Strategy

Intrawest: The debt mountain in mid-collapse

For years, a hot real estate market made Intrawest's Whistler-Blackcomb resort a model for a booming industry. But that business model couldn't go on forever.

October is the quietest month in Whistler. The summer hikers and mountain bikers have gone, the days are short and the peaks are typically obscured by clouds. This is when area businesses hold hiring fairs to staff up for the ski season. If those gathering clouds bless the mountains with early-season snow, the lifts will be running by Remembrance Day, American Thanksgiving at the latest.

But the preseason lull this year is accompanied by a sense of unease. For all its size and diversity, this is still a company town, and the company, Intrawest ULC, defaulted on its debt payments late last year, leading to worries that foreclosure would disrupt the Winter Olympics being held here in February. That didn’t happen; creditors and parent company Fortress Investments LLC agreed to a restructuring plan in March on undisclosed terms. But they can’t have been pleasant for Fortress. After buying North America’s largest mountain resort chain for US$2.8 billion in 2006 (around half with debt), the hedge fund has seen its equity stake dwindle to almost nothing. Intrawest has shed smaller assets such as Panorama Resort in eastern British Columbia, Mountain Creek in New Jersey, Colorado’s Copper Mountain and two properties in Europe to service the debt. Now there is talk of unloading its flagship, Whistler Blackcomb — to a Russian billionaire, no less.

Citing unnamed sources, the Wall Street Journal reported in June that Intrawest had approached Vladimir Potanin, a nickel-mining magnate building the ski resort in Sochi, in the Caucasus Mountains near the Black Sea, that will host the 2014 Olympics. However, in conversation with Canadian Business, Whistler-based resort planner Paul Mathews, who counts Potanin as a client, claims the Russian professed no knowledge of any such pitch. “I was in Switzerland. I phoned him right there in Moscow,” Mathews says. “He said, ???I’ve never heard of this.'”

In Whistler, though, the rumours continue to circulate, fuelled by the silence of Intrawest management. (CEO Bill Jensen declined a request for an interview for this story.) It’s easy to see the tourism boomtown’s uncertain future as another debt story, a New York-based hedge fund paying too much of somebody else’s money for a real-estate-based asset at the top of the market, and of the world’s non-western nouveau riche bailing out the fallen masters of the universe. But as Potanin or any other suitor is probably now finding, there may also be something wrong with Whistler itself. This jewel of mountain resorts, the largest in the Western Hemisphere, was based on a business model that is proving unsustainable. Worse still, it is a business model copied across the continent, such that the entire winter resort business now faces the same malaise. Whoever ends up owning Whistler Blackcomb will have to find new ways to make money at it, lest the resort gradually become, like the fictional Kodiak Valley of Hot Tub Time Machine, a faded monument to a bygone era.

Ski hills used to be discrete operations consisting of lifts and maybe a cafeteria. The owner, often a local family or a community group, sold lift tickets, burgers and lessons, and rented equipment. That’s it.

Intrawest was a different kind of company. It was founded in 1976 by a young Prairie expat, Joe Houssian, as a developer of mixed-use commercial and residential projects in Vancouver, Calgary, Edmonton and Seattle. When it bought Blackcomb Mountain, then just six years old and suffering growing pains, from a subsidiary of Aspen Skiing in 1986, it wasn’t looking at the then state-of-the-art lifts so much as the developable land around the base of the hill, which bordered on the new Whistler Village. Houssian recognized a brilliant synergy between building the attraction and building vacation homes. In a time of double-digit interest rates, you could use the proceeds of the cabin and condo sales to install the high-speed, detachable lifts and snow-making machines that were just coming out at the time, without borrowing too much money. Those very expensive lifts, which reduced a skier’s time spent waiting in line, drew patrons away from the neighbouring Whistler Mountain with its rickety lifts from the 1960s and ’70s. That in turn increased the value of slope-side accommodations at Blackcomb. As they say in real estate, you can’t make more waterfront. But you can boost the value of a patch of forest at the base of a mountain by building a world-class ski slope there. Plus, the more units you sold, the bigger the captive customer base your ski hill had. It was a virtuous cycle.

It worked so well that, by the time it went public on the Toronto Stock Exchange in 1990, Intrawest had decided to become a dedicated resort company and divested its last urban properties. It began buying other resorts where it could replicate the model. Early acquisitions, like Quebec’s Mont Tremblant — which like Whistler offered the best mountain terrain within a three-hour drive of a big city — worked well. Rival consolidators such as Vail Resorts, American Skiing Co. and Resorts of the Canadian Rockies caught on too. Intrawest would eventually package its resort-marketing formula into a subsidiary called Playground, which advises other resort developers on things like master-planning a village and creating an overriding theme for the development that will appeal to target buyers.

