News for the Hospitality Executive |
By
Jim
Butler and the Global Hospitality
Group®
Hotel Lawyers | Authors of www.HotelLawBlog.com August 7, 2012 Buying a hotel -- the Hotel Purchase Agreement documentation and process The Hotel Purchase Agreement documentation
and process is
where fortunes can be won or lost. The hotel lawyers of JMBM's Global
Hospitality Group® have decided to share some practical tips we
have gleaned over
the past 25 years from more than $60 billion of hotel transactions.
Initially,
these insights will be published as articles on the Hotel Law Blog
at www.HotelLawyer.com and
then they will be assembled into the HOW
TO BUY A HOTEL handbook for our "We wrote the book™" series, much
like the HMA Handbook and the Lenders Handbook for Troubled Hotels (see
Resource Center at HotelLawyer.com
for free copies). Here is our second contribution on the
"Buying a
Hotel" series. . . Brand
franchise
issues in hotel purchase and sale transactions by Robert
E.
Braun and Catherine DeBono Holmes | Hotel Lawyers
Buying or selling a hotel operating under
a brand name
requires special attention. Typically, the existing franchise agreement
will be
assumed, terminated or modified in some way, and the new branding
arrangements
will usually have a significant impact on the value and profitability
of the
hotel. The JMBM Global Hospitality Group® has represented buyers
and sellers of
hotels with all the major hotel brands, and has developed practical
solutions
to achieve a smooth transition of the franchise from the seller to the
buyer,
or to change the franchise if that suits the buyer's goals. Knowing
when and
how to work with the franchisor as part of the transaction can save
both
parties a lot of money, avoid major disruptions of hotel operations
upon the
sale and increase the value of the property itself. In this article, we discuss some of our
experience in
dealing with a few key hotel franchise issues that need to be addressed
during
the hotel purchase and sale agreement negotiation and during the
transition
process. The first thing you
need to know: The franchise does not follow the property. It terminates
when
the hotel is sold. Some hotel buyers and sellers believe that
the hotel brand
can be sold along with the hotel. That is not true. Virtually all
franchise
agreements currently used by the major brands provide that the seller's
existing franchise agreement terminates when the hotel is sold. The
buyer will
need to enter into a new franchise agreement if the buyer wants to
retain the
brand. This leads to two key concerns. First, unless a franchisee (the seller)
has negotiated
otherwise with the franchisor, the sale of the hotel will cause the
termination
of the franchise agreement, obligating the seller to pay a significant
termination fee. While most franchisors will waive the termination fee
when an
approved buyer enters into a new franchise agreement, the transaction
documents, conditions and timeline must deal with this reality. Second, the new franchisee (the buyer)
must make
independent arrangements with the franchisor to continue to operate the
hotel
under the same brand (if it chooses to do so), starting on the day the
transfer
takes place. The hotel purchase and sale agreement
should address these
concerns. For example, the seller might include provisions in the hotel
purchase and sale agreement to require that the buyer receive approval
from the
franchisor and a new franchise agreement from the franchisor before the
closing
of the transfer. If the buyer intends to change the franchise, then the
seller
needs to take into account the termination fees that the franchisor
will charge
for termination of the franchise, and the seller may want to increase
the
purchase price or negotiate terms with the buyer that reflect the
seller's
payment of any franchise termination fees. The parties' respective
obligations
to effectuate the transition should also be spelled out. The hotel purchase agreement
must allow
enough time to complete the new franchise approval and execution as
part of the
transaction process. Hotel franchisors have an application
process, which requires
detailed background and financial information from the prospective
hotel buyer
before they will accept the buyer as a new franchisee. The seller will
want to
find out how long the franchisor will take to review the buyer's
franchise
application. The buyer needs to be prepared to file a franchise
application and
submit the necessary background and financial information to the
franchisor as
early as possible. A franchisor can take several weeks to review a
franchise
application from a new franchisor. Less time may be required for a
buyer who
already operates other hotels under the same franchise, but the buyer
will
generally still need to submit a new application and obtain franchisor
approval. The franchisor may also require the buyer
to commit to
upgrades of the hotel as a condition of approval (more about that
below). The
buyer will want to review the franchise agreement presented by the
franchisor,
and perhaps negotiate a few modifications. The seller and buyer need to
provide
time in the transaction process for the buyer to go through the
approval and
negotiation process with the franchisor before the closing. Once the
buyer and
the franchisor have agreed to the terms of the new franchise agreement,
it may
take additional time for the buyer to receive the signed franchise
agreement
from the franchisor. It is prudent for both the seller and buyer to
wait until
after the buyer has a signed (new) franchise agreement before closing
the sale
of the hotel. For the buyer: How
to deal with "PIP" requirements of the franchisor. Almost every hotel franchisor will require
a new
franchisee to undertake a property improvement program or "PIP" as a
condition of receiving a new franchise agreement. If the hotel has not
been
upgraded for several years, which many hotels have not since the
economic
downturn began in 2008, the franchisor may require the buyer to make a
substantial investment in property upgrades. If, on the other hand, the
seller
has recently made upgrades, the buyer may be able to reduce the
required improvements,
and/or to negotiate a longer time period after closing for the buyer to
complete property improvements. The buyer will want to start the
discussion process with
the franchisor early in the purchase transaction, so that the buyer can
determine the costs of the improvements being requested by the
franchisor, and
be prepared to discuss a timeline with the franchisor to manage the
costs and
operating disruptions that will be required for the upgrade.
