $ 392,192  

Principal maturities on our term securitizations (SF-II, SF-V, and SF-VI) are shown proportionate to the projected collections of the corresponding notes receivable that serve as collateral to this debt. Total interest expense and lender fees for the years ended December 31, 2006, 2007, and 2008 was $21.7 million, $24.6 million, and $28.6 million, respectively. Interest of $869,000, $2.1 million, and $1.9 million was capitalized to inventory during the years ended December 31, 2006, 2007, and 2008, respectively.

As of December 31, 2008, eligible customer notes receivable with a face amount of $374.2 million and interval inventory of $52.5 million were pledged as collateral.

Financial Covenants Under Senior Credit Facilities.

The Company’s senior credit facilities provide certain financial covenants that we must satisfy.  Any failure to comply with the financial covenants in any single loan agreement will result in a cross default under the various facilities.  As of and for the years ended December 31, 2006, 2007, and 2008, we have been in full compliance with our debt covenants in our credit facilities with all of our senior lenders.

Certain of our debt agreements include restrictions on the Company's ability to pay dividends based on minimum levels of net income and cash flow. The debt agreements contain covenants including requirements that the Company (i) preserve and maintain the collateral securing the loans; (ii) pay all taxes and other obligations relating to the collateral; and (iii) refrain from selling or transferring the collateral or permitting any encumbrances on the collateral. The debt agreements also contain restrictive covenants, which include (i) restrictions on liens against and dispositions of collateral, (ii) restrictions on distributions to affiliates and prepayments of loans from affiliates, (iii) restrictions on changes in control and management of the Company, (iv) restrictions on sales of substantially all of the assets of the Company, and (v) restrictions on mergers, consolidations, or other reorganizations of the Company. Under certain credit facilities, a sale of all or substantially all of the assets of the Company, a merger, consolidation, or reorganization of the Company, or other changes of control of the ownership of the Company would constitute an event of default and permit our senior lenders to accelerate the maturity thereof.

Such credit facilities also contain operating covenants as of December 31, 2008, requiring us to (i) maintain a minimum tangible net worth, the most restrictive being to maintain a minimum tangible net worth at all times greater than the tangible net worth as of December 31, 2004, or $132.1 million, plus 50% of the aggregate amount of net income after December 31, 2004, maintain sales and marketing expenses as a percentage of Vacation Interval sales below 60% for the latest rolling 12 months (one senior lender has increased such ratio to 62% as of the last day of each fiscal quarter for a four-quarter cumulative ratio), maintain notes receivable delinquency rate below 10%, maintain a minimum interest coverage ratio of 1.25 to 1 for the latest rolling 12 months, the latest quarter, and average of the last four quarters, maintain positive net income for each year-end, and for any two consecutive fiscal quarters, maintain a leverage ratio of at least 6.0 to 1, and maintain a minimum weighted average FICO® Credit Bureau Score of 640 for all fiscal calendar quarter sales with respect to which a FICO® score can be obtained; (ii) maintain our legal existence and be in good standing in any jurisdiction where we conduct business; (iii) maintain our management agreement with our Existing Resorts; and (iv) refrain from modifying or terminating certain timeshare documents. The credit facilities also include customary events of default, including, without limitation (i) failure to pay principal, interest, or fees when due, (ii) untruth of any representation of warranty, (iii) failure to perform or timely observe covenants, (iv) defaults under other indebtedness, and (v) bankruptcy. At December 31, 2008, we are in compliance with these covenants.


9.
COMMITMENTS AND CONTINGENCIES

Litigation - We are currently subject to litigation arising in the normal course of our business. From time to time, such litigation includes claims regarding employment, tort, contract, truth-in-lending, the marketing and sale of Vacation Intervals, and other consumer protection matters. Litigation has been initiated from time to time by persons seeking individual recoveries for themselves, as well as, in some instances, persons seeking recoveries on behalf of an alleged class. In our judgment, none of the lawsuits currently pending against us, either individually or in the aggregate, is expected to have a material adverse effect on our business, results of operations, or financial position.

