Bank of Scotland Faces Steep Losses After Luxury Development on the Big Island Struggles With Myriad Setbacks

By SHAYNDI RAICE And ROBBIE WHELAN  LINK>>>to WSJ original 

How this happened: Hokuli’a Settlement Exposed

Beverly Molfino

ROUGH SEAS: The Hokuli'a development in Hawaii promised luxury homes and Pacific views, below, but only 10 houses have been built on its 660 lots.

Surfers aren't the only ones losing their shirts in Hawaii.

Bank of Scotland PLC, a British bank that financed a boom-era, 1,500-acre luxury golf-course community in the Hawaiian city of Kailua-Kona, is suffering a steep loss on the stalled project.

The final tally will become clearer later this month, when Bank of Scotland, now part of Lloyd's Banking Group PLC, completes an auction for the debt on the property on the west side of Hawai'i, or, as it is known to locals, the Big Island. The price is expected to be in the $50 million-to-$100 million range, according to people involved in the process.

In 2006, at the height of the real-estate boom, a private appraiser valued the property, known as Hokuli'a, at between $600 million and $800 million, according to people familiar with the matter. The owner, Lyle Anderson, a Phoenix-based developer, has sold about one-third of the lots. But in early January, he defaulted on its debt, which was in the form of a $1 billion Bank of Scotland mortgage on Hokuli'a and five other less-valuable properties, according to people involved in the project's sale.

Spokesmen for Lloyds and Mr. Anderson declined to comment.

But whoever buys the debt on the property eventually will likely take ownership, says Stephen Marotta, the founding principal of Marotta Gund Budd & Dzera LLC, the New York restructuring firm hired to manage the sale of the debt. "Suffice to say, there's no view or conceivable notion that there will be an equity return on this property," Mr. Marotta said in an interview.

The sharp drop in value exposes a softness in the market that runs counter to some recent market trends. As builders across the country have begun to buy lots again, prices have begun to rise in many other areas.

Prices for finished lots are up 20% nationally from their low point in early 2009, according to housing-research firm Zelman & Associates. In some particularly hot markets, such as Phoenix and parts of Southern California, prices have risen more than 60%.

But many markets, like the one for multimillion-dollar vacation homes in Hawaii, still have a long way to go.

"The short and long of it is that most people who buy here are your classic baby boomer, second-home and early-retirement buyer," says Beth Thoma Robinson, a Realtor with Hawaii Life Real Estate Services. But in the wake of the downturn, "people saw retirement being pushed out or saw their portfolio drop, so that they felt no longer good about investing," she said.

Hokuli'a consists of 660 oceanfront lots in the sun-kissed, coffee-producing region of Kona, on the west side of the Big Island. Just 10 homes have been built there. The rest of the lots remain empty or partially graded, awaiting investors to build the multimillion-dollar vacation homes once envisioned by the developer. No land has been sold there since November 2008, and the last home sold was in late 2006, according to the local multiple-listing service.

Four potential buyers, including Canadian private-equity firm Brookfield Asset Management and a team led by Starwood Capital Group, are considering bidding for all or portions of the Bank of Scotland debt.

If any of these bids are accepted, Bank of Scotland stands to lose between 85% and 95% of the value of the debt, according to people familiar with the matter.

The buyer, meanwhile, would be getting hundreds of lots with views of the Pacific sunset and close proximity to an exclusive golf club.

 Beverly Molfino

The history of Hokuli'a is fraught.

Mr. Anderson, who has built golf-course communities in Arizona, New Mexico and Scotland, bought the land at Hokuli'a for about $33 million in 1988 and planned to sell luxury houses on the site, with price tags as high as $12 million.

But several factors have combined to thwart Mr. Anderson's plans.

Cultural preservationists and environmentalists have filed lawsuits saying historic artifacts are buried on the site and that zoning classifications were improperly given to facilitate development.

The area has also had trouble with "vog," a particularly Hawaiian problem that stems from the combination of fog and volcanic ash mingling in the air overhead. In addition to being unsightly, it can cause respiratory problems.

And in the latest wrinkle, this month, Hawaii County, the jurisdiction that includes all of the Big Island, sued 1250 Oceanside Partners LLC, a company set up by Mr. Anderson, saying it had reneged on its commitment to build Mamalahoa Bypass, a six-mile, $35 million road that the developer committed to in 1998. In 2006, Mr. Anderson used Hokuli'a as collateral to refinance the project with a $1 billion mortgage note, according to state land records. Five other properties were included as collateral, but Hokuli'a by far was the most-valuable parcel. Two years later, in January 2008, Mr. Anderson defaulted on the note, according to Mr. Marotta, the New York restructuring expert who was appointed director of 1250 Oceanside by the company's board.

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How this happened: Hokuli’a Settlement Exposed

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