Lost resorts: The Credit Suisse loan debacle

Credit Suisse CEO Brady Dougan.

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NEW YORK (Fortune) -- Credit Suisse, the large Swiss financial services firm run by the American investment banker Brady Dougan, has sidestepped the worst of the financial crisis. But between 2004 and 2006, the bank was not above making more than $3 billion of senior secured "predatory" (according to one judge) loans to high-end real estate developers operating mostly in the western United States.

Within the last year, at least eight of the real-estate developments that received the Credit Suisse (CS) loans are either operating under bankruptcy court protection, have been liquidated or have been foreclosed upon. In one case, the $7.5 million fee paid to Credit Suisse on a $375 million loan was decided with a coin toss between a Credit Suisse banker and a real estate developer.

The portfolio of loans was the brainchild of David Miller, a Managing Director at Credit Suisse, who was co-head of the U.S. capital markets business within the syndicated loan group. When Credit Suisse made the loans, it got paid millions in fees and then syndicated them all off to investors, who will be fortunate to get back pennies on the dollar during the various bankruptcy proceedings. (Credit Suisse currently has a minimal exposure to the original loans.)

Miller was well aware of the golden goose he had on his hands. In an August 2005 email to a colleague, Miller wrote, "[T]hese are aggressive deals and it is in all of our best interests, that the investors are protected, because if one of them should blow up, you will see these investors pull out of this land development mkt [market] and our gravy train will stop."

In making what were known at Credit Suisse as "syndicated term loans," Miller and his team targeted posh resorts and offered their developers the chance to cash out a big chunk of their investments immediately -- often in the form of a dividend. What's more: In general the developers could use the loans virtually any way they wanted and were not bound to use them for the existing projects that secured the new loans. So the developers enriched themselves while saddling the projects with a crushing debt load that -- it quickly became apparent -- the projects could not support. As a result, the resorts were starved of the capital they needed to keep operating properly. The developers walked away with a windfall; the resorts collapsed.

Of course, Credit Suisse was not alone in making these aggressive loans at the top of the market. Other firms, such as Lehman Brothers, Barclays, JPMorganChase (JPM, Fortune 500) and Wachovia made these kinds of master-planned community deals. In sum, industry players estimate some $100 billion of such loans were made.

David Miller and his team had successfully marketed the loans to, among other developments, the Tamarack Resort, in Idaho ($250 million); Lake Las Vegas, a 3,592-acre golf community in Nevada ($540 million); Promontory, a 7,200 acre, 10-square-mile, second-home resort outside of Park City, Utah ($275 million); the Turtle Bay Resort, in Hawaii ($400 million); and to four Ginn resorts in Port St. Lucie, Florida, Naples, Florida, Boone, North Carolina and the Bahamas ($675 million.)

One of the more egregious of these loans was made to the infamous Yellowstone Club, the bankrupt private golf and ski resort north of Yellowstone National Park in Montana. The exclusive Yellowstone Club, where the likes of Bill Gates, investment banker Bob Greenhill and former Citigroup (C, Fortune 500) CFO Todd Thomson have multi-million dollar homes, was the brainchild of timber baron Tim Blixseth and his now former wife, Edra. The Blixseths began developing the Yellowstone Club in 1999. (See: Paradise lost).

In December 2004, according to court documents, after years of being the major source of financing of around $155 million for the complex project of creating a private ski area, a golf course, various lodges and homes, Blixseth started receiving emails and calls from Credit Suisse. Miller's team had been trying to contact Blixseth to tell him about Credit Suisse's new loan for developers, such as Blixseth, that he described as akin to a "home equity loan" that broke "new ground...by doing real estate loans in the corporate bank loan market." After speaking to a director in Miller's group, Blixseth invited the Credit Suisse bankers out to the Yellowstone Club to have a look around the impressive resort.

Court documents also detail how Blixseth originally wanted a $150 million loan from Credit Suisse but after a few months of negotiation, the size of the loan ballooned to $375 million. Blixseth signed the deal on September 20, 2005. The loan documents allowed Blixseth to take out up to $209 million of the proceeds "for purposes unrelated to the Yellowstone Development," another up to $142 million could be used by "unrestricted subsidiaries" for purposes "unrelated" to Yellowstone, and another $24.2 million or so went to pay off the existing Yellowstone Club debt to a local bank.

To do the deal, Credit Suisse wanted a fee of 3%, or $11.25 million. Blixseth wanted to pay only 2%, or $7.5 million. To resolve the stalemate, Blixseth and Miller decided to flip a coin; Blixseth won.

