Buying and selling hotels: Hotel purchase agreement essentials, key labor and employment issues

Thank you to my partner, Marta Fernandez, a Labor & Employment lawyer at JMBM, who is my co-author for this article. In the article, we will share some of our hotel-specific insights concerning the key labor and employment issues that the seller and buyer should address as part of their negotiation of the hotel purchase and sale agreement. We will also discuss some of the important decisions that the hotel buyer must make with regard to hotel employees. In addition, we will highlight some of the special issues that will apply to any sale of a hotel that has a unionized workforce in place at the time of the transaction.

The first thing you need to know: Who Is the “employer”?

Is the hotel owner or hotel operator the “employer” of the workers at the hotel. Where the hotel is managed by anyone other than the owner, the answer will usually be in the hotel management agreement. If the seller is the employer, then the employment issues can be worked out between the seller and the purchaser in the purchase agreement. If the hotel operator is the employer, the buyer will also need to work with the operator on employment termination and transfer matters.

Because of the WARN Act notification requirements (discussed further below), the seller and buyer will want to make sure that these issues are decided more than 60 days prior to the intended effective date of the transaction.

A key decision for the buyer: Who should be the employer after the closing?

Outside the U.S., the hotel owner is usually the employer of all hotel workers. However, in the U.S., the hotel operator is probably most frequently designated as the employer. Some hotel owners believe that it is always better to have the hotel operator be the employer of the hotel employees, because the operator has labor experts necessary to handle employment matters and the owner does not. Some owners also believe that if the hotel operator is the employer, then the owner will not be liable for wage and hour claims, harassment, discrimination and other labor law violations at the hotel.

It is often a surprise to the owner to find out that these assumptions may be wrong. Under many state laws, if the hotel operator violates labor laws, courts have ruled that a business owner may be a “joint employer” with a third party operator of the business, and that both the owner and the operator are jointly and severally responsible for employment claims, regardless of who is the actual employer. Even if joint employer liability does not apply under applicable state law, virtually all hotel management agreements provide that the hotel owner will be 100% responsible for all employment wages, benefits, costs and liabilities, including claims brought against the hotel operator by the employees. There are usually limited exceptions to the owner’s indemnification obligations where the operator has committed gross negligence, willful misconduct or other specified acts. As a result, however, even if the hotel owner is not formally named as the employer, the owner will have virtually the same liability as if it were the employer of the hotel employees.

There are also disadvantages to the owner of having the hotel operator be the employer. In such cases, the owner will have more restrictions on what it can do with employees on termination of the operator, or transfer of the hotel. For example, we have seen hotel operators who are in the process of terminating their relationship with a hotel stampede the employees into finding new jobs prior to a sale. The operator tells employees that the operator is leaving, everyone will lose their jobs, and they better find new jobs quickly. WARN Act notices can easily be misunderstood by employees unless the owner can explain that the termination by the operator is rather “technical,” and all employees will be interviewed for their old position with the expectation that virtually all of the workforce will be rehired.

Unfortunately, the owner is not legally permitted to interfere with the hotel operator’s employees during the employment period, and therefore could be subject to claims against it by the hotel operator. And in the meantime employees may either find new work or the operator may lure the employees to other hotels in its system before the owner is free to approach them. All of this can be more easily avoided if the owner is the employer of the hotel employees, without the owner assuming any greater liability than it would with the hotel operator as the employer. Therefore, it is important for the buyer to consider this issue as part of the hotel acquisition process.

How to deal with collective bargaining agreement successor liability.

Unionized hotels present special problems and risks for hotel buyers that can be avoided by knowing what to look for and addressing the issues as part of the hotel acquisition process. Sometimes a collective bargaining agreement or “CBA” (the contract between an employer and a union) will provide that upon a sale of the hotel, the buyer must agree to assume the CBA. If the unionized employees are employed by the hotel operator, the buyer will assume the obligations under the union contract simply by assuming the hotel operating agreement.

In other circumstances, the CBA may not bind the current employer to ensure that subsequent hotel owners or employers are bound. But we have seen cases where hotel buyers unwittingly sign a purchase and sale agreement where they agree to assume all the “assets and liabilities of the hotel” upon closing. The buyer may have understood that it was taking on outstanding debt or most existing contractual obligations, but it may not have understood that it was also agreeing to be bound by a current CBA, even if it did not have to do so.

Studies have shown that operating a hotel under a union contract can increase the operating costs of the hotel by as much as 38%, primarily because of the expense of complying with union work rules. These work rules often restrict who can perform particular tasks, and limit flexibility on scheduling. For example, a restaurant hostess may not take food orders or bus dishes. Those tasks must be performed by exclusively by the servers and bus staff. And furthermore, although there may not be enough work to support a full time position of a restaurant hostess, work rules might require that position must have a minimum of 8 hours paid time a day. These types of restrictions can add significant labor expenses to the cost of running the hotel.

