The evolution of Fractional Real EstateMy family always gets a thrill out of watching the Olympics. This year was more special than others since many of the winter Olympic athletes were from our hometown of Canmore, Alberta. In fact, one of our baby sitters managed to claim a gold medal. I love the fighting spirit exhibited by these pedigree athletes that know only one thing… they came to take the gold medal home. I love the victory speeches, young adults paying homage to the unconditional support of their families and communities. The values that these young athletes represent are indicative of a transition in our society back to core family values, and with that, an evolution of the types of real estate products we see evolving in our resort areas. In this post 911 era, socio economic values are continuing to return to that of a more deeper-rooted set of family values. As I have written about before, travel experts have documented the need for suite type accommodation and units with “lock-off” capabilities. The new generation of traveler does not just simply bring the children with them, but often has extended family and a nanny. The desire to seek out safe and secure destinations that allow the family to develop closer relationships is fuelling much of the tourism and real estate demand we see at the moment.
Several years ago, I had the opportunity to work with the parents of Jennifer Hiel, our Olympic gold medalist freestyle athlete. Randall, her father wanted to put together a fractional real estate project in Canmore that at that time was a very new product in Canada. The relationship came about from my experience in that area from the mid 1990’s. At that time only three or four fractional programs had run their course, Montabello and Horstman House at Whistler, the Borgatta Lodge in Kelowna and Lizard Creek Lodge in Fernie.
Fractional real estate has evolved since the 1970’s when one of the first fractional projects was marketed in the US. Since then the fractional concept has gained rapid market share in many luxury goods and real estate markets. I recall writing an article in 1999 advising developers to look at this product as part of their mix. At that time, very few took me seriously, most neglected to research it and simply watched as other people diversified their product lines successfully and created a more balanced marketing mix. Still, there is that saying that there are three types of people in the world; those that make things happen, those that watch things happen and those that say what happened?
Many people associate fractional with timeshare, partially correctly. In fact timeshare is a form of fractional real estate, fractional real estate is not timeshare. Timeshare is a wonderful product, evidenced by its continued success around the globe and the many purchasers who own multiple weeks and continue to add to their personal inventories. It is not, and never will be an investment. The complexities involved in dividing a title 52 ways simply make it impossible for it to be viewed as true real estate. The person who buys it probably has predictable travel patterns and times of travel, likes a little more luxury than normal, is not interested in an investment but can see that with some planning they can save money on future vacations.
Fractional however, is the evolution of a very natural concept - friends and family getting together to share in the cost and ongoing ownership of an asset that they know they will not use all of the time. For instance, as the market in Canmore accelerated and prices became difficult for the average buyer to afford, we noticed that they purchased in groups. As an example, think of four golfing buddies getting together and purchasing a duplex, however, three years later they were often not friends. Perhaps one ran into trouble with a company and could not afford to pay his share of the fees for a few months. Another wanted out, but the other three could not agree to sell at the same time, and maybe another broke the TV and put a cigarette burn in the couch without admitting to it leaving costs for the others, deemed unnecessary. All of these circumstances led to the evolution of formalized fractional ownership programs and management structures, which alleviated the challenges with the informalised relationships. You see you the consumer created the concept, and then you, the consumer come to us, (the realtors, or developers) and tell us you don’t quite understand it. Give the developers some credit for a change; they listened to you.
The industry is not new, not at all. Neither is it small. Take for example the fractional Executive Jet industry. Operations like FlexJet ( http://www.flexjet.com ) and NetJet
( http://www.netjet.com ) are enormous. In fact they comprise the fastest growing segment of the aviation sales market. So successful are they, that warren Buffet purchased one of the market leaders, Net Jet, because he believed in the business plan so much (after being a client for several years). On the West Coast, one of my businesses joined some colleagues in starting a similar venture with high-end luxury yachts (both power and sail) and is now flourishing. Sailors that realize that they can’t rationalize buying the whole boat for themselves when they only use it 2 weeks out of the year are purchasing One4 Yacht Fractions ( http://www.one4yacht.com ).
So here is the clincher… usage statistics are no different for a second home. The average 2nd home owner gets approximately 2 to 3 weeks use out of their vacation property yet pays for the costs of ownership year round. One of the options is to buy a condominium unit with a rental management program, but as we wrote about last month, we may be subject to the negative market forces of supply and demand as an excess of units are developed and rental management programs take a few years to mature. The other option is to reduce the necessity for requiring rental income by only purchasing part of the property. Typical fractional buyers will purchase their property for several reasons, including:
1. More available luxury than they could afford in a whole unit.
2. First class service that makes life simple and helps them feel as if they truly own the whole unit.
3. High class exchange program that guarantees beautiful properties around the world of a similar caliber.
4. The ability to benefit from market appreciation
5. Reduced costs of ownership
6. Flexible use programs with added discounts on last minute available inventory
7. Rental management program for unused ownership weeks.
8. Frills, lots of them!
In Canada, many mistakes have been made with fractional programs based on the inexperience of developers. For many, it is used simply as a method to reduce the cost of entry in to property ownership, without accounting for the fact that marketing costs are typically higher and as you can see from the above, the buyer motivations do not necessarily fall in line with that philosophy. However, as the market place evolves, expect to see more sophisticated fractional programs evolving that truly serve the clients needs.
