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CVP Comment to RWQCB - Onsite Alternatives - Corte Madera Inn Rebuild - Part B

Posted by: Bob Silvestri - January 15, 2017 - 4:43 PM PST

Part B - Comment Letter on the Corte Madera Inn On-Site Alternatives Analysis Final with Figures and Attachments by Zentner and Zentner, as submitted The San Francisco Bay Regional Water Quality Control Board (404(b)(1) Alternatives Analysis for the Corte Madera Inn Rebuild Project.

Industry standards for evaluating development and investment opportunity

Determining development opportunity sites

The basis of any sound methodology to determine what represents an investment opportunity is the potential projected return on investment, combined with other considerations about the market and general economics of the hotel industry in the selected region. That return is significantly affected by the cost of funds, income tax considerations, public agency requirements, and most importantly the terms of purchase of the asset. In addition, supportive public improvements, local planning and regional government projects or incentives in certain locations might impact a developer’s investment decisions.

The evaluation of any investment is based on a fundamental value/return equation;

I / V = R

Net operating income (“I”) divided by value or price (“V”) equals capitalization rate (“R”)

This equation offers a way of “valuing” different investments apple to apples. In its simplest form, determining the capitalization rate or “cap rate” of an investment provides a way for the investor to compare one particular investment (e.g., in a new hotel development) with other investments competing for his capital (stocks, bonds, etc.). This methodology is irrefutable and the mostly widely used method in the industry.

The net operating income is, of course, tied to the operating costs of a particular hotel and the average room rental rates and overall net and gross revenues of the operations. It is therefore extremely important that the revenue assumptions used are accurate and based on actual statistical data, not casual observation. However, the accuracy of this data and its applicability to any one individual case study is absolutely critical.

The success or failure, or evaluation of investment returns and financial feasibility of a real estate investment is extremely specific in each case. Accordingly, there are no generic “returns” that can be calculated unless a plethora of facts are considered.

This considered, the data provided by the Applicant is extremely broad brush and significantly understates the potential operating revenues of a hotel at the Corte Madera Inn location and is therefore inadequate to make any reasonable determination regarding financial feasibility from data provided by the Applicant or the generic methodologies used to evaluate it.

Value / purchase price is typically the simplest thing to determine. However, in this instance that is not the case because the Applicant has owned the property for a long time and has not provided any information on their cost basis in the property. Their equity may be 100% if there is no debt.

Without knowing a developer’s true cost basis (equity) there is no way to honestly evaluate their return on investment or financial feasibility. This is a major flaw in the Applicant’s financial projections that they have failed to disclose.

That aside, overly simplistic, plug-in numbers do not help evaluate financial feasibility. In fact, every developer will have widely varying requirements. In addition the terms of purchase are an extremely important factor in determining actual cash on cash return on investment or return on risk capital, and therefore the “practicability” of a venture.

For example, if one seller wants $1 million dollars all cash at closing for a property, while another seller with an equally attractive opportunity wants $1 million for his property but is offering to “take back” a low interest rate loan, will also accept a second deed on another property in lieu of a down payment (no money down, upfront), and offers 20 years financing, this will greatly impact any return on investment calculation. In fact, with the second option where the investor has no cash in the deal, the cash on cash return on investment and the internal rate of return (“IRR” - a term we will look at more closely) cannot even be calculated.

So, if the cost of developing or renovating an alternative of “x” number of rooms is the same and the projected room rental rates are the same and the purchase price is the same, then the transaction with better terms or greater financial leverage will produce the greatest return on investment.

The most fundamental principle of real estate is the principle of highest and best use. The Appraisal Institute defines “highest and best use” as

The reasonably probable and legal use of vacant land or an improved property that is physically possible, appropriately supported, financially feasible, and that results in the highest value.

This implies that development will generally follow what the highest and best use of a particular property is at any given time, all factors considered. In this instance case of the Corte Madera Inn property, the highest and best use at this time is for a hotel of almost any size and configuration. The market demand and quality of the location will support a wide variety of alternatives. The Town of Corte Madera has also made it clear that a hotel use is the only use they will approve on the subject property.

Industry standards for evaluating return on investment

The PKF Market Analysis and Financial Analysis are the kind of brochure-ware that marketing firms promote to potential investors, in the absence of real analysis or hands on knowledge of how professional real estate investors evaluate “opportunities.” For example, PKF offers detailed comments on one of those investment analysis tools called Internal Rate of Return (IRR)

IRR is defined as

The discount rate at which the present value of future cash flow is equal to the initial investment.

