MEMORANDUM
PRIVILEGED AND CONFIDENTIAL — ATTORNEY WORK PRODUCT
TO: Francesca Morano, Partner; Samuel Eklund, Partner
FROM: Simone Laroche, Lead Associate; Jeffrey Park, Working Associate
DATE: April 2023
RE: Summary of Key Operating Agreement Provisions — Palmetto Grand Ventures LLC
CLIENT: Pellegrino Capital Group LLC
MATTER NO.: 1027-00003
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I. Introduction and Purpose
This memorandum summarizes and analyzes the key provisions of the Operating Agreement of Palmetto Grand Ventures LLC ("PGV" or the "JV"), dated June 15, 2017 (the "Operating Agreement" or "OA"), that are directly at issue in the buyout-valuation dispute initiated by Meridian Shores Hospitality LLC ("MSH") against our client, Pellegrino Capital Group LLC ("PCG"), JAMS Ref. No. 1440032871. The analysis herein is intended to provide a comprehensive overview of the operative contractual provisions, identify the strongest arguments available to PCG, and flag potential vulnerabilities that warrant further investigation and strategic attention.
PGV is a Florida limited liability company organized and existing under the laws of the State of Florida (Florida Filing No. L17000124583; EIN 82-5063921). The entity is governed by the Florida Revised Limited Liability Company Act, Chapter 605, Florida Statutes (the "Florida LLC Act"), as supplemented by the terms of the Operating Agreement. Consistent with the Florida LLC Act's deference to the operating agreement as the primary governing instrument of a limited liability company, the OA sets forth detailed provisions regarding governance, economic rights, capital obligations, transfer restrictions, and dispute resolution.
PGV was formed for the specific purpose of acquiring, renovating, and operating The Palmetto Grand Resort & Spa (the "Property" or the "Resort"), a 312-room luxury beachfront hotel located at 650 Mandalay Avenue, Clearwater Beach, Florida 33767. PGV acquired the Property on August 1, 2017, for a total purchase price of $87.5 million, funded through a combination of equity capital contributions from the two members and third-party debt financing from Gulf Atlantic National Bank ("GANB"). Since acquisition, the Resort has been operated under the Aurelian Hotels & Resorts franchise brand, a globally recognized luxury hospitality flag, and has undergone a comprehensive renovation program totaling approximately $24.3 million between 2017 and 2019.
The membership structure of PGV is straightforward: PCG holds a 65% membership interest, and MSH holds a 35% membership interest. Under the OA, PCG serves as the sole Manager of PGV, vested with broad authority over the day-to-day management and operations of the JV and the Property, subject to certain enumerated minority-member consent rights held by MSH.
The specific provisions of the Operating Agreement analyzed in this memorandum are as follows:
• Section 12.4 — Call Option (grant, exercise, and Fair Market Value standard)
• Section 12.4(c) — Third Appraiser Mechanism (triggering conditions, selection process, and determination of final FMV)
• Section 12.5 — Closing Mechanics (payment timeline, conditions to closing)
• Section 12.7 — Bad Faith Penalty (trigger, standard, calculation, and cap)
• Section 8.3 — Capital Expenditure Obligations (Manager's duties, consent thresholds, and deferred-maintenance implications)
• Section 15.2 — Dispute Resolution (binding arbitration, arbitrator selection, scope of authority)
This memo is intended to inform the litigation strategy in responding to MSH's Demand for Arbitration, filed March 20, 2023, in which MSH alleges that PCG exercised the call option in bad faith and materially understated the Fair Market Value of MSH's membership interest, and in support of PCG's Response and Counterclaim filed April 5, 2023, in which PCG seeks declaratory relief confirming that its offered buyout price of $41.3 million represents the proper contractual purchase price for MSH's interest.
The memorandum is organized as follows: Sections II through VII analyze each of the enumerated OA provisions; Section VIII provides background context regarding the financial framework and waterfall provisions of the JV; Section IX summarizes key issues and provides preliminary recommendations for next steps; and Section X provides a brief conclusion.
II. Section 12.4 — Call Option
A. Grant of the Call Option
Section 12.4 of the Operating Agreement grants PCG, in its capacity as the majority member and sole Manager of PGV, the unilateral right to purchase all (but not less than all) of MSH's 35% membership interest in PGV. The call option is a put/call mechanism commonly used in joint venture structures to provide the controlling party with a mechanism for consolidating ownership, and it reflects the parties' original agreement that PCG would ultimately have the ability to acquire full ownership of the Property upon satisfaction of certain temporal conditions.
The call option becomes exercisable on or after the fifth anniversary of the Effective Date of the Operating Agreement. The Effective Date of the OA is June 15, 2017; accordingly, the fifth anniversary fell on June 15, 2022, and the call option became exercisable on that date. The Operating Agreement does not impose an expiration date or sunset provision on the call option — once exercisable, the right persists indefinitely unless the OA is otherwise terminated or amended by the parties.
PCG delivered its written call-option exercise notice to MSH on January 9, 2023, approximately seven months after the option first became exercisable. The notice was delivered by both certified mail, return receipt requested, and electronic mail to MSH's designated notice addresses as set forth in Section 17.1 of the OA. The notice was timely, and MSH has not disputed the procedural validity of PCG's exercise of the call option. The dispute centers exclusively on the determination of the purchase price, the alleged bad faith in the exercise, and the claimed deferred-maintenance shortfalls — not on the existence or exercisability of the call right itself.
It is worth noting that the Operating Agreement does not impose any preconditions to exercise beyond the passage of the five-year waiting period. There is no requirement that any particular financial milestone be achieved, no requirement that the Property achieve stabilized occupancy or a specified debt service coverage ratio, and no requirement that PCG provide advance notice of its intent to exercise prior to the formal exercise notice. This is favorable to PCG's position, as it confirms that the timing of the call-option exercise was entirely within PCG's contractual discretion.
B. Fair Market Value Standard
The purchase price for the redeemed membership interest is defined in Section 12.4(b) as the "Fair Market Value" ("FMV") of MSH's interest, to be determined by an independent MAI-certified appraiser selected by PCG. This is a critical provision because it establishes both the valuation standard and the initial appraiser-selection right, both of which are contested issues in the pending arbitration.
