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Landsdowne Resort Case Study

Lansdowne Resort

The Property

The Lansdowne Resort is located in Leesburg, Virginia, just outside of Washington D.C., near the Dulles International Airport. The resort is a 297-key, full service four-diamond conference center resort featuring 45,000 square feet of meeting space, an 18-hole championship golf course, several restaurants, a health club and spa and other resort amenities. The distinguishing feature of the property is its meeting space, which features numerous fixed-wall, dedicated meeting rooms, a 120-seat amphitheater, extensive audio-video capabilities and a dedicated staff focused solely on the meetings taking place in the conference center. The Resort opened in 1991 and is considered one of the top conference facilities in the United States.

The owners of the Resort had spent several years assembling land to add a second 18-hole golf course and clubhouse. The new golf course had been designed by notable golfer and designer, Greg Norman. The plan also entailed combining the two golf courses into a private club, which would be owned by the Resort. A membership program had been initiated and membership sales had begun in 2002, despite the new golf course not expected to be on-line until 2005, with the new clubhouse to follow.

The Transaction

The ownership was a private investor, Stone Financial Group, the principals of which had owned Lansdowne Resort since the property opened in 1991. They had endured numerous market cycles, as well as multiple ownership structures and partners. They had skillfully utilized various capital structures to weather the market cycles and effectively exit various partners, while still maintaining control of the asset. However, the Resort represented a significant portion of the financial resources of the current owner and the asset was at a crossroads. To bring the asset to the next level and affect the expansion via the second golf course and clubhouse would take considerable additional investment, in excess of $24 million. They had also utilized creative mezzanine financing to consolidate the ownership of the Resort, but as such, the property had debt against it that provided an obstacle to gaining additional debt to fund the expansion. It was determined that a partner was needed to provide additional capital to the ownership so the property could be expanded and realize its true potential.

In February of 2002, HREC Investment Advisors, in conjunction with a strategic partner, Greenwich Group International, were retained to seek out an equity partner. During the course of the investment banking assignment it became clear that certain trade offs would be involved in bringing in a capital partner, principal of which would be the loss of control of the ownership group. As such, a strategic decision was made to sell the asset instead of proceeding with a joint venture. In June of 2003 the Resort was sold to LaSalle Hotel Partners for $115.8 million, or approximately $390,000 per key. The price paid represented an approximate capitalization rate on trailing 12-month Net Operating Income of 8 percent. At the time, and for much of 2003, this transaction was the largest single asset sale in the United States, and represented one of the highest prices per key paid for an asset in the United States in some time. It was one of the first trophy assets to be brought to market since the events of September 11th, and is a good indicator of how both Sellers and Buyers are currently structuring transactions in the face of market uncertainty.

Transaction Challenges

The Resort had been the beneficiary of skilled ownership and management, with operating results that were enviable. In the year 2000, Net Operating Income had exceeded $12 million, however, the economic decline in 2001, and more specifically, the tragic event of September 11th had a dramatic impact on the operations of the Resort, with a decline in cash flow of almost 40 percent. The Resort had rebounded strongly in 2002, increasing cash flow by 20 percent over 2001 numbers. However, the cash flow fluctuations made the ownership very aware of how vulnerable they were to events well outside of their control, and how much personal exposure they had in this single asset.

Numerous challenges faced the transaction, included educating the investor community about the conference center concept, as many investors either did not understand the concept of a Full American Plan (FAP - whereby a meeting attendee pays one price for use of hotel room, meeting space, meals and breaks), or thought that the property was vulnerable to competition from hotels offering services ala carte.

Another transaction challenge was the development aspects of the property, in that in order to realize the true upside of an investment in this asset, an investor would need to embrace the development of the second golf course and clubhouse, and continue on with the golf membership program, as well as explore how best to utilize another 240,000 square feet of developable density that came as part of the transaction. Many investors are averse to taking development risk, and as such, many investors explored the possibility of spinning out the core hotel asset from the transaction, and having the current owner retain the existing golf course and land for the new golf course.