Inexperienced
buyers will want to engage knowledgeable consultants to help review and
evaluate the franchisor's requested improvements, and suggest "value
engineering" modifications to the franchisor's property improvement
plan
to reduce the buyer's cost. For the buyer: How
to negotiate with the franchisor for better terms in the franchise
agreement.
For the seller: How
to deal with liquidated damages. Most hotel franchise agreements require an
owner/seller to
pay a termination fee or liquidated damages on termination of a
franchise.
Often this amount will be a multiple of the average annual franchise
fee earned
by the franchisor over the prior years. The franchisor may also charge
the
seller other fees, such as charges for the hotel signs that the
franchisor
leases to the seller for a fixed term. The seller will want to ask for
a waiver
of all liquidated damages, which the franchisor will often grant, as
long as
the buyer enters into a satisfactory new franchise agreement with the
franchisor. The seller should not allow a buyer to close on the hotel
purchase
before the seller has obtained a waiver from the franchisor and the
buyer has
obtained a new franchise agreement from the franchisor. Unless there is a specific condition in
the contract, even
if the buyer is obligated by the purchase agreement to execute a
franchise
agreement after the closing (and does so), the franchisor has no
obligation to
waive termination fees. And of course, if the buyer does not enter into
a
franchise agreement after the closing, the franchisor can demand that
the
seller pay all of the termination fees and charges. Often times, such
termination fees and related charges are secured by the personal
guaranty of
the owner/seller, which means that the franchisor can sue the owners
directly
for these amounts. Therefore, it is critical to the seller to obtain
the waiver
of termination charges by the franchisor before the closing. For the buyer: How
to coordinate a de-branding if the hotel is changing flags. If the buyer intends to change the hotel
flag, the process
of removing the old name and replacing it with the new name will
require
coordination and timing. This is typically done by the buyer
immediately
following the closing, in accordance with a pre-arranged schedule. The
buyer
will want to coordinate with the franchisor, because hotel brand signs
are
often leased, rather than owned, by the seller. In addition, all items
with the
old hotel brand name and logo will need to be removed from the hotel
and
replaced. In addition, a change of hotel brand will
likely also mean
a change of reservation systems. This may necessitate replacement of
existing
technology at the hotel to accommodate the new reservation system and
training
of personnel who are not familiar with the new system. The buyer will
want to
be in a position to immediately turn on the new reservation system when
the old
one is turned off, to avoid a disruption in bookings. If the hotel does
a
significant amount of group business, the buyer will want to discuss
existing
group bookings with the franchisor, and if possible obtain a commitment
from
the franchisor to leave the existing group bookings in place without
soliciting
the groups to move to another hotel within the franchisor's system. At the same time, buyers should be aware
that franchisors
often steer bookings away from properties when those properties change
brands.
Thus, the buyer needs to start marketing the property a soon as
possible to
avoid unreasonably low occupancy when the hotel opens under new
ownership and
brand. For the buyer:
Obtaining approval of the independent hotel manager and the right to
change
hotel managers in the future. The hotel buyer will often bring in an
independent hotel
management company to manage the hotel under a hotel brand franchise
agreement.
Since the hotel franchise agreement will include a provision that
requires the
franchisor's approval of any third party manager of the hotel, the
hotel buyer
will need to confirm early in the transaction that the franchisor will
approve
the buyer's choice of hotel manager. For future flexibility, it is also
wise to
negotiate for the ability to change hotel managers without the
franchisor
unreasonably withholding its consent. _____________________ Catherine Holmes is
a transaction and finance partner with JMBM's Global Hospitality
Group® and
Chinese Investment Group™ and specializes in resort and hotel purchase
and sale
transactions, resort and urban mixed-use financing and development
including
EB-5 financing and public and private securities offerings, hotel
management
and franchise agreements, and hospitality asset workouts. Contact
Catherine at
310.201.3553 [email protected]. HOW TO BUY A HOTEL -- Free
handbook Until the free handbook on HOW TO BUY A
HOTEL is published
(expected in Summer 2014), you can access all the materials on this
subject
at www.HotelLawyer.com.
Look on the right hand side of the home page and
click on "Buying & Selling a Hotel." Jim Butler is a founding partner of JMBM, and Chairman of its Global Hospitality Group® and Chinese Investment Group™. Jim is one of the top hospitality attorneys in the world. GOOGLE "hotel lawyer" and you will see why. Jim and his team are more than "just" great hotel lawyers. They are also hospitality consultants and business advisors. They are deal makers. They can help find the right operator or capital provider. They know who to call and how to reach them. |
Contact: [email protected] 310.201.3526 |