Protect your mixed-use asset by creating and maintaining standards - Investment Law Blog

This article was originally published in Hotel Business magazine, November 7, 2010

Mixed-use hotel projects offer benefits to hotel owners around the world. Steven Pan, chairman of Regent Global Holdings—the owner of the Regent hotel brand, was recently interviewed in the Wall Street Journal—and talked about the value added to the Grand Formosa Regent Hotel in Taipei by its luxury retail shopping mall and branded residential apartments.

Confirming his experience, some studies have shown that hotels adjacent to retail shopping achieve a RevPAR premium of 30% to 40%. The newest resorts in Hawaii, including the Trump International Hotel & Tower, Waikiki Beach Walk, feature condominium suites and residences. The benefits of offering hotel branded residences are borne out by some studies showing that they can achieve a 25% to 35% premium on sale price per square foot over unbranded residences. The synergies of hotels with retail and residential uses are likely to result in more mixed-use hotel projects in the future in Asia, the Caribbean and the Americas.

All of the areas of a mixed-use hotel project reflect on the quality of the hotel and the brand. As the saying goes, “You’re only as good as the company you keep.” A luxury hotel surrounded with discount stores will inevitably tarnish the image of the hotel and its brand name. Or, imagine a resort hotel with a dozen or more housekeeping vendors arriving in cut-off shorts and T-shirts at any hour of the day or night at the hotel to clean the units—this is exactly what did happen in some of the early condominium hotels in Florida.

How can the hotel owner or brand maintain quality control if units in a mixed-use project are sold or leased to multiple owners and lessees? As long as there is a single owner of a mixed-use hotel project, the owner and the operator can decide between themselves what the hotel quality standards will require for the entire project. Complications arise when, as is typical, the hotel owner sells individual hotel, residential or commercial units to multiple purchasers. The hotel owner and operator will need to build in controls on unit owners that will last throughout the life of the project, and will be binding not only on the original purchasers, but on subsequent purchasers as well.

Here are some of the ways that hotel owners and operators can protect the quality standards in a mixed-use hotel project with multiple owners.

Commercial Units

Establish controls on the types of retailers and restaurants—the project documents should specifically prohibit those types of businesses that would not be consistent with the brand image, which may include such businesses as discount stores, second-hand stores and liquor stores. It may also include a requirement that the businesses will conform to the image of the brand, giving the hotel operator the right to decide on a case-by-case basis. Since studies show shopping is an important activity for travelers (including one reporting that 32% of U.S. domestic leisure travel activities were spent on shopping, and 81% of all U.S. domestic travel is for leisure purposes), the hotel operator should consider the types of retail establishments at a mixed-use project an important part of the guest experience.

Establish rules for maintenance services. The hotel operator should set rules for third-party maintenance service providers, including requirements for uniforms, hours of service, background checks of personnel, insurance and bonding.

The hotel operator should also establish requirements for maintenance that affect other parts of the project. For example, fumigation requirements, signage restrictions, storage restrictions and noise restrictions should all be covered up front. Many of these are typical in condominium regulations, but in a hotel project, the operator may want to go a step farther and allow the hotel to adopt modifications to the regulations as necessary to address problems as they arise, without the need for action by the board of directors or owners.

Require hotel operator approval of leases of commercial units, and give the operator the right to enforce the terms.

Also establish penalties that the hotel operator can enforce quickly at little or no cost. The operator needs to be able to act quickly and inexpensively if a unit violates the quality control regulations. Consider whether local law allows the operator to deny use of common areas, turn off utilities and take other actions to restrict access or use of the unit, in addition to monetary penalties, which can be costly and take too much time to enforce.

Residential Units

In addition to all of the suggestions mentioned above for commercial units, residential units should be subject to their own set of terms.

Don’t allow short-term rentals of residential units unless they meet the same FF&E and maintenance standards as the hotel units—anyone who rents a unit in the project will expect the quality to be consistent with the quality standards of the entire hotel. If a residential owner does not want to meet those standards, they should not rent their units to transient guests. In the early days of condominium hotels, when there were no requirements on unit owners to maintain brand standards in their individual units, operators would sometimes give an unsuspecting guest an “unwelcome letter,” advising them that they had just rented a unit from someone in the hotel whose unit did not meet the hotel’s standards. This of course did nothing to improve the image of the hotel in the eyes of the unhappy guest.

Hotel Units

Hotel units are intended to be rented, and for all projects where U.S. investors or the U.S. securities laws apply, hotel unit owners cannot be restricted from renting through any rental service they choose. However, this does not mean that these owners should not be required to maintain their units in a manner consistent with the hotel brand standards. To accomplish this, all hotel units should be required to receive hotel services—even if a unit is not included in the operator’s rental program, all hotel rental units should be required to look the same as other hotel units, with the same FF&E and OS&E, and receive the same cleaning and maintenance services. The best way to enforce these requirements is to require every hotel unit owner to enter into a hotel unit maintenance agreement. A key feature of the unit maintenance agreement is the requirement that all guests pay for rental of the hotel unit at the front desk, and that the front desk is authorized to deduct the cost of the unit maintenance from the rental revenues remitted to the unit owner.

Catherine DeBono Holmes is the chair of JMBM’s Investment Capital Law Group, and has practiced law at JMBM for over 30 years. She specializes in EB-5 immigrant investment offerings and hotel and real estate transactions made by Chinese investors in the U.S. Within the Investment Capital Law Group, Cathy focuses on business formations for entrepreneurs, private securities offerings, structuring and offering of private investment funds, and business and regulatory matters for investment bankers, investment advisers, securities broker-dealers and real estate/mortgage brokers. Contact Cathy at CHolmes@jmbm.com or 310.201.3553.