Since that definition is as inscrutable as one can get, in simple terms it is a method of evaluating and comparing very specific aspects of investments that takes into account the timing of the cash investment requirements of that investment and the timing of the returns and other benefits that flow back to the investor.

For example, if one investment requires you to put up $100,000 and promises to pay you back in ten years and pay you 10% interest in the meantime, by the end of ten years you’ll have made 10% per year ($10,000 times 10 = $100,000) in interest on your money. That is a simple 10% return on investment. However, if that $100,000 investment can be put in over the first two years, and returns start to flow back to you, incrementally after four years, and there are tax advantages to doing that, and you are the beneficiary of accelerated depreciation write offs that benefit you as soon as the first year, and you are in a high tax bracket, the overall return on investment benefits is indeed more complex, and in this case better than the first option. In fact, it is not unusual for an investment to appear to barely make a profit based on a simple return on investment calculation but make an enormous return using IRR. It all depends on the specific investment, the specific terms, and the specific investor’s personal goals and financial situation. The permeations are almost infinite in their subtlety and complexity but it can have a dramatic impact on feasibility. But the calculation cannot be done generically, in advance, using abstract (and in the case of PKF) or forecasted numbers.

The factors involved in correctly analyzing financial feasibility based on return on investment are numerous

Some of the factors that are required to reasonably calculate return on investment and financial feasibility and therefore, practicability include are not limited to the following:

This considered the sophisticated looking Financial Feasibility and IRR “analysis” presented by PKF is completely meaningless and there is no way to even address them. However, it is also dishonest and opaque in a way that hides the owner’s actual investment return potential.

Their analysis pretends that all transactions, cash requirements, cash flows, leverage and other factors are the simplest possible and that the Applicant’s “costs” for the land are actual costs. What is not disclosed is what it the developer’s equity basis and tax basis in the property. Does he have debt on the project and if so, what are the costs associated? Can a buyer enter into a transaction using a tax free exchange? How much cash up front is required to invest in developing each of the alternatives? Would a developer who is not beholding to Marriott Corporation and interested in developing a hotel independently have significantly lower costs and better returns on investment?

All of this is critical to what is or is not practicable. None of it is factored into their analysis. However, even if we were to accept the PKF development costs and methodologies for a moment, their analysis still fails to provide any evidence that Alternative 2 is not the LEDPA.

Market demand and investment success is about more than just counting rooms or visitors

In point of fact, success in the hospitality industry, as in any other consumer services industry, is never simply a competition based on statistics, as the academic analysis by PKF suggests. The reason the Best Western Inn is losing its competitive edge is because like in any other business, new concepts and ideas and services continuously steal market share from their competitors. For example, laptop computers are now a commodity item. Most perform just as well as their competitors. So why then is there such loyalty to Apple and other top brands?

Similarly, with hotels and particularly in Marin County where uniqueness and innovation are so highly rewarded in retail, hospitality, dining and other service industries, developing a stale, generic hotel brand such as a Marriott Residence Inn or a Springhill Suites, or a Hilton Homestead Inn almost guarantees under-performance. Whereas, a unique, upscale hotel on the subject site, which not only preserved the pond but made it an asset and a showcase, would stand a much better chance of taking market share from competitors. This fatal flaw in the Applicant’s approach permeates all aspects of their analysis and leads to their significant under estimation of the true revenue potential of the subject location. This has direct bearing on the practicability of an alternative that includes a smaller hotel that preserves the pond, such as Alternative 2.

An example of this is the fairly new Cavallo Point Lodge at Fort Baker. It has little competition in its niche, offers unique amenities (dramatically located on the Bay at the Golden Gate Bridge) and its pricing and high occupancy and overall operating revenues reflect that.

The PKF market analysis is extremely self-serving and incorrect

As we note throughout our comments is that the Applications financial analysis is deficient because of the outdated data it depends upon and the incorrect prognostications of the developer’s consultant. For example, what is so bizarre about the PKF analysis of market demand is that it limits its comparative discussions (page 19) to only comparing the Marriott preferred proposal to a proposal by a competitor, the Hilton Corporation, as if this Applicant was about RQCB helping the developer decide about which company to do business with. The entire discussion presented has nothing to do with the 404(b)(1) Guidelines or the permit application process.

Again, on page 24 of the PKF Market Demand analysis, it shows ADR figures that are 38% lower than what current rental rate data actually shows. To further claim that a brand new hotel in the subject location, coming online it two years could not even command today’s ADRs is nonsensical. Yet, it forms the foundation of the Applicant’s entire argument about what is or is not practicable.

