Thursday, February 22

Choice Hotel franchise owners reject merger with Wyndham

When Patrick Pacious, CEO of a large portfolio of hotel brands, promoted a successful attempt to acquire a competitor in October, he said the proposed merger would reduce costs and attract more customers for families and small businesses that own most of the company’s activities. positions.

“Our franchisees immediately saw the strategic advantage this would bring to their hotels,” Mr. Pacious, who leads Choice Hotels, told CNBC.

As the weeks went by, however, the reaction was not positive. Wyndham Hotels and Resorts, the target of the proposed deal, rejected Choice’s offer, which is now pursuing a hostile takeover. And at the beginning of December an association representing the majority of hoteliers who own Choice and Wyndham branded properties spoke out strongly against it.

“We all don’t know what’s driving this merger. Many of us feel it’s unnecessary,” said Bharat Patel, president of the Asian American Hotel Owners Association. The group surveyed its 20,000 members and found that about 77 percent of those surveyed own hotels with one of the two brands or both thought a merger would hurt their business.

“I’m not against Choice or Wyndham,” said Mr. Patel, owner of two Choice hotels. “We just need strong competition in the markets.”

This opposition illustrates growing resistance to consolidation in industries that have become more concentrated in recent years. Some Wall Street analysts have also expressed skepticism that Choice’s proposal is a good idea.

The opinions of hotel owners could become an obstacle for Choice as it seeks approval for a merger from the Federal Trade Commission, which has taken an interest in franchising as evidence mounts that the economic and legal balance is increasingly tilted in favor of brand owners and away from affiliates.

To understand why franchisees are concerned, it helps to understand how hotels are structured.

According to real estate data firm CoStar, about 70% of the country’s 5.7 million hotel rooms operate under one of many large national brands such as Marriott or Hilton. The rest is independent.

Over the past few decades, franchise chains have bought each other out and merged to the point that the top six companies by number of rooms – Marriott, Hilton, InterContinental, Best Western, Choice and Wyndham – account for about 80% of all the brand’s hotels.

Unlike fast food franchisees, hotel owners typically develop or purchase their own buildings, representing a multimillion-dollar investment for each property. The industry has attracted thousands of immigrant entrepreneurs from South Asia. Some owners accumulate extensive portfolios, but most end up with only a few hotels.

The average member of the Asian-American ownership group owns just two hotels, most commonly under one of the budget or mid-range brands. Choice and Wyndham dominate this segment, with 6,270 and 5,907 hotels in the United States, including Days Inn, Howard Johnson, Quality Inn and Econo Lodge.

Being part of a franchise network provides name recognition, a business plan and collective purchasing that should give small businesses the benefits of scale. In exchange, hotel owners pay brands a membership fee, ongoing royalties and other payments for marketing, technology and consulting.

As a result, franchisees are effectively customers of hotel brands. Less competition among hotel chains may leave owners with fewer options and, therefore, less power to demand better services at lower costs.

Consider the frustrations of Jayanti Patel, owner of a Comfort Inn – one of Choice’s 22 brands – in Gettysburg, Pennsylvania.

He said Choice took a bigger cut, through charges such as an $18 monthly fee to report its property’s energy use, discounts for rooms booked with rewards programs and fines when guests file complaints. Mr Patel also laments the decline in service, for example from revenue management consultants who are supposed to provide advice that boosts his profits. Choice has outsourced this work to a service that partly operates abroad.

Mr. Patel said his profit margins have become “thinner and thinner” and he is considering signing with a different brand when his franchise agreement expires in a couple of years. Friends who own Wyndham-branded properties seem happy, so he may adopt one of his brands until Choice acquires that chain.

“When my window hits in 2026, 99% won’t want to renew my contract,” Patel said. “And maybe if I want to go to Wyndham, they have almost 20 brands, and I miss that opportunity, because it’s going to be the same thing.”

