Judge denies embattled LA developer’s bankruptcy request over ill-fated homeless housing projects

Shangri-La Industries was rebuffed in its attempt to restructure debt amid allegations it misappropriated millions of dollars in state Homekey funds.

A U.S. bankruptcy judge has rejected a request from embattled Los Angeles developer Shangri-La Industries for Chapter 11 bankruptcy protection for three motel properties in Redlands, Thousand Oaks and Salinas intended for homeless housing.

Shangri-La filed a petition in U.S. Bankruptcy Court in San Jose on April 29 in a move to block foreclosure of and/or financial restructuring on the former Good Nite Inn in Redlands, the former Quality Inn & Suites in Thousand Oaks and the former Sanborn Inn in Salinas.

The three projects, funded under California’s Homekey program launched in June 2020 to protect unhoused individuals from the threat of the coronavirus pandemic, entailed redeveloping the motels for homeless housing.

Shangri-La’s petition also sought bankruptcy protection for a fourth motel conversion project at a former Travelodge in San Ysidro funded under the state Community Care Expansion program.

Bad faith

In orders handed down on May 15 and June 5, U.S. Bankruptcy Judge M. Elaine Hammond concluded that Shangri-La acted in bad faith when it failed to get written authorization from its partner on the projects, Step Up on Second, to seek bankruptcy protection.

“I find that the totality of circumstances support a finding of bad faith that warrants dismissal of the bankruptcy case,” Hammond said in her May 15 orders regarding the Redlands and Salinas properties. Similar findings were determined in orders handed down on the Thousand Oaks and San Ysidro properties on June 5, court records show.

Step Up on Second is a Santa Monica-based nonprofit that provides support services for the homeless, and is also serving as the property manager at the former Good Nite Inn, now called Step Up in Redlands. Step Up also partnered with Shangri-La on six other Homekey-funded projects, including Step Up in San Bernardino, a former All Star Lodge that opened in March 2023 to provide housing for chronically homeless senior citizens.

Step Up in Redlands and Step Up in San Bernardino are the only two of the seven Homekey-funded projects now housing homeless residents that are fully operating. The fate of the project in Thousand Oaks, three projects in Salinas and one in King City remains uncertain.

Developer blames Step Up

Los Angeles attorney Brian A. Sun, who represents Shangri-La, blamed Step Up for blocking its efforts to restructure the financing of the three projects on which the developer was seeking bankruptcy protection.

“Step Up inexplicably withheld its consent, thereby thwarting our efforts to refinance and restructure the financing of the projects and their completion,” Sun said in a telephone interview on Friday, June 14. He said Shangri-La is still pushing to refinance or restructure the financing on all three projects so they can be completed as envisioned.

Profit interest sold

Shangri-La representatives argued in motions filed in bankruptcy court that the developer was authorized to file for bankruptcy because Step Up was no longer its partner in the Homekey projects.

Shangri-La maintains it executed a profit interest purchase agreement with Step Up in November 2022, and that Step Up subsequently sold its interest in the Homekey projects to Shangri-La for more than $2.7 million.

From November 2022 to January 2023, Shangri-La Industries and Step Up used loan proceeds intended for one of the Homekey-funded motel projects in Salinas, at the former Salinas Inn on Fairview Avenue, to fund two of three scheduled buyout payments to Step Up totaling $2,742,346, according to a motion filed by Jonathan Shenson, an attorney for Shangri-La.

Given that Step Up sold its future profit interests on the seven Homekey projects, the nonprofit was no longer a partner of Shangri-La, and therefore the developer was authorized to file its bankruptcy petition, Shenson said in his motion.

In her order granting dismissal, Hammond determined that Shangri-La’s argument was incomplete.

“Based on the limited information provided, the indications are that debtor’s filings are an unfair manipulation of the bankruptcy code,” Hammond said in her order.

Step Up responds

Tod Lipka, Step Up’s president and chief executive officer, said its reasons for selling its interests in future profits from the Homekey projects were essentially two-fold: it needed to cover operating expenses and provide services to the Redlands and San Bernardino Homekey-funded properties, and also needed money to fund numerous other projects in 2023.

“In 2022 we realized we were going to be doing significant things in 2023. We had numerous housing projects opening and were going to be housing numerous people like we never had  before,” Lipka said.

Those projects, Lipka said, not only included ones across California, but at least one state-funded project in Fulton County, Georgia, to house homeless individuals in apartments.

Step Up continues to provide homeless services to residents at the Homekey-funded motels in Redlands and San Bernardino, and maintains an ownership stake in those projects, Lipka said.

“Just because we sold our (profit) interest doesn’t mean we sold out ownership in the project,” Lipka said. “We were essentially giving up that future revenue.”

