Mr. Ferry

Condo Hotels

Differentiating Between Private Residential Clubs, Fractionals, Destination Clubs & Condotels

By Steven Ferry, Chairman, International Institute of Modern Butlers

It is hardly surprising buyers and media alike are confused by the different models available to guests for vacations when a good part of the industry is, too. Which makes the two upbeat and well-attended IMN symposiums in Orlando between April 18 and 20 most timely.

So what are these alternatives? Let's define terms first:

Fractional interest projects, like Private Residence Clubs (PRCs) below, sell deeded ownership or shares in vacation homes, from 1/17th to 1/4 shares that allow the partial owners between three weeks and three months use of their property on a fixed, rotating calendar. Product quality and service/amenity levels are lower than PRCs, and prices tend to be under $1,000 per sq. ft. (average $630 per sq. ft.). Rental program options exist and owners can trade with other owners.

Private Residence Clubs (PRC) are targeted at higher-end customers willing to pay $1,000 per sq. ft. (for average 1,800 sq. ft. properties) or $250,000 per share on average and looking for a 4-5* experience in multiple locations. They offer different membership classes as well as equity in the residences.

Destination Clubs (DCs) Over twenty DCs are in operation with an inventory of 700 homes shared currently by over 5,000 members with 30-year memberships (generally) that confer the right to use any of a selection of properties, and provide for refunds of membership fees. Some of the clubs do provide equity and some panelists felt DCs not providing equity would see a slowdown until big brand names lent their credibility (and they are reticent to do so until the grey area of lack of equity is resolved). The average residence is 2,700 sq. ft. and valued at about $2.7 million. The average membership fee is $400,000, the lowest being $35,000 and the highest $3 million, with annual dues ranging from $5,000-$30,000. DCs have existed for the last decade, although the market heated up about four years ago with the arrival of Exclusive Resorts' luxury DCs, which currently own over 50% of the market. DC's exist based around themes such as wine, fly-fishing, polo, ranch life, and yachts.

Hotel condominiums/condotels First appearing in the 1970s, these lost their popularity with the Tax Reform Act of 1986, but have come to the fore again. Individual buyers own and stay in them from one-to-two months a year and then have the option (usually exercised) of putting them into a pool for the hotel to rent (and also maintain) for the balance of the year. The owners share in the revenues and so offset their costs while having access to the amenities and services of the hotel when they are in residence. Typical purchase costs are from the several hundred thousand to several million. Examples include Ritz Carlton Grand Cayman and The Setai in Miami. Condotels are popular with lenders and developers because they provide up front operating funds and shift some of the risk to the owners/their lenders, as well as allowing higher sales prices in view of the amenities offered and the rental program. One downside is the development hotel, residential, condo, finance equity participation, and mortgage loan, all have to be married into a single transaction called a condotel-one of the reasons that lawyers are recommended as early participants in developing condotels. The rental program is considered a security, for instance, requiring compliance with SEC regulations.

Hotel Residences are like hotel condos but there is no rental pool and they tend to have their own entrance. The St Regis-branded Residence properties in New York, Fort Lauderdale, and San Francisco are good examples, as are Four Seasons Miami and San Francisco, Ritz Carlton in Boston, NYC and various locations in Florida, and the Breakers in Palm Beach. Purchase costs run up to about $8 million.

Mixed-use Buildings incorporate hotel residences and/or condotels into luxury hotels with retail. Examples include Trump International Hotel and Tower in New York, Chicago, and Toronto. Fractional hotels are a subset, a mix of condotels and fractional residence ownership (showing how creative people can be), whereby an investor (not a politically correct word but a reality as most sales in the condotel market were to investors wanting to make a quick buck) owns a portion of one or more condo suites, can use it/them according to his share, and can participate in the rental program to generate revenue.

How Significant Are These Markets?

Ragatz Associates has identified just over 250 fractional interest projects/PRCs (all in North American continent and the Caribbean, with three-quarters in the USA and over 25% in Colorado, Florida, and California). Of these, over half are in active sales and the rest sold out for a total of $2.1 billion in sales volume during 2006 (of which only 3% were resales, and 50% were for PRCs, which experienced a 92% growth). All of the 21 DCs are in active sales.

As of October 2006, there were 268 condo hotel projects and over 30,000 condo units and 70,000 private residences being developed within hotels.

There were some panelists at the symposiums who felt strongly that these vehicles were used as practical real-estate investments that delivered a desirable lifestyle, and those who said that the investment was of no concern, only the lifestyle and traveling/vacationing in style. The differences seem to devolve into the older crowd of baby boomers looking for the benefits of an investment at fractionals/PRCs/condotels, and the younger crowd wanting a good time at DCs, but there is too much crossover between the two groups for an oversimplification to be made.

Whichever group was considered, the idea seemed prevalent that the breadwinners generally work all the time anyway, including on vacations. PRCs and DCs allow them to take extra "holiday" time in exotic locations to bond with their families, while still keeping the work fires burning.

