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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION  FORM 10-Q (Mark One)[X]
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended June 30, 2004 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.  TEXAS
    
    75-2259890(State of incorporation)
    
    (I.R.S. EmployerIdentification No.)
 1221 RIVER BEND DRIVE, SUITE 120
DALLAS, TEXAS 75247
(Address of principal executive offices, including zip code) 214-631-1166
(Registrants telephone number, including area code) Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [   ] Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [   ] No
[X] Number of shares of common stock outstanding of the issuers Common Stock, par
value $0.01 per share, as of August 12, 2004: 36,860,238




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Explanatory Note CERTAIN STATEMENTS CONTAINED IN THIS FORM 10-Q UNDER ITEMS 1 AND 2, IN ADDITION
TO CERTAIN STATEMENTS CONTAINED ELSEWHERE IN THIS 10-Q, INCLUDING STATEMENTS
QUALIFIED BY THE WORDS BELIEVE, INTEND, ANTICIPATE, EXPECTS, AND WORDS
OF SIMILAR IMPORT, ARE FORWARD-LOOKING STATEMENTS AND ARE THUS PROSPECTIVE.
THESE STATEMENTS REFLECT THE CURRENT EXPECTATIONS OF THE COMPANY REGARDING THE
COMPANYS FUTURE PROFITABILITY, PROSPECTS, AND RESULTS OF OPERATIONS. ALL SUCH
FORWARD-LOOKING STATEMENTS ARE SUBJECT TO RISKS, UNCERTAINTIES, AND OTHER
FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM FUTURE
RESULTS EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. THESE RISKS,
UNCERTAINTIES, AND OTHER FACTORS ARE DISCUSSED UNDER THE HEADING CAUTIONARY
STATEMENTS BEGINNING ON PAGE 22 OF THE COMPANYS ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2003. ALL FORWARD-LOOKING STATEMENTS ARE MADE
AS OF THE DATE OF THIS REPORT ON FORM 10-Q AND THE COMPANY ASSUMES NO
OBLIGATION TO UPDATE THE FORWARD-LOOKING STATEMENTS OR TO UPDATE THE REASONS
WHY ACTUAL RESULTS COULD DIFFER FROM THE PROJECTIONS IN THE FORWARD-LOOKING
STATEMENTS. 1




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SILVERLEAF RESORTS, INC. INDEX PagePART I.
    
    FINANCIAL INFORMATION (Unaudited)Item 1.
    
    Consolidated Statements of Income for the three months
and six months ended June 30, 2004 and 2003
    
    
    3Consolidated Balance Sheets as of June 30, 2004 and
December 31, 2003
    
    
    4Consolidated Statement of Shareholders Equity for the
six months ended June 30, 2004
    
    
    5Consolidated Statements of Cash Flows for the six
months ended June 30, 2004 and 2003
    
    
    6Notes to the Condensed Consolidated Financial Statements
    
    
    7Item 2.
    
    Managements Discussion and Analysis of Financial Condition
and Results of Operations
    
    
    16Item 3.
    
    Quantitative and Qualitative Disclosures about Market Risk
    
    
    23Item 4.
    
    Controls and Procedures
    
    
    24PART II.
    
    OTHER INFORMATIONItem 1.
    
    Legal Proceedings
    
    
    24Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    25Item 5.
    
    Other Information
    
    
    26Item 6.
    
    Exhibits and Reports on Form 8-K
    
    
    26Signatures
    
    
    27Second Amendment to Amended and Restated BylawsIndenture - 8% Senior Subordinated Notes Due 20108% Senior Subordinated Notes Due 2010Subsidiary GuaranteeSecond Amended and Restated Revolving Credit AgreementContract of SaleFirst Amendment to Contract of SaleSecond Amendment to Contract of SaleThird Amendment to Contract of SaleCertification of CEO Pursuant to Section 302Certification of CFO Pursuant to Section 302Certification of CEO Pursuant to Section 906Certification of CFO Pursuant to Section 906
 2




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PART I: FINANCIAL INFORMATION (UNAUDITED) 
 Item 1. Financial Statements SILVERLEAF RESORTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except share and per share amounts)
(Unaudited) Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Revenues:Vacation Interval sales
    
    $
    37,144
    
    
    $
    32,480
    
    
    $
    69,131
    
    
    $
    61,037Sampler sales
    
    
    468
    
    
    
    401
    
    
    
    914
    
    
    
    886Total sales
    
    
    37,612
    
    
    
    32,881
    
    
    
    70,045
    
    
    
    61,923Interest income
    
    
    9,295
    
    
    
    8,650
    
    
    
    18,222
    
    
    
    17,418Management fee income
    
    
    300
    
    
    
    476
    
    
    
    600
    
    
    
    947Gain on sales of notes receivable
    
    
    154
    
    
    
    898
    
    
    
    580
    
    
    
    2,832Other income
    
    
    1,542
    
    
    
    1,463
    
    
    
    2,561
    
    
    
    2,670Total revenues
    
    
    48,903
    
    
    
    44,368
    
    
    
    92,008
    
    
    
    85,790Costs and Operating Expenses:Cost of Vacation Interval sales
    
    
    7,285
    
    
    
    5,618
    
    
    
    13,319
    
    
    
    10,661Sales and marketing
    
    
    18,699
    
    
    
    17,104
    
    
    
    35,166
    
    
    
    33,402Provision for uncollectible notes
    
    
    7,432
    
    
    
    6,495
    
    
    
    13,832
    
    
    
    41,161Operating, general and administrative
    
    
    7,013
    
    
    
    7,018
    
    
    
    13,497
    
    
    
    13,909Depreciation and amortization
    
    
    1,103
    
    
    
    1,163
    
    
    
    2,200
    
    
    
    2,345Interest expense and lender fees
    
    
    4,294
    
    
    
    4,221
    
    
    
    8,576
    
    
    
    8,628Total costs and operating expenses
    
    
    45,826
    
    
    
    41,619
    
    
    
    86,590
    
    
    
    110,106Other Income:Gain on early extinguishment of debt
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,257Total other income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,257Income (loss) before provision for income taxes
    
    
    3,077
    
    
    
    2,749
    
    
    
    5,418
    
    
    
    (23,059
    )Provision for income taxes
    
    
    (25
    )
    
    
    (59
    )
    
    
    (23
    )
    
    
    (72
    )Net income (loss)
    
    $
    3,052
    
    
    $
    2,690
    
    
    $
    5,395
    
    
    $
    (23,131
    )Basic income (loss) per share:
    
    $
    0.08
    
    
    $
    0.07
    
    
    $
    0.15
    
    
    $
    (0.63
    )Diluted income (loss) per share:
    
    $
    0.08
    
    
    $
    0.07
    
    
    $
    0.14
    
    
    $
    (0.63
    )Weighted average basic shares outstanding:
    
    
    36,846,319
    
    
    
    36,826,906
    
    
    
    36,843,938
    
    
    
    36,826,906Weighted average diluted shares outstanding:
    
    
    38,935,602
    
    
    
    37,143,564
    
    
    
    38,905,570
    
    
    
    36,826,906
 See notes to condensed consolidated financial statements. 3




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SILVERLEAF RESORTS, INC. AND SUBSIDIARIES 
 CONSOLIDATED BALANCE
SHEETS
 June 30,
    
    December 31,2004
    
    2003ASSETSCash and cash equivalents
    
    $
    4,661
    
    
    $
    4,093Restricted cash
    
    
    3,652
    
    
    
    1,624Notes receivable, net of allowance for uncollectible notes of
$54,310 and $48,372, respectively
    
    
    198,364
    
    
    
    193,379Accrued interest receivable
    
    
    2,208
    
    
    
    2,169Investment in Special Purpose Entity
    
    
    6,921
    
    
    
    6,053Amounts due from affiliates
    
    
    316
    
    
    
    150Inventories
    
    
    98,560
    
    
    
    101,399Land, equipment, buildings, and utilities, net
    
    
    26,001
    
    
    
    27,488Land held for sale
    
    
    2,991
    
    
    
    2,991Prepaid and other assets
    
    
    14,953
    
    
    
    12,441TOTAL ASSETS
    
    $
    358,627
    
    
    $
    351,787LIABILITIES AND SHAREHOLDERS EQUITYLIABILITIESAccounts payable and accrued expenses
    
    $
    7,363
    
    
    $
    6,705Accrued interest payable
    
    
    1,196
    
    
    
    1,087Amounts due to affiliates
    
    
    1,579
    
    
    
    656Unearned revenues
    
    
    4,540
    
    
    
    3,712Notes payable and capital lease obligations
    
    
    215,379
    
    
    
    215,337Senior subordinated notes
    
    
    35,466
    
    
    
    36,591Total Liabilities
    
    
    265,523
    
    
    
    264,088COMMITMENTS AND CONTINGENCIESSHAREHOLDERS EQUITYPreferred stock, 10,000,000 shares authorized, none issued and outstanding
    
    
    
    
    
    
    Common stock, par value $0.01 per share, 100,000,000 shares authorized,
37,249,006 shares issued, 36,860,238 shares outstanding at June 30,
2004, and 36,826,906 shares outstanding at December 31, 2003
    
    
    372
    
    
    
    372Additional paid-in capital
    
    
    116,614
    
    
    
    116,999Retained deficit
    
    
    (19,278
    )
    
    
    (24,673
    )Treasury stock, at cost, 388,768 shares at June 30, 2004 and 422,100
shares at December 31, 2003
    
    
    (4,604
    )
    
    
    (4,999
    )Total Shareholders Equity
    
    
    93,104
    
    
    
    87,699TOTAL LIABILITIES AND SHAREHOLDERS EQUITY
    
    $
    358,627
    
    
    $
    351,787
 See notes to condensed consolidated financial statements. 4




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SILVERLEAF RESORTS, INC. AND SUBSIDIARIES 
 CONSOLIDATED STATEMENT OF SHAREHOLDERS EQUITY
   Common StockNumber of
    
    $0.01
    
    Additional
    
    
    
    Treasury StockShares
    
    Par
    
    Paid-in
    
    RetainedIssued
    
    Value
    
    Capital
    
    Deficit
    
    Shares
    
    Cost
    
    TotalJanuary 1, 2004
    
    
    37,249,006
    
    
    $
    372
    
    
    $
    116,999
    
    
    $
    (24,673
    )
    
    
    (422,100
    )
    
    $
    (4,999
    )
    
    $
    87,699Exercise of stock options
    
    
    
    
    
    
    
    
    
    
    (385
    )
    
    
    
    
    
    
    33,332
    
    
    
    395
    
    
    
    10Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,395
    
    
    
    
    
    
    
    
    
    
    
    5,395June 30, 2004
    
    
    37,249,006
    
    
    $
    372
    
    
    $
    116,614
    
    
    $
    (19,278
    )
    
    
    (388,768
    )
    
    $
    (4,604
    )
    
    $
    93,104
 See notes to condensed consolidated financial statements. 5




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SILVERLEAF RESORTS, INC. AND SUBSIDIARIES 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
   Six Months EndedJune 30,2004
    
    2003OPERATING ACTIVITIES:Net income (loss)
    