Fair Market Value is defined in Section 1.1 of the Operating Agreement (Definitions) as follows: the value of 100% of PGV's real property and operating assets, determined on a going-concern basis, from which outstanding indebtedness is deducted to arrive at the net equity of the JV. MSH's share of the buyout price is then calculated as 35% of that net equity amount, plus any accrued but unpaid preferred return owed to MSH under the distribution waterfall provisions of Section 5.2 of the OA. The formula can be expressed as:
Buyout Price = (Gross FMV of Assets − Outstanding Debt) × MSH Membership Percentage (35%) + Accrued Preferred Return
Notably, the OA does not specify a particular appraisal methodology to be employed by the MAI appraiser. It does not mandate the use of any particular approach — whether the income capitalization approach, the sales comparison approach, the cost approach, or any blended or weighted combination thereof. The selection of methodology is expressly left to the MAI appraiser's independent professional judgment, consistent with the Uniform Standards of Professional Appraisal Practice ("USPAP") and the appraisal standards promulgated by the Appraisal Institute. This flexibility was presumably intended to allow the appraiser to exercise professional discretion based on the nature of the asset and the available market data, but it has also created the primary valuation battleground in this dispute, as the two party-retained appraisers reached materially divergent conclusions based on different methodological choices.
PCG retained Whitfield Realty Advisors LLC, through its principal appraiser Gerald K. Whitfield, MAI, to conduct the initial FMV appraisal. Mr. Whitfield is a Florida-licensed real estate appraiser (License No. RZ-3485) with over 25 years of experience in the valuation of hospitality assets in the southeastern United States. The Whitfield appraisal was completed on February 10, 2023, with an effective valuation date of December 31, 2022. The Whitfield appraisal concluded a 100% gross asset value of $118.0 million as of the valuation date.
Based on the Whitfield appraisal, PCG derived its offered buyout price for MSH's 35% membership interest as follows:
PCG communicated the Whitfield appraisal and the $41.3 million buyout offer to MSH on February 15, 2023, in accordance with the notice provisions of the OA. This communication triggered MSH's right to obtain a competing appraisal under Section 12.4(b)(ii).
C. MSH's Right to Obtain a Competing Appraisal
Section 12.4(b)(ii) of the Operating Agreement provides that, upon receipt of the call-option exercise notice and the PCG-selected appraiser's report, MSH has the right (but not the obligation) to retain its own independent MAI-certified appraiser at MSH's sole cost and expense. The OA grants MSH 60 days from receipt of the initial appraisal to deliver a competing appraisal. If MSH does not deliver a competing appraisal within this period, the initial appraisal is deemed final and binding, and the purchase price is determined solely on the basis of the PCG-selected appraiser's conclusion.
MSH exercised this right in a timely manner. MSH retained Beacon Valuation Group Inc., through its principal Dr. Priya Ramanathan, CFA, ASA, to conduct a competing FMV appraisal. Dr. Ramanathan holds the Chartered Financial Analyst designation, the Accredited Senior Appraiser designation from the American Society of Appraisers, and is recognized as a specialist in hospitality and resort property valuations. The Beacon appraisal was completed on April 14, 2023, with the same effective valuation date of December 31, 2022. The Beacon appraisal concluded a 100% gross asset value of $151.5 million — $33.5 million, or 28.4%, higher than the Whitfield appraisal.
MSH's derivation of its demanded buyout price, based on the Beacon appraisal, is as follows:
The $33.5 million gap between the Whitfield and Beacon appraisals — and the corresponding difference of $11.725 million in the parties' competing calculations of MSH's equity share alone, before accounting for the bad-faith premium — represents the core financial dispute in this arbitration. As discussed further in subsection D below and in Section III, the magnitude of this divergence has significant implications for both the third-appraiser mechanism and the bad-faith analysis.
D. Analytical Observations
Several observations merit attention as the team develops PCG's litigation strategy:
Appraiser Independence. The OA requires that FMV be determined by an "independent" MAI-certified appraiser. MSH may argue — and indeed has argued in its Demand for Arbitration — that PCG's selection of Whitfield and the resulting $118.0 million valuation reflect self-interested selection, i.e., that PCG chose an appraiser predisposed to reach a lower valuation favorable to PCG's economic interests as the call-option holder. This argument must be taken seriously, but PCG has strong defenses. First, the OA expressly vests the initial appraiser-selection right in PCG; to impugn the exercise of a contractual right as evidence of bad faith would effectively render the right meaningless. Second, "independence" in this context is properly measured by the appraiser's professional qualifications, adherence to USPAP standards, and absence of a direct financial interest in the outcome of the appraisal — not by the identity of the party that retained the appraiser. Mr. Whitfield's MAI certification, his longstanding professional reputation, and his compliance with USPAP all support a finding of independence. Third, the entire structure of Section 12.4 contemplates that the initial appraiser is selected by PCG — the parties bargained for this mechanism, and MSH's remedy for a divergent valuation is the competing appraisal and third-appraiser process, not an after-the-fact challenge to the initial appraiser's independence.
Methodological Divergence. The broad FMV standard, without any mandated methodology, creates the primary battleground. The methodological divergence between the Whitfield and Beacon appraisals is substantial:
• Whitfield Approach: Blended income capitalization / sales comparison approach, weighted 40% to the income approach and 60% to the sales comparison approach. Whitfield applied a 9.5% capitalization rate and a 10.75% discount rate under the income approach, and identified seven comparable sales transactions of luxury beachfront hotel properties on the Gulf Coast and in the broader southeastern United States market. The weighting toward sales comparison reflects Whitfield's view that the robust transaction market in the 2021–2022 period provides reliable direct comparables.
• Beacon Approach: Income-only approach using a discounted cash flow ("DCF") model with an 8.5% discount rate and a 7.75% terminal capitalization rate. Beacon did not apply a sales comparison approach, reasoning that the Resort's unique characteristics (beachfront location, Aurelian franchise affiliation, recently renovated condition) made direct comparable sales unreliable without significant adjustments. Beacon additionally included upward adjustments for two items: (i) the below-market value of the Aurelian franchise agreement (which Beacon valued as an intangible asset contributing approximately $4.3 million in incremental value) and (ii) $8.2 million in deferred maintenance items that Beacon argued would need to be corrected to realize the property's full potential operating performance.