In Whistler itself, there began an arms race between Blackcomb and Whistler Mountain to build more new lifts and condos. But it was a lopsided contest. Lacking Intrawest’s deep pockets or similarly good land to develop, privately held Whistler Mountain Ski Corp. got into financial trouble and sold out to Intrawest in 1996.

When Intrawest listed on the New York Stock Exchange the next year, it was the kind of company Warren Buffett could love. It now had a lock hold on both Whistler and Blackcomb mountains, together the largest ski resort by every measure — skier visits, resort beds, lifts, terrain and vertical drop — outside of the Alps. The mountains are physically so large, encompassing so many microclimates, they are almost immune to that bane of ski resorts, poor winters. They always have good snow somewhere.

Whistler was not just the preferred weekend retreat for Vancouverites, but also skiers and boarders from booming Seattle, who were willing to drive the five hours to take advantage of superlative skiing on a 60? to 70? Canadian dollar. Celebrities like Seal and Heidi Klum were buying places at Whistler, and sprawling log mansions were selling for eight figures.

This money-making machine’s first serious breakdown came with terrorist attacks of Sept. 11, 2001. Waits at the border and at airports turned a weekend there into an ordeal for Americans — the resort’s second-largest and highest-spending market. For a long time this single, unpredictable event eclipsed other growing problems such as the popping of the technology bubble that had been a huge job creator and wealth generator in the Pacific Northwest, and the gradual rise of the Canadian dollar to parity that made Whistler less of a bargain compared to Aspen or Vail. Skier visits peaked in 2003 at 2.3 million. Last winter — due in part to the Olympics — they were down to 1.8 million.

But the most worrisome trend for Intrawest ought to have been the approach of what locals call “build out.” The Resort Municipality of Whistler’s community plan calls for a maximum of 67,500 beds. Beyond that, the town would be forced to build a prohibitively expensive wastewater treatment facility, not to mention finally squelching the last vestiges of its quaint mountain-town ambience.

In effect, it was a non-negotiable cap to development, though one with a business case behind it. “These things can only get so big before they start to collapse on themselves,” says resort planning consultant Brent Harley. “You can’t have perpetual real estate growth and expect the quality of the experience to remain the same.” Still, real estate agents and developers kept on feverishly going about their trade in anticipation of reaching the cap, without necessarily thinking of what came after.

A funny thing was happening in the resale market, though. While home prices across Canada rose like never before between 2002 and 2007, in Whistler they were already flat to falling. “O-four might have been the real peak of our market,” says Patrick Kelly, an area Realtor for 30 years and president of Whistler Real Estate Co. Ten-million-dollar palaces sat for months and sometimes years on the market before finally selling for barely half their list price.

Intrawest’s share price seemed to be caught in a similarly perplexing downdraft. Revenue continued to grow up till 2005, to US$1.68 billion, but earnings were up and down, and the real estate side was slowing markedly. In 2006, its last year as a public company, the company grossed US$1.61 billion. By this time, Intrawest owned not just the two mountains and their associated development lands but also much of Whistler’s retail and restaurant base, which helped to offset the property slowdown. Though the company had expanded to a dozen resorts — including beach and golf assets in Florida and Hawaii, part of its strategy to create a “resort club” time-share network — Whistler still represented 40% of its operations. (It’s probably closer to 50% today.)

The hedge fund Pirate Capital LLC, which owned 18% of Intrawest, pushed for a sale. Pirate and others felt the markets simply weren’t reflecting the value of the company’s real estate. Finally, following the perfunctory search for “strategic alternatives,” the deal with Fortress went through at a 32% premium over the previous share price.

In retrospect, the markets knew better, as possibly did Houssian, who pocketed $126 million out of the deal and walked away. “If they were buying it for the real estate investment, they made the wrong decision,” says Kelly, who notes that Intrawest’s remaining developable property in Whistler had a modest book value of between $75 million and $100 million. But these were different times when capital was still cheap. Fortress would take itself public the next year and quickly double in value to US$14 billion in a textbook case of unseemly rewards flowing to the hedge fund’s insiders.

Despite the red flags on the real estate side, the new management kept on with the old formula. It continued to expand horizontally, buying Steamboat Ski and Resort Corp. in Colorado. It also continued to pour money into flashy new lifts, the pi?ce de r?sistance being the $51-million Peak-2-Peak Gondola connecting Whistler and Blackcomb, to be completed in time for the Olympics.