    $
    5,395
    
    
    $
    (23,131
    )Adjustments to reconcile net income (loss) to net cash
provided by operating activities:Provision for uncollectible notes
    
    
    13,832
    
    
    
    41,161Gain on sales of notes receivable
    
    
    (580
    )
    
    
    (2,832
    )Gain on early extinguishment of debt
    
    
    
    
    
    
    (1,257
    )Gain on sale of land held for sale
    
    
    
    
    
    
    (273
    )Proceeds from sales of notes receivable
    
    
    9,559
    
    
    
    28,835Depreciation and amortization
    
    
    2,200
    
    
    
    2,345Increase (decrease) in cash from changes in assets and liabilities:Restricted cash
    
    
    (2,028
    )
    
    
    2,084Notes receivable
    
    
    (27,760
    )
    
    
    (15,726
    )Accrued interest receivable
    
    
    (39
    )
    
    
    249Investment in Special Purpose Entity
    
    
    (868
    )
    
    
    (164
    )Amounts due to/from affiliates, net
    
    
    757
    
    
    
    (293
    )Inventories
    
    
    2,803
    
    
    
    (3,386
    )Prepaid and other assets
    
    
    (2,512
    )
    
    
    (845
    )Accounts payable and accrued expenses
    
    
    658
    
    
    
    86Accrued interest payable
    
    
    109
    
    
    
    2Unearned revenues
    
    
    828
    
    
    
    489Net cash provided by operating activities
    
    
    2,354
    
    
    
    27,344INVESTING ACTIVITIES:Purchases of land, equipment, buildings, and utilities
    
    
    (713
    )
    
    
    (592
    )Proceeds from sale of land held for sale
    
    
    
    
    
    
    2,862Net cash provided by (used in) investing activities
    
    
    (713
    )
    
    
    2,270FINANCING ACTIVITIES:Proceeds from borrowings from unaffiliated entities
    
    
    44,300
    
    
    
    45,415Payments on borrowings to unaffiliated entities
    
    
    (45,383
    )
    
    
    (71,280
    )Proceeds from exercise of stock options
    
    
    10
    
    
    
    Net cash used in financing activities
    
    
    (1,073
    )
    
    
    (25,865
    )Net change in cash and cash equivalents
    
    
    568
    
    
    
    3,749CASH AND CASH EQUIVALENTS:Beginning of period
    
    
    4,093
    
    
    
    1,153End of period
    
    $
    4,661
    
    
    $
    4,902SUPPLEMENTAL CASH FLOW INFORMATION:Interest paid, net of amounts capitalized
    
    $
    8,430
    
    
    $
    8,006
 See notes to condensed consolidated financial statements. 6




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SILVERLEAF RESORTS, INC. AND SUBSIDIARIES 
 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (UNAUDITED)
 Note 1  Background These condensed consolidated financial statements of Silverleaf Resorts, Inc.
and subsidiaries (the Company) presented herein do not include certain
information and disclosures required by accounting principles generally
accepted in the United States of America for complete financial statements.
However, in the opinion of management, all adjustments considered necessary for
a fair presentation have been included. Operating results for the three and six
months ended June 30, 2004 are not necessarily indicative of the results that
may be expected for the year ending December 31, 2004. These condensed consolidated financial statements should be read in conjunction
with the audited consolidated financial statements and footnotes included in
the Companys Form 10-K for the year ended December 31, 2003 as filed with the
Securities and Exchange Commission. The accounting policies used in preparing
these condensed consolidated financial statements are the same as those
described in such Form 10-K. Note 2  Significant Accounting Policies Summary Basis of Presentation The accompanying consolidated financial statements have
been prepared pursuant to the rules and regulations of the Securities and
Exchange Commission (SEC). In the opinion of the Company, the accompanying
consolidated financial statements contain all material adjustments, consisting
only of normal recurring adjustments necessary to present fairly the financial
condition, the results of operations and changes in cash flows of the Company
and its subsidiaries. Principles of Consolidation The consolidated financial statements include the
accounts of the Company and its wholly-owned subsidiaries, excluding Silverleaf
Finance I, Inc., the Companys wholly-owned special purpose entity (SPE). All
significant intercompany accounts and transactions have been eliminated in the
consolidated financial statements. Revenue and Expense Recognition A substantial portion of Vacation Interval
sales are made in exchange for mortgage notes receivable, which are secured by
a deed of trust on the Vacation Interval sold. The Company recognizes the sale
of a Vacation Interval under the 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 accrual method criteria are met
except that construction is not substantially complete, revenues are recognized
on the percentage-of-completion basis. Under this method, the portion of
revenue applicable to costs incurred, as compared to total estimated
construction and direct selling costs, is recognized in the period of sale. The
remaining amount is deferred and recognized as the remaining costs are
incurred. The deferral of sales and costs related to the
percentage-of-completion method is not significant. Certain Vacation Interval sales transactions are deferred until the minimum
down payment has been received. The Company accounts 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
income and the interest portion is recognized as interest income. In addition to sales of Vacation Intervals to new prospective owners, the
Company sells upgraded and additional Vacation Intervals to existing Silverleaf
Owners. Revenues are recognized on these upgrade Vacation Interval sales when
the criteria described above are satisfied. The revenue recognized is the net
of the incremental increase in the upgrade sales price and cost of sales is the
incremental increase in the cost of the Vacation Interval purchased. A provision for estimated customer returns is reported net against Vacation
Interval sales. Customer returns represent cancellations of sales transactions
in which the customer fails to make the first installment payment. The Company recognizes 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 7




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becomes 90 days
delinquent, the accrued interest is reduced to $0 and the accrual of additional
interest income ceases until collection is deemed probable. Revenues related to one-time sampler contracts, which entitles the prospective
owner to sample a resort during certain periods, are recognized when earned.
Revenue recognition is deferred until the customer uses the stay, purchases a
Vacation Interval, or allows the contract to expire. The Company receives fees for management services provided to each timeshare
resorts owners association (a Club). These revenues are recognized on an
accrual basis in the period the services are provided if collection is deemed
probable. Utilities, services, and other income are recognized on an accrual basis in the
period service is provided. Sales and marketing costs are charged to expense in the period incurred.
Commissions, however, are recognized in the same period as the related sales. 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 that
serve as collateral for construction bonds and cash restricted for repayment of
debt. Investment in Special Purpose Entity The Company is party to an $85 million
revolving credit agreement to finance Vacation Interval notes receivable
through an off-balance-sheet SPE. The Company accounts for and evaluates its
investment in the SPE in accordance with SFAS 140, EITF 99-20, and SFAS 115, as
applicable. Sales of notes receivable from the Company to its SPE that meet
certain underwriting criteria occur on a periodic basis. The SPE funds these
purchases through advances under a credit agreement arranged for this purpose.
The gain or loss on the sale is determined based on the proceeds received, the
fair value assigned to the investment in SPE, and the recorded value of notes
receivable sold. The fair value of the investment in the SPE is estimated
based on the present value of future expected cash flows back to the Company
from the notes receivable sold. The Company utilized the following key
assumptions to estimate the fair value of such cash flows: customer prepayment
rate  ranging from 2.3% to 4.3%; expected accounts paid in full as a result of
upgrades  ranging from 5.8% to 6.2%; expected credit losses  ranging from
5.6% to 8.1%; discount rate  ranging from 13.5% to 19%; base interest rate 
ranging from 3.3% to 4.4%; agent fee  ranging from 2% to 2.37%; and loan
servicing fees  1%. The Companys assumptions are based on experience with its
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 SPE. The carrying value of the investment in SPE represents the
Companys maximum exposure to loss regarding its involvement with the SPE. Provision for Uncollectible Notes Such provision 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.
Such allowance for uncollectible notes is adjusted based upon periodic analysis
of the notes receivable portfolio, historical credit loss experience, and
current economic factors. Credit losses take three forms. The first is the full cancellation of the note,
whereby the customer is relieved of the obligation and the Company recovers the
underlying inventory. The second form is a deemed cancellation, whereby the
Company records the cancellation of all notes that become 90 days delinquent,
net of notes that are no longer 90 days delinquent. The third form is the note
receivable reduction that occurs when a customer trades a higher value product
for a lower value product. In estimating the allowance, the Company projects
future cancellations, net of recovery of the related inventory, for each sales
year by using historical cancellations experience. 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 the recourse
obligations discussed herein. Actual cancellations and losses experienced
represents all notes identified by management as being probable of
cancellation. Recourse to the Company on sales of customer notes receivable is
governed by the agreements between the purchasers and the Company. 8




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The Company classifies the components of the provision for uncollectible notes
as either credit losses or customer returns (cancellations of sales whereby the
customer fails to make the first installment payment). The provision for
uncollectible notes pertaining to credit losses and customer returns are
classified in the provision for uncollectible notes and a reduction in Vacation
Interval sales, respectively. Inventories Inventories are stated at the lower of cost or market value. Cost
includes amounts for land, construction materials, direct labor and overhead,
taxes, and capitalized interest incurred in the construction or through the
acquisition of resort dwellings held for timeshare sale. Timeshare unit costs
are capitalized as inventory and are allocated to Vacation Intervals based upon
their relative sales values. Upon sale of a Vacation Interval, these costs are
charged to cost of sales on a specific identification basis. Vacation Intervals
reacquired are placed back into inventory at the lower of their original
historical cost basis or market value. The Company estimates the total cost to complete all amenities at each resort.
This cost includes both costs incurred to date and expected future costs to be
incurred. The Company allocates the estimated total amenities cost to cost of
Vacation Interval sales based on Vacation Intervals sold in a given period as a
percentage of total Vacation Intervals expected to sell over the life of a
particular resort project. Company management periodically reviews the carrying value of its inventory on
an individual project basis to ensure that the carrying value does not exceed
market value. Land, Equipment, Buildings, and Utilities Land, equipment (including
equipment under capital lease), buildings, and utilities are stated at cost,
which includes amounts for construction materials, direct labor and overhead,
and capitalized interest. 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, ranging from 3 to 20 years. Company
management periodically reviews its long-lived assets for impairment whenever
events or changes in circumstances indicate that the carrying amount of an
asset may not be recoverable. Prepaid and Other Assets Prepaid and other assets consists primarily of
prepaid insurance, prepaid postage, intangibles, commitment fees, debt issuance
costs, novelty inventories, deposits, collected cash in lender lock boxes which
have not yet been applied to the loan balances by the lenders, and
miscellaneous receivables. Commitment fees and debt issuance costs are
amortized over the life of the related debt. Intangibles are amortized over
their useful lives, which do not exceed ten years. Income Taxes Deferred income taxes are recorded for temporary differences
between the bases of assets and liabilities as recognized by tax laws and their
carrying value as reported in the consolidated financial statements. A
provision is made or benefit recognized for deferred income taxes relating to
temporary differences for financial reporting purposes. To the extent a
deferred tax asset does not meet the criteria of more likely than not for
realization, a valuation allowance is recorded. Earnings (Loss) Per Share Basic earnings (loss) per share is computed by
dividing net income (loss) by the weighted average shares outstanding. Earnings
per share assuming dilution is computed by dividing net income by the weighted
average number of shares and potentially dilutive shares outstanding. The
number of potentially dilutive shares is computed using the treasury stock
method, which assumes that the increase in the number of shares resulting from
the exercise of the stock options is reduced by the number of shares that could
have been repurchased by the Company with the proceeds from the exercise of the
stock options. Stock-Based Compensation In December 2002, the Financial Accounting Standards
Board issued Statement of Financial Accounting Standards No. 148, Accounting
for Stock-Based Compensation  Transition and Disclosure (SFAS 148). SFAS
148 amends the disclosure provisions of SFAS No. 123, Accounting for
Stock-Based Compensation, and APB Opinion No. 28, Interim Financial
Reporting, to require disclosure in the summary of significant accounting
policies of the effects of an entitys accounting policy with respect to
stock-based employee compensation on reported net income and earnings per share
in annual and interim financial statements. While SFAS No. 148 does not amend
SFAS No. 123 to require companies to account for employee stock options using
the fair value method, the disclosure provisions of SFAS No. 148 are applicable
to all companies with stock-based employee compensation, regardless of whether
they account for that compensation using the fair value method of SFAS No. 123
or the intrinsic value method of APB Opinion No. 25, Accounting for Stock
Issued to Employee 9




