An ambitious developer builds a whole ownership condo building in Florida. The beachfront property has 60 units. While the developer has purchase contracts with 10% deposits on 50 units, just 20 of the purchasers under contract have closed on their units. The project’s construction loan matures in 120 days, but the developer will be unable to meet the obligation. What are his options?

One possible solution—actually a range of solutions—involves converting the property, or at least the unsold, unclosed units, to some form of vacation ownership: timeshare, fractional or even vacation club. There are more than 1,500 timeshare resorts with 170,000 units in the U.S. Timeshare sales totaled $6.3 billion in 2009.

However, to do so the developer will probably need to clear a series of financial, legal and logistical hurdles that make such a conversion difficult. The idea of the distressed condo to timeshare conversion was the topic of a panel discussion at the recent annual convention of the American Resort Development Association (ARDA).

“There’s a lot of precedence for this trend,” said ARDA President and CEO Howard Nusbaum in a follow-up interview. “In the early 1970s, overbuilding of condominiums, coupled with the energy crisis and high interest rates, put the condo industry in a situation that looks a lot like today. And, as a result, the U.S. timeshare industry was born. It’s very fitting that today timesharing can be a workout for overbuilt condos because that’s exactly what happened 40 years ago.”

Property issues
But, as the panelists warned, a developer contemplating such a solution may face some serious roadblocks. The first is the property itself, since not every condo building, even in a resort area, has the layout and facilities needed to attract timeshare buyers.

Panelist Tom Anderson, chief real estate officer for Wyndham Vacation Ownership, said his firm looked at more than 200 distressed properties in 2010 but wound up getting involved in just five of these developments on a fee-for-service basis. Under that scenario, Wyndham essentially becomes the project owner’s timeshare company.

In reviewing possible projects, Anderson said he “looks in four or five silos” to quickly determine whether Wyndham should pursue the relationship. “We want to determine upfront whether the project has what it takes to move from whole ownership to timeshare,” he said.

“We want to identify any obstacles,” explained Anderson, “and then gauge how quickly we can take the property from where it is today to where it can be making its first dollar as a timeshare resort.”

Anderson’s team evaluates the quality of the product, operational issues that could hinder conversion, Americans with Disabilities Act (ADA) requirements and needed capital expenditures. Most importantly, the team considers the potential to generate sufficient marketing prospects for the property.

They also spend a lot of time with the condo documents and local laws to figure out whether conversion to vacation ownership is legal and what it will take to convince existing unit owners to allow conversion to timesharing or to sell their units.

“Early on, you need to determine whether [unit] owners are in love with the asset, or are sorry they made the deal in the first place and would be willing to sell,” Anderson said.

Jay Wilson, assistant vice president for exchange company Interval International, was even more specific in outlining the logistical challenges in a condo-to-timeshare conversion. He said space — particularly back-of-house and public space — is often an issue. The front desk may need to be expanded and space allocated for housekeeping and other back-of-house operations.

A designer must be hired and unsold units furnished. One or two units, preferably on the top floor or in another prime location in the building, will need to be converted into a sales center. Another major stumbling block tends to be the property’s pool and recreation areas. What suffices for a condo owner may not appeal to a family on vacation.

“However, while the physical aspects of the project are very important, it doesn’t really matter if you can’t market and sell it as a timeshare,” said Wilson. “Is it in a destination that people want to travel to? If the answer is no, that’s probably one of the reasons the project failed in the first place. Timeshare is not a savior for product built in the wrong place.”

Educating lenders
The final piece of the puzzle, said the panelists, is getting lenders and other potential sources of new capital to believe timeshare is a possible rescue opportunity for a distressed property.

“A lot of capital providers who may be looking to put money to work in multifamily housing or office properties, or other more conventional types of commercial real estate, are struggling now to find deals that fit their parameters,” said Lee Hetfield, managing director and co-head of whole loan trading for Cantor Fitzgerald.

“They [capital providers] want 18%-plus returns, and they’re just not finding it in these other food groups. So, timeshare may be a good opportunity for them,” explained Hetfield. “The big challenge is education and making the developer understand how to engage these people. It’s typically a long dance.”

The lending community has been slow to embrace timeshare as an alternative property type, pointed out Hetfield. Of the 50 fund managers he knows who can allocate money for projects, he can “count on one hand the number who are comfortable doing [a timeshare investment] today and on two hands the number who I see doing it over the next six months.”

Two things can make the difference, said Hetfield: educating lenders and getting branded timeshare companies involved in the process.ARDA has taken a lead on the education front, producing and distributing a white paper on the ins and outs of the timeshare business. Nusbaum, the leader of ARDA, often speaks to groups of bankers and others on the industry’s business model.

“We identified three things about timeshare that have impressed the financial community during the recent economic downturn,” he said. “One was the industry’s strong occupancies, which are a function of the pre-paid nature of the product. Also, nine out of 10 timeshare owners are still current on their mortgages. That means timeshare notes have performed better than credit card debt, traditional housing, auto loans and student loans. The third thing is maintenance fees, and again nine out of 10 timeshare owners are still current.”

Wyndham and several other branded timeshare companies have switched some of their focus to a fee-for-service business, in which they provide, as Anderson called it, “cradle-to-grave timeshare services,” including brand-name recognition, sales and marketing services, note servicing, property management and more. Wyndham has struck these kinds of deals in the past year with properties in Florida, South Carolina and Vermont.

“Everybody can win in this kind of arrangement,” said Nusbaum. “The idea of taking product sitting vacant and giving it an even temporary use makes the timeshare system or vacation club more robust and gives the developer of a product in trouble the ability to monetize that product. And for the people who already bought units in that project, their investments won’t be hurt by having other units sold at a lower price.”

Timeshare Glossary of Terms
Timeshare — The purchase of vacation accommodations, typically in one-week intervals at a specific resort or within a vacation ownership network of resorts. The purchase may either be a deeded piece of real estate or a specified number of points, which can be used to book vacation accommodations or other leisure products.

Fractional — Essentially a timeshare purchase for longer intervals (typically starting at three weeks and up to 13 weeks) and typically at higher-end resorts.

Vacation club — Another term for a timeshare product not tied to deeded real estate, but the purchase of a defined level of access (typically in the form of points) to vacation accommodations in the club.

Exchange — The mechanism owners of vacation ownership products can use to vacation at resorts outside of their home resort. Exchanges can be done within the same network of resorts or through one of two major exchange networks serving the entire industry.

Vacation ownership ­— Another term for any timeshare, fractional or vacation club product.