The 100 basis point difference in discount rates (10.75% versus 8.5%) alone accounts for a significant portion of the valuation gap, given the sensitivity of DCF models to discount rate assumptions. The divergence in cap rates (9.5% versus 7.75% terminal) further compounds the gap. Additionally, Beacon's inclusion of the $8.2 million deferred-maintenance adjustment and the $4.3 million franchise agreement intangible value adjustment represents approximately $12.5 million of the $33.5 million gap.
The selection of appropriate cap rates and discount rates will be a central issue in the arbitration. PCG should be prepared to present market data and expert testimony supporting the reasonableness of the Whitfield inputs, while challenging the Beacon inputs as below-market and unsupported by recent comparable transactions.
III. Section 12.4(c) — Third Appraiser Mechanism
A. Triggering the Third Appraiser
Section 12.4(c) of the Operating Agreement provides a safeguard mechanism for situations in which the two party-retained appraisals diverge by more than a specified threshold. Specifically, if the two appraisals differ by more than 10% (measured as a percentage of the lower appraisal), either party has the right to demand the appointment of a neutral third MAI-certified appraiser. This mechanism reflects the parties' recognition, at the time of drafting, that appraisal divergences are inherent in real estate valuation and that a neutral tiebreaker process would be necessary to resolve such divergences without resort to litigation.
The calculation of the divergence threshold is straightforward. The Whitfield appraisal concluded a gross asset value of $118.0 million, and the Beacon appraisal concluded a gross asset value of $151.5 million. The divergence, measured as a percentage of the lower (Whitfield) appraisal, is:
|$151,500,000 − $118,000,000| ÷ $118,000,000 = $33,500,000 ÷ $118,000,000 = 28.4%
This divergence of 28.4% far exceeds the 10% threshold specified in Section 12.4(c). Accordingly, the third-appraiser mechanism was properly triggered. PCG demanded appointment of the third appraiser by written notice dated April 20, 2023, and MSH concurred. Neither party disputes that the third-appraiser process was properly invoked.
It is worth observing that the 10% threshold is a relatively low trigger, reflecting the parties' intent that the neutral-appraiser process be readily available whenever a meaningful disagreement exists. The 28.4% divergence in this case is nearly three times the threshold, which underscores the significance of the methodological disagreements between the Whitfield and Beacon appraisals and may influence the arbitrator's perception of the reasonableness of one or both initial appraisals.
B. Selection and Scope of the Neutral Appraiser
Section 12.4(c) provides that the third appraiser must meet three qualifications: (i) the appraiser must hold the MAI designation from the Appraisal Institute; (ii) the appraiser must be independent of both parties, meaning no prior engagement by, or financial relationship with, either PCG or MSH; and (iii) the appraiser must be jointly selected by the parties. If the parties cannot agree on the selection of the third appraiser within 30 days of the demand for a third appraisal, the JAMS arbitrator has the authority to appoint the third appraiser.
In this case, the parties were able to reach agreement within the 30-day period. Pursuant to a Joint Stipulation executed by counsel for both parties and filed with JAMS on May 30, 2023, the parties jointly retained Linden Park Advisory LLC, through its principal Thomas Carraway, MAI, FRICS, to serve as the neutral third appraiser. Mr. Carraway is a Fellow of the Royal Institution of Chartered Surveyors and a nationally recognized hospitality valuation expert with extensive experience in luxury hotel and resort properties. His selection was the product of negotiations in which each party submitted a list of three proposed appraisers, and Mr. Carraway appeared on both lists.
The Joint Stipulation specifies that the costs of the neutral appraisal shall be shared equally (50/50) between PCG and MSH, consistent with Section 12.4(c)(iii) of the OA. The engagement letter with Linden Park Advisory provides for a flat fee of $85,000, plus reasonable out-of-pocket expenses, with each party responsible for $42,500 plus one-half of reimbursable expenses.
The valuation date for the Linden Park appraisal is December 31, 2022, consistent with the valuation dates used in both the Whitfield and Beacon appraisals. The Joint Stipulation further provides that Mr. Carraway shall have access to all materials provided to and relied upon by both the Whitfield and Beacon appraisers, including property financial statements, rent rolls, franchise agreement documents, capital expenditure records, and any other materials Mr. Carraway deems necessary to the performance of his appraisal. Importantly, the Joint Stipulation does not restrict Mr. Carraway's selection of appraisal methodology — he is free to employ whatever approach or combination of approaches he deems appropriate in the exercise of his professional judgment.
C. Determination of Final FMV
Section 12.4(c) provides a specific formula for determining the final FMV once all three appraisals have been completed. Upon receipt of all three appraisals, the FMV shall be determined as the average of the two appraisals that are closest to each other in value. The third appraisal — the outlier — is effectively disregarded. This "closest-two" averaging mechanism is the dispositive valuation formula under the OA.
As of the date of this memorandum, Linden Park Advisory has not yet issued a final appraisal report. However, Mr. Carraway delivered a preliminary indication of value on July 14, 2023, in the form of a draft executive summary shared with counsel for both parties. The preliminary indication of value is a range of $130.0 million to $138.0 million for the 100% gross asset value of the Property as of December 31, 2022. No formal final report has been issued because the matter has entered a settlement posture; however, the preliminary range is sufficiently defined to permit meaningful analysis of the likely outcomes under the OA's averaging mechanism.