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##### Table of Contents



(APB No. 25). As allowed by SFAS No. 123, the Company has elected to continue to utilize the
accounting method prescribed by APB No. 25, provide the disclosure requirements
of SFAS No. 123 and, as of December 31, 2002, adopt the disclosure requirements
of SFAS No. 148. Although the Company selected an accounting policy which
requires only the excess of the market value of its common stock over the
exercise price of options granted to be recorded as compensation expense
(intrinsic method), pro forma information regarding net income (loss) is
required as if the Company had accounted for its employee stock options under
the fair value method of SFAS No. 123. Pro forma net income (loss) applicable
to the options granted is not likely to be representative of the effects on
reported net income (loss) for future years. The fair value for these options
is estimated at the date of grant using the Black-Scholes option-pricing model.
Stock compensation determined under the intrinsic method is recognized over
the vesting period using the straight-line method. Had compensation cost for the Companys stock option grants been determined
based on the fair value at the date of grant in accordance with the provisions
of SFAS No. 123, the Companys net income (loss) and net income (loss) per
share would have been the following pro forma amounts (in thousands, except per
share amounts): 3 Months
    
    3 Months
    
    6 Months
    
    6 MonthsEnded
    
    Ended
    
    Ended
    
    EndedJune 30,
    
    June 30,
    
    June 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Net income (loss), as reported
    
    $
    3,052
    
    
    $
    2,690
    
    
    $
    5,395
    
    
    $
    (23,131
    )Stock-based compensation expense
recorded under the intrinsic value
method
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Pro forma stock-based compensation
expense computed under the fair
value method
    
    
    (75
    )
    
    
    (125
    )
    
    
    (150
    )
    
    
    (248
    )Pro forma net income (loss)
    
    $
    2,977
    
    
    $
    2,565
    
    
    $
    5,245
    
    
    $
    (23,379
    )Net income (loss) per share, basicAs reported
    
    $
    0.08
    
    
    $
    0.07
    
    
    $
    0.15
    
    
    $
    (0.63
    )Pro forma
    
    $
    0.08
    
    
    $
    0.07
    
    
    $
    0.14
    
    
    $
    (0.63
    )Net income (loss) per share, dilutedAs reported
    
    $
    0.08
    
    
    $
    0.07
    
    
    $
    0.14
    
    
    $
    (0.63
    )Pro forma
    
    $
    0.08
    
    
    $
    0.07
    
    
    $
    0.13
    
    
    $
    (0.63
    )
 There were no stock options granted during the first six months of 2004. The
fair value of the stock options granted during the first half of 2003 were
$0.32. 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 143.2% to 217.3% for all
grants, risk-free interest rates which vary for each grant and range from 4.1%
to 12.2%, expected life of 7 years for all grants, and no distribution yield
for all grants. Use of Estimates The preparation of the consolidated financial statements
requires the use of managements estimates and assumptions in determining the
carrying values of certain assets and liabilities and 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 estimated. Significant
management estimates include the allowance for uncollectible notes, valuation
of SPE, and the future sales plan used to allocate certain inventory costs to
cost of sales. Reclassifications Certain reclassifications have been made to the 2003
consolidated financial statements to conform to the 2004 presentation. These
reclassifications had no effect on net income (loss). The reclassification
relates to the Gain on Sales of Notes Receivable as presented on the
consolidated statements of income and the consolidated statements of cash
flows. The Gain on Sales of Notes Receivable is no longer classified as Other
Income on the consolidated statements of income and is no longer classified as
a financing activity on the consolidated statements of cash flows. The
reclassification more accurately reflects the true operations of the Company. Recent Accounting Pronouncements FIN No. 46 In January 2003, the Financial Accounting Standards Board issued
Interpretation No. 46, Consolidation of Variable Interest Entities (FIN No.
46). FIN No. 46 requires the primary beneficiary of a variable interest
entitys activities to consolidate the variable interest entity. FIN No. 46
defines a variable interest entity as an entity in which the equity investors
do not have substantive voting rights and there is not sufficient equity at
risk for the entity to finance its activities without additional subordinated
financial support. The primary 10




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##### Table of Contents



beneficiary is the party that absorbs a majority
of the expected losses and/or receives a majority of the expected residual
returns of the variable interest entitys activities. In December 2003, the
Financial Accounting Standards Board issued FIN No. 46R (FIN No. 46R), which
supercedes and amends certain provisions of FIN No. 46. While FIN No. 46R
retains many of the concepts and provisions of FIN No. 46, it also provides
additional guidance related to the application of FIN No. 46, provides for
certain additional scope exceptions, and incorporates several Financial
Accounting Standards Board Staff Positions issued related to the application of
FIN No. 46. The provisions of FIN No. 46 are immediately applicable to variable interest
entities created, or interests in variable interest entities obtained, after
January 31, 2003 and the provisions of FIN No. 46R are required to be applied
to such entities, except for special purpose entities, by the end of the first
reporting period ending after March 15, 2004. For variable interest entities
created, or interests in variable interest entities obtained, on or before
January 31, 2003, FIN No. 46 or FIN No. 46R is required to be applied to
special-purpose entities by the end of the first reporting period ending after
December 15, 2003 (December 31, 2003 for calendar-year entities) and is
required to be applied to all other non-special purpose entities by the end of
the first reporting period ending after March 15, 2004 (March 31, 2004 for
calendar-year entities). FIN No. 46 and FIN No. 46R may be applied
prospectively with a cumulative-effect adjustment as of the date it is first
applied, or by restating previously issued financial statements with a
cumulative-effect adjustment as of the beginning of the first year restated.
FIN No. 46 and FIN No. 46R also require certain disclosures of an entitys
relationship with variable interest entities. The adoption of FIN No. 46 and
FIN No. 46R required the Company to consolidate its wholly-owned financing
subsidiary, Silverleaf Finance II, Inc. (SF-II), formed in December 2003. SFAS No. 149  In April 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 149, Amendment of Statement
133 on Derivative Instruments and Hedging Activities (SFAS No. 149). SFAS
No. 149 amends and clarifies certain derivative instruments embedded in other
contracts, and for hedging activities under Statement of Financial Accounting
Standards No. 133. SFAS No. 149 is effective for certain contracts entered
into or modified by the Company after June 30, 2003. The adoption of SFAS No.
149 did not impact the Companys consolidated financial position or results of
operations. SFAS No. 150  In May 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 150,Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and Equity
(SFAS No. 150). SFAS No. 150 specifies that certain financial instruments
within its scope constitute obligations of the issuer and that, therefore, the
issuer must classify them as liabilities. Such financial instruments include
mandatorily redeemable financial instruments, obligations to repurchase the
issuers equity shares by transferring assets, and certain obligations to issue
a variable number of shares. SFAS No. 150 is effective immediately for all
financial instruments entered into or modified after May 31, 2003. For all
other instruments, SFAS No. 150 is effective at the beginning of the third
quarter of 2003. The adoption of SFAS No. 150 did not impact the Companys
consolidated financial position or results of operations. Note 3  Debt Restructuring As of December 31, 2002, we were in compliance with all of our operating
covenants. However, due to the results of the quarter ended March 31, 2003, we
were not in compliance with three of our financial covenants. First, sales and
marketing expense for the quarter ended March 31, 2003 was 56.1% of sales,
compared to a maximum threshold of 52.5%. Second, the interest coverage ratio
for the twelve months ended March 31, 2003 was 1.02 to 1.0, compared to a
minimum requirement of 1.25 to 1.0. And third, net loss for the two consecutive
quarters ended March 31, 2003 was $24.9 million, compared to a minimum
requirement of $1.00 net income. In November 2003, we entered into agreements with our three senior lenders to
amend our senior credit facilities to modify our financial covenants under
which we had been in default since the first quarter of 2003. The amended
covenants increased from 52.5% to 55% the maximum permitted ratio of sales and
marketing expenses to total sales for each rolling twelve month period
beginning with the quarter ended March 31, 2003. They also exclude the $28.7
million increase in our allowance for uncollectible notes in the quarter ended
March 31, 2003 from the calculation of our minimum required consolidated net
income, and from the calculation of our minimum required interest coverage
ratio of 1.25 to 1.0. In addition to the above amendments, we also received
waivers under our senior credit facilities of covenant defaults which occurred
in the first quarter of 2003. In addition, as a result of the loss for the quarter ended March 31, 2003, our
SPE was in default of financial covenants with its lender. The lender
subsequently waived the defaults as of March 31, 2003 and modified its
agreement with the SPE. 11




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##### Table of Contents



As a result of these amendments and waivers, we are in full compliance with all
of the financial covenants under our credit facilities with our senior lenders
as of December 31, 2003, March 31, 2004, and June 30, 2004. Note 4  Earnings Per Share The following table illustrates the reconciliation between basic and diluted
weighted average shares outstanding for the three and six months ended June 30,
2004 and 2003: Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Weighted
average shares outstanding - basic
    
    
    36,846,319
    
    
    
    36,826,906
    
    
    
    36,843,938
    
    
    
    36,826,906Issuance of shares from stock options exercisable
    
    
    2,777,147
    
    
    
    2,540,863
    
    
    
    2,777,147
    
    
    
    Repurchase of shares from stock options proceeds
    
    
    (687,864
    )
    
    
    (2,224,205
    )
    
    
    (715,515
    )
    
    
    Weighted
average shares outstanding - diluted
    
    
    38,935,602
    
    
    
    37,143,564
    
    
    
    38,905,570
    
    
    
    36,826,906
 For the six months ended June 30, 2003, the weighted average shares outstanding
assuming dilution was non-dilutive. Outstanding stock options totaling
3,745,479 at June 30, 2003 were excluded from the computation of diluted
earnings per share for this period because including such stock options would
have been non-dilutive. Note 5 Notes Receivable The Company provides financing to the purchasers of Vacation Intervals, which
are collateralized by their interest in such Vacation Intervals. The notes
receivable generally have initial terms of seven to ten years. The average
yield on outstanding notes receivable at June 30, 2004 was approximately 15.0%.
In connection with the sampler program, the Company routinely enters into notes
receivable with terms of 10 months. Notes receivable from sampler sales were
$2.0 million and $1.3 million at June 30, 2004 and 2003, respectively, and are
non-interest bearing. The activity in gross notes receivable is as follows for the three and
six-month periods ended June 30, 2004 and 2003 (in thousands): Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Balance, beginning of period
    