An additional challenge facing the transaction was the price per key. With a target price approaching $120 million, this value equated to in excess of $400,000 per key. Granted, the price included a golf course and extensive development parcels and rights, it still concerned investors, with the key issue being how a new investor was going to exit the asset at a profit, when the initial basis was perceived to be high. It also put additional focus on the golf membership program as an important revenue source during the hold period, as some investors believed they might not exit the investment at a value much above their initial basis.

Another obstacle facing the transaction was the current debt on the property. The current first mortgage loan was approximately $59 million, and was placed on the asset shortly after the events of September 11th. While considered a good loan at the time, particularly in light of the limited debt capital available to hotels after September 11th, it proved to be a challenging factor in terms of a sale for several reasons. First, the note was not prepayable until January of 2004, and as such, would need to be assumed by a new investor. This presented two challenges, the degree of leverage to the purchase price was inefficient and would hence require a substantial equity investment by a new owner, and second, the current interest rate was well above current market rates. These factors would limit the initial return to an investor, and as such, had an impact on the value of the asset.

Not the least of the challenges facing the transaction was the timing of the offering, as the property was brought to market on the eve of the Iraqi war, which had the effect of making conservative investors even more conservative, and essentially eliminated potential investment from targeted European investors due to the tension at the time between the United States and several European allies.

The Deal

While in excess of 100 investment groups expressed interest in this trophy asset, there was an active pursuit and investigation of the opportunity by approximately 20 investment groups. One of the more aggressive investors was LaSalle Hotel Properties of nearby Bethesda, Maryland. LaSalle is a hotel Real Estate Investment Trust (REIT) with a portfolio of __ full-service hotels ranging from resort properties to boutique hotels. Its senior management is comprised of savvy and experienced hotel investors who have embraced certain contrarian hotel plays such as boutique hotels and development as a means to generate returns to their investors. LaSalle was coming off the sale of a major asset in New Orleans and needed to affect a 1031 tax exchange in a short period of time in order to avoid unnecessary tax consequences. As such, they were aggressive in their pursuit of Lansdowne. An initial discussion about a joint venture with the current ownership was explored, however, as it became clear that the current owner would lose day-to-day control of the asset in such a scenario, it was decided by both parties that an outright sale was more advantageous for all involved. A sale price of $115.8 million was negotiated, with certain additional proceeds to come to the seller in the event that certain out parcels and development rights were sold to an adjacent property owner. Due diligence was thorough, but swift, and the transaction closed in June of 2003. It also helped that one of the key executives of LaSalle had formerly been in the employ of the key principal on the sell side, and had direct experience with the subject property. As such, a certain amount of trust was established between the parties, which proved to be a facilitating point during the negotiations.

In the end, the Seller was able to achieve their diversification goal, while achieving a good value for the asset. The Buyer was able to take advantage of their liquidity, local presence and industry expertise to circumvent the marketing process with a preemptive bid. Besides the direct investment benefits of the asset itself, it also gave them a major asset to showcase to their investors that was in close proximity to their corporate headquarters, and as such, also enabled them to achieve a macro benefit from the transaction.

The Seller and Buyer Speak

Michael Stone of The Stone Financial Group, the Seller, comments on the asset and the transaction:

"Lansdowne is a lesson in strategic financing; essentially we had to own this asset three different times. Originally the hotel was financed to get it built, then refinanced to increase our leverage via a mezzanine debt and preferred equity vehicle that allowed us to exit a Japanese partner, and again after 9-11."

"It is also a lesson in adaptation, in that the original owner was VMS Realty, and our partner in VMS was Xerox, who had planned to build 11 million square feet of office space in the immediate area when the hotel was built. This office space was never built, and the Loudon County area took 10 years to turn into the type of dynamic market we always thought it was going to be. We were able to exit our Japanese partner at close to par and gain their 84 percent interest in the asset. It should also be remembered that when the Japanese were making major investments in U.S. real estate there was a Yen currency play and their cost of capital was very low. As such, our Japanese partners most likely did make a profit on the transaction, but essentially the whole transaction was done with other people's money, while we were always able to hold control over the General Partnership and Asset Management of the property."

