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San Jose's Gamble on Fairmont Hotel Wins Praise 20 years Later, Even Though
 Substantial City Subsidy Nowhere Near Being Paid Off

By Barry Witt, San Jose Mercury News, Calif.McClatchy-Tribune Regional News

Oct. 6, 2007 - Twenty years ago, the face of downtown San Jose changed. On Oct. 5, 1987, the Fairmont Hotel opened its doors, presenting a first-class image on a scarred and largely ignored city core while setting the quality standard for development that would follow.

"There's just no way to minimize its impact, both to what our hopes were for downtown and for changing people's perception of the city," said Tom McEnery. As mayor, McEnery approved the substantial city subsidy that persuaded San Francisco's Swig family and local developer Kimball Small to take the risk on building and running the hotel.

"I remember calling 411 in 1987 and asking for the number of the Fairmont, and the operator laughed, 'A Fairmont in San Jose? Ha,' before she looked it up," said Dean Munro, who was McEnery's chief of staff.

Taking inflation into account, San Jose has come nowhere near recovering its investment in the Fairmont -- $28.2 million toward the original hotel and an additional $9.5 million in 1998 for the annex. But city leaders say the hotel's value reaches far beyond its direct cash return.

In addition to the Fairmont's own expansion of nearly 50 percent, taking it to 805 rooms, downtown has added two new high-end hotels, the Hilton and Marriott. And two historic but formerly derelict hotel buildings were restored, the De Anza and Montgomery.

Class A office buildings began lining Almaden Boulevard and Santa Clara Street after the Fairmont opened its doors. And restaurant activity has grown steadily, with Morton's, The Steakhouse the latest high-end chain to discover the city.

Before the Fairmont, the best San Jose could offer were the Sainte Claire Hotel and the Holiday Inn and Park Center Plaza office complex that were part of the city's and developer Lew Wolff's first run at reinvigorating downtown in the 1960s and '70s.

Wolff was not involved in the Fairmont when it was first built, but he became a major part of the hotel's history when he engineered a financial bailout and purchase in 1996, as lenders threatened to foreclose on the property.

"It is the feature of downtown in terms of brand quality," Wolff said. "I felt losing the Fairmont brand and not getting a Ritz or Four Seasons would hurt all the properties I had downtown."

Original projection

The hotel's financial performance has looked nothing like the steady stream of increasing profits projected by a city consultant in 1984, before the council agreed on its first subsidy. The projection showed a series of lease payments based on operating profits would have reached a collective $66 million by the end of last year.

But that was based on a rosy assumption that occupancy would hold steady at 75 percent and average room rates would rise consistently, from a starting point of $90 when the hotel opened to $338 this year. Instead, the realities of the Silicon Valley economy took rates down in the early '90s, allowed them to soar in the late 1990s, and sank them again with the bust of this decade.

Rates down since 2000

While Fairmont-specific numbers were not available, the San Jose Convention and Visitors Bureau's survey of 14 major hotels, including the Fairmont, shows that average rates last year of $133 remained 23 percent below their 2000 peak.

The Swigs endured operating losses throughout their ownership. As part of the hotel sale in 1996, the city sold the land on which the original hotel sits to Wolff's group for $3 million, plus one-sixth of future hotel profits. Those profits would be paid after Wolff's group received a return of the equity it invested in the transaction. The same terms were applied in 1998 when the city agreed to subsidize the Fairmont annex.

Distributions of hotel profits started flowing to the city in 2001, and since then payments have reached a collective $4.2 million, according to San Jose Redevelopment Agency officials. The hotel also has produced about $10.6 million in property tax revenue for the redevelopment agency. And the hotel's garage and the retail space in the annex -- both of which the redevelopment agency owns -- have produced about $900,000 each. Agency officials did not have figures for hotel room taxes, although they likely are well in excess of $10 million.

"Hotels tend to be, as you can see by the history of the Fairmont, risky ventures," said Harry Mavrogenes, executive director of the redevelopment agency. "The developer took a significant risk. Our involvement was higher because of the quality we wanted, the most we spent on any of the hotels. It was not something that would have been done without the public assistance."

The investment, Mavrogenes said, paid off in the way the Fairmont led to the hotel, office and restaurant development that followed. "What this did," he said, "was moved the market up."

Contact Barry Witt at bwitt@mercurynews.com or (408) 275-0140.

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To see more of the San Jose Mercury News, or to subscribe to the newspaper, go to http://www.mercurynews.com.

Copyright (c) 2007, San Jose Mercury News, Calif.

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