Initiating hotel management negotiations signals an exciting time for both hotel owners and operators. A successful deal can represent a boon for both parties, allowing a hotel owner to reposition its hotel under an established brand and providing a hotel operator with a platform from which to expand its portfolio. But what happens when the owner of an already-branded hotel begins to court new management? Does the potential hotel operator have a legal responsibility to refuse to discuss a potentially lucrative business deal?
In today’s competitive climate, hotel operators should be poised to seize the opportunities that come their way. However, inserting oneself into a pre-existing contractual relationship can lead to civil liability—in this case, in the form of a claim of tortious interference with contractual relations.
This article explores how hotel operators can successfully navigate hotel management negotiations with a hotel owner who is committed under a pre-existing agreement while managing risks.
A hotel operator who negotiates with a pre-committed hotel owner might be accused by the existing operator of “tortuously interfering with contractual relations.” The claim means that the prospective hotel operator knowingly intended to cause the hotel owner to breach its pre-existing contract with the current operator. Generally, the current hotel operator would have to prove the following:
A valid contractual relationship between the hotel owner and current hotel operator exists;
the prospective operator knew about the contractual relationship;
the prospective operator intended to convince or induce the hotel owner to breach the contract;
the contract was in fact breached; and
the current hotel operator suffered damage as a result.
The success of a tortious interference claim most likely would turn on the second and third elements. The current hotel operator would have to be able to prove knowledge of the existing contract and that the prospective operator had the requisite intent to induce the hotel owner to commit a breach. In most cases, a hotel insider would know that a pre-existing contractual relationship exists since hotel operators are, more often than not, well-known brand names. Thus, the parties would have to duke it out over the all-important intent element: Did the hotel operator intend to induce the hotel owner to breach its contract?
Of course, the outcome would vary on a case-by-case basis. By the time the parties have reached litigation, however, the prospective hotel operating company already might have lost thousands of dollars attempting to disentangle itself from what was supposed to be a lucrative business deal. In this case, a good defense might be an even better offense. If the prospective hotel operator successfully navigates the negotiations, the existing hotel operator will have no claim to assert.
The game plan
There are four main ways in which a prospective hotel operator can protect itself in this situation.
First, determine whether the hotel owner is currently committed to another hotel operator. If so, do your due diligence. How is the owner planning on terminating the existing contract? Confirm that the hotel owner has the legal right to terminate the contract. It might be that the current hotel operator has breached the contract by missing a performance benchmark, or the hotel owner has an option to terminate after a specified period of time. Whatever the case, the underlying contract should offer up a clear path to termination. To the extent possible (subject to confidentiality issues), review the underlying documents.
Second, ask that the hotel owner indemnify you for costs and liabilities associated with any claims you face in the negotiation of hotel agreements, including claims of tortious interference. The indemnity will serve two functions: First, it will give you financial peace of mind as you embark on negotiations; and second, it will ensure that the hotel owner has analyzed the potential for a contractual interference claim.
Third, ask for written representations from the hotel owner with respect to items of concern, including its ability to sign a new management agreement. In addition, an existing hotel management agreement might limit the hotel owner’s access to the property, making it difficult for the prospective hotel operator to conduct its due diligence without breaching the existing agreement. By obtaining a written representation from the hotel owner that the prospective hotel operator might legally visit the property, the prospective hotel operator has added assurance that it is not violating the terms of the pre-existing agreement.
Finally, do not sign a final, binding management agreement until you have requested and reviewed written confirmation that the existing management agreement has been terminated.
A prospective hotel operator should not rely on any one of the above solutions alone. Due diligence alone will not reimburse the hotel operator for the costs of litigation even if the hotel operator prevails. An indemnity without due diligence will still need to be invoked in the event of conflict and reimbursement for costs incurred might not compensate the hotel operator for the long-term effects of a tarnished reputation. A representation from an owner without an indemnity might put you back in court seeking breach of contract damages. The best strategy is to use all four of the approaches above to ensure the best possible protection.
Further, if the existing hotel operator is experiencing a bankruptcy, or if the hotel in question is being purchased in the context of a foreclosure, special considerations apply. In the case of a bankruptcy, in addition to examining the existing hotel management agreement, the prospective hotel operator should review the bankruptcy-related documents and determine how the complex bankruptcy procedures will affect the pre-existing agreement. In the case of a foreclosure, the hotel operator should confirm the foreclosure is being done in accordance with applicable law. For example, California provides for both judicial and non-judicial foreclosures. Are the particular procedural requirements being met?
The key is to enter into the new contractual arrangement in a manner that reduces future liability to the maximum extent possible. If any legal risk exists, it should be brought to light and weighed from a business perspective.
A prospective hotel management deal is an exciting opportunity to establish a lucrative business relationship and further a hotel operator’s brand recognition in the industry. The existence of a pre-existing hotel operator should not derail the transaction, provided that precautionary measures are taken to protect the hotel operator from an intentional interference claim. With a little legal forethought, the parties can rest easy and focus on the bottom line.
Holly Niadj is an associate in the San Francisco office of Goodwin Procter LLP. She represents clients in a variety of complex commercial real estate transactions, including the acquisition, disposition, financing and management of hotel, resort and branded residential assets. She may be reached for comment at: firstname.lastname@example.org.
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