Sponsor Good, Sponsor Bad: Two Case Studies

Here are portraits of two buildings that experienced the extremes: a condo that developed a smooth working relationship with its sponsor; and a co-op that fought with its sponsor until it got dragged into a swamp of lawsuits, ill will and bad blood.

Condo Can-Do

When a new 212-unit high-rise condominium opened in White Plains in fall 2005, the sponsor's offering plan projected an annual operating budget of about $2 million. It sounded good on paper to potential buyers. But as the condo's first board of managers quickly learned, that amount was about half what it would take to run the building properly.

"We ran a deficit the first year," says Frank Palazzolo, treasurer of the seven-member board, on which the sponsor holds one seat. "We realized invoices were not getting paid and services were not getting performed. We spoke to the managing agent and the sponsor. Fortunately for us, the sponsor was amenable to making changes." After the board instituted an annual energy surcharge of $670,000, the sponsor offered to do three things: give the condo a cash infusion; pay off some outstanding invoices; and cover any budget deficits for 18 months if the energy surcharge were removed.

The board agreed to the first two steps but, on the advice of its attorney, rejected the third, Palazzolo says, in order "to make this a pay-as-you-go building."

The key was good leadership

and financially savvy people

on the board.

The condo accepted a $570,000 cash infusion from the sponsor while the sponsor picked up $200,000 of unpaid bills. With the energy surcharge still in place, the board was able to turn the finances around. Today, all bills are paid promptly, the $3.9 million budget is balanced, and the condo has a reserve fund of $370,000.

"What's amazing is how quickly they turned around the finances," says the board's attorney, James Glatthaar, a partner at Bleakley Platt & Schmidt. "I think the key was good leadership and having financially savvy people on the board."

Palazzolo agrees, adding that another key was the board's willingness to attack problems head-on and not let them linger. "If you're opening a new building," he advises, "the board has to be proactive with the managing agent and the sponsor. If you try to mask the problems, they can drag on for five or six years. All you're doing is putting off the day of reckoning."

Co-op Big Flop

On the Upper West Side of Manhattan, however, a toxic legal battle still ragesin an established co-op between the board and a sponsor who has owned shares for 30 years.

The problem, it is widely agreed, is twofold. The sponsor of this 250-unit high-rise co-op also served as the managing agent. After the building converted to a co-op in 1984, he retained ownership of about one-third of the shares. As a result, he held a majority of the seats on the seven-member board until the late 1990s.

"When shareholders finally took control of the board, we started asking a lot of questions of each other and the sponsor," says a former board member, who spoke on condition of anonymity. "We wanted better financial statements and set agendas for meetings. We asked about repairing the elevator. Any time the sponsor was going to have to spend money, we had issues."

A major bone of contention was a commercial space that was rented to a fitness club. The board wanted to have the space appraised, with an eye toward raising the rent. The sponsor, who controlled the commercial lease, balked. "At that point we really started digging," says the former board member.

The board replaced the co-op's accountant and attorney, and brought in a new managing agent to handle the finances while the sponsor continued to handle the staff and physical plant. The board also hired an appraiser for the commercial space, on which the rent eventually was raised. When the board voted in January 2001 to cut out the sponsor as a co-manager, the lawsuits finally started to fly. The board sued the sponsor for financial malfeasance and for refusing to sell off his shares. The sponsor countersued, claiming the board's actions were not taken at regular board meetings.

In June 2005, the state Supreme Court ruled that the board was protected by the Business Judgment Rule, and that there was insufficient evidence to support the sponsor's counter-claims of breach of fiduciary duties and self-dealing.

But the lawsuits didn't stop there. The courts later determined that a new election had to be held. The sponsor wound up regaining control of the board. All four of the former majority board members have since moved from the building. Says one: "I've talked with veteran lawyers who say this is the most egregious situation they've ever seen. It's very important to know what the sponsor is up to and also to make sure that he sells off his apartments."

Adapted from Habitat October 2008. For the complete article and more, join our Archive >>