Owners and operators reach era of enlightenment

Viability director Guy Wilkinson explains that hotel owners are becoming increasingly knowledgeable about their investment, and says operators would be wise to be aware of this

In this region, where property ownership was partially liberalised only a few years ago, most hotels are still owned by local nationals and — at the luxury level at least — managed by international or regional chains on behalf of companies. This is how their relationship works in a nutshell. Under the terms of a typical hotel management contract, the operator, being recognised as an expert in his field, is given the entire responsibility of running the hotel on the owner’s behalf.

Having agreed the terms for monitoring and as much as possible, setting measurable targets for the operator’s performance, the owner is expected to effectively sit back and watch as the operator spends whatever of the owner’s money is necessary to equip, staff and open the hotel, and then to manage it on a day to day basis. At monthly and annual junctures, the operator will render accounts to the owner for comment, as well as providing an annual budget for approval.

The money earned by the hotel is lodged in an account that operators usually insist is accessible only by them, who will then pay the hotel operating expenses including their own fees first, and then transfer any remaining profits to the owner on a regular basis.

The owner is expected to pay for everything, from start-up costs to working capital, including topping up the hotel bank account whenever necessary. By the same token, it is the owner’s right to keep all the profits from the hotel operations, less the equivalent of about 8 to 10% of gross revenues, which are payable to the operator by way of different kinds of fees. This division of the upside is considered a fair deal, as the owner takes all the investment risk and is therefore seen to deserve the majority of the reward.

However, the success of such an arrangement demands more than the simple signing of contracts; in reality, it depends a lot on faith and good communication. Most management contracts contain a so-called ‘non-interference’ clause which effectively binds the owner not to meddle in the day to day running of the hotel. Owners and their advisors (such as myself) find themselves particularly uncomfortable with these statements, and we try our level best to remove or at least tone them down.

We also like to balance them out with strongly-worded liability provisions, adding clauses that commit the operator to provide detailed management reports, and by introducing ‘performance tests’ that allow the operator to be penalised if he fails to achieve profitability. The penalties mean the operator must forego his incentive fees (from profits) for an agreed period following two years of underperformance, and if the situation is not remedied, the owner terminates the contract.

Operators will argue that it is not unreasonable for them to expect to be trusted to use their experience and systems ‘unaided’ by the owner, who it is equally reasonable to assume is not a hotelier and does not know how to run a hotel himself. This is where differences can emerge, and regular readers of this column will be familiar with my views on ‘know-it-all’ owners.

Nevertheless, the truth is that owners have become much more knowledgeable and professional over the past decade and it is increasingly dangerous for operators to assume that their owners are technically uninformed. The most sophisticated local owning companies are beginning to employ professional hotel asset managers, who go well beyond the traditional role of owner’s representatives by remaining up to the minute not only on all aspects of the operations, but of course principally, on the performance of the hotel as a real estate investment.

Thus, the wheel is coming full circle and such specialists are now facing the same kind of challenge as the hoteliers had before — of explaining and interpreting the technicalities of their business, so that hoteliers can see the bigger context. A hotel is ultimately a real estate asset, to be invested in, held for a set period and, at an appropriate time, disposed of. Thus operational decisions have a ‘bigger picture’ of which a hotelier may not be fully cognisant — but needs to become familiar with.