Clubs strive to be the best they can in providing the highest quality of services to their members. In this pursuit of perfection, club leadership is generally interested in what other well-run clubs do. In certain cases, it may be just as instructive to know and understand what mistakes other clubs have made. Some of those mistakes were not originally perceived as such but, in economic downturns, the consequences of certain well-intended actions are magnified and in hindsight, may not be viewed as favorably as they once were. The following are the top 10 mistakes that clubs make.
1. Too much debt
Clubs from time to time undertake major capital projects that require funding above the levels generally provided by ongoing capital assessments and initiation fees, which are the two most common sources of funding for such projects. In many cases, the singular large assessment for funding a major project is not chosen as it typically would either not receive membership approval or it is believed it would generate a significant number of member resignations. Obtaining bank financing has proven to be a popular alternative. According to a recent survey, approximately 86 percent of the golf and country clubs, 57 percent of tennis, beach and yacht clubs and 45 percent of city clubs surveyed had long-term debt. The average debt at golf and country clubs was approximately $3.1 million, tennis, beach and yacht clubs was $821,000 and city clubs was $3.54 million based on the survey, with a number of clubs in each group having significantly more debt than the average. When membership levels are full, clubs can use dues revenue to provide the cash flow to service the debt (both interest and principal). However, when clubs with high levels of debt experienced double digit declines in membership in 2009 and 2010, those clubs were unable to provide the cash flow to support the debt service resulting in certain cases in delinquencies, foreclosures, bankruptcies or sale. In the end analysis, too much debt kills!
2. Debt term too long
For clubs that have chosen to finance all or a portion of major capital projects with long-term bank debt, the period over which such financing will be repaid (typically 7, 10, 15 or 20 years) can have potential long-lasting financial implications. In many instances, the 15- or 20-year term is chosen simply because the monthly debt service payments will be lower, which translates into lower monthly member assessments. Current members may also argue that members who join the club years after and will enjoy the improved facilities should pay their fair share; thus, 20-year term debt and related assessment should be chosen. However, this perceived inequity could be addressed by increasing the initiation fee over time, taking market conditions (demand to join) into consideration. Recent history indicates that clubs cannot go 20 years before another major capital project is undertaken. Typically, the next capital project will occur 10 to 12 years later or sooner, depending on the club and the extent and condition of its facilities. For the same reason as the original project, funding for the next major project in many cases involves bank financing or refinancing. Because payments are heavily weighted towards interest rather than principal during the beginning years of a 20-year loan, the outstanding balance is still relatively high after 10 years. Thus upon refinancing and borrowing additional funds for the new project, the bank debt becomes higher than the original borrowing for the first project. As this scenario repeats itself over time, outstanding debt continues to increase despite the large amounts of debt service payments over the years.
3. Debt that does not fully amortize
In a number of cases, clubs have entered into 10-year term loans with 20-year amortization periods. At the end of the 10 years, these loans require balloon payments, which if the club cannot pay, will require refinancing. At that juncture, if the club is going to undertake another major capital project, additional borrowings may be contemplated. Under this scenario, if it continues to repeat itself, the club debt levels will over time continue to increase to levels that may not be sustainable.
4. Increasing the value of membership certificates and bonds
In addition to initiation fees, it is not uncommon for clubs to require incoming members to purchase a membership certificate or bond. Approximately 51 percent of the golf and country clubs and 33 percent of tennis, beach and yacht clubs surveyed issue some form of membership certificate or bond. When financing major capital projects, in addition to or as an alternative to long-term bank financing, clubs issue or increase the value of a membership certificate or bond equal to the payment being made by a member. Typically, members will get the increased value of the certificate back when they leave the club, provided there is an incoming member to replace them, and the new member pays for the certificate. In effect, the members are providing interest-free financing to the club during their membership and since they receive their money back, they effectively never pay for the project, although they get the benefit of using the facility while a member.
Although popular with members, such a financing mechanism is generally not in the long-term best interest of the club. In the short term it works—but in the long term, the financial effect on a club’s cash flow can be dramatic.
For example, Club A has 250 certificate-holding members. Over time, capital assessments for projects have been added to the value of the certificate. The certificate originally issued with a value of $1,000 is now valued at $10,000. The club’s total certificate value outstanding is $2,500,000 (250 x $10,000).