Various legal actions and claims may be instituted or asserted in the future against us and our subsidiaries, including those arising out of our sales and marketing activities and contractual arrangements.  Some of the matters may involve claims, which, if granted, could be materially adverse to our financial position.

Litigation is subject to many uncertainties, and the outcome of individual litigated matters is not predictable with assurance. We will establish reserves from time to time when deemed appropriate under generally acceptable accounting principles. However, the outcome of a claim for which we have not deemed a reserve to be necessary may be decided unfavorably against us and could require us to pay damages or incur other expenditures that could be materially adverse to our business, results of operations, or financial position.

We are a co-plaintiff with two other parties in two related matters brought in the Land Court Department of the Trial Court of the Commonwealth of Massachusetts, each styled as Silverleaf Resorts, Inc., et al. v. Zoning Board of Appeals of the Town of Lanesborough, et al., Civil Action No. 07 MISC 351155 and Civil Action No. 09 MISC 393464.  In these actions, we and the co-plaintiffs have challenged the validity of a special permit issued by the Lanesborough Zoning Board of Appeals to Berkshire Wind Power Cooperative Corporation (“Berkshire”), for a portion of a road that Berkshire needs to access property located where Berkshire plans to construct a wind farm.  We initiated this lawsuit because the predecessor in interest of the defendant was seeking to construct a wind farm directly adjacent to the property line of a 500-acre tract of land we own in Berkshire County, Massachusetts.  Our concern was that if the defendant was ultimately successful in developing this neighboring site in accordance with its plans, the proximity of such a wind farm facility to our property line could adversely affect our property.  We seek a court decree that the special permit expired from non-use and is therefore no longer valid, or alternatively, that the road was not built as permitted.  We will seek to consolidate these matters.  We are in fast track discovery in the Land Court, but no final trial date has been set.

Insurance Losses — On September 13, 2008, Hurricane Ike caused property damage and business interruption related to our Seaside Resort in Galveston, Texas, and our Piney Shores Resort just north of Houston, Texas. As a result, Seaside Resort was closed from September 10 through October 17, at which time we began taking reservations and gradually opening units. The resort was fully operational by December 12. Piney Shores Resort was closed from September 13 to September 25. We maintain insurance that covers both physical damage and business-interruption losses. We accrued $291,000 related to this incident, which represents our insurance deductibles and expenditures deemed uncollectible.  In addition, in November 2008, we received $1.3 million in business-interruption proceeds, which was recorded in other income.

Leases and Other Contractual Commitments - We have entered into noncancelable operating leases covering office and storage facilities and equipment, which expire at various dates through 2015. The total rental expense charged to operations during the years ended December 31, 2006, 2007, and 2008 was $2.7 million, $3.6 million, and $4.8 million, respectively. We have also acquired equipment by entering into capital leases.

The following table summarizes our scheduled contractual commitments as of December 31, 2008 (in thousands):

   
2009
    
2010
    
2011
    
2012
    
2013
    
Thereafter
  
Long-term debt
   $ 79,307     $ 85,045     $ 111,568     $ 77,111     $ 85,637     $ 8,614  
Capital leases
     1,010       597       345       104       18       —  
Operating leases
     2,337       1,504       968       519       306       475  
Construction commitments
     16,349       —       —       —       —       —  
Total
   $ 99,003     $ 87,146     $ 112,881     $ 77,734     $ 85,961     $ 9,089  

Principal maturities on our term securitizations (SF-II, SF-V, and SF-VI) are shown proportionate to the projected collections of the corresponding notes receivable that serve as collateral to this debt. Long-term debt includes $57.0 million of future interest, using an approximate interest rate of 6.8%, which is our weighted average cost of borrowings at December 31, 2008. Capital leases include $164,000 of future interest, using an approximate interest rate of 6.2%, which is our weighted average cost of borrowings on our capital lease obligations at December 31, 2008. Construction commitments of $16.3 million relate to the continued development of our resorts and will be funded via availability under our credit facilities. As of December 31, 2008, we had availability under our credit facilities of $186.6 million. We also have a $15.7 million demand note with SF-II, our wholly owned on-balance-sheet conduit financing subsidiary, which is excluded from long-term debt as the note represents only a potential, future cash outlay and is eliminated on a consolidated basis.


