HTH

Business Context and Reporting Period

Company: Affordable Residential Communities Inc. (ARC)

Filing Type: Form 8-K (Current Report)

Report Date: August 17, 2004 (Reporting events of August 16, 2004)

Period Covered: Second Quarter and Six Months ended June 30, 2004

Business Overview: ARC is a fully integrated equity REIT focused on the acquisition, renovation, and operation of all-age manufactured home communities. As of June 30, 2004, the company owned approximately 71,000 homesites in 342 communities across 31 states.

Key Financial Metrics

Quarter Ended June 30, 2004 (vs. Prior Year Quarter):

• Funds From Operations (FFO) to Common Stockholders: $9.3 million ($0.23 per share).
• Net Loss to Common Stockholders: $7.1 million ($0.17 per share), an improvement from a net loss of $8.5 million ($0.50 per share) in Q2 2003.
• Total Revenue: $59.2 million (up from $44.0 million in Q2 2003).
• Same Community Real Estate Revenue: $36.8 million (up 2.0% year-over-year).
• Same Community Real Estate Net Segment Income: $21.6 million (down 2.8% year-over-year due to expense increases).
• Occupancy: Total portfolio occupancy averaged 79.8%. Same community occupancy decreased to 82.5% from 86.9%.

Six Months Ended June 30, 2004 (vs. Prior Year Six Months):

• FFO to Common Stockholders: $(12.4) million ($(0.35) per share).
• Net Loss to Common Stockholders: $42.1 million ($1.21 per share), compared to a net loss of $16.9 million ($1.00 per share) in the prior period.
• One-Time Charges: $27.9 million ($0.74 per share) related to IPO, acquisition, and debt repayment activities.
• Balance Sheet (June 30, 2004): Total Assets of $1.83 billion; Total Liabilities of $1.04 billion; Cash and equivalents of $47.7 million.

Material Changes and Operational Highlights

Acquisitions:

• D.A.M. Portfolio: Closed on June 30, 2004, acquiring 36 communities (approx. 3,600 homesites) for $65.5 million. The portfolio was 91% occupied with an average rent of $254/month. Assumed debt of $29.7 million.
• Salt Lake City: Completed purchase of three communities for $12.6 million (525 homesites).

Dispositions and Sales:

• Terminated Sale: On August 16, 2004, the prospective buyer terminated the agreement to sell three communities (Sea Pines, Camden Point, Butler Creek) for $5.9 million. ARC expects to sell these at a later date.
• Planned Auction: Entered an agreement in July to sell 12 communities (approx. 2,900 homesites) via auction scheduled for September 2004, with closings expected in Q4 2004.

Operational Challenges:

• Occupancy declines in same communities were attributed to a lack of chattel lending and lenders moving repossessed homes out of communities.
• High move-outs of homes repossessed by finance companies and regulatory delays in obtaining home selling licenses.

Guidance, Outlook, and Risks

Strategic Initiatives:

• Occupancy Strategy: Shifting focus from leasing to retaining good customers, migrating them to homeownership via lease-purchase, and selling used homes to freshen assets.
• Liquidity Restructuring: Canceling an unused $125 million revolving credit facility to replace it with three separate lines of credit: an $85 million mortgage facility, a $50 million home inventory line, and a $85-$100 million home lease receivables line. Commitments were obtained for the first two, with closings expected by end of August 2004.

Risks and Contingencies:

• Transaction Uncertainty: No assurance that the terminated sale of three communities or the planned auction of 12 communities will be completed.
• Market Conditions: Continued absence of outside chattel financing and high levels of repossessions pose risks to occupancy and rental income.
• Integration: Risks associated with integrating the Hometown America portfolio and training new personnel.

Investor Verification Checklist

• Verify the status of the $5.9 million sale of Sea Pines, Camden Point, and Butler Creek following the buyer's termination.
• Confirm the closing of the three new credit facilities ($85M mortgage, $50M inventory, $85-100M receivables) by the end of August 2004.
• Monitor the September 2004 auction results for the 12 communities comprising 2,900 homesites.
• Assess the impact of the $27.9 million one-time charges on the six-month net loss and the sustainability of FFO excluding these charges.
• Track occupancy trends, specifically the decline in same-community occupancy from 86.9% to 82.5%, and the effectiveness of new occupancy initiatives.