"We were able to add value also at the property level by adding a spa, and thus riding the health and fitness wave. We added a wine cellar and sommelier to take advantage of dining trends and improve the image of the Resort. We also did an evaluation of the conference business in 1994/1995 and decided to evolve away from a pure conference center to a conference resort, enabling us to diversify our group market mix, increase our transient business and take advantage of macro meeting and leisure trends. Thus we made Lansdowne a unique asset for our target market."

"We believed in this deal, but needed to make a significant capital investment in order to reap the future rewards, but the risk was too high for a closely held private entity. In summary, you have to know when to say goodbye, put ego aside and look at the facts, i.e., capital requirements vs. risk. You also realize while your country is at war, how vulnerable you are to external factors, and as such I feel we made the right decision at the time to exit this investment."

Mike Barnello of LaSalle Hotels, the buyer, comments as well:

"LaSalle Hotels goal it to find assets that are income focused and look for moderate growth, we balance what we can buy today in the hotel world with how long you have to wait for income growth. In short, we look for opportunistic investment in high quality assets, and Lansdowne was an ideal candidate for that strategy."

"We intend to pick up where the Stone's left off, complete the second golf course, keep Greg Norman as the designer, upgrade the hotel to match the upgrade in resort facilities, and do the clubhouse development simultaneously as the golf course. In addition, we are going to expand the spa from 2,000 square feet to 10,000 to 12,000 square feet, in order to offer a real spa experience. We feel that the expanded and upgraded facility will continue to position Lansdowne as unique choice for guests."

What appealed to us about Lansdowne was the strong current income of the asset, the opportunity for growth, the location in a booming market relative to other parts of Virginia, and the U.S. in general. We also like that the resort was unencumbered by management and flag, giving us the ability to make a change if so desired (point in fact, the existing property manager, Benchmark Hospitality, was retained as the operator of the resort.)."

"As a REIT, we do not look to sell on a set time frame. Instead, we do a five-year hold analysis from both a leveraged and unleveraged perspective. We reevaluate this analysis every year to take advantage of market conditions."

"How did we prevail in the pursuit of a very desirable asset? I feel that our ability to embrace complexity gave LaSalle a competitive advantage in the acquisition of this asset."

Lessons Learned

In reviewing the Lansdowne transaction, both Buyer and Seller utilized the strategic skills discussed earlier to impact this transaction, as follows:

The Seller

1. Enhanced Value via Development. The ability to acquire and entitle the excess land for the second golf course and clubhouse, as well as the acquisition of the 240,000 square feel of excess density, not only created a viable area for expansion, it increased the value of the asset by offering a clear upside to a new owner.

2. Superior Operating Skills to Create Value. The Stone Financial Group as Asset Manager, and Benchmark Hospitality as Property Manager, employed their expertise and vision to create a significant cash flow at the asset, which in turn, provided the base return investors were seeking.

3. Create Value by Embracing Risk. Developing an asset of the stature of Lansdowne is inherently risky, but so is increasing your leverage to exit a partner. The Stone's mitigated these risks by careful examination of the market, both capital markets and hotel markets, to make informed decisions on the direction of the asset every step of the way.

The Buyer

1. Utilize Lower Cost of Capital to Create Value. LaSalle has access to capital at rates below traditional levels of conventional, single asset based, debt. Additionally, their yield parameters are well within the reality of investing in today's hotel market, and as such, they can utilize their financial strength to both acquire key assets, and produce excellent risk adjusted returns for their investors.

2. Utilize Superior Investing Skills to Create Value. LaSalle's ability to quickly absorb the nuances of a complex asset and transaction gave them a competitive advantage in the transaction, as this allowed them to come quickly to decisions, make prompt decisions and preempt the overall marketing process by aggressive action, backed by sound analysis.

3. Create Value by Embracing Risk. As with the Stones, LaSalle was not adverse to a calculated risk, in their case it was the risk of development. The Seller calculated that developing the second golf course, clubhouse, spa, golf membership program and other opportunities at the resort represented too great a personal risk. The Buyer viewed these same risks as an opportunity to take the asset to another level, and as such, produce even better cash flows at the property.