Equipment acquired under capital leases consists of the following at December 31, 2007 and 2008 (in thousands):

   
2007
    
2008
  
Amount of equipment under capital leases
   $ 2,362     $ 3,434  
Less accumulated depreciation
     (470 )     (1,159 )
    $ 1,892     $ 2,275  

At December 31, 2008, we had notes receivable (including notes unrelated to Vacation Intervals) in the approximate principal amount of $397.0 million with an allowance for uncollectible notes of $76.7 million.

Employment Agreements - Periodically, we enter into employment agreements with certain executive officers, which provide for minimum annual base salaries and other fringe benefits as determined by our Board of Directors. The agreements have varying terms of up to three years and typically can be terminated by either party upon 30 days notice, subject to severance provisions. Certain employment agreements provide that such person will not directly or indirectly compete with the Company in any county in which it conducts its business or markets its products for a period of two years following the termination of the agreement. These agreements also provide that such persons will not influence any employee or independent contractor to terminate its relationship with us or disclose any of our confidential information.

10. 
EQUITY

Our stock option plans provide for awarding nonqualified stock options to directors, officers, and key employees and incentive stock options to key salaried employees. Nonqualified stock options provide for the right to purchase common stock at a specified price which may be less than or equal to fair market value on the date of grant (but not less than par value). Nonqualified stock options may be granted for any term and upon such conditions determined by our Board of Directors.

At December 31, 2008, we have options outstanding under three stock-based compensation plans. Outstanding options have a graded vesting schedule, with shares vesting in equal increments over a three, four, or five-year period from the original grant date. These options are exercisable at prices ranging from $0.29 to $16.00 per share and expire 10 years from the date of grant.

Stock option transactions during 2006, 2007, and 2008 are summarized as follows:

   
2006
    
2007
    
2008
  
   
Number of Shares
    
Weighted Average Price per Share
    
Number of Shares
    
Weighted Average Price per Share
    
Number of Shares
    
Weighted Average Price per Share
  
Options outstanding, beginning of year
     3,137,657     $ 4.20       2,823,807     $ 4.63       2,513,807     $ 3.28  
Granted
     —     $ —       —     $ —       2,000,000     $ 1.89  
Exercised
     (313,850 )   $ 0.32       (10,000 )   $ 0.32       (385,000 )   $ 0.30  
Expired
     —     $ —       (299,000 )   $ 16.04       (338,500 )   $ 17.30  
Forfeited
     —     $ —       (1,000 )   $ 23.47       —     $ —  
Options outstanding, end of year
     2,823,807     $ 4.63       2,513,807     $ 3.28       3,790,307     $ 1.60  
                                                 
Exercisable, end of year
     2,645,807     $ 4.83       2,424,807     $ 3.34       1,790,307     $ 1.27  

For stock options outstanding at December 31, 2008:

Range of Exercise Prices
    
Number of Options Outstanding
    
Weighted Average Exercise Price per Option
    
Weighted Average Remaining Life in Years
    
Number of Options Exercisable
    
Weighted Average Exercise Price of Options Exercisable
    
Aggregate Intrinsic Value
  
$16.00 - 16.00
       5,000     $ 16.00       0.3       5,000     $ 16.00     $ —  
$7.31 - 7.31
       148,500       7.31       1.0       148,500       7.31       —  
$3.59 - 3.69
       75,000       3.64       1.8       75,000       3.64       —  
$1.86 - 1.89
       2,000,000       1.89       9.7       —       —       —  
$1.62 - 1.62
 
     267,000       1.62       6.8       267,000       1.62       —  
$0.29 - 0.32
       1,294,807       0.31       4.5       1,294,807       0.31       527,000  
Total
       3,790,307                       1,790,307                  

The intrinsic value of stock options exercised during each of the three years ended December 31, 2006, 2007, and 2008 was $1.1 million, $54,000, and $683,000, respectively.

We adopted SFAS No. 123R, as of January 1, 2006, using the modified prospective method for all stock options granted on or prior to December 31, 2005 that were outstanding as of that date. Under this transition method, compensation cost is recognized for the unvested portion of stock option grants outstanding at December 31, 2005 over the remaining requisite service period using the fair value for these options as estimated at the date of grant using the Black-Scholes option-pricing model under the original provisions of SFAS No. 123 for pro-forma disclosure purposes.