Approximately 40,000 individuals/families have bought into PRCs, DC's and fractionals, representing 1% of the market that is considered to be able financially to invest in shared-ownership real estate (the criterion being an income of $200,000 and net worth of $1 million). Baby boomers are a key market, of which there are 10 million in the US and Europe. Surveys by Ragatz Associates of this market shows growing awareness of and interest in these entities.

Looking to the Future

Destination Clubs

Following the Tanner & Haley implosion and bankruptcy in the DC market last year, the key concerns for potential buyers are transparency as well as performance. Other concerns include preferring the greater anonymity, independence, and privacy that staying at hotels provides. However, an industry association has been formed and is hard at work promoting best practices, consumer protection (of which there is none currently), and a regulatory framework. The early mistakes by Tanner & Haley, which included guarantees of 100% deposit refunds and 100% availability anytime anywhere, undercharging fees and dues, leasing rather than owning its properties (70% of them), and faulty investments, have been recognized and corrected by other players. As a result of mergers and acquisitions, there are fewer, larger, and stronger DCs now operating on third generation business models. The Helium Report estimates continued consolidation, with 1,500 new DC members and about 300 new homes added to inventory through 2007.

Condotels

The residential market slowdown and sub-prime excesses and implosion are problematic for condotels, coupled with the predominance (80%) of the condotel sales last year being to investors, many of who bought at pre-construction prices and flipped early enough while the remainder, now that closing time has come, don't want to carry the mortgage and are looking for ways out of their investments-even to the point of filing class action suits against developers. So while copious funds are chasing condotels today as institutional investors switch from conversions to condotels (and at a time when investors have the lowest expected ROI in history), the last few months have seen a shift for bankers in the element of "risk" associated with such sales, perhaps also driven by returns at the low end of expectations. Developers and banks alike are looking for buyers who want to use the condo, primarily baby boomers looking for a second home, so they are adding kitchens and demanding 20% down. This is a change of tune compared with a keynote speaker at the 2005 Condotel symposium who announced that the condotel market would line everyone's pockets.

Investors who paid cash have been lucky to see a 0.8% return. In the fall of 2006, a Ft. Lauderdale beachfront property reached 60% presales at $1,200 a sq. ft. Then suddenly sales dried up completely. A condotel next door that had been completed the year before had owners trying to sell their units. They had bought at $1,200 a foot, and were now asking $825. Overall, the market is showing a 20% drop in price points to garner sales.

Some projects have not made pre-sales, so won't come out of the ground. There have been some failures of condotels, which represent a partnership between the flag, operator, and owners. The main cause of failure is when an operator is money motivated rather than service oriented, and so forgets the owners are also partners. Five projects filed for bankruptcy in the greater Miami area alone in March 2007, and some condotel units are being changed to hotel operations.

Despite these kind of statistics, and taking liberties with Mark Twain, an early message heard at the symposium was "any rumors of condotel deaths are greatly exaggerated." There is a glut of projects, to be sure, but baby boomers represent a strong market in environments where they can live part time. And with a weak dollar, investors from abroad are also eyeing excellent real estate values in the US.

Some panelists feel that condotels are returning to normalcy now, apparently, driven by the 4-5 star developments. It is the 3-star resorts jumping onto the bandwagon that are in trouble as the flip-investors seem to have focused on these as investments as opposed to the class of people who were buying into the lifestyle and so wanting to travel to and use their units.

While some panelists said the condotel market has matured, others say it is actually changing rapidly. Many condotels have yet to open and so no track record is available and we have yet to see any real industry benchmarks. With more cash on the table from condotel owners, developers have built more condotels than the market can easily absorb, especially with the residential market slowing down, buyers being more educated on condotels, brands becoming more sophisticated and wary, and condotels being complicated to market and operate. The economic reality of how they operate will become known. As one panelist put it, "Hiccups will be taken to court and smarter ways will be worked out. Investors may well be disappointed, but these condotels are not meant to be investments, rather lifestyles. There are ramp ups and many unknowns that will be sorted out as we move ahead."

On the question of whether brands are needed, they certainly are beneficial, but a competent management team able to analyze the market for what attracts people to the area and how to differentiate their property and sell it is more important.

Professor Steven Ferry was born and raised in England, where he worked in education, hospitality, and private service before moving to the USA to continue in private service. He took a break from service to establish a photographic and writing communications company that produced a wide range of educational, PR, marketing and editorial products for many major US publishers and corporations, while also writing books for the butler profession and ultimately, being drawn back into the service industry to train and consult. At the request of peers, he founded the International Institute of Modern Butlers (www.modernbutlers.com) in 2004 to set and raise standards for the profession. Mr. Ferry can be contacted at 813-354-2734 or stevenferry@modernbutlers.com Extended Bio...

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