VIRGINIA BEACH, Va. (WAVY) — Next week, Virginia Beach City Council could spend more than $6 million to terminate its agreement with its sports center operator after an audit found the facility lost more than $1.3 million annually since its opening three years ago.

But Tuesday afternoon, an advisor hired by the city revealed the losses shouldn’t be a surprise to leaders, as he claims he told them in 2018 the center was expected to operate at a loss.

“In our projections for the facility, we projected annual operating losses,” said Brian Connolly, founder of Victus Advisors, as a part of a rather blunt briefing to City Council.

Connolly has been a part of the sports and entertainment venue business for much of his life and consults for cities across the country. He said he was contracted when Virginia Beach went searching for a sports center operator in 2018 and again is helping the city separate from that operator now.

The $68 million sports center opened in October 2020 between 17th and 19th streets at the Oceanfront resort, next to the Virginia Beach Convention Center. The 285,000 square-foot indoor facility is one of the largest of its type on the East Coast, with 12 basketball courts that can be converted to 24 volleyball courts and a 200-meter hydraulically-banked indoor track, all with enough seats for 7,000 spectators.

When the project was approved in 2018, the goal was to maximize tax revenue by getting into the growing sports tourism market and putting more “heads in beds” during the slower season at local hotels.

That same year, the city inked an agreement with Fredericksburg-based Eastern Sports Management to operate the center for $30,000 per month plus incentive fees.

It’s that agreement, negotiated by former City Manager Dave Hansen, that Connolly is zeroing in on.

The Problem

“Going rate for the operator of a facility like this is probably about $15,000 to $20,000 a month as a management fee.,” Connolly said. “[ESM] was making roughly two-and-a-half times that.”

While the venue has has hosted more than 160 events in its first two-and-a-half years and produced nearly 150,000 overnight stays, a review by the city auditor found ESM lost $1.3 million and $1.4 million the last two years, went through a $750,000 operating reserve account and borrowed an additional $260,000 to cover “unanticipated operational losses.”

While some of those are attributed to event cancellations caused by COVID-19 restrictions, inflation, and difficulty securing qualified help with custodial services, the ESM found their chief issue with the sales and pricing strategy.

The city’s Convention and Visitors Bureau would aggressively set the rates for events at discounts, according to the auditor’s report. But that wouldn’t necessarily meet the price needed to run the facility.

As a result, some vendors who have worked or sponsored events at the center, haven’t been paid.

Furthermore, Connolly said more than half of the operating losses experienced by ESM was due to depreciation on the furniture, fixtures and equipment purchased for the center.

“So my professional assessment of this is that the problem is not the operation of the facility itself or the events being brought into it, it is the management agreement itself,” Connolly said. “After this agreement is terminated and you replace them with any other qualified operator, you will see a decrease in at least $900,000 in annual operating losses.”

The Warning

Connolly admitted to City Council he was skeptical of ESM’s proposal five years ago.

Three groups applied to manage the sports center back then.

“Of the three bids that were received, two out of the three also projected similar annual operating losses to what we did,” Connolly said. “ESM’s was the only proposal that projected a positive operating income. And my understanding is that at the time, the council believed that ‘Oh well that’s great, they think they can make money doing that,’ where we actually flagged that as something we thought was an unrealistic proposal at the time.”

Connolly said it was understood by him, in his analysis to the city, that discounted rates would be offered to bolster economic impact.

Senior City Attorney Dana Harmeyer, who was also a part of the negotiations in 2018, said a strong appeal of ESM’s proposal to the city was ESM’s thought they could bring extra furniture, fixtures and equipment, or FF&E, especially the food and beverage, and the food and beverage revenue would cover other operating costs.

Connolly said that clearly didn’t work out. ESM did not immediately return a request for comment.

Then Connolly made his point that likely won’t be popular in the conservative-leaning city: even with another operator, the Sports Center would likely still operate at a loss.

“Most of them have reported operating losses, including management fees, of about $200,000 and $400,000 a year,” Connolly said.

The Solution

Still, Connolly sung the praises of the Sports Center.

“From an economic impact standpoint, it’s one of the, if not the, most successful indoor facilities in the country.”

He recommends the city move forward quickly to instill confidence in events that use the center.

The proposed settlement agreement in front of City Council on Tuesday will cost a total of $6.6 million, all from meals, admissions and hotel taxes.

A majority of the money, $4.6 million, will go towards buying all the furniture, fixtures and equipment originally purchased by ESM. Another $1.5 million will go towards paying off management fees, cash advances and unpaid vendors.

An additional $500,000 will be set aside for the city to move forward with putting into place an interim operator while a process can be laid out to find a new permanent manager.

City Manager Patrick Duhaney said this time, there would be a more industry standard agreement.

Vice Mayor Rosemary Wilson, who voted for the initial agreement, said she was most upset that “innocent groups” that helped with the facility went unpaid in all of this.

“They were out a lot of money,” Wilson said.

Mayor Bobby Dyer, who had just become mayor when the agreement was voted on, didn’t necessarily apologize or address why the council at the time didn’t follow Connolly’s advice, but did concede “this is obviously a learning moment for a lot of people.”

He thanked City Auditor Lyndon Remias for shining light on the topic.

“Once again, this is a situation that happened, we are addressing it, we are going to fix it,” Dyer said, “and I’m sure we are going to come back stronger and better.”