Hotel buyers also need to carefully examine any relevant CBAs for terms that might affect the buyer’s non-union properties elsewhere. For instance, some CBAs provide that anyone assuming or becoming bound by that CBA agrees to union card-check neutrality agreements at any of its other properties, thus facilitating the union organization of the other properties. These neutrality agreements may seem innocuous to some hotel owners, but in fact they mean that a hotel owner will not have the right to oppose union organization at the buyer’s other hotel properties.

Buyers also need to find out if there are multi-employer pension plans that apply to any union employees of the hotel, because if those plans are underfunded, the buyer may be assuming the liability for the amount of the underfunding. And this liability may become come due immediately on termination of the operator, the employees, or the closure of the hotel. We recently had a case where a buyer (acting without our advice) acquired a hotel and thereby assumed an unfunded pension liability of more than $5 million, that came due immediately if the owner significantly reduced the hotel staff, even for a temporary period during a hotel renovation. The buyer could have avoided that liability at the time it bought the hotel by addressing it as part of the hotel acquisition negotiations.

Practical ways to handle WARN Act and state law layoff notice requirements and avoid penalties.

When employees are being terminated as part of a hotel transaction, the seller and buyer should quickly determine whether the termination event will be covered by the federal WARN Act (Workers Adjustment, Retraining and Notification Act), or by any similar state or local laws. If the laws of the jurisdiction where the hotel is located provide a broader protection to employees than the federal WARN Act, then the state or local laws will also apply. Therefore, it is always necessary to check the laws of the state where the hotel is located to determine if those laws will apply, and what they will require.

Generally speaking, the WARN Act requirements will apply if the hotel has at least 100 or more full-time employees, and at least 50 employees will be terminated as a result of the transaction. If the WARN Act requirements do apply, then the seller is responsible for giving the required notice for layoffs occurring up to and including the date of closing, and the buyer is responsible for notice of layoffs occurring after the closing. If the buyer will rehire all employees, or at least enough employees so that less than 50 employees will lose their employment at the hotel following the effective date of the sale, then the WARN Act requirements will not apply, and no advance notice will need to be given to employees.

If the WARN Act or other similar local laws do apply, then the responsible party will have to provide at least 60 days advance notice of the termination to the appropriate state agency, local government, and representative of union employees and/or individual non-union employees. The form of notice has to meet the requirements of the WARN Act. If the party responsible fails to provide at least 60 days notice, the responsible party is liable to each employee for back pay and benefits over the period the employee was not notified, up to 60 days. If the local law requires a longer notice period, then the penalties could be up to the longer period provided by that local law. Sellers should keep in mind that the operating agreement they have with the hotel operator typically provides that the hotel owner is responsible for any WARN Act liabilities, so the seller will want to make sure that any required notices are given to avoid this liability.

In addition to WARN Act and local laws, there may also be plant closing provisions in CBAs, such as employment separation payments required on termination based on longevity. In one resort location, the average longevity for hotel employees exceeded 30 years, and the severance pay requirements would have been very significant. It is always best to discover these issues early in the process, so that buyers and sellers can resolve the issues in the negotiation of the hotel purchase and sale agreement.

Make sure to provide for the unpaid employee benefits.

A hotel buyer will want the hotel purchase agreement to provide that the seller shall be solely responsible for any unpaid employee salaries, wages, bonuses, profit sharing and other benefits. If possible, we like to see our buyer clients find out the amount of those obligations and require that the seller make those payments before (or at) the closing of the transaction. If the hotel operator is the employer and the buyer assumes the seller’s obligations under the hotel operating agreement, the hotel operator may hold the buyer responsible for those costs if the seller does not pay them.

Decide how to handle pre-closing discussions with hotel employees.

Aside from WARN Act and similar state law notice requirements, a hotel buyer and seller will want to coordinate the timing, content and party responsible for communications with hotel employees. Ideally, a hotel buyer would typically want to interview the executive staff, either with the intent of deciding whether to hire them after the closing, or just as a part of the buyer’s due diligence. The hotel purchase and sale agreement should include provisions that discuss the parties’ intentions with respect to these pre-closing discussions. As with a number of matters discussed above, the owner’s (and buyer’s) ability to communicate with hotel employees, access to employment files, compensation records and the like will typically be greater where the seller is designated as the employer of the hotel workers. In addition, by deciding in advance how communications will be handled, both the seller and the buyer can ensure a smooth closing and transition to new ownership, and benefit everyone involved in the transaction.

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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.