On July 29, 2008, our shareholders approved our 2008 Stock Option Plan, which reserved for issuance up to two million shares of our common stock as either incentive or nonqualified stock options to our directors, officers, and key employees. In August 2008, we granted 1,925,000 stock options under this plan of which 300,000 were nonqualified stock options granted to our directors and 1,625,000 were incentive stock options granted to certain officers and key employees. These stock options have a fair value of $1.19. In September 2008, we granted the remaining 75,000 stock options that were reserved for issuance as incentive stock options. These stock options have a fair value of $1.18. The fair value of the stock options granted is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions: expected volatility ranging from 33.5% to 57.9%, a risk-free interest rate of 3.5%, expected life of 7 years, and no distribution yield. The options granted to our officers and key employees will vest in equal increments over a five-year period. The options granted to our directors will vest in equal increments over a four-year period.

For the years ended December 31, 2006, 2007, and 2008, we recognized stock-based compensation of $252,000, $142,000, and $272,000, respectively. Stock-based compensation expense for the year ended December 31, 2008 consists of $88,000 for stock options granted prior to 2006 and $184,000 for stock options granted during the third quarter of 2008. There were no stock options granted during the years ended December 31, 2006 and 2007. As of December 31, 2008, stock-based compensation expense related to stock options granted prior to 2006 was fully recognized and the unamortized compensation expense related to our stock options granted in the third quarter of 2008 was $2.2 million.

On July 29, 2008, we authorized the repurchase of up to two million shares of our common stock to be acquired from time to time in the open market or in negotiated transactions. This stock repurchase program expires in July 2010. In the third quarter of 2008, we acquired 56,211 outstanding shares of common stock, which we reclassified as treasury stock, for $108,000. However, in the fourth quarter of 2008, 115,000 stock options were exercised and 56,211 shares of treasury stock were reissued in these transactions. We did not repurchase any treasury shares in the fourth quarter of 2008. As of December 31, 2008, 1,943,789 shares may yet be repurchased under this program.

11.
RELATED PARTY TRANSACTIONS

At December 31, 2008, the Club at each timeshare resort (other than Orlando Breeze) operates through a centralized organization provided by Silverleaf Club to manage the resorts on a collective basis. Each timeshare owners’ association (except for the Club at Orlando Breeze) has entered into a management agreement with Silverleaf Club, which authorizes the Clubs to manage the Existing Resorts. Silverleaf Club has in turn entered into a management agreement with the Company, whereby we supervise the management and operations of the Existing Resorts. Orlando Breeze has its own club, Orlando Breeze Resort Club, which is operated independently of Silverleaf Club. However, we supervise the management and operation of the Orlando Breeze Resort Club under the terms of a written agreement as well. Our management agreements with Silverleaf Club and Orlando Breeze Resort Club provide for a maximum management fee equal to 15% of gross revenues of either Silverleaf Club or Orlando Breeze Resort Club, but our right toreceive such a fee on an annual basis is limited to the net income of Silverleaf Club or Orlando Breeze Resort Club. However, if we do not receive the maximum fee, such deficiency is deferred for payment to succeeding years, subject again to the annual net income limitation. The Silverleaf Club management agreement expires March 2020 and continues year-to-year thereafter unless cancelled by either party. The Orlando Breeze Resort Club management agreement expires January 2011 and continues in successive 3-year terms thereafter unless cancelled by either party. During the years ended December 31, 2006, 2007, and 2008, we recognized management fee income of $1.9 million, $2.7 million, and $3.0 million, respectively, related to Silverleaf Club. During the years ended December 31, 2007 and 2008, we recognized management fee income of $135,000 and $120,000, respectively, related to Orlando Breeze Resort Club. Prior to 2007, we did not receive payment of management fees from Orlando Breeze Resort Club.