Recognizing this erroneous approach by PKF is significant because it is also applied to their arguments and financial projects used to claim that Alternative 2 is not practicable.

The industry standard for market data

As we noted in our comments on the Alternatives Analysis Final with Figures/Off-Site Alternatives, overall hotel operating revenues and market demand, since 2013, in Marin County and particularly in the market of the subject property, have increased dramatically along with average room rental rates, and therefore have increased the potential development opportunities and the determination of what is practicable on the subject property.

Any professional analysis of market trends, operating revenues, and potential investment success needs to be grounded in definitive data. PKF is a marketing and economic forecasting firm and does not represent the industry standard for statistical resources. The accepted hotel industry standard is Smith Travel Services (“STR”). STR is not a consultant for hire. They are a fact based source for reliable data.

Confidential STR monthly and annual reports are based on actual data about room rental rates, operating revenues and expenses and overall profitability, submitted by its member hotel operators. It provides unbiased statistical of market health, market trends, and growth in each local market segment. Annual Reports by STR, the hotel industry statistical standard, show that the economic rebound over the past five years and the continued low interest rate environment has made many types of investments more feasible and attractive. The STR report for southern Marin, as of the end of November of 2016, shows an across the board increase in average room rental rates of more than 30% for hotels in the Marriott proposals market segment, and close to a 33% increase in average daily room rate (ADR).

STR data confirms the findings of the Best Western Corte Madera Inn Redevelopment: Market Study & Financial Feasibility Evaluation by RHSW, LLC.(Exhibit 14) and indicates that average room rates, occupancy rates, and overall revenues are even higher now than when that study was done in June of 2016 (approximately 2.5% higher). This means that the base ADR and RevPAR (average revenues) data used by PKF in the base study may be deficient by as much as 50%.

STR confirms the Best Western Corte Madera Inn Redevelopment: Market Study & Financial Feasibility Evaluation average daily room rate for the Marriott Courtyards Inn at Larkspur Landing. This property is arguably the best comp for evaluating the Applicant’s financial feasibility analysis. That said, what this shows is that the Applicant is asking RWQCB be to accept that a brand new Marriott residence Inn hotel at the subject location will only have an average room rental rate, projected for the next 5 years in the future of $208 per night – more than 30% lower than the existing comparable suite at Larkspur Landing, a property which is almost two decades older. This makes no sense whatsoever.

Outdated financial data distorts the Applicant’s analysis conclusions

As we’ve noted, he Application relies on data and opinions provided by the PKF Consulting (referenced in the Alternatives Analysis as Attachment “A”). PKF Consulting based their entire financial analysis on data from the 2009 to late 2012 time period: a time when the national and local economy was still suffering from the worst financial crisis and recession in more than 80 years. Average rental rates and operating revenues from that period are outdated to the point of being valueless.

STR Reports show that average room rental rates and overall operating revenues have risen dramatically in the past five years. The Applicant is aware of this fact and PKF even acknowledges the beginnings of this trend in their data.

STR annual reports as of the end of November 2016 confirm that the data the PKF analysis presents (which is the basis of the Applicant’s entire argument to support his preferred on-site alternative) is so skewed by historical events and so outdated that it should be disregarded. It fails to provide a realistic picture of the current hotel market in Marin and does not provide accurate information regarding the viability of either on-site or off-site alternatives and extinguishes the Applicant’s arguments for why his preferred proposal is the only proposal that is feasible or practicable.

It is of great concern that the Applicant has relied on data that dramatically skews the overall operating revenues downward, far below what is achievable today. To an objective observer, the Applicant appears to be intentionally presenting PKF’s skewed data and resultant financial pro forma in the On-Site Alternatives Analysis, in order to support a preposterous argument that the largest possible hotel to Marriott Corporation’s exacting specifications, and fill in the wetlands as the only practicable alternative.

The Best Western Corte Madera Inn Redevelopment: Market Study & Financial Feasibility Evaluation by RHSW, LLC. (Exhibit 14), and current STR data shows that room rates and operating revenues are so strong at this time that almost any type and size of new hotel on the subject site (35 rooms or more) would likely be financially feasible and solidly profitable and therefore practicable, if managed correctly, including but not limited to renovating the existing hotel, adding on to the existing hotel, or building a smaller hotel, because the subject location is generally acknowledged as a triple “A” location and perhaps the best location in all of southern Marin.

Unless the Applicant is genuinely confused about the applicability of “market demand” as a determining factor under the 404(b)(1) Guidelines, this appears to be yet another attempt to approach the application review process on the Applicant’s own terms and to their own benefit, while at the same time failing to actually address or submit the information, data and evidence to support their preferred alternative. In reality, evaluating market demand is up to the Applicant and his investors and bankers, based on their estimation of the quality of the investment opportunity.

