Research Paper: Franchising of Hotels: Advantages

Pages: 10 (3130 words)  ·  Style: MLA  ·  Bibliography Sources: 20  ·  Level: College Junior  ·  Topic: Business  ·  Buy This Paper

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[. . .] Simultaneously, a management contract enables owners to keep ownership benefits in the form of cash flow, depreciation deductions, tax benefits, value enhancement, refinancing opportunities, and possession of the property after the contract expires.

(2) Immediate Name Recognition: the owner of the property receives national or regional identification achieved only through a second-tier management company if coupled with a franchise affiliation.

(3) Quality Management: Hotel lends and investors have recently become more aware of the industry and this has resulted in an emphasis on quality management. If the operator is a second-tier company, it generally must have a franchise affiliation in order to attract the necessary financing. While including a nationally known hotel company as part of the project team does not guarantee financing, it does show positive interest on the part of the operator that can favorably influence the investment decisions of the lender.

Disadvantages for the owner include the following stated disadvantages:

(1) Loss of Operational Control: a management contract results in the operator gaining total operational control of the property. If the property is not managed correctly, the owner will have great difficulty in removing the incompetent operator.

(2) Liability for All Ongoing Expenses: the hotel manager under a management contract is financially liable for all costs and expenses including fixed charges and debt service meaning that even though the manager's neglect or incompetence resulted in the financial loss, the owner is still responsible for funding the negative cash flow.

(3) Termination of Operator: it is difficult for owners to terminate management agreement early or without a sale.

(4) Sale of Property: It is more difficult to sell a property that is subject to an existing management contract.

(5) Cost of Management: The management cost can use a great portion of the cash the hotel generates. Quality hotel management is reported as expensive. The cost of management can absorb a substantial portion of the cash generated by a hotel. According to Rushmore (2002 "If the occupancy level is low, as in the case of a newly opened hotel, the total management fee could exceed the cash flow after debt service, meaning the owner would have to contribute additional capital to the venture. To assist owners during start-up periods and provide lenders with an additional debt service cushion, most hotel management companies will subordinate their incentive fee to debt service. This means that if the income before debt service is insufficient to cover the mortgage payment, the management company would either forgo or defer their incentive management fee."

(6) High Downside Risks

Owners of lodging facilities face downside risks that are due to the high amount of fixed costs associated with the operation of a hotel or motel. As occupancies drop, losses escalate rapidly because many of the fixed hotel expenses cannot be cut back. The use of property leases shifts this downside risk from the owner to the operator, but under a management contract, any negative cash flow is the responsibility of the owner.

(7) Operator May Favor Own Property

A conflict of interest always exists when a hotel company both owns and operates properties for its own account and operates hotels for nonrelated third parties. Because a hotel company generally receives a greater economic benefit from sending guests to its owned hotels rather than to properties it manages, the possibility for unfair practices is always present. Owners should be aware of this basic conflict and be sure that management agreements include provisions restricting possible abuse.

Interview I -- Mr. X

What are the advantages that you perceive from the franchise of a hotel as compared to an independent hotel?

The franchise hotels are more standardized in terms of their service provided and the experience of the customer when they visit the hotel.

2. Do you believe that the franchised hotels are more profitable than the independent hotels?

Most of the time, yes I believe that they are.

3. Why?

Because the franchises draw return customers who have not actually visited the destination of the hotel but are return customers because they have stayed at the franchise hotel in other locations and enjoyed their stay.

4. Are some independent hotels just as profitable as franchise hotels?

Yes, there are exceptions. It really depends on whether the service and the experience of the stay is memorable and positive enough to draw the customers to return to the hotel and quite honestly whether the customers refer their friends to the hotel.

5. Are there disadvantages that you have seen from a hotel being a franchise rather than an independent hotel?

Certainly, this occurs when the franchise hotel does not invest enough in the hotel to result in the hotel realizing success.

Interview 2 -- Mr. Y.

1. Is the franchise hotel, in your opinion, more successful overall in terms of realizing profits than independent hotels? If so, please explain why.

The franchise hotel has the benefit of the brand name and this results in more return customers generally than the independent hotel and therefore the realization of more profits.

2. What do you believe the benefits realized by the owners of a hotel that is franchise are when compared to owners of independent hotels?

There is more money invested in the franchise hotel generally because the larger franchise chains are more able to afford to make such investments?

3. What are the downsides to franchise of one's property?

The downside I have noticed in my career is that some franchise hotel chains fail to ensure that management is properly trained and this results in a great loss of potential profits for the owner and the franchise as well.