The direct expenses of operating the resorts are paid by the Clubs. To the extent the Clubs provide payroll, administrative, and other services that directly benefit the Company, we are charged a separate allocation by the Clubs. During the years ended December 31, 2006, 2007, and 2008, we incurred $312,000, $406,000, and $489,000, respectively, of expenses under these agreements. Likewise, to the extent we provide payroll, administrative, and other services that directly benefit the Clubs, we charge a separate allocation to the Clubs. During the years ended December 31, 2006, 2007, and 2008, we charged the Clubs $3.3 million, $3.6 million, and $3.6 million, respectively, under these agreements.

During the years ended December 31, 2006, 2007, and 2008, Silverleaf Club paid Silverleaf $74,000, $444,000, and $717,000, respectively, for Silverleaf Club members’ use of the Pinnacle Lodge hotel.  The amount the Club paid Silverleaf is based on the average room rate the hotel receives from outside parties.


The following schedule represents amounts due from affiliates at December 31, 2007 and 2008 (in thousands):

   
2007
    
2008
  
             
Timeshare owners associations and other, net
   $ 604     $ 728  
Amount due from Silverleaf Club
     402       144  
Amount due from special purpose entities
     352       866  
Total amounts due from affiliates
   $ 1,358     $ 1,738  
                 
In December 2007, we sold approximately 5.7 acres of land located in Wood County, Texas, to Mr. Robert E. Mead, our Chief Executive Officer, for $244,000. Our basis in this tract of land was zero, thus we recorded a gain of $242,000 in other income, which represents the sales price, net of closing costs. The aggregate market value of our ownership interests and other rights in this tract of land was determined to be $244,000 at May 7, 2007 based upon an appraisal from an independent appraisal firm. This transaction was approved by the Board of Directors, with Mr. Mead abstaining.

Pursuant to an agreement with TradeMark Consulting, Co. (“TradeMark”), a consulting company owned and operated by Thomas J. Morris, who became one of our executive officers in August 2005, we paid TradeMark a bonus of $100,000 in 2006 as a result of the completion of a financing transaction on March 2, 2006. Our employment agreement with Mr. Morris provided that his operation of TradeMark would not be a violation of the noncompetition provisions of his employment agreement. The agreement with TradeMark terminated on March 15, 2006.

12.
FAIR VALUE OF FINANCIAL INSTRUMENTS

The carrying value of cash and cash equivalents, other receivables, amounts due from or to affiliates, and accounts payable and accrued expenses approximates fair value due to the relatively short-term nature of the financial instruments. The carrying value of the notes receivable approximates fair value because the weighted average interest rate on the portfolio of notes receivable approximates current interest rates charged on similar current notes receivable. The carrying value of notes payable and capital lease obligations approximates their fair value because the interest rates on these instruments are adjustable or approximate current interest rates charged on similar current borrowings.

Our senior subordinated notes of $26.8 million and $23.1 million as of December 31, 2007 and 2008, respectively, had estimated fair values of approximately $16.8 million and $14.5 million, respectively, based on the market value of notes exchanged in the Exchange Offer in 2002. However, these notes were not traded on a regular basis and were therefore subject to large variances in offer prices. Accordingly, the estimated fair value may not be indicative of the amount at which a transaction could be completed.

Considerable judgment is required to interpret market data to develop estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts we could realize in a current market exchange. The use of different market assumptions and estimation methodologies may have a material effect on the estimated fair value amounts.

13.
FAIR VALUE MEASUREMENTS

As discussed in Note 2, we adopted SFAS No. 157 on January 1, 2008, which among other things, requires enhanced disclosures about assets and liabilities measured at fair value. Our adoption of SFAS No. 157 was limited to financial assets and liabilities, which primarily relate to the investment in our SPE and a derivative contract.

SFAS No. 157 includes a fair value hierarchy that is intended to increase consistency and comparability in fair value measurements and related disclosures. The fair value hierarchy is based on inputs to valuation techniques used to measure fair value that are either observable or unobservable. Observable inputs reflect assumptions market participants would use in pricing an asset or liability based on market data obtained from independent sources while unobservable inputs reflect a reporting entity’s pricing based upon its own market assumptions. The fair value hierarchy consists of the following three levels:

Level 1  -
Inputs are quoted prices in active markets for identical assets or liabilities.
Level 2  -
Inputs are quoted prices for similar assets or liabilities in an active market, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable, and market-corroborated inputs which are derived principally from or corroborated by observable market data.
Level 3  -
Inputs are derived from valuation techniques in which one or more significant inputs or value drivers are unobservable.