It is of great concern to us, however, that the Applicant appears to be doing this intentionally in the hope that agencies such as RWQCB will not be sophisticated enough to properly analyze or question the Applicant’s financial modeling or its conclusions.

In doing a recent check on the average room rental rates noted in the Best Western Corte Madera Inn Redevelopment: Market Study & Financial Feasibility Evaluation by RHSW, LLC., and looking at current market data provided by STR we find an average 30 percent increase across the boards in both room rates and profitability for hotels in the Applicant’s market area in the past five years. In fact, the manager of a southern Marin hotel that would be direct competitor to any new or renovated hotel at the subject location, told CVP that the past year has been the “best year ever” for hotels in Marin.

Comment based on professional experience

I have been in active the fields of design, site planning, architecture, construction, and the real estate brokerage, investment and development industry for more than 45 years and hold and have held multiples licenses and certifications as evidence of that expertize (Exhibit 16). In that time I have designed, built and consulted on hundreds of projects: residential, institutional and commercial. I have acted as managing partner and principle in numerous of development and investment ventures.

It is my professional opinion that a qualified architect could quite easily design an attractive and marketable 140 to 150 room hotel on the subject site that would be financially feasible and practicable, while still retaining the wetlands pond and wildlife habitat area. Speaking candidly, the Applicant and PKF’s arguments appear to be a transparent ruse to deceive the unsuspecting public in order to maximize the Applicant’s personal financial gain. There is nothing illegal about that, however, it fails to address the purposes of the 404(b)(1) Guidelines and the Clean Water Act.

CVP has interviewed a number of successful, local hotel developer / operators, who have all confirmed our opinions on what is and is not financial feasible and therefore practicable on the subject site. In fact, one such developer has submitted a letter as evidence of their desire to purchase the property at its fair market, appraised value, to do just that (see Exhibit 16a).

Marriott Corporation’s Comment letter

The Applicant has argued that constructing anything less than their preferred option (and filling in the pond), is not financially feasible. In their documents submitted to the Town of Corte Madera as part of their EIR, and incorporated in their Application by reference, they cite a letter from Marriott Corporation as evidence of financial feasibility, and therefore practicability, and their need to build one specific size and type of hotel that meets the needs of Marriott (Exhibit 19). However, the letter from Marriott Corporation does not offer an opinion of financial feasibility. The letter from Marriott Corporation simply states that if the smaller hotel is built (for Marriott), it would probably be a Residence Inn, instead of a dual-branded hotel with a Marriott Springhill Suites. But as we’ve shown, building a hotel to Marriott’s specifications or recommendations is inadmissible as evidence for approval of a permit under the 404(b)(1) Guidelines. There are literally dozens of competitors to Marriott in the subject market area, which the Applicant has failed to consider, that would not require the same restrictions or design parameters. The Applicant provides no evidence that they have considered those alternatives in good faith.

The Marin Lodging Market Survey & Financial Feasibility Evaluation (Exhibit 5), and the market updates and related information we’ve provided based on STR Reports demonstrate that there is no evidence in the record (as required),[39] which would lead an objective reviewer to conclude that a different hotel design on the subject site would not be practicable.

The property is for sale except to qualified buyers

The property is listed as for sale with the real estate firm of Newmark, Cornish & Carey. They describe the property as an “Extremely Rare Central Marin Redevelopment Opportunity” (sales brochure, attached as (Exhibit 17). They have not indicated an asking price.

Qualified, local hotel developers / buyers, who wish to purchase the property and build a unique, new hotel of no more than 150 rooms, which would include the preservation and enhancement of the wetlands and the wildlife habitat, have contacted the representing brokers and inquired about receiving information packages in order to submit purchase offers and have been told that the owner is not accepting offers from hotel developers.

Although it is not unusual for a land owner to list property for sale, just to find out what kind of offers might be submitted, it is certainly unusual for a land owner to intentionally discourage offers from the most likely buyers. This is particularly true for this property. Since the inception of this project, the applicant has taken an “all or nothing” approach to gain approvals from the Town of Corte Madera. Throughout that process the developer has stated that unless they receive approval for their preferred project (currently 174 rooms), they will not build anything at all and sell it to the highest bidder. They have threatened that this highest bidder will likely be a car dealership, retail stores, or an office complex. None of these uses are considered desirable by the Town. In fact, Town Council members have said, repeatedly, that they will not approve retail, housing, car dealerships for that site and will only look favorably on a hotel as the primary use of the site.

