Why Force Majeure clauses in the hospitality industry need an update
Marina Pytlak and Joby Beretta talks about how hoteliers could prepare for the unforeseeable
COVID-19 continues to dominate the hospitality industry, with almost all worldwide tourism markets registering dramatic declines in performance.
Marriott International’s preliminary results show a year-on-year global RevPAR decline expected to reach 60% for March 2020 and 23% for Q1 2020. This is in line with Hilton’s preliminary results which show declines of 58% and 24% for the same periods. IHG and Accor are yet to publish their Q1 2020 results but we expect them to follow a similar trend.
With the impact of COVID-19 on the tourism industry expected to dwarf that of the 2008 financial crisis, the leading hotel operators were quick to react. As early as mid-March, seeing their hotels impacted across the world as travel restrictions were put in place and tourism markets started closing down, they initiated substantial proactive measures to curb costs at their global and regional offices, mainly through executive salary cuts and staff furloughs. As it became clear that the impact of COVID-19 would be long-lasting for the industry, they launched initiatives to support their partners, in particular hotel owners, such as delays in 2020 CAPEX and brand standard audits, reduction in corporate charges to hotels due to the suspension of system-wide programmes, etc.
The current crisis seems to have aligned both the owners’ and the operators’ interests towards one common goal: the long-term survival of the business.
What do the hotel management agreements say?
As many hotel owners and their representatives around the world, as soon as we realised that COVID-19 would have a deeper impact than just a temporary drop in demand, we reviewed our hotel management agreements (HMAs) to ensure a clear understanding of our contractual obligations during this crisis.
Almost all HMAs include a Force Majeure clause, designed to clarify that neither party will be liable for a long list of events which are beyond its control. Depending on the contract, the consequences of the Force Majeure clause may include: allowing the parties to temporarily stop performing their contractual obligations, giving the parties the right to terminate the agreement, putting on hold the operator’s Performance Test clause, etc. While all our HMAs addressed the special case of Force Majeure, the wording around the event and its consequences is often general and almost always fails to address the specific impacts it may have on the payment of management fees, the temporary reduction in staffing, the FF&E reserve fund usage, etc. As shown above, in the midst of a global crisis, operators were quick to respond by going beyond their contractual obligations; but what happens in the case of a localised Force Majeure impacting only a handful of properties, therefore limiting goodwill from operators? Is there a way to improve how our HMAs to better deal with Force Majeure events in the future? We asked a leading UAE hotel lawyer, Joby Beretta, for his view.
Improving the Force Majeure clause
Force Majeure is a French term which literally translated means “greater force” and essentially means something outside of the control of the parties. However, the actual legal definition and legal effect of force majeure varies depending on the country and even the free zones (e.g. the common law approaches taken in ADGM/DIFC vs. civil law onshore). The best way of improving the clauses will therefore depend on the specific circumstances of the project.
The definition of “Force Majeure” is already drafted very widely in most HMAs to cover a long list of examples (such as terrorism, war, fire, flood, acts of God, etc.). This list could be extended to expressly include ‘outbreak of disease’, ‘pandemics’, ‘governmental regulation or restriction’ or similar to provide certainty.
Due to the inherent unknown/unforeseeable nature of Force Majeure events, it is not possible at the time of signing a contract to know exactly what the Force Majeure event will be, how long it will last or what level of impact it will have on a particular hotel. It could range, for example, from a small fire in the kitchen to an event similar to, or even worse, than COVID. Rather than try and predict the impact of the Force Majeure event and attempt to incorporate every eventuality into the drafting, we would suggest that the Force Majeure clause itself remains generic in this respect.
One approach could however be to introduce a concept that the parties will ‘equitably adjust’ the HMA to take into effect the impact of the Force Majeure event. We have, for example, seen this concept introduced into the performance test whereby the performance test will still apply if there has been an event of Force Majeure but the test should be ‘equitably adjusted’ to cater for the actual impact. If this ‘equitable adjustment’ can’t be agreed between the parties, it goes to the expert for determination. This equitable adjustment approach could be extended to other aspects of the HMA such as the operator’s fees, use of FF&E etc. but that would be a rather novel approach.
Alternatively, owners could look to try and include a new clause dealing specifically with the temporary closure of the hotel due to health and safety/regulatory reasons, similar to the approach already taken in the HMAs in relation to other ‘foreseeable’ events such as Government take-over or damage to the hotel. This clause could set out what both parties will do during this time to mitigate losses and work together to reduce costs and include considerations such as (i) impact on fees (ii) impact on the budget (iii) keep open obligations (iv) general obligations of the parties (v) joint decisions on major items such as furloughing or terminating staff (vi) postponing refurbishment or CAPEX projects (vii) termination of the HMA if the restriction lasts a certain amount of time and (viii) any effects on any funding / non-disturbance agreements in place with banks.
These rather innovative approaches may, however, slow down the HMA negotiation process, especially the first time it is introduced, so may need some industry-wide collaboration, similar to our previous suggestion of a FIDIC type HMA. Regardless of the approach taken, we would recommend that the parties carefully consider the Force Majeure provisions rather than skimming over them as just another boilerplate clause.
Marina Pytlak is Stirling Hospitality Advisor director of asset management, international. Pytlak is responsible for Stirling’s asset management services outside of the Northern Emirates and Oman.
Joby Beretta is the founder and director of The Bench FZE. He advises hotel owners, investors and operators on a range of hospitality projects around the world. He has negotiated hotel management agreements for some of the most iconic hotels in the region such as Jumeirah Beach Hotel and the Burj Al Arab and mixed-use hotel projects such as The Address Jumeirah Resort + Spa.