Summary: Franchising can be an attractive operating model for owners who possess the necessary experience or who can partner with an established third party operator. But there are several factors, both positive (such as increased control over hotel operations) and negative (such as potentially higher fees) which an owner must consider when making this decision.
Two of the operating models available to hotel owners include:
- appointing an operator under a hotel management agreement (“HMA”) to take over day to day operation of the hotel on their behalf and gain access to the operator’s branding and centralised services; or
- leasing the hotel to an operator to operate under their brand.
Which option the owner chooses will depend on a number of factors, including the owner’s appetite for performance risk and the level of control the owner wishes to retain over the business.
Where the owner grants a lease to an operator, they effectively give up control of the business in return for a “guaranteed” fixed (or variable e.g. turnover based) rental stream.
Where they contract with an operator under an HMA, depending on how well (or how poorly!) this is negotiated, the owner can retain some control over the business.
But there is a third operating model available to an owner, which allows them more control than they would typically have under an HMA: a franchise agreement.
The franchise model provides the owner with access to the franchisor’s brand, operational “system” and – most importantly – online distribution channels. In the meantime the owner retains operational control over the hotel, either themselves or through a third party operator. The franchisor will also provide various advisory services some of which will mandatory and others optional. They will also exercise a degree of quality control over the operations to ensure conformity with other businesses operating under the franchise in order to preserve the reputational value of the brand. In return, the franchisor receives various fees from the owner, usually including a one off franchise application fee, as well as continuing fees based on a percentage of the hotel’s room (and sometimes non-room) revenues.
Why choose franchising?
Why would an owner consider the franchise model rather than an HMA or lease to operate their hotel? If an owner wants to retain a higher degree of control over the business, then a franchise agreement is a good option, as the owner operates the hotel but using the franchisor’s system to facilitate operations. A franchise will also give the owner access to the franchisor’s brand and business infrastructure (including sales and marketing, distribution, procurement etc.), which the owner of an unbranded hotel would not have access to.
Fees for a franchise where the owner operates the hotel generally will be less than under an HMA. However, where the owner engages a third party operator to operate the hotel, the combined franchise fees and third party operator fees will typically be higher than under an HMA. That said, franchised hotels operated by an experienced third party operator (or owner) can potentially be run more effectively and cost-efficiently than by the branded operators. This can be attributable to the third party operator/owner being more familiar with the local market. Additionally there is the motivational factor that the third party operator/owner is primarily working for the owner’s interests, whereas the branded operator is (arguably) working for the brand’s interests. Hence, despite paying more in overall franchise fees and third party management fees, the end return to the owner can be higher.
Franchise agreements are also generally considered to be less negotiable than HMAs. This is true to some extent, but there are a few key points that a well advised owner can raise to which franchisors may be receptive. These include the level of fees, areas of protection, transfer of ownership rights and early termination rights, which can be more flexible than those found in an HMA (albeit for a price!).
Is franchising right for your hotel?
Setting aside the franchise model pros and cons, an owner will also need to consider whether a franchise is right for their hotel. One concern is that hotel franchisors tend to only franchise lower to mid-tier brands but not upper to luxury brands, so the owner will want to ensure they can match the right franchise to fit their hotel.
Owners need to be cognizant of factors that influence whether a franchisor will even consider granting them a franchise. Historically, franchisors have tended to prefer developed markets over emerging markets when considering whether to franchise their brands. And experienced hotel owners (with in-house experience operating hotels or in partnership with established third party operators) over “first time” owner/operators.
Franchising in Asia
Mindful of this, many hotel franchisors have, in the past, been reluctant to franchise their brands in Asia due to a perceived lack of experienced owner/operators or established third party operators. However, this is changing with the rapid development of the Asian hotel sector, and we are seeing increased demand from both franchisors and owners for new hotel franchises in this market.
Additionally, with the rapid pace of expansion and brand proliferation by branded operators, franchisors simply lack the local country expertise or capacity to adequately operate hotels in extremely new – and perceived risky – environments. They can find it more cost-effective for a third party to be the market trail blazer for their brands. We may expect to see this trend continue, as Asian owners become more sophisticated, and branded operators continue their race for volume and geographic growth.