In the end, Credit Suisse wired $342.1 million to the Yellowstone Club. That same day, Blixseth whisked out $209 million out of the Club's accounts in the form of a loan to another entity controlled solely by him. The windfall was then "disbursed to various personal accounts and payoffs benefiting Tim and Edra Blixseth personally," according to court documents. Blixseth used the money for various purposes including buying trophy resort properties around the world at peak prices to create a time-share development called Yellowstone Club World. He also got himself a Gulfstream jet.

In May 2006, Blixseth created a $209 million unsecured demand note payable to the Yellowstone Club, backdated to September 30, 2005, essentially writing a personal IOU to the Yellowstone Club for the money. Last November, the Yellowstone Club filed for Chapter 11 bankruptcy protection.

On May 12, 2009 Judge Ralph Kirscher, presiding over the Yellowstone Club bankruptcy case, decided to punish Credit Suisse by equitably subordinating its $375 million loan -- moving the bank from the senior secured position in the capital structure where it would get repaid in full before anyone else in the pecking order to the very back of the bus behind all the unsecured creditors.

The Judge's ruling -- in which he called the loan "predatory" -- condemned Credit Suisse noting that numerous entities that received Credit Suisse's syndicated loan product have failed financially, including Tamarack Resort, Promontory, Lake Las Vegas, Turtle Bay and Ginn. He said the loans were "doomed to failure" as soon as they were made while enriching the developers and the bankers along the way. "This program essentially puts the fox in charge of the hen house and was clearly self-serving for Credit Suisse," the Judge wrote. After the Judge's ruling, Credit Suisse said it was "disappointed in the ruling and disagrees with the court's findings."

In a brief filed as part of the trial in the Yellowstone Club bankruptcy, Credit Suisse defended its $375 million loan as "unassailable" and stated that no one could have foreseen "that the greatest economic collapse since the Great Depression would occur, rendering the Debtors unable to pay their debts as they became due." The bank explained further that it bought a $17 million piece of the original loan "long after" it was made and claimed that this would be "strange conduct, indeed" for a firm that "knew the debtors were going to fail." Credit Suisse said the Yellowstone Club stayed current on the loan for three years until it "succumbed to the collapse of the markets and mismanagement."

On May 18, CrossHarbor Capital, a Boston-based hedge fund, submitted a winning $115 million bid to buy the Yellowstone Club out of bankruptcy court, consisting of the issuance of $80 million of new debt to the old creditors and paying $35 million in cash. Sam Byrne, the principal at CrossHarbor and a longtime member of the Yellowstone Club and a developer there, also agreed to invest another $75 million -- and likely closer to $200 million -- of "working capital" into the Club. (A year or so ago, Byrne had made a $456 million bid for the Yellowstone Club -- then lowered it to around $405 million -- that was not accepted.) So in the end, he got control for $341 million less than he initially offered.

"I am happy that the bankruptcy process will soon be behind the Yellowstone Club with the company emerging as a properly capitalized enterprise for its membership," Byrne said in an interview. "Everyone is looking forward to the Club becoming the quiet, extraordinary place that we had all been promised it would be."

For his part, Blixseth, who still owns land at the Club, said he "could have organized a bid" for it "but in the final assessment felt that it is very hard to put Humpty-Dumpty back together again, and decided not to try. I had my role in being the inventor and implementer for 10 years, and it was time for someone who likely looks at the club as just a tool for making money to take it to its final completion." Judge Kirscher will soon rule whether Blixseth must repay to the Yellowstone Club's creditors the $200 million plus he took out of the Club from the original Credit Suisse loan.

Credit Suisse submitted the only other bid for the Club but withdrew it in exchange for a release from further liability for making the loan in the first place and for a transfer of the ownership to it of Chateau de Farcheville, outside of Paris. The chateau is a sprawling and breathtaking 13th-century, 15-bedroom pile (surrounded by fully reconditioned moat) that Blixseth paid some $28 million for (with the Credit Suisse loan) and now is said to be worth closer to $20 million, assuming a buyer can be found. Duncan King, a Credit Suisse spokesman in New York, had no comment on the outcome of the matter although he confirmed Credit Suisse is no longer making these types of loans.

As for David Miller, he remains at Credit Suisse and was recently promoted to co-head of the firm's U.S. Loan Syndication business. King declined to make Miller available to be questioned about the loan to the Yellowstone Club, the judge's decision in the case or whether the "gravy train" had ended.

William Cohan is the author of House of Cards: A Tale of Hubris and Wretched Excess on Wall Street, published in March by Doubleday Books, a division of Random House, Inc.