The sensitivity analysis below illustrates the potential outcomes depending on where within the Linden Park range the final appraisal concludes:
Scenario 1: Linden Park Finalizes at Midpoint ($134.0 million)
• Gap between Whitfield ($118.0M) and Linden Park ($134.0M) = $16.0M
• Gap between Beacon ($151.5M) and Linden Park ($134.0M) = $17.5M
• Closest pair: Whitfield and Linden Park
• FMV = ($118.0M + $134.0M) ÷ 2 = $126.0M
• Implied buyout: ($126.0M − $48.6M) × 35% + $17.01M = $27.09M + $17.01M = $44.1M
Scenario 2: Linden Park Finalizes at Low End ($130.0 million)
• Gap between Whitfield ($118.0M) and Linden Park ($130.0M) = $12.0M
• Gap between Beacon ($151.5M) and Linden Park ($130.0M) = $21.5M
• Closest pair: Whitfield and Linden Park
• FMV = ($118.0M + $130.0M) ÷ 2 = $124.0M
• Implied buyout: ($124.0M − $48.6M) × 35% + $17.01M = $26.39M + $17.01M = $43.4M
Scenario 3: Linden Park Finalizes at High End ($138.0 million)
• Gap between Whitfield ($118.0M) and Linden Park ($138.0M) = $20.0M
• Gap between Beacon ($151.5M) and Linden Park ($138.0M) = $13.5M
• Closest pair: Beacon and Linden Park
• FMV = ($151.5M + $138.0M) ÷ 2 = $144.75M
• Implied buyout: ($144.75M − $48.6M) × 35% + $17.01M = $33.65M + $17.01M = $50.66M
The range sensitivity demonstrated by this analysis is highly significant for settlement strategy. The difference between the Scenario 1/2 outcomes (approximately $43–44M) and the Scenario 3 outcome ($50.66M) is approximately $6.5–7.3 million. The "tipping point" — the Linden Park value at which the closest pair shifts from Whitfield/Linden Park to Beacon/Linden Park — is approximately $134.75 million (the midpoint between $118.0M and $151.5M). If Linden Park's final value exceeds $134.75M, the averaging mechanism would pair Linden Park with Beacon, resulting in a materially higher buyout price. The preliminary indication of $130–138M straddles this tipping point, creating genuine uncertainty about the outcome.
D. Observations for Litigation Strategy
Several strategic observations flow from the analysis of the third-appraiser mechanism:
Unusual Formulation. The "average of the two closest" mechanism employed in Section 12.4(c) is an unusual formulation in the context of multi-appraiser valuation provisions. More common approaches include "baseball arbitration" (in which the neutral selects one of the two party appraisals without modification), "median" or "middle value" approaches (in which the middle of three appraisals is adopted as FMV), and "bracketed average" approaches (in which the final value must fall within the range of the two party appraisals). The "average of the two closest" mechanism has a distinctive practical effect: it rewards the party whose appraiser is closer to the neutral appraiser's independent conclusion, effectively incentivizing each party to commission a reasonable, defensible initial appraisal rather than an outlier designed to skew the average.
Implications for PCG. This incentive structure works in PCG's favor if, as we believe, the Whitfield appraisal's methodology is well-supported by market data and more closely aligned with the neutral appraiser's likely conclusion. The preliminary Linden Park indication of $130–138M is closer to the Whitfield value ($118M) than to the Beacon value ($151.5M), though only marginally so at the high end of the range. PCG should emphasize in its arbitration submissions that the Whitfield appraisal employed a mainstream, market-supported methodology (blended income/sales comparison with cap rates and discount rates supported by recent transactions), while the Beacon appraisal relied on an income-only DCF approach with aggressive below-market discount rates and speculative adjustments for franchise value and deferred maintenance.
Risk of High-End Linden Park Conclusion. The scenario analysis above demonstrates that if Linden Park finalizes at the upper end of its preliminary range ($138M or above), the closest-pair outcome shifts dramatically in MSH's favor. PCG should consider whether there are any procedural mechanisms available to influence the Linden Park appraisal process — for example, through the submission of additional market data or by requesting that both parties have the opportunity to present materials to Mr. Carraway before he finalizes his report. The Joint Stipulation appears to contemplate such submissions, and PCG should avail itself of this opportunity to the fullest extent.
IV. Section 12.5 — Closing Mechanics
A. Payment Timeline
Section 12.5 governs the mechanics of closing the redemption of MSH's membership interest following determination of the final FMV. Once FMV is finally determined — whether by agreement of the parties, by operation of the two-appraisal averaging mechanism set forth in Section 12.4(c), or by the arbitrator's award in the event of a dispute — the closing of the redemption must occur within 90 calendar days of the date on which FMV is finally determined (the "Closing Deadline").
Payment of the full purchase price is to be made by wire transfer of immediately available funds to a bank account designated by MSH in writing not less than five business days prior to the Closing Date. The OA does not provide for any alternative payment method (e.g., cashier's check, letter of credit, or escrow arrangement), nor does it provide for installment payments, earn-outs, or deferred-purchase-price mechanisms. The entire purchase price must be paid in a single lump sum at closing.
The 90-day closing window commences upon the "final determination" of FMV, which the OA defines as the earlier of (i) the date on which the parties execute a written agreement as to FMV, (ii) the date on which the two-appraisal averaging mechanism under Section 12.4(c) yields a determined FMV (i.e., the date of delivery of the third appraisal), or (iii) the date of the arbitrator's final award determining FMV. In the present dispute, the final determination of FMV has not yet occurred, as the Linden Park appraisal has not been finalized and the arbitration remains pending.
B. Conditions to Closing
Section 12.5 sets forth several conditions precedent to closing, all of which must be satisfied or waived prior to or simultaneously with the closing of the redemption:
(a) Payment of Purchase Price. PCG must deliver the full purchase price to MSH by wire transfer of immediately available funds at closing. There is no financing contingency — PCG bears the risk of sourcing the funds necessary to complete the redemption.
(b) Assignment of Membership Interest. MSH must deliver to PCG (or to PGV, as applicable) a duly executed assignment of its entire 35% membership interest, free and clear of all liens, pledges, security interests, encumbrances, and other claims of any kind. MSH must also deliver such representations, warranties, and indemnities as PCG may reasonably request regarding the absence of encumbrances and MSH's authority to convey the interest.
(c) Amendments to Operating Agreement. Both parties must execute any amendments to the Operating Agreement that are reasonably required to reflect the change in membership resulting from the redemption, including amendments to the membership schedule, the capital account provisions, and the distribution waterfall provisions. Following the closing, PCG will hold a 100% membership interest in PGV, and the Operating Agreement will effectively become a single-member operating agreement.
(d) Third-Party Consents. Any third-party consents required in connection with the transfer of MSH's membership interest must be obtained prior to or at closing. The most significant third-party consent is the consent of GANB under the terms of PGV's credit facility (Loan No. CRE-2017-06284). The GANB loan documents contain customary transfer-restriction provisions that require the lender's prior written consent for any change in the membership or ownership structure of the borrower that results in a change of more than 25% in the beneficial ownership of the entity. The redemption of MSH's 35% interest would trigger this consent requirement.