Then the credit crunch hit, followed quickly by recession. Like a snowboarder cresting a halfpipe, Intrawest did a mid-air 180 and began unloading assets. It sold Panorama and Copper Mountain at what have been described as fire-sale prices. It still wasn’t enough. In December 2009, the company defaulted on $1.4 billion in debt following a two-month extension, and an auction date for the assets was set to take place in the midst of the Olympic action. It was called off as the parties opted instead to negotiate.

The deal reached with new lenders (at a reportedly higher rate of interest) last spring does not expire until 2014. But few expect either Intrawest, as currently configured, to last that long. In addition to Potanin, potential suitors for Whistler Blackcomb include Vail Resorts and Nippon Cable of Japan, which already owns a minority stake in Whistler Blackcomb and all of Sun Peaks Resort — likewise built on the Whistler Blackcomb model — in the B.C. interior. Mathews thinks the slow-and-steady returns from the mountain operations might attract interest from major pension funds.

Their due diligence should focus on how you turn an asset long subsidized by lucrative real estate sales into a pure-play resort operator and make money at it. “They had an environment in which they had an artificial stimulus in the real estate sales,” says James Chung, president of Reach Advisors, a resort consultancy based in Slingerlands, N.Y. With consumers retrenching and no money for new and better facilities, the company can’t fall back on raising ticket prices ($93 a day last winter) as in the past. Part of the answer doubtless lies in the retail and food-service infrastructure, but here too customers’ credit may well have reached its limit.

So what lies in the future? A huge resort still working dowdy infrastructure built in the 1990s and 2000s 20 years hence? More emphasis on the meeting and incentive travel market? Casino gambling?

“There’s no easy answer here,” says Harley. “The easy answer for the last 20 years has been, ???Well, let’s build real estate and we’ll raise capital that way and make it work.’ Well, it has worked. It has put those facilities into the ground. It has worked from the perspective too of, with real estate, as long as those beds are warm or hot — meaning fully occupied — then you have a captive market there. That’s a good thing. It’s just, how do you sustain that?”

Like every business ravaged by recession, resorts will have to manage themselves better, says Chung. Some mountains are trimming the cost of labour, and cutting peripheral services that do not generate adequate returns. As for developing new sources of revenue, those ideas will likely come from new owners and whatever skill sets they bring to the table.

If resorts no longer have the money to upgrade their lift capacity every year the way some people buy cars, they may have to improve the customer experience in other ways — for example, by limiting the number of tickets sold on any one day and steering more skiers to make mid-week reservations when the slopes are wide open. A few top-ranked American mountains have tried that approach with some success, says Harley, noting, “On the crowded days, it’s not fun to be on the mountain right now.”

Mathews insists that the mountain operations at Whistler were designed to be profitable in their own right and still can be. “They don’t need real estate revenue,” he says. “They don’t need 90% debt either, at New York rates.”

“The problem we face right now is this: across North America, the resort real estate market is absolutely dead,” Mathews adds. “Nobody’s selling anything.” Aspen, the archetype of American ski resorts, has seen property values fall between 20% and 40%. Work on the big Snowmass development at Aspen’s base village has been stalled since 2008. East West Resort Development of Avon, Colo., has put almost US$1 billion in California real estate assets into bankruptcy. With the baby-boom buyer now moving out of the skiing demographic and an estimated backlog of 25,000 unsold vacation homes across the U.S., the situation is more than just cyclical.

An additional problem facing Whistler was of the municipal politicians’ own making, Mathews says. Watching building-permit fees fall with the arrival of the bed cap, they lobbied the B.C. government to make vacation home rentals taxable at the same level as hotels. That has caused many condo owners, who might fill their beds only 20% or 30% of the time, to pull their units out of the rental pool — which has reduced the availability of accommodations, along with booking and property management business and visitor traffic on the hills and in the village.

Harley adds that the recreational tastes of today’s generation X buyers lean more toward a wilderness experience than those of the big-spending baby boomers. They’re more likely to use a condo as a base camp for the backcountry, often avoiding the ski hill altogether. That obviously poses a problem for resort operators, and explains their acquisitions of heli-skiing companies and backcountry lodges.

While there is a reflexive fear of change in the village, longtime business owners like Kelly and Mathews look with optimism to the prospect of a new owner with a new vision. Indeed, the worst-case scenario for Whistler just might be the status quo, with the community’s fate in the hands of a distant corporation with a massive hill to climb.