If the initiation fee is also $10,000, a new member pays $20,000 ($10,000 for initiation fee and $10,000 for a certificate) of which the club only gets use of $10,000, because the other $10,000 for the certificate goes to repay the outgoing member. If the membership turns over every 25 years, then over the next 100 years the club loses $10,000,000 (4 x $2,500,000) of available cash flow due to this financial structure. One-third of the country clubs that issue certificates value them at $10,000 or more.
In another example, if Club B has 300 certificate-holding members and the certificate is valued at $20,000, the total value is $6,000,000 and the future negative cash flow impact will be $24,000,000 (4 x $6,000,000).
The more certificate-holding members a club has, and the larger the value of each certificate, the more potential detrimental effect it will have on the club’s future cash flow.
5. Increase certificate value with no payment
Although not a common occurrence, certain clubs have increased the value of a membership certificate with no payment being made by the member. Although popular with the existing members at the time, the detrimental effect on the club’s cash flow over time was drastic. For example, Club C had 200 certificate-holding members with certificates valued at $2,000 each. Over a period of four years, the club assessed each of the certificate holding members $1,000 annually with a corresponding increase in the certificate value to $6,000. In the subsequent four years, the club continued to increase the value of the certificate by $1,000 annually without payments from members. The net effect was increasing the value of the certificates by $800,000 (4 x $1,000 x 200) with no cash being received by the club. The decision cost the club $800,000.
6. Not buying land adjacent to the club
From time to time, clubs have an opportunity to purchase property adjacent to the club. In many cases, it may be the first time in a generation that the property is for sale, and once sold, it may be another generation before the property is up for sale again. Although the existing owner may be a long-time friendly neighbor to the club and may even be a club member, there is no guarantee the next property owner will have the same relationship with the club and may end up being an adversary to the club. Some golf and country clubs have ended up in litigation with adjoining property owners over, among other issues, errant golf balls landing on their property. Such litigation can drag on for years, become very costly, and potentially create negative publicity for the club. As Mark Twain said many years ago, “Buy land, they ain’t making any more of it.” Clubs would be well served to seriously consider the purchase of adjacent land when offered for sale.
7. Selling land
From time to time, clubs sell what they consider to be “excess” or “buffer” land, or even occasionally sell off golf holes if the club is fortunate to have more than 18 holes of golf. Usually selling land is viewed as the transaction that will financially save the club or even provide funding for a major capital project. Some clubs that have sold land have looked back with regret years later, especially if such land is developed. Tax-exempt clubs should also consider the potential tax implications of a sale of club property.
8. Not increasing dues on an annual basis
Some club boards make decisions not to raise dues each year. While this may be popular with the members, generally clubs cannot continue to operate on at least a break-even basis without annual dues increases. Short-term it can work, but long-term it generally does not. Expenses such as payroll, payroll taxes and benefits—which often account for more that 50 percent of a club’s operating expenses—as well as other operating expenses, generally increase each year. It would be unrealistic for clubs to think they can continue to operate and deliver the highest quality of services without dues increases.
9. Senior members’ right to vote
Clubs typically will grant members senior status based on each individual club’s criteria, which is usually a combination of age and years of membership. The major attraction for a member who qualifies as a senior member is a substantial discount in membership dues. At many clubs, in return for the discount senior members give up some of their rights, including prime-time tee times and the right to vote. However, some clubs do not require senior members to give up their right to vote. When clubs need a required number of votes to approve a capital project and related assessment, it may be difficult to secure the necessary votes as experience has shown that seniors who live on a fixed income vote against such projects.
10. Running the club without a manager
Some clubs have taken the position that they don’t need a professional manager to run the club on a daily basis. Instead, individual department heads run their respective area and report to the Chair of a Committee (i.e., house, golf, greens, etc.). Under this scenario, there is no one employee responsible for the overall operations. While this setup may work in the short-term, long-term it becomes increasingly difficult to operate a multimillion-dollar business without one individual in charge on a day-to-day basis.
Daniel T. Condon is a founding partner in the accounting firm of Condon O’Meara McGinty & Donnelly LLP, which currently serves as auditors, consultants and tax advisors to more than 325 clubs in 14 states. He has practiced in the area of private membership clubs for more than 30 years. Dan can be reached at 212-661-7777. Learn more about COMD at www.comdcpa.com.