Glimpse #1 at Colleton River's finances--some history

There are many new Owners here at Colleton River and a review of our history may be helpful in understanding the challenges facing our Club today. This post is background only and does nothing more than summarize facts and provide some historical background for newer Owners. Here’s the short story:

·          Facts

o   Over the past 24 years, annual assessments have increased at well over the rate of inflation.

o   During the past 17 years, there have been three “special assessments,” totaling about $50,000 per Owner.

o   Despite recent significant increases in the “replacement reserve” assessment, the current replacement reserve assessment does not provide sufficient funding for routine maintenance and replacement. During the past three years, transfers of funds from the real estate fund to the replacement reserve fund, and periodic special assessments were necessary to adequately maintain the Club.

None of these three facts necessarily mean that the Club is financially challenged.

·         My opinions:

o   Annual assessments may have increased due to a phaseout of developer subsidies or inflationary pressures unique to the golf club business or the Low Country. The Board has historically tried to keep costs in line and I’m sure they intend to do so in the future (after all, who’s going to be in favor of paying more?). Please keep in mind that post-amenities upgrade, we'll have over $70 million of net property, plant, and equipment to maintain.

o   Special assessments are not necessarily bad. The new fitness center and the new tennis center are examples of new capital investments, rather than routine updating of assets (like the Dye Clubhouse renovation). Special assessments supplement the capital contributions (i.e., the transfer fee) and are a better way to fund new projects than debt—not least because they require approval by 2/3 of the Owners.

o  Despite sharp increases during the past few years, the replacement reserve assessment is too low. In fact, absent a $2.8 million transfer from the real estate fund in 2020, the replacement reserve fund would have a negative balance. Even if one were to fund projects like the new fitness center with special assessments, it looks to me like we need to increase the annual replacement reserve assessment from about $3 million per year to $6 million per year (we currently spend about $4 million per year—but that excludes projects like the Dye re-fresh and the current annual deferral of road work and the Whitehall gate. That increase would amount to about $5,000 per year per Owner—but would reduce both the likelihood and amount of future “special assessments.

I found Colleton River monthly statements going back to when we joined the Club in 1998. Here's a graph of the annual assessments since then (the blue line):

The chart includes a comparison with the 1998 assessment increased with inflation (as measured by the Consumer Price Index--see the orange line). 

As you can see, annual assessments have increased by about 5.0% per year, compared with inflation of about 2.2% per year. Over 23 years, through the magic of compounding, actual assessments are about 89% higher than they would have been had assessments increased at the same rate as inflation.

But is this a fair comparison? On the one hand, the developer didn't turn the club over to the Owners until 2008--so there may have been subsidies from the developer pre-2008 that were phased out, which would likely have caused the costs borne by the Owners to increase. On the other hand, the number of Owners probably increased over the same period (which should cause the cost per Owner to decrease). There may also have been factors unique to the golf club business or the Low Country that caused our costs to increase faster than national inflation averages. Who knows? I don't have the information to opine on what impact each factor had. I'll focus on assessments during the 2009-2021 period below.

In addition to "annual assessments," there have also been three "special assessments" since 1998:

As you can see, there was a golf course assessment in 2005 (if I recall correctly, we needed to re-grass the Nicklaus course 14 years after it opened), an assessment to rebuild the Nicklaus clubhouse in 2006 (the original Nick clubhouse had a mold issue and was scraped away and rebuilt--oops!), and the current amenities assessment. These special assessments were in addition to the annual assessments.

Let's just look at assessments since the Owners took over from the developer in 2008 (also compared with inflation):

The annual assessments increased from 2009-2021 at the rate of 3.6% per year, compared with inflation of 1.9% per year (also known as the "good old days"). If assessments had only increased with the CPI since 2009, they would be about 19% lower than they now are. But there's an inflection point: assessments were essentially flat from 2009-2014 (a compound increase of 2.5% per year from 2009-2014, compared with inflation of 1.9% per year), versus 4.5% per year from 2014-2021 (again compared with inflation of 1.9% per year). 

What does this mean? There are a lot of interpretations one could assign to these data. For instance, 2009-2014 included the "Great Recession," when the Club was struggling and many Owners (particularly Owners of undeveloped lots, rather than houses) defaulted on their obligations to the Club. The increased assessments from 2014-2021 could have resulted from catch-up spending that had been deferred during the financially challenging years of 2009-2014. Or the 2009-2014 Boards may have run a tighter ship than did the 2014-2021 Boards. Again, the reasons go beyond the scope of this post.

The annual assessment consists of two components: the operating assessment and the replacement reserve assessment. Here's a graph showing the annual percentage increase of each—as well as the inflation rate measured by changes in the CPI:

As you can see, the operating assessment increased slightly faster than inflation during the 2009-2014 period and by over twice the inflation rate during the 2014-2021 period. The replacement reserve assessment significantly exceeded inflation in both periods. 

The increase in the operating assessment warrants close watching. The first chart above shows how exceeding inflation by 2-3% per year can accumulate to a significant amount of money over 20 years. But it's hard to make an informed judgment about how serious the issue is when the Club has been in such a state of flux over the past 20 years (the turnover from the developer, the Goodwin purchase, rebuilding the Nick clubhouse, a tight labor market in the Low Country, and COVID, just by way of examples). This is an area that should I'm sure will continue to receive a high degree of scrutiny from the Board.

The increase in the replacement reserve is an entirely different kettle of fish. Two models of running a club are: (1) "pay as you go" through annual and special assessments and (2) borrow and spend and worry about repaying the debt later. The official strategy of the Club is "pay as you go" (see the Club's website for the 2019 strategy).

For at least the past decade, each Board has been concerned that the replacement reserve assessment is too low to support the maintenance needs of the Club. Hence the sharp increase in the replacement reserve annual assessment. But the funding of the replacement reserve is still too low. My view is that updating and refreshing investments should be funded from the replacement reserve. Looking at the amenities project currently underway, I can see the fitness center and the new tennis center as capital improvements to the Club. But the refresh of the Dye is required in the ordinary course of business and should have been paid for out of the replacement reserve (which as noted above has been depleted).  

The current replacement reserve assessment raises only about $3 million per year. The year-end 2021 balance of the replacement reserve fund was $1.2 million--BUT $2.8 million was "gifted" to the replacement reserve from the real estate fund during 2020, and the operating fund owes the replacement reserve fund $1.4 million--if you net out those transactions, the replacement reserve fund would have a negative balance. This situation is particularly troubling because the year-end 2019 balance of the replacement reserve fund was over $3 million. This means that during 2020 and 2021, the Club spent all of the replacement reserve assessments (over $2.5 million per year)--plus another $3 million. I assume that this $8 million of spending included the ponds project on the Nick course and the cart path upgrades on the Nick, as well as the Nicklaus clubhouse "refresh." Those are exactly the kind of projects that should be funded out of the replacement reserve, but it took a $3 million infusion from the real estate fund to have enough money to pay for those projects out of the replacement reserve.   

We have significant road work that must be completed, the leisure paths (including the Foot Point cart path), the Whitehall gate restructuring, and who knows what else? Further in the future, we’ll need a major refresh of the Nick Clubhouse that may rival the Dye refresh ($5-10 million?). As we add $21 million of assets through the amenities program, we'll also have more assets to maintain repair, and replace. All of these should be paid for out of the replacement reserve fund. 

In a second post, I’ll discuss what you need to believe to be comfortable with the Club’s current financial position.