C. Analytical Observations
Funding Pressure. The 90-day closing window, while relatively generous by the standards of many buy-sell agreements, could create significant funding pressure for PCG depending on the final redemption price. Under PCG's proposed buyout price of $41.3 million, PCG would need to source the full $41.3 million in cash within 90 days. Under MSH's demanded price of $70.0 million (inclusive of the bad-faith premium), the funding requirement increases to $70.0 million. Even under the midpoint Linden Park scenario (Scenario 1), the implied buyout price of approximately $44.1 million represents a substantial cash outlay. PCG's current liquidity position and available financing sources should be evaluated in connection with settlement discussions.
Lump-Sum Requirement. The absence of any installment payment option is potentially burdensome, particularly if FMV is determined at or near the Beacon level. In settlement negotiations, PCG may wish to propose a structured payment arrangement (e.g., a portion payable at closing with the balance payable over 12–24 months, secured by PCG's membership interest or the Property itself) as a means of bridging any gap between the parties' valuation positions. MSH may resist such a structure, as the OA contemplates a lump-sum payment, but it could be a useful settlement tool.
GANB Consent. The GANB credit facility's transfer-restriction provisions add a layer of complexity and potential delay. GANB's consent is not guaranteed, and the bank may condition its consent on satisfaction of certain requirements (e.g., maintenance of specified debt service coverage ratios, provision of updated financial statements, or payment of a consent fee). Any delay in obtaining GANB consent could push the closing beyond the 90-day window, potentially giving rise to claims of breach or default. PCG should engage in preliminary discussions with GANB's relationship manager to gauge the likelihood and timing of consent well in advance of the final determination of FMV.
Revolving Credit Facility. The outstanding balance on the GANB loan as of December 31, 2022, is $48.6 million. The credit facility may include a revolving component that PCG could potentially draw upon to fund a portion of the redemption price; however, any additional draw would require GANB's approval and would increase the debt burden on the Property, potentially affecting the debt service coverage ratio and other loan covenants. The terms of the revolving facility should be reviewed in detail.
V. Section 12.7 — Bad Faith Penalty
A. Text and Trigger
Section 12.7 of the Operating Agreement contains an unusual but significant provision addressing the exercise of the call option in bad faith. The relevant text provides, in pertinent part:
"If the Manager exercises the Call Option in bad faith or with the intent to materially understate Fair Market Value, the Purchase Price for the Redeemed Interest shall include a penalty of up to twenty-five percent (25%) of the determined Fair Market Value of the Redeemed Interest. The determination of whether the Manager acted in bad faith or with the intent to materially understate Fair Market Value, and the amount of any penalty, shall be made by the Arbitrator in accordance with Section 15.2."
Several key features of this provision warrant emphasis. First, the penalty is triggered by either of two conditions: (i) the Manager's exercise of the call option "in bad faith," or (ii) the Manager's exercise "with the intent to materially understate Fair Market Value." These are stated as alternative triggers, not cumulative ones — satisfaction of either condition is sufficient to invoke the penalty. Second, the penalty is discretionary — the arbitrator may impose a penalty of "up to" 25%, meaning the arbitrator has latitude to impose a lower penalty or no penalty at all depending on the severity of the conduct. Third, the penalty is calculated as a percentage of the "determined Fair Market Value of the Redeemed Interest," not of the gross asset value, the net JV equity, or any other base. The "Redeemed Interest" is MSH's 35% membership interest, and its "determined FMV" is the buyout price as finally calculated under the Section 12.4 formula (net equity share plus accrued preferred return). Fourth, the determination of bad faith and the amount of the penalty are committed to the exclusive jurisdiction of the arbitrator under Section 15.2 — there is no provision for judicial determination of bad faith.
B. MSH's Bad-Faith Claim
MSH's Demand for Arbitration, filed March 20, 2023, asserts that PCG exercised the call option in bad faith and with the intent to materially understate FMV. MSH's bad-faith allegations rest on two principal theories:
Theory 1: Appraiser Manipulation. MSH contends that PCG's selection of Whitfield Realty Advisors and the resulting $118.0 million valuation reflect a deliberate strategy to obtain a low appraisal. Specifically, MSH alleges that Whitfield's appraisal used an inflated 9.5% capitalization rate and 10.75% discount rate that are above the range of market-supported cap rates and discount rates for comparable luxury beachfront hotel properties, and that Whitfield's employment of a sales-comparison approach (weighted at 60%) selectively identified comparable transactions that were unfavorable to MSH's interests by including distressed sales and properties of inferior quality. MSH argues that these methodological choices were not the product of independent professional judgment but were instead influenced by PCG's instructions or preferences.
Theory 2: Deliberate Suppression of Operating Metrics. MSH further alleges that PCG, in its capacity as Manager, deliberately deferred necessary capital expenditures at the Property in the period preceding the call-option exercise in order to suppress the Property's operating metrics (including RevPAR, EBITDA, and net operating income), thereby depressing the appraised value. This theory is closely linked to MSH's claims under Section 8.3, discussed in Section VI below. MSH alleges that PCG deferred approximately $8.2 million in maintenance and capital improvement items that were identified in the Property's capital expenditure budgets but not executed, resulting in degraded physical condition and below-potential operating performance.
Based on these theories, MSH has demanded a bad-faith premium of $16,975,000, calculated as approximately 32% of the sum of MSH's equity share ($36,015,000) plus accrued preferred return ($17,010,000), totaling $53,025,000. As discussed in subsection D below, this calculation methodology is problematic for MSH because it exceeds the 25% cap in the OA and appears to apply the penalty to an incorrect base.
C. Analysis of Bad-Faith Standard Under Florida Law
The Operating Agreement does not define the term "bad faith." Accordingly, the meaning of "bad faith" in the context of Section 12.7 must be determined by reference to Florida law, which governs the OA. Under Florida law, the analysis of bad faith in contractual contexts draws on several related but distinct doctrines.
General Standard. Florida courts have consistently held that "bad faith" in the contractual context requires more than mere negligence, poor judgment, or good-faith disagreement over the terms or interpretation of an agreement. Bad faith requires a showing of dishonest purpose, conscious wrongdoing, or an intent to deprive the other party of the benefit of the bargain. The standard is subjective — it looks to the actual intent and motivation of the party, not merely to the objective reasonableness of the conduct. This is a high bar for MSH to clear.