He said the $2.7 million valuation was based on an “aggregate present value” of all seven Homekey projects.

Shangri-La, Lipka said, has not paid Step Up for providing its services in Redlands and San Bernardino since operations began at the motels in January and March 2023, respectively. The nonprofit provides and pays for case managers for tenants, security and staffing, he said.

“We had to cover the services of those projects that we are not getting reimbursed for by Shangri-La,” Lipka said. He said Shangri-La owes Step Up $1.5 million for services rendered to date, and he questions where all that money went.

“We’re only beginning to discover the extent of the alleged fraud and deception committed by Shangri-La,” Lipka said.

Unpaid contractors

Problems began surfacing for Shangri-La last year, when a Southern California News Group investigation revealed that contractors on the Redlands and San Bernardino Homekey projects filed more than $2 million in mechanics liens over unpaid work on those projects.

It was later revealed that dozens of liens totaling millions of dollars had also been filed at recorders’ offices in Ventura and Monterey counties by contractors and lenders that were not paid for Homekey-funded projects in those areas.

On April 16, the Redlands City Council terminated its Homekey agreement with Shangri-La amid allegations by the state Department of Housing and Community Development that the developer misappropriated $114 million in Homekey funds.

In January, the state Housing and Community Development Department sued Shangri-La in Los Angeles Superior Court, alleging the developer breached its obligations under terms of its agreements with the Homekey program.

In February, Shangri-La sued its former chief financial officer, Cody Holmes, seeking $40 million in damages. The lawsuit alleges Holmes embezzled millions from the company, including funds intended for its Homekey projects, and engaged in bank fraud and check kiting in 2022 and 2023 with Shangri-La’s lenders, banks and brokers.

Holmes, according to the lawsuit, allegedly transferred vast sums of company cash and property to bank accounts and shell companies he controlled and to his former girlfriend, Madeline Witt, a defendant in the lawsuit.

Holmes, according to the lawsuit, used the money to host extravagant parties, travel on private jets, and lease exotic cars — including a 2021 Bentley Bentayga and a Ferrari Portofino. He also purchased high-dollar luxury items for himself and Witt, including two Birken handbags valued at nearly $128,000, Chanel and Louis Vuitton handbags valued at more than $14,000, a $127,000 Riviera diamond necklace, a $35,000 Audemars Piguet diamond watch, and 20 VIP passes for the 2023 Coachella Music and Arts Festival valued at more than $53,000.

More than a dozen lawsuits

From June 2023 to January 2024, a total of 15 lawsuits and other legal actions were filed against Shangri-La by lenders and contractors in Northern and Southern California, including the state’s lawsuit pending in Los Angeles County.

It prompted attorneys for Shangri-La to file a petition in March with the Judicial Council of California to coordinate all the cases so they are heard in Los Angeles. The next hearing on the state’s case, as well as on Shangri’s petition to coordinate all the cases, will be held on Monday, June 17, in Los Angeles Superior Court before Judge David S. Cunningham III.

Defaults and setbacks

A motion filed in bankruptcy court by Arixa Institutional Lending Partners LLC noted that the lender extended a $12 million loan, with a secured note, to Shangri-La in June 2022 for the acquisition and upgrade of the former Good Nite Inn in Redlands.

The maturity date of the note was Jan. 1, 2024. But as of April 18, Shangri-La still had not made good on its loan, owing Arixa no less than $13.8 million, including $1.7 million in interest fees and nearly $44,000 in foreclosure fees, according to the motion.

Redlands spokesman Carl Baker said the city continues to work with Arixa, which has agreed to work with the city on finding a buyer willing to continue providing housing to the homeless at the motel.

“Arixa and the city are working collaboratively on finding a new buyer for the property,” Baker said. “Our intention is to continue the operation of the property as it has been operating.”

In April, Step Up in Redlands was housing 132 formerly homeless residents, Assistant City Manager Chris Boatman said at the time.

Court battle

Shangri-La’s failed attempts at bankruptcy changes how the investigation into alleged wrongdoing by the developer is handled, said Adam Stein-Sapir, a bankruptcy expert at the New York City-based Pioneer Funding Group.

“In bankruptcy, it would be done by a court-appointed trustee and their counsel. Out of bankruptcy, it will be in state court through the litigation already started by the state … plus any additional cases likely to pop up,” Stein-Sapir said. “In short, in bankruptcy it’s a bit more organized and streamlined; out of court it’s more like an octopus of litigation with each arm being steered by a different captain.”

He said the state attorneys will definitely use the fact that the bankruptcy cases were dismissed to show that another court has seen it their way.

“Admittedly it wasn’t after a trial on the merits, it was just a judge looking at a contract and some preliminary documents, but it’s good enough to include in argument,” Stein-Sapir said.