    $
    240,192
    
    
    $
    240,002
    
    
    $
    241,751
    
    
    $
    261,784Sales
    
    
    33,684
    
    
    
    26,738
    
    
    
    60,477
    
    
    
    49,998Collections
    
    
    (15,361
    )
    
    
    (15,493
    )
    
    
    (30,010
    )
    
    
    (28,730
    )Receivables charged off
    
    
    (1,316
    )
    
    
    (4,107
    )
    
    
    (6,819
    )
    
    
    (12,298
    )Sold notes receivable
    
    
    (4,525
    )
    
    
    (11,486
    )
    
    
    (12,725
    )
    
    
    (35,100
    )Balance, end of period
    
    $
    252,674
    
    
    $
    235,654
    
    
    $
    252,674
    
    
    $
    235,654
 The Company considers accounts over 60 days past due to be delinquent. As of
June 30, 2004, $1.3 million of notes receivable, net of accounts charged off,
were considered delinquent. An additional $49.9 million of notes, approximately
20% of total gross notes receivable, would have been considered to be
delinquent had the Company not granted payment concessions to the customers at
some point since the inception of these notes. The activity in the allowance
for uncollectible notes is as follows for the three and six months ended June
30, 2004 and 2003 (in thousands): Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Balance, beginning of period
    
    $
    48,565
    
    
    $
    51,303
    
    
    $
    48,372
    
    
    $
    28,547Provision for credit losses
    
    
    7,432
    
    
    
    6,495
    
    
    
    13,832
    
    
    
    41,161Receivables charged off
    
    
    (1,316
    )
    
    
    (4,107
    )
    
    
    (6,819
    )
    
    
    (12,298
    )Allowance related to notes sold
    
    
    (371
    )
    
    
    (1,804
    )
    
    
    (1,075
    )
    
    
    (5,523
    )Balance, end of period
    
    $
    54,310
    
    
    $
    51,887
    
    
    $
    54,310
    
    
    $
    51,887
 During the six months ended June 30, 2004, the Company sold $12.7 million of
notes receivable and recognized pre-tax gains of $580,000. The SPE funded these
purchases through advances under a credit agreement arranged for this purpose.
In connection with these sales, the Company received cash consideration of $9.6
million, which was used to pay down borrowings under its revolving loan
facilities. 12




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Note 6  Debt Notes payable, capital lease obligations, and senior subordinated notes as of
June 30, 2004 and December 31, 2003 (in thousands): June 30,
    
    December 31,2004
    
    2003$55.9 million loan agreement, which contains certain financial
covenants, due March 2007, principal and interest payable from the
proceeds obtained on customer notes receivable pledged as collateral
for the note (the loan agreement is limited to a $44.6 million
revolver with an interest rate of LIBOR plus 3% with a 6% floor and a
$11.3 million term loan with an interest rate of 8%)
    
    $
    31,374
    
    
    $
    25,095$11.3 million term loan with an interest rate of 8%, due in March 2007
    
    
    10,494
    
    
    
    10,998$55.1 million loan agreement, which contains certain financial
covenants, due March 2007, principal and interest payable from the
proceeds obtained on customer notes receivable pledged as collateral
for the note (the loan agreement is limited to a $44.1 million
revolver with an interest rate of LIBOR plus 3% with a 6% floor and a
$11.0 million term loan with an interest rate of 8%)
    
    
    34,006
    
    
    
    28,325$11.0 million term loan with an interest rate of 8%, due in March 2007
    
    
    10,348
    
    
    
    10,845$7.9 million loan agreement, which contains certain financial
covenants, due March 2007, principal and interest payable from the
proceeds obtained on customer notes receivable pledged as collateral
for the note (the loan agreement is limited to a $6.2 million
revolver with an interest rate of Prime plus 3% with a 6% floor and a
$1.7 million term loan with an interest rate of 8%)
    
    
    4,762
    
    
    
    3,734$1.7 million term loan with an interest rate of 8%, due in March 2007
    
    
    1,487
    
    
    
    1,558$66.4 million conduit loan, due December 2014, principal and interest
payable from the proceeds obtained on customer notes receivable
pledged as collateral for the note, at an interest rate of 7.035%
    
    
    59,520
    
    
    
    66,381$40.4 million loan agreement, which contains certain financial
covenants, due March 2007, principal and interest payable from the
proceeds obtained on customer notes receivable pledged as collateral
for the note (the loan agreement is limited to a $35 million revolver
with an interest rate of Federal Funds plus 2.75% with a 6% floor and
a $5.4 million term loan with an interest rate of 8%)
    
    
    17,858
    
    
    
    16,897$5.4 million term loan with an interest rate of 8%, due in March 2007
    
    
    5,162
    
    
    
    5,412$70 million loan agreement, capacity reduced by amounts outstanding
under the $10 million inventory loan agreement and the $9 million
supplemental revolving loan agreement, which contains certain
financial covenants, due February 2006, principal and interest
payable from the proceeds obtained on customer notes receivable
pledged as collateral for the note, at an interest rate of LIBOR plus
2.65% with a 6.0% floor (additional draws are no longer available
under this facility)
    
    
    12,619
    
    
    
    17,009$9 million supplemental revolving loan agreement, which contains
certain financial covenants, due March 2007, principal and interest
payable from the proceeds obtained on customer notes receivable
pledged as collateral for the note, at an interest rate of LIBOR plus
2.67% with a 6% floor
    
    
    7,398
    
    
    
    8,345$10 million inventory loan agreement, which contains certain
financial covenants, due March 2007, interest payable monthly, at an
interest rate of LIBOR plus 3.25%
    
    
    10,000
    
    
    
    10,000$8 million inventory loan agreement, which contains certain financial
covenants, due March 2007, interest payable monthly, at an interest
rate of Prime plus 3%
    
    
    8,000
    
    
    
    $10 million inventory loan agreement, which contains certain
financial covenants, due March 2007, interest payable monthly, at an
interest rate of LIBOR plus 3.5% with a 6% floor
    
    
    
    
    
    
    7,733Various notes, due from May 2005 through February 2009, collateralized
by various assets with interest rates ranging from 0.9% to 10.5%
    
    
    1,527
    
    
    
    1,676Total notes payable
    
    
    214,555
    
    
    
    214,008Capital lease obligations
    
    
    824
    
    
    
    1,329Total notes payable and capital lease obligations
    
    
    215,379
    
    
    
    215,3378.0% senior subordinated notes, due 2010, interest payable
semiannually on April 1 and October 1, guaranteed by all of the
Companys present and future domestic restricted subsidiaries
    
    
    24,671
    
    
    
    6.0% senior subordinated notes, due 2007, interest payable
semiannually on April 1 and October 1, guaranteed by all of the
Companys present and future domestic restricted subsidiaries
    
    
    3,796
    
    
    
    28,467101/2% senior subordinated notes, subordinate to the 6.0% senior
subordinated notes above, due 2008, interest payable semiannually on
April 1 and October 1, guaranteed by all of the Companys present and
future domestic restricted subsidiaries
    
    
    2,146
    
    
    
    2,146Interest on the 6.0% senior subordinated notes, due 2007, and the
8.0% senior subordinated notes, due 2010, interest payable
semiannually through October 2007 on April 1 and October 1,
guaranteed by all of the Companys present and future domestic
restricted subsidiaries
    
    
    4,853
    
    
    
    5,978Total senior subordinated notes
    
    
    35,466
    
    
    
    36,591Total
    
    $
    250,845
    
    
    $
    251,928
 13




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##### Table of Contents



At June 30, 2004, LIBOR rates were from 1.11% to 1.33%, and the Prime rate was
4.00%. At December 31, 2003, LIBOR rates were from 1.15% to 1.18%, and the
Prime rate was 4.00%. The Company completed an offer on June 7, 2004 to exchange $24,671,000 of
principal amount of its 6% Senior Subordinated Notes due 2007 for $24,671,000
of principal amount of its 8% Senior Subordinated Notes due 2010 and a cash
payment of $271,381, representing accrued, unpaid interest from April 1, 2004
through June 6, 2004. Note 7  Subsidiary Guarantees As of June 30, 2004, all subsidiaries of the Company, except the SPE and SF-II,
have guaranteed the $35.5 million of senior subordinated notes. Separate
financial statements and other disclosures concerning each guaranteeing
subsidiary (each, a Guarantor Subsidiary) are not presented herein because
the guarantee of each Guarantor Subsidiary is full and unconditional and joint
and several, and each Guarantor Subsidiary is a wholly-owned subsidiary of the
Company, and together comprise all direct and indirect subsidiaries of the
Company. The Guarantor Subsidiaries had no operations for the six months ended June 30,
2004 and 2003. Combined summarized balance sheet information as of June 30,
2004 for the Guarantor Subsidiaries is as follows (in thousands): June 30,2004Other assets
    
    $
    2Total assets
    
    $
    2Investment by parent (includes equity
and amounts due to parent)
    
    $
    2Total liabilities and equity
    
    $
    2
 Note 8 Commitments and Contingencies Holiday Hills Condominium Association, Inc. et al v. Silverleaf Resorts, Inc.
et al, Circuit Court of Christian County, Missouri. The homeowners
associations of five condominium projects that a former subsidiary of the
Company constructed in Missouri filed two separate actions against the Company
in 1999 and 2000, respectively, alleging breach of warranty, construction
defects and breach of management agreements. These two cases have been
consolidated, but no trial date has been set. The plaintiffs have filed an
amended petition alleging actual damages in excess of $25,000 and punitive
damages. A special master has been appointed by agreement of all the parties
in this case. A special master is appointed by the court to assist the court
with judicial duties. The special master will decide discovery disputes and
make recommendations on substantive motions. Discovery continued in the
lawsuit during the first half of 2004, but is not yet complete. The Company
has filed a counterclaim seeking contractual indemnification under the terms of
management agreements with each of the plaintiffs. At this time, the Companys
legal fees and costs of litigation are being paid by its insurance carriers,
subject to a reservation of rights by these insurers. The Company cannot
predict the final outcome of these claims, nor can it estimate the additional
costs it could incur, or whether its insurance carriers will continue to cover
its costs in connection with these claims. The Company intends to vigorously
defend this litigation. Ozark Mountain Condominium Association, Inc. et al v. Silverleaf Resorts, Inc.,
Circuit Court of Stone County, Missouri. The homeowners associations of three
condominium projects that a former subsidiary of the Company constructed in
Missouri filed an action against the Company in 2000 alleging construction
defects, misrepresentation, breach of fiduciary duty, negligence, and breach of
management agreements and seeking damages and certain other equitable relief.
The plaintiffs seek actual and punitive damages in excess of $500,000,
attorneys fees
and costs. The Company has filed a counterclaim seeking contractual
indemnification under the terms of management agreements with the plaintiffs.
At this time, a majority of the Companys legal fees and costs of litigation
are being paid by its insurance carriers, subject to a reservation of rights by
these insurers. Discovery in the case is ongoing. The case is scheduled for
trial in November 2004. The Company cannot predict the final outcome of these
claims, nor can it estimate the additional costs it could incur, or whether its
insurance carriers will continue to cover its costs in connection with these
claims. The Company intends to vigorously defend this 14




