20 June 2010
Hotel Lawyer with lessons from the past on why hotel lending is different and the things you should know.
Hotel lending is different from any other kind of real estate lending . . . because hotels are different from every other class of real estate. These differences are key to understanding why hotel lending is different than lending on any other class of real estate.
This is the second in a series of articles about the renewed interest in hotel lending:
Sometimes hotel lenders just need to say, “NO” (coming)
Why hotel lending is different. . . and some things you should know . . .
Lessons from the past
Jim Butler and Guy Maisnik
Hotel lending is different from any other kind of real estate lending . . . because hotels are different from every other class of real estate. They are a unique combination of single purpose real estate that is inextricably intertwined with a complex operating business. That operating business (running the hotel) usually accounts for up to 50%, or more, of the value of the hotels that are mid-scale or higher in market segment.
In the past 12 months, we have seen dozens of hotel loans that were badly documented – done like office buildings or other commercial real estate. As a result, they are badly fouled up!
Many of these loans were documented by the biggest international lenders and law firms in the country. The documentation would have been fine for any other class of real estate, but not for hotels. They simply ignored the unique challenges that a hotel presents to a lender, and which can be handled with appropriate documentation for this asset class based experience gained in all the down cycles since the 1980s. Compounding such legal and business learning disorders, these lenders and law firms continued to treat such hotels loans like other classes of real estate in executing upon their remedies.
What are the hotel-specific issues confronting lenders? More than half the value of many hotels is determined by the operating hotel business.
Employees and workforce issues. A hotel usually has a lot of employees to provide numerous services – to market the hotel’s rooms, prepare and cook the food, clean the rooms and carry luggage, provide banquet facilities, security, telecommunication services or IT needs, and a host of other such matters. Most branded properties operating at or above a first class hotel standard will have long-term management and franchise agreements with a huge impact on value and use of the property not unlike a long-term lease. Because of the potentially large number of employees (which could easily be up to 1 or 2 employees per room in a luxury hotel), the employment, union and benefit issues can be significant. To make matters more challenging and complex, in these difficult times, many cities or other governmental units are targeting hotels for additional bed taxes to solve government budgetary shortfalls.
Hotel management agreements. The hotel operating business also involves third party hotel operators or hotel management companies, brands. A long-term hotel management contract can easily add – or subtract – 25% or more of the nominal value of a hotel. Many industry experts believe it cost 35% more to run a given hotel property as a union operation, as opposed to non union. What impact does it have if the government suddenly takes another 2% or so off the top, and perhaps drives potential business to neighboring cities that are not so greedy and in fact may be predatory seeking to steal business from its neighbors?
Unique norms, customs, practices and players. On top of all this, the hotel industry has its own norms, customs, practices and players – a very small universe of people who actually know each other. The hotel brokers, hotel lawyers, hotel appraisers, hotel consultants and hotel lenders are a fairly distinct and well-known group who tend to specialize only in hotels. And the unique aspects of the hotel operating business tend to be reflected in some very unique written agreements that profoundly affect the value and marketability of the hotel. Many of these agreements are very long-term, such as management agreements that may run for 50-100 years, or franchise agreements which may “only” run for 20 years. But for lenders, one of the most important documents is the SNDA (subordination non-disturbance and attornment) agreement, which can greatly affect the lender’s collateral value and available options with a troubled asset.
Cash collateral. And how does the lender control the “cash collateral” if there is a problem? With an apartment house or an office building, it is fairly easy to figure out how to control the “rents” and how that control should be exercised. But the hotel is an operating business, and there are many sources of cash which are difficult to garner – both because many lenders lack the will to overpower brand operators who resist such attempts, and because negotiating control over these sources can be a difficult process (however worthwhile). In addition to having to wrestle control of hotel revenue from third parties, there can be pure legal challenges because different types of revenue can require different methods of obtaining and perfecting the lender’s security interest in them. In a competition among various creditors for such revenue, having proper control can mean all the difference between success and failure of a hotel lending program and a lender’s workout or exit strategy.
What does this all mean? Hotels are different from any other kind of real estate, and therefore hotel lending has to be treated differently as well. Most of these differences are created by the operating business inextricably intertwined with a single-purpose piece of real estate. And that operating business has unique norms, customs, practices and players. The documentation of a hotel loan should be very different from the documentation of any other commercial real estate, and the greatest lawyers on the planet for office building loan should not touch an important hotel loan using their standard building loan documents. If you don’t have a hotel specialist handling your matter, you are probably in serious trouble.
Guy Maisnik is a partner and senior member of JMBM’s Global Hospitality Group®. Guy advises clients on hotel transactions, representing lenders, opportunity funds, banks, special servicers, owners, REITs and developers in hotel transactions, including senior and mezzanine financing, workout and debt restructure, co-lender, participation and securitization arrangements, joint ventures, management agreements, buying, selling and ground leasing of hotels, complex mixed used resort development, fractional and timeshare. For troubled hotels, Guy develops and executes strategies for CMBS and whole loans, and REOs. He also assists investors with recapitalization of distressed borrowers and purchases of troubled assets. Guy has recently assisted 3 major lenders in completely revising and structuring hotel lending programs and documentation, including a hotel construction lending. Guy’s practice is both domestic and foreign, where he has advised on hotel matters all throughout the United States, Mexico, Canada, South America, Caribbean, Europe and Asia. He has been recognized in California Real Estate Journal’s Best Real Estate Lawyers, Los Angeles magazine’s Top Southern California Lawyers, as well as a Top Real Estate Lawyer in Real Estate Southern California magazine. For more information, please contact Guy Maisnik at 310.201.3588 or firstname.lastname@example.org.
This is Jim Butler, author of www.HotelLawBlog.com and hotel lawyer, signing off. We’ve done more than $60 billion of hotel transactions and have developed innovative solutions to unlock value from troubled hotel transactions. Who’s your hotel lawyer?
Our Perspective. We represent hotel lenders, owners and investors. We have helped our clients find business and legal solutions for more than $60 billion of hotel transactions, involving more than 1,000 properties all over the world. For more information, please contact Jim Butler at email@example.com or 310.201.3526.
Jim Butler is a founding partner of JMBM and Chairman of its Global Hospitality Group®. Jim is one of the top hospitality attorneys in the world. GOOGLE “hotel lawyer” and you will see why.
JMBM’s troubled asset team has handled more than 1,000 receiverships and many complex insolvency issues. But Jim and his team are more than “just” great hotel lawyers. They are also hospitality consultants and business advisors. For example, they have developed some unique proprietary approaches to unlock value in underwater hotels that can benefit lenders, borrowers and investors. (GOOGLE “JMBM SAVE program”.)
Whether it is a troubled investment or new transaction, JMBM’s Global Hospitality Group® creates legal and business solutions for hotel owners and lenders. They are deal makers. They can help find the right operator or capital provider. They know who to call and how to reach them.