Fractional usually occurs in market places where barriers to entry are created by escalating housing prices. It is a natural product to consider in these types of environments. The spin off however, is that it often buoys the rest of the market values. One of the places where this happened back in the 1990’s was Deercrest Valley
( http://www.deercrest.com ) in Utah near Park City. As real estate prices climbed higher and higher, people had their doubts that values per square foot could be sustained, however, fractional programs supported the markets desire to continue to purchase in this beautiful area and the added values of the fractional real estate propped up the values, as we know, a rising tide floats all ships.
The same will happen in the Okanagan I believe, as offerings become more sophisticated. The developers I talk to daily are aware that the market is heated and spend a good deal of their time looking into how sustainable the market is and how to plan their future developments carefully. The true extent of the labour shortage has not been felt in our market place yet, but will no doubt have an effect on real estate prices over the next 12-24 months. Coupled with higher interest rates and surging demand, we are sure to see these product lines diversified and buyers whose core motivations become more oriented to personal use and not just investment.
Lets talk about values in this market place and the evolution of the fractional real estate product. I remember when I first researched this product, back in 1995 prior to the launch of one of Canada’s first true fractional real estate developments, that I was astounded at the values in the market place. At that time, the hot area was Telluride, Colorado, a small mining town, rapidly transforming into the next Aspen.
One of the first products there was the Franz Klammer Lodge (http://www.franzklammerlodge.com ), a beautiful property, catering to a very wealthy clientele. $160,000US I recall was the cost of ownership, which I thought was pretty good value until I realised it was for 1/10th of a hotel suite. Now it was a beautiful hotel suite, not very large, but beautiful. It was then that I realized that I should research this product even further.
The challenge, as these product lines evolve, is that the professional real estate community often lags behind in product knowledge. In order for natural market appreciation to occur, there is a required velocity of resales that are necessary to illustrate true market values to consumers. In Telluride, Colorado for instance, several years after fractionals were introduced, realtors were still hesitant to list the product and hence, market values struggled to be supported in the market place. Not because buyers did not want the product, but because the real estate industry was nervous to promote the product because of their own lack of education and product knowledge. The same cycle will occur in the Okanagan as a few brave souls venture into the world of complicated Prospectus filings, rental management agreements, head lease and sub lease arrangements and schedules of use (no two of which are ever the same!). However, as reported in Vancouver last week, in a mature market where the real estate sales profession has become accustomed to the product, appreciation of fractionals is in line and can sometimes exceed the rest of the market place because of the desirability of the product.
As our demand for luxurious retirement living increases and we believe we have earned our crust so to speak, the developers feel the pressure to rearrange the product line somewhat and offer a new level of fractional real estate. Hence we are seeing the evolution of “Private Residence Clubs” ( http://www.bellhavens.com )in North America. In markets where the bragging rights of the wealthy used to be “whether they owned a second home” have been replaced by “how many second homes they own”, we see a rapidly evolving concept called “Private Residence Clubs” or in some instances “Private Equity Clubs”.
In some of the most glamorous parts of the world, Puerto Vallarta, Whistler, Bahamas, Cayman Islands, Baja Peninsula, Whistler and yes, Kelowna ( http://www.royal-kelowna.com ), this concept is evolving and showing that once again, if we design the right product, the public will appreciate the value. The value however is considerably different to traditional real estate.
In studies by leading fractional experts across the globe, people like Dick Ragatz
( http://www.ragatzassociates.com )who annually produces a timeshare/resort property study for RCI, the largest timeshare exchange company in the world, notes that typical fractional real estate program are selling on average for $500US per square foot. Sticker shock for many, perhaps, however, a ski hill condo at Silver Star just sold for $650 per square foot this very week and the owners found value in their purchase. Private Residence Clubs are selling on average around the globe for approximately $800 per square foot. The challenge we have as realtors/appraisers and consumers is that our comparable real estate is often local and yet, as indicated by the purchase at Silver Star, our consumers are global. They look at Cabo san Lucas, Whistler and Okanagan, and decide that the Okanagan offers them the best value.
The reason that Private Residence Clubs command this kind of value is that they offer quality, luxury and service at a 5 star level. Consumers are buying this product more and more because of their desire to have their hard work turn into quality relaxation and enjoyment. In some instances, Private Equity Clubs are structured very similarly to a golf club membership. Perhaps a $250,000 initiation fee with perhaps $20,000 to $50,000 annual dues to allow you several weeks access to luxurious units in different and beautiful parts of the globe. For the right person, this is a great product; no ownership of real estate is sometimes a simplicity that the wealthy truly appreciate.
In Private Residence Clubs, structures similar to the Royal Private Residence Club that has recently been selling in the Okanagan, are very similar, in fact identical to a typical fractional ownership structure. However, the similarity often ends there since the added benefits and quality of interior trim and furnishings are beyond compare.
The local Private Residence Club has been offering it’s units for sale for as much as $1,000 per square foot and units have been selling. So how can we have homes a short walk away from The Grand hotel selling for $200 a square foot and luxury lake-view units selling for $1,000 per square foot? Read the above article again and make sure that as you compare values, you are looking in the same market place. When I checked last a Kia automobile and a BMW automobile, both of which can be purchased in Kelowna and both of which get you from A to B, look very similar, but command a very different price tag, comparing apples to oranges in many instance displays an ignorance that can be fixed with research.
In my next few articles, I will take a look at more traditional real estate discussions but focus on specific market segments and review them in detail. In the meantime, the Okanagan continues to set records and attraction much attention as a destination of choice for many people.