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##### Table of Contents



litigation. The Company is currently subject to other litigation arising in the normal
course of its 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 the judgment of the Company, none of these lawsuits or
claims against the Company, either individually or in the aggregate, is likely
to have a material adverse effect on the Company, its business, results of
operations, or financial condition. During 2001, Silverleaf Club entered into a loan agreement for $1.8 million,
whereby the Company guaranteed such debt with certain of its aircraft or
related sales proceeds. As of June 30, 2004, Silverleaf Clubs related note
payable balance was $791,000. Note 10 Subsequent Events In July 2004, the Company completed the acquisition of a 500-acre tract of land
located on Route 7 in Berkshire County, Massachusetts. The 500-acre site,
formerly known as the Brodie Mountain Ski Resort, is approximately 25 miles
from the Companys existing Oak N Spruce Resort located in South Lee,
Massachusetts. The property includes ski trails, ski lifts, a lodge, equipment
rental shop, canteen, and restaurant. The Company has not yet finalized its
future development plans for the site, however it believes that the site is
suitable for development as an additional timeshare resort. Preliminary
indications are that the site would accommodate up to 324 units encompassing
16,848 one-week vacation intervals. In July 2004, the Company also restructured its loan facility with one of its
senior lenders whereby the existing $35 million revolving component was reduced
to $25 million, the existing $5.4 million term component was paid in full, and
a new $10 million revolving component was established, collateralized by either
the Companys notes receivable or inventory. 15




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and
Results of Operations Certain matters discussed throughout this Form 10-Q filing are forward-looking
statements that are subject to risks and uncertainties that could cause actual
results to differ materially from those projected. Such risks and uncertainties
include, but are not limited to, those discussed in the Companys Form 10-K for
the year ended December 31, 2003. The Company currently owns and operates 12 resorts in various stages of
development. These resorts offer a wide array of country club-like amenities,
such as golf, swimming, horseback riding, boating, and many organized
activities for children and adults. The Company represents a Vacation Interval
ownership base of over 84,000. The condensed consolidated financial statements
of the Company include the accounts of Silverleaf Resorts, Inc. and its
subsidiaries except the SPE, all of which are wholly-owned. The Companys discussion and analysis of its financial condition and results of
operations are based on the Companys financial statements, which have been
prepared in accordance with accounting policies generally accepted in the
United Sates of America. The Company believes certain critical accounting
policies affect its more significant judgments and estimates used in the
preparation of financial statements. A description of the Companys critical
accounting policies is set forth in the Companys Form 10-K for the year ended
December 31, 2003. As of, and for the three and six month periods ended June
30, 2004, there have been no material changes or updates to the Companys
critical accounting policies. Results of Operations The following table sets forth certain operating information for the Company. Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003As a percentage of total revenues:Vacation Interval sales
    
    
    76.0
    %
    
    
    73.2
    %
    
    
    75.1
    %
    
    
    71.2
    %Sampler sales
    
    
    0.9
    %
    
    
    0.9
    %
    
    
    1.0
    %
    
    
    1.0
    %Total sales
    
    
    76.9
    %
    
    
    74.1
    %
    
    
    76.1
    %
    
    
    72.2
    %Interest income
    
    
    19.0
    %
    
    
    19.5
    %
    
    
    19.8
    %
    
    
    20.3
    %Management fee income
    
    
    0.6
    %
    
    
    1.1
    %
    
    
    0.7
    %
    
    
    1.1
    %Gain on sale of notes receivable
    
    
    0.3
    %
    
    
    2.0
    %
    
    
    0.6
    %
    
    
    3.3
    %Other income
    
    
    3.2
    %
    
    
    3.3
    %
    
    
    2.8
    %
    
    
    3.1
    %Total revenues
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %As a percentage of Vacation Interval sales:Cost of Vacation Interval sales
    
    
    19.6
    %
    
    
    17.3
    %
    
    
    19.3
    %
    
    
    17.5
    %Provision for uncollectible notes
    
    
    20.0
    %
    
    
    20.0
    %
    
    
    20.0
    %
    
    
    67.4
    %As a percentage of total sales:Sales and marketing
    
    
    49.7
    %
    
    
    52.0
    %
    
    
    50.2
    %
    
    
    53.9
    %As a percentage of total revenues:Operating, general and administrative
    
    
    14.3
    %
    
    
    15.8
    %
    
    
    14.7
    %
    
    
    16.2
    %Depreciation and amortization
    
    
    2.3
    %
    
    
    2.6
    %
    
    
    2.4
    %
    
    
    2.7
    %As a percentage of interest income:Interest expense and lender fees
    
    
    46.2
    %
    
    
    48.8
    %
    
    
    47.1
    %
    
    
    49.5
    %
 Results of Operations for the Three Months Ended June 30, 2004 and 2003 Revenues 16




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Revenues for the quarter ended June 30, 2004 were $48.9 million, representing a
$4.5 million or 10.2% increase from revenues of $44.4 million for the quarter
ended June 30, 2003. The increase is primarily due to increased sales,
partially offset by a smaller gain on sales of notes receivable in the second
quarter of 2004 versus the same period of 2003. The following table summarizes our Vacation Interval sales (dollars in
thousands, except average price): Quarter Ended June 30, 2004
    
    Quarter Ended June 30, 2003Average
    
    
    
    
    
    
    
    
    
    Average$ Sales
    
    Units
    
    Price
    
    $ Sales
    
    Units
    
    PriceOutside Sales
    
    $
    18,440
    
    
    
    1,581
    
    
    $
    11,663
    
    
    $
    18,023
    
    
    
    1,832
    
    
    $
    9,838In-house Upgrade Sales
    
    
    7,239
    
    
    
    1,102
    
    
    
    6,569
    
    
    
    7,683
    
    
    
    1,153
    
    
    
    6,663In-house Reload Sales
    
    
    11,465
    
    
    
    1,369
    
    
    
    8,375
    
    
    
    6,774
    
    
    
    889
    
    
    
    7,620Total
    
    $
    37,144
    
    
    
    
    
    
    
    
    
    
    $
    32,480
 Overall, Vacation Interval sales increased $4.7 million during the second
quarter of 2004 versus the second quarter of 2003, primarily due to higher
in-house reload sales at higher average prices in 2004 versus 2003. The number
of outside sales (sales to new customers) decreased 13.7% and the number of
in-house upgrade sales decreased 4.4% but the number of in-house reload sales
(sales of second Vacation Intervals to existing customers) increased 54.0%
during the second quarter of 2004 versus the same period of 2003. The Company
aggressively pursued its existing customer base during the second quarter of
2004 in an attempt to increase in-house reload sales. Sampler sales increased $67,000 to $468,000 for the quarter ended June 30,
2004, compared to $401,000 for the same period in 2003. Sampler sales are not
recognized as revenue until the Companys obligation has elapsed, which often
does not occur until the sampler contract expires eighteen months after the
sale is consummated. Hence, a significant portion of sampler sales recognized
in the second quarter of 2004 relate to 2002 sales activity. Interest income increased 7.5% to $9.3 million for the quarter ended June 30,
2004, from $8.7 million for the same period of 2003. This increase primarily
resulted from an increase in notes receivable, net of allowance for doubtful
notes, since June 30, 2003 primarily due to the increase in Vacation Interval
sales during the first half of 2004. Management fee income, which consists of management fees collected from the
resorts management clubs, decreased $176,000 to $300,000 for the second
quarter of 2004, from $476,000 for the second quarter of 2003. The decrease was
primarily due to the discontinuation of management fees from seven resorts the
Company had managed since 1998, which were sold during the third quarter of
2003. Gain on sales of notes receivable was $154,000 for the second quarter of 2004,
resulting from the sale of $4.5 million of notes receivable to the SPE. The
$898,000 gain in the second quarter of 2003 resulted from the sale of $11.5
million of notes receivable to the SPE. Fewer sales of notes receivable took
place in the second quarter of 2004 versus the same period of 2003 due
primarily to the facility reduction that took place during the fourth quarter
of 2003. Other income consists of water and utilities income, marina income, golf course
and pro shop income, and other miscellaneous items. Other income remained
fairly consistent at $1.5 million for the second quarters of both 2004 and
2003. Cost of Sales Cost of sales as a percentage of Vacation Interval sales increased to 19.6%
during the second quarter of 2004 versus 17.3% for the same period of 2003,
primarily due to the Company selling a larger percentage of its inventory at
lower margins in the second quarter of 2004. Approximately 50% of the $1.7
million increase in cost of sales was due to these lower margins with the
remaining 50% increase due to the increased sales volume. Sales and Marketing Sales and marketing expenses as a percentage of total sales decreased to 49.7%
for the quarter ended June 30, 2004, from 52.0% for the same period of 2003.
This reduction is the result of our marketing strategy to improve the sales
margin and increase the proportion of inside sales over outside sales, as
inside sales require less sales and marketing expense. For the quarter ended
June 30, 2004, inside sales increased to 50.4% of Vacation Interval sales, up
from 44.5% for the same period a year ago. The $1.6 million overall increase in
sales and marketing expense is primarily 17




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##### Table of Contents



attributable to the overall increase
in Vacation Interval sales during the second quarter of 2004 versus the same
period of 2003. Provision for Uncollectible Notes The provision for uncollectible notes as a percentage of Vacation Interval
sales remained unchanged at 20.0% for the second quarters of both 2004 and
2003. Operating, General and Administrative Operating, general and administrative expenses as a percentage of total
revenues decreased to 14.3% for the second quarter of 2004, from 15.8% for the
same period of 2003. Overall, operating, general and administrative expense
remained fairly consistent at $7.0 million for the second quarters of both 2004
and 2003. Depreciation and Amortization Depreciation and amortization expense as a percentage of total revenues
decreased to 2.3% for the quarter ended June 30, 2004 versus 2.6% for the same
quarter of 2003. Overall, depreciation and amortization expense decreased
$60,000 for the second quarter of 2004, as compared to 2003, primarily due to a
general reduction in capital expenditures since 2000. Interest Expense and Lender Fees Interest expense and lender fees as a percentage of interest income decreased
to 46.2% for the second quarter of 2004, from 48.8% for the same period of
2003. This decrease is primarily the result of decreased borrowings against
pledged notes receivable and decreased senior subordinated notes due to the
early retirement of $7.6 million of 101/2% senior subordinated notes during
the third quarter of 2003. Due to the exchange offer discussed in Note 6. Debt, interest expense is
expected to increase approximately $493,000 annually, due to the increase in
interest rates from 6% to 8% on the Companys new $24.7 million senior
subordinated notes due in 2010. Income before Provision for Income Taxes Income before provision for income taxes increased to $3.1 million for the
quarter ended June 30, 2004, as compared to $2.7 million for the quarter ended
June 30, 2003, 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 0.8% in the second quarter of 2004, as compared to 2.1% for
the second quarter of 2003. The effective income tax rate is the result of the
2003 and 2004 projected income tax benefits being reduced by the effect of a
valuation allowance, which reduces the projected net deferred tax assets to
zero due to the unpredictability of recovery. Net Income Net income increased to $3.1 million for the quarter ended June 30, 2004, as
compared to $2.7 million for the quarter ended June 30, 2003, as a result of
the above mentioned operating results. Results of Operations for the Six Months Ended June 30, 2004 and 2003 Revenues Revenues for the six months ended June 30, 2004 were $92.0 million,
representing a $6.2 million or 7.2% increase from revenues of $85.8 million for
the six months ended June 30, 2003. The increase is primarily due to increased
sales, partially offset by a smaller gain on sales of notes receivable in the
first half of 2004 versus the same period of 2003. The following table summarizes our Vacation Interval sales (dollars in
thousands, except average price): 18




