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Inhospitable Hotel Management Contracts?

Hamstrung by long-term management agreements signed during better economic times, some hotel owners are mounting legal challenges to revise contract terms. Operators are under fire for accepting rebates from vendors and allocating costs for items like training or new computer systems to owners, who have grown weary of these practices.

Existing contracts, which can last for 20 years, are difficult to renegotiate without compelling reasons to do so, says Bruce Baltin, senior vice president of PKF Consulting in Los Angeles. He says lawsuits may provide a catalyst for negotiating more favorable terms.

A legal settlement between Marriott International and the owners of a Charleston, W.V., Marriott in July underscores the shifting tide in relationships between owners and operators. In 2002, In Town Hotels charged that Marriott, which managed the property, defrauded the owners by hiding rebates received from vendors, which many owners consider a conflict of interest. The alleged payments were made through Avendra, a purchasing company owned in part by Marriott. The suit also charged that Marriott wrongly allocated its own corporate overhead to the hotel.

To settle the case, Marriott, which manages 172 Marriott-branded hotels in the U.S., agreed to lend In Town $1 million to upgrade guestrooms at the hotel, pledged $2 million toward development of another project by In Town's parent company, Forest City Enterprises, and renegotiated portions of the management contract for the Charleston hotel. In Town also agreed to extend the contract an additional 10 years. Neither party revealed the new terms.

The In Town lawsuit is one of a handful of similar suits Marriott has faced in the last year. Owners also have leveled similar charges against Hilton and Hyatt.

Ultimately, the suits reflect owners' frustration over the continued slump in lodging demand, says William Crow, a lodging analyst with Raymond James & Associates. “We've gone from small groups of individuals or insurance companies that didn't understand the business,” Crow says, “to sophisticated owners and real estate investment trusts who understand the costs associated with running a hotel.”

These suits against hotel operators portend a compression of fees in future management contracts, Crow says. Typically, management companies charge 2% to 4% of gross revenues for their services.

Chastened by complaints about its business practices, Marriott has worked to smooth relations. In the last 18 months, the firm set up a Web site to disclose details of bills and has spelled out its relationship with Avendra, emphasizing that independent studies say it saves owners between 8% and 15% on goods and services.

Despite the benefits, property managers will need to be more circumspect about Avendra-style ties, says K.C. McDaniel, a partner with Katten Muchin Zavis Rosenman, the law firm representing In Town Hotels. “Most management companies agree to act as the owner's agent,” she says, “and when you give the agent your checkbook, the agent owes you a duty of absolute loyalty.”

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