|By Douglas Hanks III, The Miami Herald
Knight Ridder/Tribune Business News
Apr. 9, 2006 - Owner Markus Friedli says he is quite pleased with the Penguin Hotel after three years of rising room rates at the affordable South Beach getaway.
But its four months as a condo-hotel have not been as impressive: Sales are slow for the property's 44 modest but stylish rooms.
"I thought it would be easier," the 41-year-old hotelier said after selling seven units.
So Friedli might try a third incarnation for the Penguin: selling it as an investment security.
The Penguin would remain a condo-hotel under that scenario, but the units would be sold under federal law governing stocks and shares in other profit-making enterprises.
It's a legal framework virtually unheard of in South Florida's real estate industry, where sales staffs are warned against marketing property as investments for fear of running afoul of federal security laws. And it could involve hundreds of thousands in dollars in registration fees, awkward disclosure documents, strict advertising controls and extra exposure to litigation should buyers end up unhappy.
By declaring the Penguin a security, Friedli would defy conventional wisdom in the real estate industry but confirm the assumption that many condo buyers are investors looking for a profit. Many see profit -- or at least cash flow -- as a main selling point for condo-hotels, which offer title to hotel rooms that owners can then rent out for a share of the rental income.
"You're buying into what is really a business, just as if you were buying a stock in any other business," said Bart Bartholdt, a lawyer with Graham & Dunn in Seattle, who wrote an article on how to avoid security-law infractions while selling condo-hotels.
Avoiding the securities designation isn't easy, making the condo-hotel sales process one of the more complex business models in real estate. Here's why:
-- Real estate agents can't discuss a project's hotel operations. At the Saxony, a new condo-hotel project in Miami Beach, buyers will meet with one sales staffer about the actual units, then walk to another building to learn how to rent out their rooms.
-- Securities law bars the pooling of rental revenue, meaning condo-hotel owners can only receive income from their specific units. But rates in a hotel swing wildly depending on a room's location and when it was booked. Conventions lock up scores of rooms at a discount years in advance, while last-minute vacationers pay a premium.
-- Security restrictions limit condo-hotel developers from projecting rental income into the future, and some projects start sales a year or more before signing a hotel operator. That leaves some buyers to research room rates at nearby hotels. Adding to the complication: The most common industry measures in the hotel business, average daily rate and occupancy, apply to the entire property and are rarely released to the public.
-- Hotels can't require owners to rent their units to the public, meaning would-be buyers aren't entirely sure whether they are investing in a hotel with 300 rooms or only 50.
"If you're a condominium-hotel sales person, you're really limited to some magic words," said Bartholdt. He offered an example. " 'Ownership may include the opportunity to place your condominium in a rental agreement. . . "
Though condo-hotel sales financed dozens of hotel projects throughout South Florida -- including a Four Seasons, Ritz-Carlton and other prestigious hotel brands -- some question whether buyers are prepared for the ups and downs of the notoriously cyclical lodging industry.
Last month, for example, Sonesta International Hotels disclosed it was reducing rental payments to condo-hotel owners at the Trump hotel it runs in Sunny Isles Beach and increasing marketing fees for owners at the Coconut Grove Sonesta.
"It's hard to meet a buyer's expectations on a good day," said Gary Saul, a lawyer with Greenberg Traurig who advises condo-hotel developers. "God forbid we should have another 9/11 and the hotel market slows down substantially. You're going to have upset buyers."
Condo-hotel developers and brokers dismiss those predictions as misjudging why buyers are drawn to the projects. They say most condo-hotel buyers primarily want a maintenance-free vacation home with hotel services, and they view rental income as a bonus.
"They figure, I'm going to buy a unit anyway. If I can put it in a rental program and make some money off of it and cover my overhead, that's great," said Rosalia Picot, whose Picot and Co. Realty Advisors managed sales for the Hilton Fort Lauderdale Beach Resort opening this summer.
Declaring the Penguin a security would allow Friedli's sales staff to avoid many of the restrictions faced by other condo-hotel developers. He could also require owners to rent out their units, a key advantage for small hotels like the Penguin.
And with a cooling real estate market, he could pitch buyers directly on the upside of the Penguin as a hotel -- including guaranteeing a profit for the first two years.
"You're buying into the hotel business" with a condo-hotel, Friedli said. "The real estate boom in the last years sort of took the focus off the business side [of condo-hotels] and put it on the property value."
While many condo-hotels offer one- and two-bedroom suites, Friedli's $1 million renovation did not yield rooms larger than 250 square feet. They boast stylish photo prints for walls but also cramped bathrooms and "kitchen" sinks half a step away from the beds. Friedli said buyers were hoping for larger, apartment-style units.
Friedli said he has not yet decided whether to go the security route with the Penguin.
He is not shy about taking risks: The son of a successful Swiss chemical distributor, he bought the Penguin in 1996. A year later, when the Front Porch Cafe wanted to open in his lobby, he bought the nearby President hotel because the restaurant needed more electrical capacity. Friedli has also invested in a party boat, South Beach's Energy Fitness Centre and, most recently, a hovercraft he hopes to run between Miami and the Bahamas.
But so far experts know of only one local condo-hotel project that has sold real estate as a security because of the complications and drawbacks. Regulations bar the advertising and promotion of a securities sale, which runs counter to the flashy ads that define most of South Florida's real estate projects.
Even media interviews could get Friedli in trouble -- last week he declined to answer questions about the Penguin's potential as a security and instead read a statement provided by his lawyers.
He could get around the disclosure requirements that publicly traded companies face by limiting sales to "accredited investors," namely people with a net worth over $1 million. If not, he would be forced to release the kind of grim risk analysis prepared by Fortune House, the only condo-hotel in South Florida known to register as an investment.
An affiliate of Miami-based Terremark registered the Fort Lauderdale condo-hotel project in 2000, warning investors that, among other things, "Cash shortfalls may require owners to cover operating losses of the hotel."
Seven months later the registration was withdrawn as the company reinvented itself as an Internet provider. The project later evolved into the Hilton Fort Lauderdale with a different developer.
Friedli hasn't said when he will decide on a final strategy. But so far, he's not enthusiastic about the Penguin's hybrid status.
"The problem with condo-hotel is it's kind of a fish and a bird," Friedli said. "Nobody's really comfortable with what it means."
Copyright (c) 2006, The Miami Herald
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