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##### Table of Contents



Six Months Ended June 30, 2004
    
    Six Months Ended June 30, 2003Average
    
    
    
    
    
    
    
    
    
    Average$ Sales
    
    Units
    
    Price
    
    $ Sales
    
    Units
    
    PriceOutside Sales
    
    $
    33,345
    
    
    
    2,983
    
    
    $
    11,178
    
    
    $
    33,767
    
    
    
    3,261
    
    
    $
    10,355In-house Upgrade Sales
    
    
    16,915
    
    
    
    2,430
    
    
    
    6,961
    
    
    
    14,056
    
    
    
    2,201
    
    
    
    6,386In-house Reload Sales
    
    
    18,871
    
    
    
    2,249
    
    
    
    8,391
    
    
    
    13,214
    
    
    
    1,652
    
    
    
    7,999Total
    
    $
    69,131
    
    
    
    
    
    
    
    
    
    
    $
    61,037
 Overall, Vacation Interval sales increased $8.1 million during the first half
of 2004 versus the first half of 2003, primarily due to higher in-house sales
at higher average prices in 2004 versus 2003. The number of outside sales
(sales to new customers) decreased 8.5% but the number of in-house upgrade
sales increased 10.4%, and the number of in-house reload sales (sales of second
Vacation Intervals to existing customers) increased 36.1% during the first half
of 2004 versus the same period of 2003. The Company aggressively pursued its
existing customer base during the first half of 2004 in an attempt to increase
in-house sales. Sampler sales remained fairly consistent at $914,000 for the six months ended
June 30, 2004, compared to $886,000 for the same period in 2003. Sampler sales
are not recognized as revenue until the Companys obligation has elapsed, which
often does not occur until the sampler contract expires eighteen months after
the sale is consummated. Hence, a significant portion of sampler sales
recognized in the first half of 2004 relate to 2002 sales activity. Interest income increased 4.6% to $18.2 million for the six months ended June
30, 2004, from $17.4 million for the same period of 2003. This increase
primarily resulted from an increase in notes receivable, net of allowance for
doubtful notes, since June 30, 2003 primarily due to the increase in Vacation
Interval sales during the first half of 2004. Management fee income, which consists of management fees collected from the
resorts management clubs, decreased $347,000 to $600,000 for the first half of
2004, from $947,000 for the same period of 2003. This increase was primarily
due to the discontinuation of management fees from seven resorts the Company
had managed since 1998, which were sold during the third quarter of 2003. Gain on sales of notes receivable was $580,000 for the first six months of
2004, resulting from the sale of $12.7 million of notes receivable to the SPE.
The $2.8 million gain in the first half of 2003 resulted from the sale of $35.1
million of notes receivable to the SPE. Fewer sales of notes receivable took
place in the first six months of 2004 versus the same period of 2003 due
primarily to the facility reduction that took place during the fourth quarter
of 2003. Other income consists of water and utilities income, marina income, golf course
and pro shop income, and other miscellaneous items. Other income decreased
$109,000 to $2.6 million for the first six months of 2004 compared to $2.7
million for the same period of 2003. The decrease primarily relates to a
$273,000 gain recorded in the first half of 2003 associated with the sale of
land located in Las Vegas, Nevada, partially offset by increased water and
utilities income in 2004 versus 2003. Cost of Sales Cost of sales as a percentage of Vacation Interval sales increased to 19.3%
during the first half of 2004 versus 17.5% for the same period of 2003
primarily due to the Company selling a larger percentage of its inventory at
lower margins in the first half of 2004. Approximately 46% of the $2.7 million
increase in cost of sales was due to these lower margins with the remaining 54%
increase due to the increased sales volume. Sales and Marketing Sales and marketing expenses as a percentage of total sales decreased to 50.2%
for the six months ended June 30, 2004, from 53.9% for the same period of 2003.
This reduction is the result of our marketing strategy to improve the sales
margin and increase the proportion of inside sales over outside sales, as
inside sales require less sales and marketing expense. For the six months ended
June 30, 2004, inside sales increased to 51.8% of Vacation Interval sales, up
from 44.7% for the same period a year ago. The $1.8 million overall increase in
sales and marketing expense is primarily attributable to the overall increase
in Vacation Interval sales during the first six months of 2004 versus the same
period of 2003. 19




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##### Table of Contents



Provision for Uncollectible Notes The provision for uncollectible notes as a percentage of Vacation Interval
sales was 20.0% in the first half of 2004 compared to 67.4% for the first half
of 2003. For the six months ended June 30, 2004, management estimates that the
20% provision resulted in an adequate allowance for uncollectible notes for all
future credit losses net of inventory recovery. For the quarter ended March 31,
2003 management observed that cancellations in the three months then ended had
significantly exceeded the amount that would have been expected under its
estimate for the December 31, 2002 allowance for uncollectible notes.
Accordingly, the estimate was revised in the quarter ended March 31, 2003 as
follows:  
    
    the basis of the estimate of future cancellations was changed from Vacation Interval sales to incremental amounts financed,
resulting in an increase of $1.6 million,  
    
    certain historical cancellations from 2000 and 2001 that were previously excluded from predictive cancellations, as such
cancellations were assumed to be uncharacteristically large as a result of the Companys class action notices to all
customers and announcements about its liquidity and possible bankruptcy issues in the first half of 2001, were included in
predictive cancellations, resulting in an increase of $5.6 million,  
    
    the estimate of cancellations in 7, 8, and 9 years after a sale were increased, resulting in an increase of $1.6 million,  
    
    the estimate of inventory recoveries resulting from cancellations was revised, resulting in an increase of $300,000,  
    
    the ratio of the excess of cancellations in the first quarter over the estimated cancellations for the same period based on
the weighted average rate of cancellations divided by the incremental amounts financed for the period 1997 through 2002,
was applied to all future estimated cancellations, resulting in an increase of $15.0 million, and  
    
    an estimate was added for current notes with customers who received payment or term concessions that would have been deemed
cancellations were it not for the concessions, resulting in an increase of $4.6 million. The result of these revisions to the estimate was a $28.7 million increase from
the original estimate for the provision for uncollectible notes in the quarter
ended March 31, 2003. Management will continue its current collection programs
and seek new programs to reduce note defaults and improve the credit quality of
our customers. However, there can be no assurance that these efforts will be
successful. Operating, General and Administrative Operating, general and administrative expenses as a percentage of total
revenues decreased to 14.7% for the first half of 2004, from 16.2% for the same
period of 2003. Overall, operating, general and administrative expenses
decreased by $412,000 for the first half of 2004, as compared to the same
period of 2003. This was partially due to lower workers compensation insurance
and reductions in legal expenses and professional fees. Depreciation and Amortization Depreciation and amortization expense as a percentage of total revenues
decreased to 2.4% in the first half of 2004 compared to 2.7% in the first half
of 2003. Overall, depreciation and amortization expense decreased $145,000 for
the first six months of 2004, as compared to 2003, primarily due to a general
reduction in capital expenditures since 2000. Interest Expense and Lender Fees Interest expense and lender fees as a percentage of interest income decreased
to 47.1% for the first half of 2004, from 49.5% for the same period of 2003.
This decrease is primarily the result of decreased borrowings against pledged
notes receivable and decreased senior subordinated notes due to the early
retirement of $7.6 million of 101/2% senior subordinated notes during the
third quarter of 2003. Due to the exchange offer discussed in Note 6. Debt, interest expense is
expected to increase approximately $493,000 annually, due to the increase in
interest rates from 6% to 8% on the Companys new $24.7 million senior
subordinated notes currently due in 2010. Gain on Early Extinguishment of Debt 20




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##### Table of Contents



Gain on early extinguishment of debt was $0 during the first half of 2004,
compared to $1.3 million during the same period of 2003. The gain in 2003
resulted from the early extinguishment of the $8.8 million remaining balance of
the Companys $60 million loan agreement, which would have been due August
2003. Income (Loss) before Provision for Income Taxes Income (loss) before provision for income taxes increased to income of $5.4
million for the six months ended June 30, 2004 as compared to a loss of $23.1
million for the six months ended June 30, 2003, as a result of the above
mentioned operating results. Provision for Income Taxes Provision for income taxes as a percentage of income (loss) before provision
for income taxes was 0.4% in the first half of 2004, as compared to 0.3% for
the same period of 2003. The effective income tax rate is the result of the
2003 and 2004 projected income tax benefits being reduced by the effect of a
valuation allowance, which reduces the projected net deferred tax assets to
zero due to the unpredictability of recovery. Net Income (Loss) Net income (loss) increased to income of $5.4 million for the six months ended
June 30, 2004 as compared to a loss of $23.1 million for the six months ended
June 30, 2003, as a result of the above mentioned operating results. Liquidity and Capital Resources Financial Covenants.As of December 31, 2002, we were in compliance with all of
our operating covenants. However, due to the results of the quarter ended March
31, 2003, we were not in compliance with three of our financial covenants.
First, sales and marketing expense for the quarter ended March 31, 2003 was
56.1% of sales, compared to a maximum threshold of 52.5%. Second, the interest
coverage ratio for the twelve months ended March 31, 2003 was 1.02 to 1.0,
compared to a minimum requirement of 1.25 to 1.0. And third, net loss for the
two consecutive quarters ended March 31, 2003 was $24.9 million, compared to a
minimum requirement of $1.00 net income. In November 2003, we entered into agreements with our three senior lenders to
amend our senior credit facilities to modify our financial covenants under
which we had been in default since the first quarter of 2003. The amended
covenants increased from 52.5% to 55% the maximum permitted ratio of sales and
marketing expenses to total sales for each quarter beginning with the quarter
ended March 31, 2003. They
also exclude the $28.7 million increase in our allowance for uncollectible
notes in the quarter ended March 31, 2003 from the calculation of our minimum
required consolidated net income, and from the calculation of our minimum
required interest coverage ratio of 1.25 to 1.0. In addition to the above
amendments, we also received waivers under our senior credit facilities of
covenant defaults which occurred in the first quarter of 2003. In addition, as a result of the loss for the quarter ended March 31, 2003, our
SPE was in default of financial covenants with its lender. The lender
subsequently waived the defaults as of March 31, 2003 and modified its
agreement with the SPE. As a result of these amendments and waivers, we are in full compliance with all
of the financial covenants under our credit facilities with our senior lenders
as of December 31, 2003, March 31, 2004, and June 30, 2004. Sources of Cash.The Company generates cash primarily from the cash received
from the sale of Vacation Intervals, the financing of customer notes receivable
from Silverleaf Owners, the sale of notes receivable to the SPE, management
fees, sampler sales, and resort and utility operations. The Company typically
receives a 10% down payment on sales of Vacation Intervals and finances the
remainder by receipt of a seven-year to ten-year customer promissory note. The
Company generates cash from customer notes receivable by (i) borrowing at an
advance rate of up to 75% of eligible customer notes receivable, (ii) selling
notes receivable, and (iii) from the spread between interest received on
customer notes receivable and interest paid on related borrowings. Because the
Company uses significant amounts of cash in the development and marketing of
Vacation Intervals, but collects cash on customer notes receivable over a
seven-year to ten-year period, borrowing against receivables has historically
been a necessary part of normal operations. During the six months ended June
30, 2004, the Companys operating activities reflected cash provided by
operating activities of $2.4 million versus $27.3 million during the same
period of 2003. 21




