A few years ago, I was involved as an expert witness in a case where my client, an investor-owned private club was sued by a member for the refund of his membership deposit. Most recently, I read an article about a club in Massachusetts that was sued by five members claiming the private club is improperly withholding their membership bonds.
I wondered how this might impact value.
After some thought, I concluded that this is an issue that reaches far and wide and can impact the value of clubs with refundable membership deposits, bonds and equity memberships. In recent years the various forms of entrance fees for club membership have, in many cases taken a big hit with many falling from pre-recession levels with limited recovery and often changes in the form of memberships offered. Given that often refunds are made only when the same class of membership is replacing the resigned member, the resigned member could be in for a long wait for his refund.
In most cases, refunds, bond redemptions and other payouts to resigned members represent a liability on the club’s balance sheet. How they impact value depends largely on the terms of the payout and the rate of turnover in membership at the club. In any event, if there is a liability the new owner in a sale needs to be prepared to assume that liability, whenever it may occur. Certainly, there is a present value analysis to be done depending on attrition, turnover, the terms of refunds and logical investment criteria.
One element unique to transactions involving private clubs is membership refund liability. Some clubs were established with a membership structure that involved a refundable deposit for the right to join the club. In many cases, this arrangement carried a provision whereby the member was refunded his or her deposit after 30 years. This was done to avoid taxation on membership entry fees, which instead of being considered income were booked as a liability (payable). As the clubs have aged, the buyers of these clubs anticipate the payment of the refunds coming due and often negotiate a lower sale price as a result, if they consider the club for purchase at all. Some buyers are accepting of the obligation, and some simply use bankruptcy to eliminate the liability.
The membership refund liability is often used as a negotiating tool by buyers, especially when the face value of the potential liability is a significant amount. Many sales of clubs have stalled or not
occurred due to this liability, which can have many variables that require understanding. Several concepts have been explored (but not yet thoroughly tested) which can eliminate this liability, including bankruptcy, a buydown of the liability to a present value, and the potential for an insurance product. However, these are new ideas for what has become a significant marketability hurdle for many clubs.
The most famous action regarding resigned members was a suit filed by members of the Trump National Golf Club in Jupiter, Florida, who claimed that the club wrongfully eliminated their rights to a refund by terminating the refund rights of members who are on the list to exit the club. The members prevailed and the club was required to pay out nearly $6 million in refunds. Disputes like this one would appear to be common in the future, as many clubs seek to alter their membership structures and refund programs in the face of falling fees and the conversion to nonrefundable fees. This is an evolving area of the marketplace that should be carefully observed. How this element is treated in the valuation process depends on a number of factors, including the amount of the potential liability, the timing of the potential liability (payouts), the desirability of the club, and external market factors.
Refund liability has the potential to significantly impact a club’s market value, but one question is whether that impact is on the going concern or the real estate. If it were to impact the real property value, owners might use it to reduce their real estate tax assessments. However, it is this author’s opinion that membership refunds impact the going concern and not the real property. What case law ends up saying will likely be varied and specific to each situation.