Implied Covenant of Good Faith and Fair Dealing. Under Florida law, every contract includes an implied covenant of good faith and fair dealing, which requires that neither party act to deprive the other of the benefit of the contract. However, the implied covenant does not create independent substantive obligations; it attaches only to the exercise of discretion granted by the contract's express terms. In the context of the call option, the implied covenant would require that PCG exercise the call right honestly and without an intent to deprive MSH of the fair value of its interest — but it would not impose on PCG an obligation to select a particular appraisal methodology, retain a particular appraiser, or accept MSH's preferred valuation.
Application to Manager's Discretion. The Florida Revised LLC Act, Section 605.04093, provides that a manager of an LLC owes a duty of care and a duty of loyalty to the company and its members, but also permits the operating agreement to define, limit, or eliminate these duties to the extent permitted by law. The Operating Agreement contains provisions (Section 6.3) that limit the Manager's liability and exculpate the Manager from claims arising from the exercise of business judgment in good faith. While these exculpation provisions may not shield PCG from a bad-faith finding under Section 12.7 (which expressly contemplates a bad-faith penalty), they reinforce the principle that PCG's exercise of managerial discretion is entitled to deference absent evidence of dishonest purpose.
Key Defensive Arguments for PCG. Based on the foregoing legal framework, we recommend that PCG advance the following arguments in defense against MSH's bad-faith claim:
(1) Reliance on Independent Professional. PCG retained Gerald K. Whitfield, an independent, MAI-certified appraiser with over 25 years of experience, to conduct the initial FMV appraisal. Mr. Whitfield's engagement was conducted at arm's length, and his appraisal was prepared in accordance with USPAP standards. Reliance on a qualified, independent professional is strong evidence of good faith. Courts and arbitrators routinely recognize that a party's good-faith reliance on professional advice is a defense to claims of bad faith or willful misconduct.
(2) Contractual Authorization. The OA expressly vests the initial appraiser-selection right in PCG. PCG exercised this right in accordance with the terms of the contract. The OA does not mandate any particular appraisal methodology, cap rate, discount rate, or weighting of approaches. To the extent that MSH disagrees with the Whitfield appraisal's methodological choices, the OA provides a remedy: the competing-appraisal right and the third-appraiser mechanism. MSH's resort to the bad-faith penalty provision is an attempt to obtain a result that the contract's appraisal framework does not support.
(3) Legitimate Methodological Disagreement. Disagreements over valuation inputs — including capitalization rates, discount rates, the weighting of different appraisal approaches, the selection of comparable transactions, and adjustments for property condition — are inherent in real estate appraisal and do not constitute bad faith. The fact that Whitfield and Beacon reached different conclusions using different methodologies reflects the normal range of professional judgment, not evidence of intentional manipulation. Expert valuation witnesses routinely disagree by 20–30% or more in contested proceedings, and such disagreements are resolved through the adversarial process, not through bad-faith penalties.
(4) Built-In Safeguard. The OA's third-appraiser mechanism under Section 12.4(c) was specifically designed to address valuation disagreements of the type at issue here. The parties bargained for a process in which a neutral appraiser would break any material divergence between the two party-retained appraisals. The existence of this mechanism confirms that the parties anticipated divergent appraisals and agreed on a resolution process that does not involve penalties or sanctions — the penalty provision in Section 12.7 was intended for truly egregious conduct, not for ordinary valuation disputes.
Weaknesses and Risks. Notwithstanding the strength of the foregoing arguments, we identify several areas of vulnerability that must be addressed:
• The 28.4% divergence between the Whitfield and Beacon appraisals is substantial and, while not dispositive of bad faith, could create an adverse inference in the arbitrator's mind. A divergence of this magnitude may suggest to the arbitrator that at least one of the two appraisals is unreasonable, and the arbitrator may be more inclined to scrutinize the Whitfield appraisal's inputs and assumptions.
• MSH's deferred-maintenance allegations, if supported by documentary evidence (including deferred CapEx budgets, property condition assessment reports, and correspondence between PCG management and the Aurelian brand-standards team), could support a narrative of intentional suppression of property value. This theory is more dangerous than the appraiser-manipulation theory because it goes to PCG's conduct as Manager, not merely to its selection of an appraiser.
• The motion to compel production of PCG's internal investment-committee memos (filed by MSH on November 6, 2023, and partially granted by Arbitrator Chen on November 30, 2023) may yield evidence of internal discussions about the timing of the call-option exercise, the selection of Whitfield, the anticipated valuation, and any internal analysis of strategies to minimize the buyout price. If such documents contain candid internal language that could be characterized as evidence of strategic timing or valuation manipulation, they could be highly damaging. We should conduct a thorough review of all responsive documents before production and consider any available privilege or work-product objections.
D. Penalty Calculation Issues
Even if the arbitrator were to find that PCG acted in bad faith, MSH's calculation of the bad-faith penalty is vulnerable to challenge on multiple grounds.
The OA caps the penalty at "up to 25% of the determined FMV of the Redeemed Interest." The "Redeemed Interest" is MSH's 35% membership interest, and its "determined FMV" is the buyout price as finally calculated under the Section 12.4 formula. MSH's demand of $16,975,000 applies the penalty at an effective rate of approximately 32% — well above the contractual cap of 25% — and appears to apply the penalty to the combined equity share plus preferred return ($36,015,000 + $17,010,000 = $53,025,000), which inflates the base.
The following table illustrates the maximum permissible penalty under various interpretations of the penalty base:
Under every reasonable interpretation of the penalty base, MSH's claimed penalty of $16,975,000 exceeds the contractual maximum. PCG should vigorously challenge MSH's penalty calculation as contractually impermissible and request that the arbitrator independently calculate the penalty (if any) based on the OA's express terms.
Moreover, the proper construction of the phrase "determined FMV of the Redeemed Interest" is itself a contested issue. The most natural reading is that the "determined FMV" is the final buyout price as calculated under the Section 12.4 formula — i.e., MSH's 35% share of net JV equity plus accrued preferred return. However, there is an argument that the "FMV of the Redeemed Interest" refers only to the equity component (35% of net JV equity), excluding the accrued preferred return, on the theory that the preferred return is a contractual obligation distinct from "Fair Market Value." If the penalty base excludes the preferred return, the maximum exposure under the 25% cap is even lower.
PCG's exposure range for the bad-faith penalty, under a reasonably favorable set of assumptions, is approximately $7.5 million to $13.3 million. Under the most adverse assumptions (penalty base includes preferred return, FMV determined at Beacon level), the maximum exposure is $13.3 million. These figures should inform PCG's settlement calculus.