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##### Table of Contents



The decrease in cash provided by operating activities was
primarily the result of $19.3 million lower proceeds from sales of notes
receivable. Although it appears the Company has adequate liquidity to meet its needs in
2004 and 2005, it is continuing to identify additional financing arrangements
into 2006 and beyond. To finance the Companys growth, development, and any
future expansion plans, the Company may at some time be required to consider
the issuance of other debt, equity, or collateralized mortgage-backed
securities. Any debt incurred or issued by the Company may be secured or
unsecured, have fixed or variable rate interest, and may be subject to such
terms as management deems prudent. Uses of Cash.Investing activities typically reflect a net use of cash due to
capital additions and property acquisitions. During the first six months of
2004, net cash used in investing activities was $728,000 due to equipment
purchases. However in the first six months of 2003, net cash provided by
investing activities was $2.3 million due to proceeds from the sale of land
held for sale of $2.9 million, partially offset by $592,000 of equipment
purchases. The Company evaluates sites for additional new resorts or
acquisitions on an ongoing basis. During the six months ended June 30, 2004, net cash used in financing
activities was $1.1 million compared to $25.9 million in the comparable 2003
period. The decrease in cash used in financing activities was the result of
decreased payments on borrowings against pledged notes receivable due to lower
sales of notes receivable, the proceeds of which are used to pay down
borrowings. At June 30, 2004, the Companys senior credit facilities provided for loans of
up to $258.4 million of which approximately $213.0 million of principal related
to advances under the credit facilities was outstanding. For the six months
ended June 30, 2004, the weighted average cost of funds for all borrowings,
including the senior subordinated debt, was 6.6%. Customer defaults have a
significant impact on cash available to the Company from financing customer
notes receivable in that notes more than 60 days past due are not eligible as
collateral. As a result, the Company must repay borrowings against such
delinquent notes. Certain debt agreements include restrictions on the Companys ability to pay
dividends based on minimum levels of net income and cash flow. The Companys
ability to pay dividends might also be restricted by the Texas Business
Corporation Act. Off-Balance-Sheet Arrangements.The Company entered into a $100 million
revolving credit agreement to finance Vacation Interval notes receivable
through an off-balance-sheet SPE during 2000. Due to the results of operations
during the first quarter of 2003, the SPE was in default of financial covenants
with its lender. The lender subsequently waived the defaults and modified its
agreement with the SPE in June 2003. The Company also obtained an extension of
the SPEs existing revolving credit facility through March 2006. In connection
with the two-year extension of this facility, however, the Company agreed to
reduce the principal amount of the facility from $100 million to $85 million.
The SPE allows the Company to realize the benefit of an additional $85 million
of revolving credit in addition to the on-balance-sheet credit arrangements it
has with its senior lenders. Credit facilities are necessary for the Company to
have the liquidity necessary to fund its costs and expenses. Therefore it is
vitally important to the Companys liquidity plan to have financing available
in order to finance future sales, since it finances the majority of its
timeshare sales over seven to ten years. During the first half of 2004, the Company sold $12.7 million of notes
receivable to the SPE and recognized pre-tax gains of $580,000. In conjunction
with these sales, the Company received cash consideration of $9.6 million,
which was used to pay down borrowings under its revolving loan facilities.
During the first half of 2003, the Company sold $35.1 million of notes
receivable and recognized pre-tax gains of $2.8 million. In conjunction with
these sales, the Company received cash consideration of $28.8 million, which
was primarily used to pay down
borrowings under its revolving loan facilities. The SPE funded these purchases
through advances under a credit agreement arranged for this purpose. The
Company receives fees for servicing sold notes, calculated based on 1% of
eligible notes held by the facility. Such fees were $366,000 and $467,000 for
the six months ended June 30, 2004 and 2003, respectively. Such fees received
approximate the Companys internal cost of servicing such notes. As a result,
the related servicing asset or liability was estimated to be insignificant. At
June 30, 2004, the SPE held notes receivable totaling $87.5 million, with
related borrowings of $71.1 million. Except for the repurchase of notes that
fail to meet initial eligibility requirements, the Company is not obligated to
repurchase defaulted or any other contracts sold to the SPE. It is anticipated,
however, that it will place bids in accordance with the terms of the conduit
agreement to repurchase some defaulted contracts in public auctions to
facilitate the re-marketing of the underlying collateral. The investment in the
SPE was valued at $6.9 million at June 30, 2004. 22




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##### Table of Contents



Taxes.For regular federal income tax purposes, the Company reports
substantially all of the Vacation Interval sales it finances 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 the Company is otherwise 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 estimable. In addition, the
Company is subject to current alternative minimum tax (AMT) as a result of
the deferred income that results from the installment sales treatment, although
due to existing AMT loss carryforwards, it is anticipated that minimal current
AMT liability exists. 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. In 1998, the
Internal Revenue Service approved a change in the method of accounting for
installment sales effective as of January 1, 1997. As a result, the Companys
alternative minimum taxable income for 1997 through 1999 was increased each
year by approximately $9.0 million for the pre-1997 adjustment, which resulted
in the Company paying substantial additional federal and state taxes in those
years. Subsequent to December 31, 2000, the Company applied for and received
refunds of $8.3 million and $1.6 million during 2001 and 2002, respectively, as
the result of the carryback of its 2000 AMT loss to 1999, 1998, and 1997.
Accordingly, no minimum tax credit exists currently. The net operating losses (NOLs) expire between 2012 through 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.
Management currently does not believe that it will be able to utilize its NOL
from normal operations. At present, future NOL utilization is expected to be
limited to the temporary differences creating deferred tax liabilities. If
necessary, management could implement a strategy to accelerate income
recognition for federal income tax purposes to utilize the existing NOL. The
amount of the deferred tax asset considered realizable could be decreased if
estimates of future taxable income during the carryforward period are reduced. Due to the restructuring completed in May 2002, an ownership change within the
meaning of Section 382(g) of the Internal Revenue Code (the Code) occurred.
As a result, a portion of the Companys NOL is subject to an annual limitation
for taxable years beginning after the date of the exchange (change date), and
a portion of the taxable year which includes the change date. The annual
limitation will be equal to the value of the stock of the Company immediately
before the ownership change, multiplied by the long-term tax-exempt rate (i.e.,
the highest of the adjusted Federal long-term rates in effect for any month in
the three-calendar-month period ending with the calendar month in which the
change date occurs). This annual limitation may be increased for any recognized
built-in gain to the extent allowed in Section 382(h) of the Code. The
ownership change may also limit, as described above, the use of the Companys
minimum tax credit, if any, as provided in Section 383 of the Code. Exchange Offer.The Company completed an offer on June 7, 2004 to exchange
$24,671,000 of principal amount of its 6% Senior Subordinated Notes due 2007
for $24,671,000 of principal amount of its 8% Senior Subordinated Notes due
2010 and a cash payment of $271,381, representing accrued, unpaid interest from
April 1, 2004 through June 6, 2004. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk As of and for the six months ended June 30, 2004, the Company had no
significant derivative financial instruments or foreign operations. Interest on
the Companys notes receivable portfolio, senior subordinated debt, capital
leases, and miscellaneous notes is fixed. Interest on the Companys primary
loan agreements, which totaled $213.0 million at June 30, 2004, is partially
fixed and partially variable. The impact of a one-point effective interest rate
change on the $106.0 million balance of variable-rate financial instruments at
June 30, 2004, on the Companys results of operations for the first six months
of 2004 would be approximately $114,000, or approximately $0.003 per share. At June 30, 2004, the carrying value of the Companys notes receivable
portfolio approximates fair value because the weighted average interest rate on
the portfolio approximates current interest rates received on similar notes. If
interest rates on the Companys notes receivable are increased or perceived to
be above market rates, the fair market value of the Companys fixed-rate notes
will decline, which may negatively impact the Companys ability to sell new
notes. The impact of a one-point interest rate change on the portfolio could
result in a fair value impact of $5.9 million or approximately $0.16 per share. 23




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Credit Risk The Company is exposed to on-balance sheet credit risk related to
its notes receivable. The Company is exposed to off-balance sheet credit risk
related to notes sold. The Company offers financing to the buyers of Vacation Intervals at the
Companys resorts. These buyers generally make a down payment of at least 10%
of the purchase price and deliver a promissory note to the Company for the
balance. 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 first
mortgage on the Vacation Interval. The Company bears the risk of defaults on
these promissory notes. Although the Company prescreens prospects in the early
stages of the marketing and sales process, it generally does not perform a
detailed credit history review of its customers, as is the case with most other
timeshare developers. If a buyer of a Vacation Interval defaults, the Company 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 the Company in many cases may have recourse against a
Vacation Interval buyer for the unpaid price, certain states have laws that
limit the Companys ability to recover personal judgments against customers who
have defaulted on their loans. Accordingly, the Company has generally not
pursued this remedy. Interest Rate Risk The Company has historically derived net interest income
from its financing activities because the interest rates it charges its
customers who finance the purchase of their Vacation Intervals exceed the
interest rates the Company pays to its lenders. Because the Companys
indebtedness bears interest at variable rates and the Companys customer
receivables bear interest at fixed rates, increases in interest rates will
erode the spread in interest rates that the Company has historically obtained
and could cause the rate on the Companys borrowings to exceed the rate at
which the Company provides financing to its customers. The Company has not
engaged in interest rate hedging transactions. Therefore, any increase in
interest rates, particularly if sustained, could have a material adverse effect
on the Companys results of operations, cash flows, and financial position. Availability of Funding Sources The Company funds substantially all of the
notes receivable, timeshare inventories, and land inventories which it
originates or purchases with borrowings through its 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 received
by the Company from repayments of such notes receivable. To the extent that the
Company is not successful in maintaining or replacing existing financings, it
would have to curtail its operations or sell assets, thereby having a material
adverse effect on the Companys results of operations, cash flows, and
financial condition. Geographic Concentration The Companys notes receivable are primarily
originated in Texas, Missouri, Illinois, Massachusetts, and Georgia. The risk
inherent in such concentrations is dependent upon regional and general economic
stability, which affects property values and the financial stability of the
borrowers. The Companys Vacation Interval inventories are concentrated in
Texas, Missouri, Illinois, Massachusetts, and Georgia. The risk inherent in
such concentrations is in the continued popularity of the resort destinations,
which affects the marketability of the Companys products and the collection of
notes receivable. 
 Item 4. Controls and Procedures An evaluation as of the end of the period covered by this report was carried
out under the supervision and with the participation of management, including
the Companys Chief Executive Officer and Chief Financial Officer, of the
effectiveness and design and operation of the Companys disclosure controls and
procedures. Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that the disclosure controls and procedures were
adequate to ensure that information required to be disclosed in the reports the
Company files and submits under the Exchange Act is recorded, processed,
summarized, and reported as and when required. There have been no significant changes in the Companys internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of the evaluation referred to above. 
 PART II: OTHER INFORMATION 
 Item 1. Legal Proceedings Holiday Hills Condominium Association, Inc. et al v. Silverleaf Resorts, Inc.
et al, Circuit Court of Christian 24




