Cornell Roundtable Highlights Contrasting Perspectives on Management Contracts

Contact:  Jennifer Macera, 607.255.3101, js372@cornell.edu

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Cornell Roundtable Highlights Contrasting Perspectives on Management Contracts

Performance Challenges Trigger Owner, Manager, and Lender Issues

Ithaca, NY, June 1, 2009 – Representatives of hotel owners, managers, and lenders focused on the provisions in management contracts that often cause friction between the parties. The discussions came during the 2009 Management Contracts Roundtable, held in May and presented by Cornell's Center for Hospitality Research at the School of Hotel Administration. "We looked at contract provisions from three perspectives, that of the owner, the management company, and the lender," said roundtable organizer Jan A. deRoos, the HVS International Professor of Finance and Real Estate at Cornell. "In the course of the discussion, we examined provisions for agency, non-disturbance, and delinquency, among others."  

Contract provisions that make the management firm an agent for the owner were originally intended to protect the manager from owner liabilities, noted Richard Warnick, of Warnick + Company, LLC. However, court cases have turned the agency relationship against managers. For one thing, common law gives a principal the power—though not necessarily the right—to terminate an agent at any time unless it is an agency coupled with an interest. The owner may have to pay damages if the termination was unlawful—but it can still remove the manager. Most importantly, agency comes with fiduciary duties to the principal. "Owners have been able to use breaches of that fiduciary duty as a way to terminate management contracts for cause," he observed. "To avoid the potential 'traps' of agency, some managers say they are not an agent and specify Maryland law in their contracts because in that state common law is superseded by the will of the parties in a contract."

An examination of non-disturbance language provoked considerable debate, with regard to how owners can influence the management companies. Two areas of particular interest were budget approval and selection of key employees, particularly the general manager. Owners believe they should have input in the budget, while managers state that performance guarantees should make budget approval unnecessary. Kate Henriksen, senior vice president, RLJ Development, LLC, suggested that owners should "set budget goals challenging enough to motivate but not unreachably high, which destroys motivation."

Both operators and owners could see value in giving the owner input in selecting the GM and other top officers. For instance, Scott Woroch, executive vice president of development for Four Seasons Hotels and Resorts, said that "operators should be fine with granting hotel owners approval rights over selection of key personnel because it makes the owner a part of the process, and effectively reduces the likelihood that the owner will demand that an individual be replaced later on." Taking that point one step further, Robert Hazard III of Hersha Hospitality Trust feels that it is important for the owner to have some control over the decision to replace a general manager, and not simply the choice of general manager. "As an owner, we are unhappy when a good general manager is recruited by the management company for another hotel," he said. "Not only does it disrupt the operation, but replacing a GM can be very expensive. We want the ability in our contracts to limit that behavior."

Since many management contracts require the hotel owner to make a separate agreement which provides that the lender will abide by the terms of the management agreement in the event of a default, some lenders want to create separate management contract provisions. In some cases, these subordination and nondisturbance agreements (SNDA) can create tangles for the owner, manager, and lender, said Scott Woroch: "Managers may be resistant to having effectively two contracts—one with the hotel owner and a different one with the hotel lender." Participants observed that lenders have widely varying levels of knowledge about hotels, and some lenders have included provisions in the SNDA that give the manager sweeping powers to survive a delinquency. In that regard, Robert Karin of Davis & Gilbert LLP suggested: "The next generation of SNDAs will surely be different; the question is whether they will be less or more complicated."

Meet and interact with Dr. deRoos, an active member of the executive education faculty at the School of Hotel Administration, when he presents sessions in "Advanced Hotel Real Estate" for the Professional Development Program: http://www.hotelschool.cornell.edu/industry/executive/pdp/.

About Center for Hospitality Research Roundtables:

Center roundtables are a meeting place for invited senior-level hospitality industry executives and Cornell faculty members. Each roundtable lasts one day and is divided into four or five sessions. Sessions begin with a short research presentation (by a Cornell faculty member, faculty from another institution, or an industry leader) that lasts five to ten minutes. Immediately following, one or two industry discussants either support or contest the researcher's hypothesis or conclusion. The conversation is then opened up to the entire roundtable for discussion. For more information on roundtables, please visit: http://www.hotelschool.cornell.edu/research/chr/events/roundtables/.

About The Center for Hospitality Research
A unit of the Cornell School of Hotel Administration, The Center for Hospitality Research (CHR) sponsors research designed to improve practices in the hospitality industry. Under the lead of the center's 77 corporate affiliates, experienced scholars work closely with business executives to discover new insights into strategic, managerial and operating practices. The center also publishes the award-winning hospitality journal, the Cornell Hospitality Quarterly. To learn more about the center and its projects, visit www.chr.cornell.edu.

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