The following table represents our assets measured at fair value on a recurring basis as of December 31, 2008 and the basis for that measurement (in thousands):

         
Fair Value Measurements at Reporting Date Using
  
Description
  
December 31, 2008
    
Quoted Prices in Active Markets for Identical Assets (Level 1)
    
Significant Other Observable Inputs (Level 2)
    
Significant Unobservable Inputs (Level 3)
  
Investment in special purpose entity
   $ 4,908     $ —     $ —     $ 4,908  
Interest rate cap derivative
      7         —         7         —  
Total
   $ 4,915     $ —     $ 7     $ 4,908  

The activity in the investment in our SPE measured at fair value on a recurring basis using significant unobservable inputs (Level 3) is as follows for the years ended December 31, 2007 and 2008 (in thousands):

   
2007
    
2008
  
             
Balance, beginning of period
   $ 13,008     $ 7,315  
Net investment returns
     (5,693 )     (2,407 )
Balance, end of period
   $ 7,315     $ 4,908  

14.
SUBSIDIARY GUARANTEES

All subsidiaries of the Company, except SF-II, SF-III, SF-IV, SF-V, and SF-VI, have guaranteed our 8.0% senior subordinated notes of $23.1 million at December 31, 2008. Separate financial statements and other disclosures concerning these guaranteeing subsidiaries are not presented herein because such guarantees are full and unconditional and joint and several, and such subsidiaries represent wholly-owned subsidiaries of the Company. In addition, these subsidiaries had nominal balance sheets at December 31, 2007 and 2008, and no operations for the years ended December 31, 2006, 2007, and 2008.

15.
401(k) PLAN

Our 401(k) plan (the “Plan”), a qualified defined contribution retirement plan, covers employees 21 years of age or older who have completed six months of service. The Plan allows eligible employees to defer receipt of up to 15% of their compensation and contribute such amounts to various investment funds. Employee contributions vest immediately. We are not required by the Plan to match employee contributions, however, we may do so on a discretionary basis. We incurred nominal administrative costs related to  maintaining the Plan and made no contributions to the Plan during the years ended December 31, 2006, 2007, and 2008.

16.
SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)

Selected quarterly financial data for 2007 and 2008 is set forth below (in thousands, except per share amounts):

   
First
    
Second
    
Third
    
Fourth
  
   
Quarter
    
Quarter
    
Quarter
    
Quarter
  
Total revenues
                        
2008
   $ 67,026     $ 69,068     $ 68,381     $ 59,487  
2007
   $ 58,826     $ 63,853     $ 67,535     $ 64,816  
Total costs and operating expenses
                                
2008
   $ 54,919     $ 59,497     $ 63,625     $ 56,558  
2007
   $ 48,151     $ 51,289     $ 53,719     $ 56,769  
Net income
                                
2008
   $ 7,446     $ 5,886     $ 2,925     $ 1,669  
2007
   $ 6,565     $ 7,727     $ 8,497     $ 4,915  
Net income per common share: basic
                                
2008
   $ 0.20     $ 0.15     $ 0.08     $ 0.04  
2007
   $ 0.17     $ 0.20     $ 0.22     $ 0.13  
Net income per common share: diluted
                                
2008
   $ 0.19     $ 0.15     $ 0.07     $ 0.04  
2007
   $ 0.17     $ 0.20     $ 0.22     $ 0.12  


17.
SUBSEQUENT EVENTS

In February 2009, we retired $308,000 of 8.0% senior subordinated debt, due April 2010, for $246,000, which resulted in a gain of approximately $62,000.

In February 2009, we received $1.5 million in business-interruption proceeds related to Hurricane Ike, which, as previously discussed, struck our Seaside Resort in Galveston, Texas, on September 13, 2008. These proceeds will be reflected in other income in the first quarter of 2009 as collection was not assured at December 31, 2008.
 
 
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