By Morris Lasky, CEO of Lodging Unlimited
In order for an attorney to be effective in an industry, he or she first should have working knowledge of the industry. After 50 years in the hotel industry, I feel comfortable in doing an overall review of the hospitality industry that I believe would be very helpful to attorneys.
The purchase of a hotel
Let’s start out with a basic understanding that a hotel is not real estate; it is a business housed in real estate. The reason this is important is that the valuing of a hotel is not the appraisal of real estate with the valuing of the business results in order to come to a true value of a hotel. So in order to value a hotel, a potential buyer must look at past operating statements and particularly the profit from the past performances. In order to determine the value of the project, the potential buyer needs to capitalize the profit. Capitalization is a number that is used as a multiplier of the bottom line to determine the projected value of the project. This capitalization rate is a variable (and I think very subjective) and can run anywhere from 8-14%. The variation is determined by the type, brand, location, condition and a variety of other factors that relates to the specific project.
Of course there are variations on the samesuch as, the construction of a new hotel. The valuing of a new project has to do with feasibility studies by outside professionals. Once the feasibility study is completed, then the projected value would be based on the profitability and capitalization, as described in the previous paragraph.
Branding
Probably one of the most misunderstood issues in the hospitality industry is branding. You should first understand that the only reason that you would brand a hotel is that the new brand name and/or franchise will produce better operating results than an independent hotel. Research (usually done by professionals) should help determine the correct brand for the property. There are so many brands available that this can be a Herculean task. Many times I have seen a brand selected by inexperienced operators simply because they like the name.
The feasibility study should first be conducted to determine not only if the project makes any sense at all, but also to indicate the type of hotel, budget through luxury. Once this is determined, then the search for the correct franchise should begin.
The Franchise
It is important to know that every franchise does not work in every location. This is done by analyzing each brand that you are considering and specifically reviewing their denial rates. That is, how many rooms in a given period that franchise has actually turned down in that particular marketplace.
The franchise agreement is a special document that is clearly and initially in the favor of the franchisor. There are many things in the agreement that, through good lawyering and business analysis, can be changed in the average franchise agreement. A few of the things to consider are as follows: royalty fees, territorial exclusivity, marketing fees, rights of first refusal, physical requirements of the property, etc. These are very specific documents that require a great deal of review and negotiation. An expert should be consulted.
Management
If the owner is inexperienced (even for a small hotel), he or she should consider professional management. Again, like with the franchise agreement, the management agreement needs to be reviewed in-depth and negotiated. Items to consider regarding the management agreement include: experience of the potential manager with the type of hotel, the location of the hotel and their past experiences in dealing with the subject property type. An expert review of a management agreement should consider: the length of the contract, the fees for the services, what services are included (supervision, accounting, marketing, reporting, length of the contract, termination provisions, etc.).
By the way, building a hotel includes the factors from above but also introduces many more problems including: location, location, location. I can only say that this activity at any level is not for the amateur. Lodging Unlimited has managed over 300 hotels. Most of the properties we have managed were built by amateurs. Proof of this is that our average turnaround time for management is 17 months. The conclusion of course is that if we could turn them around in 17 months, then they should never have gone under in the first place. The difference is experienced management.