As of November 2, 2016, CNL Lifestyle Properties has agreed to sell its portfolio of real estate backed lifestyle properties to EPR Properties; a Kansas City based Real Estate Investment Trust. Simultaneously with the closing of the sale to EPR Properties, EPR Properties will sell most of the ski related assets in the portfolio to an asset management group, New York City based Och-Ziff. Those ski related assets include Sugarloaf, Sunday River, Loon, Sunapee, Okemo, Boyne, Boyne Highlands, Crested Butte, Brighton (Utah), Summit at Snoqualmie, Stevens Pass, Mountain High and Cypress. Also included is the Gatlinburg Skyride. The question I was asked by journalists and resort operators as a result of the announcement is, “what does this mean?”
What it means for skiers and riders, guests of the resorts is it means little to nothing. The resort and area operators of the assets being sold are Tenants. They operate under terms of (relatively) long-term leases. The purchase is subject to the terms of the leases which, except in cases of material default under the terms of the specific lease, means the tenants continue as they have while CNL was the landlord.
What it means for the operators is not as clear. The leases are in place for however long they are in place, usually for an initial 40 year term. These leases are based upon an annual base lease rate, plus in most cases an overage or what is known as a percentage rent. Simply put, an overage is an agreement whereby the Tenants pays the Lessor an increase in “rent” based upon how much the Tenants earns over a base figure. As revenues and earnings grow, so do the rent payments as a result of the percentage rent. As part of the lease, maintenance capital is provided for by formula as well. The tenants pay somewhere between two and a half percent to six percent of their gross revenues to the Lessor to cover annual maintenance of the resort facilities. So far, that has worked well for both tenant and landlord, in keeping the assets used to operate the resorts in safe, good working order. Except, now, the ski resort industry as a whole is experiencing its infrastructure manifesting “aging” in ways not seen in the past. In particular, lifts engineered by certain lift manufacturers are showing signs of failure due to design issues that have taken as long as thirty years to manifest themselves. These aging issues in the past were considered part of normal maintenance and the two and a half percent to six percent reserves were adequate to keep the infrastructure operating safely and efficiently. Now, the fix to these issues may be to replace the aged lifts with new. The costs associated with repair versus replace are quite significant. The significant cost differential leads to the potential problem associated with the transaction.
Where does the capital to replace an obsolete lift or other piece of infrastructure come from? For that matter, where does any capital earmarked for growth at a resort come from? Previously, CNL provided growth capital quite willingly. CNL analyzed the planned use of the capital to be provided. If a request made sense and met CNL’s investment criteria it would get approved, the growth project would go forward at the specific resort and the amount of the debt would become an obligation of the tenants to payoff, in installments.
The looming question as I see it is: will Och-Ziff be willing to invest in its assets on behalf of its tenants to promote revenue and earnings growth? Based upon information seen in press releases specific to this transaction, it appears that EPR Properties, which is financing part of the Och-Ziff acquisition, will also make available some $50 million of (growth) capital that Och-Ziff will have available to invest in the portfolio of ski resorts it is purchasing. The use of the capital will be at Och-Ziff discretion. So the answer to this question is, yes, there is capital available to facilitate growth at the resorts.
Last big question that is out there: will the tenants who wish to do so be able to purchase the resorts they operate from Och-Ziff? My opinion is, if a Tenants is in material default of the terms of its lease(s), Och-Ziff may be interested in selling those assets, as they are likely to underperform the portfolio return requirements anticipated by Och-Ziff’s purchase of the portfolio. If the leases are performing close to lease terms, I doubt that Och-Ziff will be willing to sell the associated assets for the near future. It is likely that the assets are in a fund. The fund likely has an anticipated life span during which Och-Ziff expects the capital it has invested in the assets under lease will provide a minimum return to Och-Ziff, that meets Och-Ziff goals and objectives for capital. Once the life span of the fund expires, expect the assets to be sold, not before. Given the term of the financing provided by EPR Properties to facilitate Och-Ziff acquisition of the resorts, it seems that five years is the likely time frame for any of the performing resorts to become available for acquisition.
That’s my take on the transaction. What’s yours?