As everyone in the industry knows, hotel management agreements are very long-term, from 10 years to over 70 depending on the brand and how the owner has negotiated. Given that these are service contracts, with the manager usually contributing no cash to the hotel, these are extraordinarily long by any contractual standards. But what happens when it goes wrong and the owner wants to have their hotel back? While an owner can in theory terminate a management contract based on acts of default by the operator, this is almost impossible to secure. Instead, the industry has increasingly moved to a so-called “performance test” whereby if the management company fails this test, they can be removed without any compensation. It sounds good but in practice it almost never happens. Why?
- Firstly, these tests usually don’t apply in the first few – difficult – years of the contract.
- Secondly, even if the brand fails, they usually have a right to “cure” the failure by a cash payment
- Thirdly, and most importantly, the tests are designed to be almost impossible to fail. Either the hotel’s top line has to fall 15-20% behind its competitive set for two consecutive years; or the hotel’s profit has to be 20% behind budget for two consecutive years or, increasingly often, both tests have to be failed for the operator to be terminated. As budgets can be amended from year to year and as the operator also gets a say in choosing the competitive set, this is a pretty safe bet for them.
Any owner who accepts these terms is pretty much guaranteed to be stuck with their brand for the whole length of the contract. Is there a way round that? What can owners do? Come and hear from experienced hotel investors at SEAHIS at the Dusit Thani in Bangkok on 13/14th June.