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County, Missouri. The homeowners
associations of five condominium projects that a former subsidiary of the
Company constructed in Missouri filed two separate actions against the Company
in 1999 and 2000, respectively, alleging breach of warranty, construction
defects and breach of management agreements. These two cases have been
consolidated, but no trial date has been set. The plaintiffs have filed an
amended petition alleging actual damages in excess of $25,000 and punitive
damages. A special master has been appointed by agreement of all the parties
in this case. A special master is appointed by the court to assist the court
with judicial duties. The special master will decide discovery disputes and
make recommendations on substantive motions. Discovery continued in the
lawsuit during the first half of 2004, but is not yet complete. The Company
has filed a counterclaim seeking contractual indemnification under the terms of
management agreements with each of the plaintiffs.
At this time, the Companys legal fees and costs of litigation are being paid
by its insurance carriers, subject to a reservation of rights by these
insurers. The Company cannot predict the final outcome of these claims, nor
can it estimate the additional costs it could incur, or whether its insurance
carriers will continue to cover its costs in connection with these claims. The
Company intends to vigorously defend this litigation. Ozark Mountain Condominium Association, Inc. et al v. Silverleaf Resorts, Inc.,
Circuit Court of Stone County, Missouri. The homeowners associations of three
condominium projects that a former subsidiary of the Company constructed in
Missouri filed an action against the Company in 2000 alleging construction
defects, misrepresentation, breach of fiduciary duty, negligence, and breach of
management agreements and seeking damages and certain other equitable relief.
The plaintiffs seek actual and punitive damages in excess of $500,000,
attorneys fees and costs. The Company has filed a counterclaim seeking
contractual indemnification under the terms of management agreements with the
plaintiffs. At this time, a majority of the Companys legal fees and costs of
litigation are being paid by its insurance carriers, subject to a reservation
of rights by these insurers. Discovery in the case is ongoing. The case is
scheduled for trial in November 2004. The Company cannot predict the final
outcome of these claims, nor can it estimate the additional costs it could
incur, or whether its insurance carriers will continue to cover its costs in
connection with these claims. The Company intends to vigorously defend this
litigation. The Company is currently subject to other litigation arising in the normal
course of its 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 the judgment of the Company, none of these lawsuits or
claims against the Company, either individually or in the aggregate, is likely
to have a material adverse effect on the Company, its business, results of
operations, or financial condition. 
 Item 4. Submission of Matters to a Vote of Security Holders At the 2004 Annual Meeting of Shareholders held on May 11, 2004, in addition to
the election of directors, the stockholders ratified the selection of BDO
Seidman, LLP as the Companys independent auditors. The board nominees were elected as directors with the following vote: Nominee
    
    For
    
    WithheldJ. Richard Budd
    
    
    35,126,059
    
    
    
    74,544James B. Francis, Jr.
    
    
    34,915,259
    
    
    
    285,344Herbert B. Hirsch
    
    
    35,126,059
    
    
    
    74,544Robert E. Mead
    
    
    35,118,464
    
    
    
    82,139R. Janet Whitmore
    
    
    35,121,359
    
    
    
    79,244
 With respect to the Board proposal to ratify the appointment of BDO Seidman,
LLP as the Companys independent auditors, the vote was as follows: For
    
    Against
    
    Abstain35,125,810
    
    
    59,880
    
    
    
    14,913
 25




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Item 5. Other Information On May 11, 2004, the Compensation Committee of the Board of Directors approved
a compensation structure for 2004 and 2005 for Robert E. Mead, Chairman and
Chief Executive Officer of the Company, which includes possible annual
incentive bonuses in 2004 and 2005 if certain performance goals based on the
Corporations pre-tax net income for those years are reached. Additionally,
Mr. Meads base salary was increased from $500,000 to $750,000 per year for the
two-year term of the compensation arrangement. The independent members of the
Board of Directors have also approved the compensation structure for Mr. Mead.
The approval of the compensation package for Mr. Mead by the Compensation
Committee and the Board of Directors was conditioned upon the Company obtaining
the approval of the shareholders of the Company of the material terms for the
payment of the annual incentive bonus for calendar year 2005 in accordance with
the requirements of the Internal Revenue Code of 1986, as amended, for
deduction of annual compensation in excess of $1 million for certain covered
employees. The Companys shareholders approved the 2005 annual incentive bonus
at a special meeting of shareholders held on August 12, 2004. 
 Item 6. Exhibits and Reports on Form 8-K (a) Exhibits filed herewith. 3.1
    
    
    Second Amendment to Amended and Restated Bylaws dated June 4,
2004.4.1
    
    
    Indenture dated June 7, 2004 by and among the Company, the
Subsidiary Guarantors, and Wells Fargo Bank, National Association for
the Companys 8% Senior Subordinated Notes due 2010.4.2
    
    
    Certificate No. 001 dated June 7, 2004 of 8% Senior Subordinated
Notes due 2010 in the amount of $24,761,000.4.3
    
    
    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.10.1
    
    
    Second Amended and Restated Revolving Credit Agreement dated as
of July 30, 2004 among the Company, the Lending Institutions Referred
to therein, and Sovereign Bank.10.2
    
    
    Inventory and Receivables Revolving Credit Agreement dated as of
July 30, 2004 among the Company, the Lending Institutions Referred to
therein, and Sovereign Bank.10.3
    
    
    Contract of Sale dated December 24, 2002 by and among the
Company, FO Ski Resorts, LLC and Brodie Mountain Ski Resorts, Inc.10.4
    
    
    First Amendment to Contract of Sale dated April 3, 2003 by and
among the Company, FO Ski Resorts, LLC, and Brodie Mountain Ski
Resorts, Inc.10.5
    
    
    Second Amendment to Contract of Sale dated March 17, 2004, by and
among the Company, FO Ski Resorts, LLC, and Brodie Mountain Ski
Resorts, Inc.10.6
    
    
    Third Amendment to Contract of Sale dated May 14, 2004, by and
among the Company, FO Ski Resorts, LLC, and Brodie Mountain Ski
Resorts, Inc.10.7
    
    
    Employment Agreement dated June 3, 2004 to be effective January
1, 2004 between the Company and Robert E. Mead (incorporated by
reference to Companys Proxy Statement filed with the Commission on
July 12, 2004).31.1
    
    
    Certification of CEO Pursuant to Section 302 of Sarbanes-Oxley Act of 200231.2
    
    
    Certification of CFO Pursuant to Section 302 of Sarbanes-Oxley Act of 200232.1
    
    
    Certification of CEO Pursuant to Section 906 of Sarbanes-Oxley Act of 200232.2
    
    
    Certification of CFO Pursuant to Section 906 of Sarbanes-Oxley Act of 2002
   (b)
    
    Reports on Form 8-K The Company filed the following Current Reports on Form 8-K with the SEC
during the quarter ended June 30, 2004: Current Report of Form 8-K filed with the SEC on May 4, 2004 announcing
the commencement of an offer to exchange the Companys 6% Senior Subordinated
Notes due 2007 for 8% Senior Subordinated Notes due 2010 and accrued interest. Current Report of Form 8-K filed with the SEC on May 12, 2004 announcing
the Companys results of operation for the quarter ended March 31, 2004. 26




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Current Report of Form 8-K filed with the SEC on June 3, 2004 announcing
the results of the offer to exchange announced by the Company on May 4, 2004. Current Report of Form 8-K filed with the SEC on June 8, 2004 announcing
the completion of the offer to exchange announced by the Company on May 4,
2004. 
 SIGNATURES Pursuant to the requirements 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. Dated: August 12, 2004
    By:
    /s/  ROBERT E. MEADRobert E. MeadChairman of the Board and
Chief Executive Officer Dated: August 12, 2004
    By:
    /s/  HARRY J. WHITE, JR.Harry J. White, Jr.Chief Financial Officer 27




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INDEX TO EXHIBITS Exhibit No.
    
    Description3.1
    
    
    Second Amendment to Amended and Restated Bylaws dated June 4, 2004.4.1
    
    
    Indenture dated June 7, 2004 by and among the Company, the Subsidiary
Guarantors, and Wells Fargo Bank, National Association for the Companys
8% Senior Subordinated Notes due 2010.4.2
    
    
    Certificate No. 001 dated June 7, 2004 of 8% Senior Subordinated Notes
due 2010 in the amount of $24,761,000.4.3
    
    
    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.10.1
    
    
    Second Amended and Restated Revolving Credit Agreement dated as of July
30, 2004 among the Company, the Lending Institutions Referred to therein,
and Sovereign Bank.10.2
    
    
    Inventory and Receivables Revolving Credit Agreement dated as of July 30,
2004 among the Company, the Lending Institutions Referred to therein, and
Sovereign Bank.10.3
    
    
    Contract of Sale dated December 24, 2002 by and among the Company, FO Ski
Resorts, LLC and Brodie Mountain Ski Resorts, Inc.10.4
    
    
    First Amendment to Contract of Sale dated April 3, 2003 by and among the
Company, FO Ski Resorts, LLC, and Brodie Mountain Ski Resorts, Inc.10.5
    
    
    Second Amendment to Contract of Sale dated March 17, 2004, by and among
the Company, FO Ski Resorts, LLC, and Brodie Mountain Ski Resorts, Inc.10.6
    
    
    Third Amendment to Contract of Sale dated May 14, 2004, by and among the
Company, FO Ski Resorts, LLC, and Brodie Mountain Ski Resorts, Inc.10.7
    
    
    Employment Agreement dated June 3, 2004 to be effective January 1, 2004
between the Company and Robert E. Mead (incorporated by reference to
Companys Proxy Statement filed with the Commission on July 12, 2004).31.1
    
    
    Certification of CEO Pursuant to Section 302 of the Sarbanes-Oxley Act of
200231.2
    
    
    Certification of CFO Pursuant to Section 302 of the Sarbanes-Oxley Act of
200232.1
    
    
    Certification of CEO Pursuant to Section 906 of the
Sarbanes-Oxley Act of 200232.2
    
    
    Certification of CFO Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
 28