Now Is the Time to Renegotiate Franchise Terms Says Sharma

LEXINGTON, Ky.—Hotel and motel industry expert and attorney Mr. Onkar Sharma spoke with this journal last month in Lexington on how franchisees are now in a very strong position to renegotiate terms with their franchisors and lenders. Sharma states that terms for franchisees that seemed unfathomable just a few years ago are now being successfully negotiated.

Sharma is a founding partner of Maryland-based Sharma Law Group, a firm that represents hotel and motel owners across the country. With over thirty years hotel and motel franchisees, his firm focuses on negotiating franchise agreements with all major brands.

BMM: What would you suggest to hotel franchisees in regard to coping with the current economy?

Sharma: The hotel industry is facing unprecedented challenges because of the downturn in the economy. But once there is a challenge, there is an opportunity to convert those challenges into success stories.

For franchisees who face the challenge that the flag is not working, then the problem is that many franchise agreements stipulate that if you want out, there will be X amount paid to the franchisor in liquidated damages. This economy offers the hotel owner to get out of the flag and find another flag that will work. The first thing is to negotiate the termination of the existing franchise agreement.

2010 is the first time that franchisors have considered major modifications to the written agreement, where the liquidated damages are reduced to lower level than we have ever seen in the past thirty years.

BMM: So instead of 2,000 a room in liquidated damages, franchisees can bargain down to $1,000 a room?

Sharma: Or $850, or even $50 a room. It is all a question of what position you are. We had one situation in which hotel owners ended up applying for food stamps. We ended negotiating a franchise termination for zero liquidated damages.

Banks are much more willing to keep loans as a producing loan rather than an non-producing loan, which goes into a different category. So banks are much more willing to lower loan payments now, rather than have the franchisee default on payment.

Onkar Sharma, Esq.

There are streamline procedures to defer payment on SBA-backed loans.

In the hotel/motel industry, we will see in the next two to three years a 40% increase in foreclosures than what we have seen in the past. The loans that were done three years ago were mostly five or seven-year type loans. Now is the time to call those loans and face the music.

In some cases, the banks have gone bankruptcy and have been taken over by the FDIC. So here you are dealing with a third-party lender. In this environment, maybe the third party was bought. Franchisees do not even know that they are sending a monthly payment to a service company. Who holds the note is hard to know.

BMM: How do you save your property from that uncertainty and mess?

Sharma: A new industry of third-party buyers has propped up, where they buy notes in bulk from the bank. Nowadays, franchisees also have the ability to be a third-party buyer. If they know the bank is foreclosing on a property, a franchisee can walk over to the bank and say that they want to buy back the note — from the bank. Once the note is bought back from the bank, the hotel/motel owner is in the same position as the bank was. They will probably pay the bank much less than the amount due.

Once the bank is out of the picture, and you deal with the owner, the first thing you do when you buy the note is to take possession of the property. So now the franchisee has a parking lot, land, and hotel property. You know your business. You have family who knows how to operate the business. You put them in to start operating the hotel to generate some money.

If there is a second mortgage on the property, that loan is the problem of the old owner. If it is an SBA-backed loan, it is much easier to negotiate that SBA loan settlement since the Small Business Administration guarantees it. So the bank is going to get almost 80% from the SBA.

So the ability to negotiate!  First you buy the note from the bank, then you wipe out the second mortgage. This is the opportunity to become owner of a property to get $5 million in property loans for maybe $2 or $3 million.

This is the opportunity that we are working on that can be utilized by anyone who is an entrepreneur.

BMM: If you are a new buyer without property, are banks lending?

Sharma: Conversions of up to $6 million is easier. Buying a property that needs to be or is under construction is hard.

BMM: Is now a good time to go to franchisors and renegotiate franchise agreements? Is that possible?

Sharma: Certainly franchisees are now in an economy were there are not potential owners standing in line to buy their hotel and motel properties. Keep in mind that the franchise agreement is a pre-printed document, a one-way street in favor of the franchisor.

What you can change are the business deal elements of the franchise. As experience lawyers, I don't try to rewrite the entire contract.

For every franchisor, keeping the number of rooms in their inventory is really an asset. Wall Street looks at how many rooms the franchisor loses. That draws up or down the value of their shares. Franchisors are motivated to keep up their shares.

BMM: What can you negotiate?

Sharma: You can start negotiating with the affiliation fee. Do you want a 20-year agreement with three year and five year windows were you can opt out?

If the standard royalty is 7%, you can renegotiate royalties considerably down. Very favorable terms for franchisees are now available.