VI. Section 8.3 — Capital Expenditure Obligations
A. Manager's Obligations
Section 8.3 of the Operating Agreement imposes on the Manager (PCG) the affirmative obligation to "maintain the Property in first-class condition consistent with the standards of a luxury hotel resort." This standard is broad and inherently subjective, leaving room for reasonable disagreement about the scope and timing of required capital expenditures. The OA does not define "first-class condition" or provide specific maintenance benchmarks, though the reference to "the standards of a luxury hotel resort" presumably incorporates prevailing industry standards for properties of comparable quality, location, and market positioning.
The Manager has discretion over the timing and amount of capital expenditures, subject to two constraints. First, the Manager must prepare and submit annual capital expenditure budgets for approval in accordance with the budgeting and approval procedures set forth in Section 7.2 of the OA. The annual CapEx budget is submitted to MSH for review and comment, though the OA does not grant MSH a veto right over the annual budget as a whole — MSH's review right is advisory rather than dispositive, except as described below. Second, and more significantly, capital calls exceeding $2.0 million in any single fiscal year require MSH's prior written consent, constituting one of the enumerated minority-member consent rights under Section 7.4 of the OA. This consent threshold was negotiated as a protection for MSH against disproportionate capital demands, but as discussed below, it may also serve as a defense for PCG against MSH's deferred-maintenance claims.
B. MSH's Deferred-Maintenance Claim
MSH, through its appraiser Beacon Valuation Group (Dr. Priya Ramanathan), asserts that PCG failed to fund approximately $8.2 million in deferred maintenance items at The Palmetto Grand Resort & Spa during the period from 2020 through 2022. The claimed deferred maintenance items include:
• HVAC System Replacements: Beacon estimates approximately $3.1 million in HVAC equipment that has exceeded its useful life and requires replacement, including rooftop units serving the meeting and conference facilities and fan coil units in the guest tower.
• Elevator Modernization: Beacon estimates approximately $1.8 million for modernization of three of the four guest elevators, including replacement of control systems, motors, and cab interiors.
• Pool Deck Resurfacing: Beacon estimates approximately $1.2 million for resurfacing of the main pool deck and surrounding hardscape areas, which reportedly exhibit cracking, settling, and surface deterioration.
• Soft-Goods Refresh (Guest Rooms): Beacon estimates approximately $2.1 million for replacement of soft goods (carpeting, draperies, upholstery, and bedding) in approximately 180 of the 312 guest rooms, which are alleged to be beyond the typical replacement cycle for a luxury resort property.
Beacon included the $8.2 million deferred-maintenance total as an upward adjustment to its FMV conclusion, effectively adding the estimated cost of the deferred items to the income-derived value on the theory that the Property would command a higher value if the deferred maintenance were completed. This approach treats the deferred maintenance as a form of curable depreciation — a legitimate appraisal concept under USPAP, but one that requires careful analysis of whether the alleged deferred items actually constitute curable depreciation versus normal wear and tear within the expected renovation cycle.
The deferred-maintenance claim is significant not only because it accounts for $8.2 million of the $33.5 million gap between the Whitfield and Beacon appraisals, but also because it forms the evidentiary foundation for MSH's bad-faith theory regarding deliberate suppression of property value.
C. Analytical Observations
Strong Operating Performance. PCG invested a total of $24.3 million in renovations at the Property from 2017 to 2019, funded proportionately by the members ($15,795,000 from PCG and $8,505,000 from MSH). The Property achieved strong operating performance in 2022, with total revenue of $62.8 million, EBITDA of $19.7 million, and RevPAR of approximately $289 — metrics that compare favorably to competitive luxury beachfront hotels on the Gulf Coast. These performance metrics undercut the argument that the Property suffers from material deferred maintenance, as a property in seriously deteriorated condition would typically exhibit declining occupancy, ADR erosion, and negative guest satisfaction trends. We should obtain and analyze STR competitive set data and guest satisfaction scores for 2020–2022 to support this argument.
Consent Threshold Defense. The $2.0 million annual consent threshold for capital calls under Section 7.4 of the OA may provide a significant defense for PCG. If the deferred maintenance items identified by Beacon exceed $2.0 million in any single fiscal year — which they clearly do, given that the total is $8.2 million over three years — PCG would have been required to obtain MSH's prior written consent before issuing a capital call to fund the maintenance work. If MSH failed to consent to such capital calls (or if PCG requested consent and MSH declined), MSH cannot now claim the resulting deferred maintenance as a basis for a higher valuation or as evidence of PCG's bad faith. This argument effectively turns MSH's deferred-maintenance claim against MSH: the minority-member consent right that MSH negotiated to protect itself from excessive capital demands also constrained the Manager's ability to undertake the very maintenance items MSH now claims were improperly deferred.
To fully develop this defense, we need to review: (a) whether PCG submitted any capital-call requests to MSH for the identified deferred-maintenance items during 2020–2022; (b) whether MSH consented to, rejected, or failed to respond to any such requests; and (c) whether the annual CapEx budgets for 2020–2022 included the identified items and, if so, whether MSH objected to or approved those budgets. If the record shows that MSH participated in the budget-approval process and failed to flag the allegedly deferred items as priorities, PCG's position is strengthened.
Aurelian Franchise Agreement. The Aurelian Hotels & Resorts franchise agreement, dated July 15, 2017, has a 20-year term expiring July 14, 2037, and requires PGV to pay franchise fees of 5% of gross room revenue plus a 2% marketing fund contribution. The franchise agreement almost certainly contains brand-standard and property-condition requirements that the Resort must satisfy to maintain the Aurelian affiliation. Aurelian's brand-standards program typically includes periodic property inspections (annually or biennially) with detailed condition assessments and compliance scoring. If the Resort has passed its Aurelian brand-standard inspections during the relevant period (2020–2022) without material deficiency findings, this would constitute strong evidence that the Property is maintained in "first-class condition" consistent with luxury hotel standards, directly contradicting MSH's deferred-maintenance allegations.
Items Requiring Further Review. To fully evaluate and respond to MSH's deferred-maintenance claim, the following materials should be obtained and reviewed as a priority:
(a) Annual capital expenditure budgets submitted by PCG for fiscal years 2020, 2021, and 2022, including any comments or objections submitted by MSH in the budget-review process.
