A challenge we often encounter is the valuation or analysis of a club considering or planning capital improvements. If debt financing is needed it can be a complex undertaking when one considers the fact that the bank is required to lend no more than a (specified) percentage of market value and that market value is (roughly) defined as the most probable price a willing buyer would pay a willing seller for the property. It’s not uncommon for the cost of improvements and addressing any deferred maintenance to exceed the market value of the club. This is where good planning and understanding your club’s culture (and members’ appetite for assessments) is critical.
The biggest fear at most clubs is the change that often comes with capital plans and investment. Older members resist most forms of change and younger members seek that change to mold the club more to their needs. At member-owned clubs, the emotional attachment of members often results in unrealistic expectations of what the club can be. Grandiose plans spurred by such overzealous enthusiasm combined with the desire to make their club the best can often lead to financial distress. Conversely, investor-owned clubs often neglect to invest (in the name of short-term profits) where needed when being penny-wise can also be pound foolish. Member-owned clubs make this mistake as well and there are numerous stories of club failures coming from a reluctance to reinvest.
It’s usually not too difficult for a club to identify its weaknesses. In some cases those weaknesses are simply deferred maintenance, items that have been ignored and require immediate attention like dated and malfunctioning irrigation systems, a leaky roof or deteriorated cart paths. Then, of course there are those items that the club wants to address to enhance their club and stay competitive in the market. These can include small items like adding a fitness center or new tables and chairs or large projects like a major golf course or clubhouse renovation. In some cases, the improvements contribute less than an amount equal to their cost to the market value of the club – especially in the bank’s eyes. If the membership is receptive to paying for the improvements with an assessment, no problem. If bank financing is necessary the cost versus market value question looms large.
A major factor in this “equation” is how much debt the club is carrying prior to the project. If debt makes up a large portion of the present value of the club, that debt can seriously restrict how much a club can do. This is where the club needs to be creative and the value sought for lending purposes precisely defined. Phasing improvements can be a solution.
When banks commission appraisals, they often provide limited detail, don’t describe the nature of improvements projected and sometimes neglect to specify whether they seek present value, as-completed value, or as-stabilized value. In many cases, banks ask appraisers to estimate the present value (pre-renovations) of the club, which doesn’t really measure the impact of the improvements on value but simply checks a box on the bank’s appraisal requirements. When the bank will ask appraisers to estimate the value of the club as if improvements are completed it can be more telling since it provides a look at the impact of the improvements on value. Then, of course, assuming the improvements are designed to enhance revenues, the appraiser may be asked to estimate the value as if improvements are complete and the club has stabilized (added members, etc.). The values can be dramatically different. Since the appraiser (for the latter two scenarios) is likely to do a discounted cash flow analysis, there is the element of speculation that lenders like to minimalize. The club can impact the present value by phasing improvements over time to prioritize those improvements that can generate additional revenues first and then completing the rest of the wish list in future years, when market value will support the investment.
As part of the club’s “go – no go” decision on the project it’s critical for the club to understand what is “affordable”. The elements that need to be considered include:
- Present and anticipated debt;
- Competitive market considerations (including depth);
- Club culture;
- Realistic potential of club and its facilities;
- Member appetite for assessments or debt;
- Timing and amount of anticipated revenue enhancements;
- Timing and amount of costs;
- Impact on club operations.
These items essentially morph into two questions:
- Assuming the club seeks more members, are there enough potential members in the market to fill the club to the desired level?
- Is the club’s infrastructure (“bones”) capable of supporting the improvements to the desired level?
Every club’s situation, needs and culture are different. Planning capital projects requires close consideration of all these elements to be successful, with an emphasis on realistic analysis of the club and market to ensure that the project can realistically achieve the desired goals.