4. What would you recommend to anyone who is considering franchising their property in the hotel industry?

It is important to carefully review the contract agreement between the property owner and the hotel franchise to ensure that the franchise is investing in necessary structural and aesthetic aspects of the hotel but most importantly that its management will be properly trained for managing that specific hotel franchise business.

Findings of the Study

Findings of the study have been reviewed and arranged into the following tables, which list the advantages and disadvantages of a property owner franchising their hotel property.

Advantages

Disadvantages

owner retains title to the property creating residual value upon expiration of the lease no incentive for operator to maintain property in top condition near end of lease minimization of financial risk to the owner few residents on books for owner or new tenant due to diversion of business guaranteed rent hotel lease puts owner in passive position with little control over management of hotel owner has no operational responsibilities property owner does not reap financial rewards as would an owner who is an independent operator total control of the hotel difficulty in terminating leases profitable hotel creates leasehold value that can be mortgaged leasehold loses value after lease expires upside profit benefits owner who receives remainder after operating expenses and lease rental are paid hotel company bears expenses meaning the operator needs enough net worth to incur the expense acquisition of operational expertise stock of company adversely affected by leasehold immediate name recognition loss of operational control quality management liability for ongoing expenses difficult to terminate early or without sale difficult to sell property management cost is greater high downside risks conflict of interest on part of hotel franchise brand

Bibliography

1. Sealover, E. (2010) Independent hotels struggle against chains, reward programs. The Business Journal. Retrieved from: http://www.bizjournals.com/denver/stories/2010/07/05/story3.html?page=all

2. Wolff, C. (2009) Taking An Independent Approach. Hotel News Now. Retrieved from: http://www.hotelnewsnow.com/Articles.aspx/827/Taking-an-independent-approach

3. International Chains Hotel, Chains Hotel, or Independent? (2012) Hotel and Resort Management. Retrieved from: http://thehomeinteriordesign.com/international-chains-hotelnational-chains-hotel-independent/

4. Mayock, P. (2011) Independents Team Up With Brands., Feb. Retrieved from: http://www.inndevmgmt.com/pdfs/Independents_team_up_with_brands.pdf

5. Rushmore, S. (2002) Hotel Investments Handbook. Chapter 12: Franchise Agreements and Management (nd) Hotel Operations Management. Retrieved from: http://210.46.97.180/zonghe/book/176-HOTEL%20OPERATIONS%20Management/chpater12.htm

6. Advantages & Disadvantages of Owning a Franchise (2012) Business Mart. Retrieved from: http://franchises.businessmart.com/advantages-disadvantages-of-owning-a-franchise.php

7. Lorette, K. (nd) Owning and Operating a Franchise Hotel 101. Small Business. Retrieved from: http://smallbusiness.chron.com/owning-operating-franchise-hotel-101-4764.html

8. Wickford, H. (2010) Hotel Franchise Disadvantages. eHow Money. Retrieved from: http://www.ehow.com/facts_5561015_hotel-franchise-disadvantages.html

9. Adrian (2010) Advantages and Disadvantages of a Franchise. The Company Warehouse. Retrieved from: http://blog.thecompanywarehouse.co.uk/2010/10/04/advantages-and-disadvantages-of-a-franchise/

10. Elgin, J. (2007) Are Bigger Franchise Better? Entrepreneur. Retrieved from: http://www.entrepreneur.com/article/177774

11. Yu, Lawrence (2002) The International Hospitality Business: Management and Operations. Psychology Press. Retrieved from: http://books.google.com/books?id=vtvX0TiRag4C&dq=hotel+franchise:+advantages+and+disadvantages&source=gbs_navlinks_s

12. Xiao, Q.; O'Neill, J.W.; and Wang, H. (2008) International Hotel Development: A Study of Potential Franchisees in China. International Journal of Hospitality Management 27 (2008) 325-336. Science Direct. Retrieved from: http://www.personal.psu.edu/jwo3/China%20Franchising%20Article%20(3).pdf

13. Xiao, S., 2002. Ramada International: expanding with franchising. Retrieved from: / www.phoenixtv.com.cn/phoenixweekly/81/68hua.html

14. Walsh, J.P. (2004) Companies extend brands' development throughout the world. Hotel and Motel Management. Retrieved from: http://www.hotelmotel.com/hotelmotel/article / articleDetail.jsp?id=89550&searchString=international%20franchisingS.

15. Wang, Q., 2002. Development opportunities and strategies of the economy hotel segment. (2005) Retrieved… [END OF PREVIEW]

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