(b) Any Aurelian Hotels & Resorts property-inspection reports for the Resort during the 2020–2022 period, including brand-standard compliance scores and any corrective-action plans issued.
(c) Any capital-call requests submitted by PCG to MSH during 2020–2022, together with MSH's responses (consents, rejections, or non-responses).
(d) Any third-party property condition assessments, engineering reports, or environmental assessments prepared for the Resort during the relevant period, including any reports prepared in connection with the GANB loan.
(e) Internal PCG correspondence and investment-committee materials relating to capital expenditure planning and the condition of the Property, to the extent responsive to the partially granted motion to compel.
VII. Section 15.2 — Dispute Resolution
A. Binding Arbitration
Section 15.2 of the Operating Agreement contains a broad mandatory arbitration clause requiring that all disputes arising out of or relating to the OA, the formation, operation, or termination of PGV, or the rights and obligations of the members thereunder, be resolved by binding arbitration administered by JAMS (Judicial Arbitration and Mediation Services) in accordance with JAMS' Comprehensive Arbitration Rules and Procedures. The clause is mandatory — it is not permissive or optional — and it applies to both claims and counterclaims.
The seat of arbitration is Jacksonville, Florida, as specified in Section 15.2(a) of the OA. The selection of Jacksonville as the arbitral seat, rather than Clearwater (where the Property is located) or New York (where both PCG and MSH maintain offices), presumably reflects a compromise between the parties at the time of drafting. The governing law of the OA is the law of the State of Florida, without regard to conflicts-of-law principles.
The arbitration clause is broadly worded and covers all claims related to the call-option exercise, the determination of Fair Market Value, the bad-faith penalty allegations, and any alleged breaches of the Manager's duties under the OA, including the Section 8.3 capital expenditure obligations. MSH's Demand for Arbitration and PCG's Response and Counterclaim all fall squarely within the scope of the arbitration clause, and no party has challenged arbitrability.
B. Arbitrator Selection
Section 15.2(b) provides for a single arbitrator, to be mutually selected by the parties. If the parties cannot agree on the selection of an arbitrator within 21 days of the filing of the demand for arbitration, the arbitrator is to be appointed by JAMS in accordance with its procedures, which typically involve the striking and ranking of candidates from a JAMS-provided list.
In this case, the parties were unable to agree on an arbitrator within the 21-day period. Pursuant to the JAMS selection procedures, the Hon. Margaret Liu Chen (Ret.) was appointed as the sole arbitrator on April 28, 2023. Judge Chen is a retired Florida state court judge who served on the bench of the Fourth Judicial Circuit Court of Florida for 18 years, with extensive experience in complex commercial disputes, real estate matters, and business dissolution proceedings. Her appointment was not objected to by either party.
The preliminary scheduling conference was held on May 15, 2023, at which Judge Chen established a discovery schedule, briefing deadlines, and a preliminary hearing date. The arbitration is proceeding on a schedule typical of JAMS commercial proceedings, with the evidentiary hearing currently anticipated in early 2024.
C. Scope and Limitations
The arbitrator's authority under Section 15.2 is broad. Specifically, the arbitrator has authority to determine:
(a) All disputes arising under or relating to the Operating Agreement, including disputes over interpretation and enforcement of specific provisions.
(b) The proper methodology for Fair Market Value determination, including the resolution of disagreements over appraisal approaches, valuation inputs, and adjustments.
(c) The applicability and amount of any bad-faith penalty under Section 12.7, including the threshold determination of whether PCG acted in bad faith or with intent to materially understate FMV.
(d) Any claims for breach of the Manager's duties under Section 8.3, including MSH's deferred-maintenance allegations.
(e) PCG's counterclaim for declaratory relief confirming that $41,300,000 is the proper FMV of MSH's redeemed interest.
(f) Any claims for attorneys' fees, costs, and interest, to the extent authorized by the OA or applicable law.
The arbitrator's award is final and binding on both parties, subject only to the limited grounds for judicial review available under the Federal Arbitration Act, 9 U.S.C. §§ 1–16, and the Florida Arbitration Code, Chapter 682, Florida Statutes. These grounds are exceedingly narrow and are generally limited to fraud, corruption, evident partiality, arbitrator misconduct, or the arbitrator's exceeding the scope of his or her authority. Errors of law or fact are generally not reviewable, and courts apply a strong presumption in favor of confirming arbitral awards. This finality is a double-edged sword for PCG: it means that a favorable award will be essentially unassailable, but an adverse award — particularly on the bad-faith penalty — will be equally difficult to overturn.
Discovery in the JAMS proceeding is governed by JAMS' Comprehensive Arbitration Rules, which provide for more limited discovery than would be available in federal or state court litigation. Under the JAMS rules, each party is generally entitled to the exchange of relevant, non-privileged documents, but depositions are limited and interrogatories are generally not available absent the arbitrator's order. However, the arbitrator has broad discretion to order additional discovery where warranted by the complexity or significance of the issues, and Judge Chen has demonstrated a willingness to exercise that discretion in this case.
Notably, MSH filed a motion to compel production of PCG's internal investment-committee memoranda and related materials on November 6, 2023. MSH argued that these documents are directly relevant to the bad-faith inquiry under Section 12.7, as they may contain internal discussions about the timing of the call-option exercise, the selection of the initial appraiser, the anticipated valuation, and any strategies considered by PCG to minimize the buyout price. PCG opposed the motion on grounds of relevance, proportionality, and attorney-client privilege (to the extent any of the documents reflected legal advice). On November 30, 2023, Judge Chen partially granted the motion, ordering production of investment-committee memoranda that do not reflect attorney-client communications but do relate to the call-option exercise, valuation strategy, and capital expenditure planning during 2020–2023. Documents reflecting attorney-client privileged communications are to be logged on a privilege log for potential in camera review.
The partially granted motion to compel is a significant development. The investment-committee memos may contain candid internal language about PCG's valuation expectations, its assessment of the Whitfield appraisal, and its strategic considerations regarding the timing and economics of the buyout. While we are confident that PCG's conduct was in good faith, the arbitrator's order underscores the importance of conducting a thorough review of all responsive documents prior to production to identify any language that could be taken out of context or used to support MSH's bad-faith narrative.
D. Implications