Choice argues that as its rivals have expanded and merged, it must also grow to offer hotel owners greater savings on supplies such as signage and linens. The company also promises to reduce the commissions that hoteliers pay to sites like Expedia and Booking.com, which are particularly important in the budget segment.

“Combining with Wyndham would allow us to continue to deliver greater profitability to franchisees, helping to reduce costs and increase direct revenue, while providing our best-in-class technology platform,” Choice said in a statement.

However, many hotel owners say that even if Choice negotiates lower prices, they are skeptical they can reap those benefits. In 2020, 90 franchisees filed a lawsuit accusing the company of, among other things, failing to provide discounts from contracts with suppliers. A judge ruled that hotel owners should pursue their claims in separate arbitration cases, and many have done so.

In two of these proceedings the choice prevailed. But in one, filed by a North Dakota hotelier, an arbitrator found last summer that Choice had “made virtually no effort to leverage its size, scale and distribution to obtain quantity discounts.” He ordered Choice to pay $760,008 in legal fees and restitution. Choice is contesting the award.

The case is just one example, but it accords with recent economic research. A 2017 study found that while being part of a hotel franchise system helped attract guests, it did not reduce the costs of doing business compared to running an independent hotel.

But filing a lawsuit on your own is expensive, which is why few affiliates do so even when they feel mistreated.

Rich Gandhi, a New Jersey hotelier, is campaigning for state legislation that would improve the rights of franchisees in the hospitality industry. He heads a group formed three years ago called Reform Lodging, which also opposes the merger.

Mr. Gandhi transformed four of his Choice-branded hotels into Best Western and Red Roof Inns, both non-Choice brands that he said offered better care, fewer restrictions and more reasonable rates. Choice, he argued, has brought too many competitors into his area because it profits from selling new franchises and controlling more of the market, even as the practice squeezes existing owners.

“They want the biggest pie, because for them it’s all incremental revenue,” Gandhi said. “If you keep piling up all these buildings and don’t provide any support, it’s like one of those old pyramid schemes ready to collapse, and that’s exactly what’s happening.”

A Choice representative directed The New York Times to four hoteliers who reportedly spoke favorably about the merger. Two of them, including the president of the Choice Hotels Owners Council – to which all franchisees must belong and pay dues – declined to comment on the story. A third, who owns three Radisson hotels and was happy when Choice bought the brand, said buying Wyndham – a much larger company – could pose problems.

The fourth, a Florida hotelier, Azim Saju, said that despite the loss of competition, if Choice acquired Wyndham, the company would still have an incentive to make sure franchisees stay afloat.

“The concern is legitimate, but the point is that franchising doesn’t work well unless the franchisees are profitable,” Saju said. “I think Choice has become more aware of the importance of franchisee profitability in driving their success.”

Hotel owners’ dissatisfaction could hurt Choice’s ability to absorb Wyndham, especially if more franchisees move to other brands. That prospect has soured some Wall Street analysts on the deal.

“In hotel franchising, the critical constituency, as well as the consumers who walk through the door, is the franchising community,” said David Katz, an analyst covering the hospitality and gambling industries for Jefferies & Company. “They will own more than 50% of the economy and limited-service hotels in the United States, and not have the full support of the largest franchise organization out there? I think this deserves further debate.

Affiliate support isn’t just important for morale. It could also influence federal regulators, who have begun to consider the effect of corporate mergers not only on their consumers but also on suppliers such as book authors, chicken farmers and Amazon sellers.

“Traditionally in antitrust there’s this consumer welfare standard, which focuses on ‘Is this going to be good or bad for consumers?’” said Brett Hollenbeck, an associate professor at the University of California Anderson School of Management , Los Angeles. “If the FTC doesn’t think this argument is likely to succeed, it may try a more innovative theory that it could harm affiliates.”

Choice said it expects the deal to be approved and expects to complete the transaction within a year. Its offer to buy all outstanding Wyndham shares extends into March, when it will seek to replace directors on the company’s board with people who will approve the sale.