It makes little sense then for the applicant to refuse offers from hotel operators and hotel developers, when those buyers would very likely be the highest bidders, again, unless the applicant is trying to manufacture “evidence” to present to the Town and the Corps, to substantiate their claim that their own preferred project is the only alternative that is financially feasible and therefore practicable.

In my professional opinion, I can only surmise that the Applicant’s listing of the property for sale, while refusing to accept offers from bona fide buyers, appears to be a ruse to be able to contend that there are no buyers interested in their property, in order to argue that unless their preferred alternative, which includes filling the pond, is approved (the Marriott dual branded hotels) the hotel and the wetlands will continue to deteriorate.

DISCUSSION OF ALTERNATIVES ANALYSIS

Re: Introduction

The On-Site Alternatives Analysis Final with Figures and Attachment; Introduction, states

The off-site portion of the alternatives analysis was previously completed and has been reviewed by Corps of Engineers (Corps) and Regional Water Quality Control Board (RWQCB) staff. This on-site analysis incorporates and modifies portions of the off-site analysis and includes a new analysis of on -site alternatives.

In plain terms, this is just an unadulterated lie that appears to be designed to deceive the public and the local agency into believing this project has the approvals it needs to move forward and an attempt to intimidate RWQCB into believing that the Corps has already accepted the analysis In point of fact, however, this nor any other alternatives analysis has ever been submitted much less reviewed by the Corps (or by RWQCB). That it has not been shown to the Army Corps is evidenced by the fact that its absence is the very reason the Corps has place the project on inactive status.

Re: PART II. Project description and basis purpose

The On-Site Alternatives Analysis Final with Figures and Attachments B. Basic Purpose states

Both reports [by PKF] strongly recommended dual -branding as it will allow the hotel to: (1) take advantage of the variety of demand present in this region; that is, to accommodate both short -and long -term stays; and (2) capitalize on this demand and capture the higher value revenues that accompany these.

Here again, the Applicant justifies their conclusions based erroneous reasoning about what constitutes “practicable” under the 404(b)(1) Guidelines. To “take advantage of… demand” or “capitalize on this demand and capture higher value revenues” are not conditions for approval of a permit to fill a wetland. In fact, as we have pointed out, they are expressly prohibited from consideration.

This also exposes the obviously conscious decision by the Applicant to use outdated information on average room rates, occupancy rates, and overall revenues, because the distortions of those outdated figures support his ability to “cry poor” and conclude that the only alternative that is viable if the same one the Applicant has been promoting for more than a decade.

The On-Site Alternatives Analysis Final with Figures and Attachments B. Project Demand

We have commented on the Applicant’s incorrect assertions about market demands in our previous comment letters. Those comments are hereby incorporated herein by reference.

As we’ve noted, both the Alternatives Analysis Final with Figures and the On-Site Alternatives Analysis Final with Figures and Attachments, the Applicant has based its practicability arguments on evidence of “market demand” for his preferred alternative. Although there is no relationship whatsoever between market demand and the financial success of a particular development proposal (in any economic times or market some projects will fail and some will succeed), as we’ve noted above, recent data regarding Marin’s vibrant economic environment, with high and rapidly rising room rental rates, increases the likelihood that a great variety of hotel types and sizes have a strong chance of being financially feasible on the subject site.

Re: PART III. On-site Alternatives Analysis Final with Figures and Attachments A. Practicability

We have commented on the Applicant’s incorrect assertions about market demands in our previous comment letters. Those comments are hereby incorporated herein by reference. For more citations, data and analysis on practicable project alternatives please see our letter to Sahrye Cohen, Permit Manager at the Army Corps of Engineers, dated June 16, 2016 and attached as Exhibit 9.

Conclusion

Financially feasible and practicable alternatives exist, which provide for the redevelopment of the existing Best Western Corte Madera Inn hotel and the preservation of the Edgewater pond. Therefore, with all of the information presented in this comment considered, we respectfully request that the Army Corps deny the applicant a permit to fill in the special aquatic site, known as Edgewater Pond, located in Corte Madera, CA, because it is not the LEDPA and practicable alternatives exist that qualify as the LEDPA.

Thank you for the opportunity to submit our comments.

Sincerely,

Bob Silvestri - President

Community Venture Partners, Inc.

Read General Comment on Alternatives Analysis

Read Comment on Off-Site Alternatives

Read Comment on On-Site Alternatives - Part A

[39] 40 CFR 230.12(a)(3)(iv).