Mr. Migdal

Hospitality Law

Hotel Financing and the SNDA

By Nelson Migdal, Real Estate, Shareholder, Greenberg Traurig LLP

The SNDA or Subordination, Non-Disturbance and Attornment Agreement is a common and familiar document in the financing arena. Even with some of the more interesting transaction structures in the REIT environment with operating leases and a careful segregation of the ownership of the real estate from the operation of the hotel, there will be an instrument intended to govern how the hotel owner, hotel manager and owner's lender will behave in the event of the hotel owner's default under its loan instruments with the lender.

It is not just about Foreclosure. The form of the SNDA is often the first battleground. In the negotiation of the hotel management agreement, the owner and manager will often pre-negotiate the form of the SNDA and attach it as an exhibit to the hotel management agreement. The nationally recognized brands or "flags" will have well developed and tested SNDA forms that will be modified, if at all, only after considerable dialogue between the hotel owner and the hotel manager. Similarly, the lending community will have its battle tested forms of SNDA. These may be exhibits to the loan application, and frequently overlooked at that stage of the relationship of the lender and the hotel owner, and later exhibits to the loan documents. Woe unto the less than careful hotel owner that finds itself with one required form of SNDA as an exhibit to the hotel management agreement and a second required form of SNDA as an exhibit to the loan documents.

The various forms of SNDA seen in the market place provide insight into the objectives and philosophy of some lenders. For example, some SNDA forms recite that they are to provide for the continued management of the hotel pursuant to the hotel management agreement. Compare that to the forms that recite that the lender has required the execution and delivery of the SNDA to govern should the lender foreclose the lien of the security instrument or otherwise succeed to the rights of the hotel owner. The objective always remains to have a clear and concise expression of the respective rights and obligations of the parties that will spring into action in the event of an owner loan default and the exercise by the lender of its rights and remedies under the loan documents.

Most SNDA forms include language that permits the hotel owner and hotel manager to behave under the hotel management agreement without regard to the SNDA so long as there is no event of default under the loan documents. As true as that may be, the SNDA is usually accompanied by a collateral assignment to the lender of the hotel owner's rights under the hotel management agreement and both the collateral assignment of the hotel management agreement and the SNDA are immediately effective upon the loan closing. The result is that the hotel management agreement is immediately subordinate to the rights of the lender, and this may give the lender certain rights immediately upon default, which is long before the foreclosure.

What is Subordinated? Because the SNDA and collateral assignment are immediately effective, it is important to understand what has been subordinated and what has not been subordinated to the lender. The strongest position for the lender is to have all of the right, title and interest of the manager under the hotel management agreement, and all rights of the hotel manager relating to the use of funds in the various hotel accounts subject to the SNDA. In this configuration, as soon as the lender begins to exercise its rights and remedies under the loan documents, it can insert itself into the hotel manager's operations of the hotel as to such matters as the disbursement of funds from FF&E reserve accounts and even operating accounts. Admittedly, a reasonable and experienced lender with an understanding of the hospitality industry is not likely to undermine hotel operations that are in accordance with the hotel management agreement and the approved annual budget, and intended to preserve the value of the asset as a going concern, including its position in the market place and overall value. If the objective of the lender is to regain possession and control of the hotel in order to sell it at foreclosure, any action which would diminish the value of the hotel would be counter-intuitive and illogical. Nevertheless, it has been know to occur, and when lenders insert themselves into hotel operations post-default but pre-foreclosure, it tends to make the job of the hotel manager that much more difficult.

Compare this to other situations where the SNDA either does not cover the hotel accounts or provides a series of carve-outs to permit the hotel manager to continue to operate the hotel in accordance with the terms and conditions of the hotel management agreement. The lender is still present and interested, but the level of scrutiny of the hotel manager is directed primarily to assessing conduct against the standards set forth in the hotel management agreement, which most lenders now underwrite and approve prior to closing in any event, instead of undertaking a de novo examination into the conduct of the hotel manager. In the best of circumstances for the hotel manager, there is a recognition by the lender that there can be a time gap of many months, even years, between the acceleration of the indebtedness under the note and the foreclosure sale, and during that period of time, the hotel manager must continue to operate the hotel in accordance with the hotel management agreement.

How will the Manager be Disturbed? The companion to the discussion as to subordination is the discussion about non-disturbance. It is important for the hotel manager to gain commitments from the lender that essentially say to the hotel manager, no matter what our borrower, the hotel owner, may do or fail to do under the loan documents, so long as you, hotel manager, are behaving as required under the hotel management agreement, not only will we, the lender, leave you alone, but anyone who steps into the shoes of the hotel owner through us will also leave you alone, and you, hotel manager, will be able to get the benefit of the bargain you thought you made with the hotel owner. Some of the more common elements of non-disturbance are that the hotel manager will not be made a party to the lender's actions against the hotel owner, the hotel management agreement will not be terminated by the lender or a subsequent owner acquiring the hotel through the foreclosure, and the hotel manager will be permitted to continue to operate the hotel under the hotel management agreement.

Another aspect of non-disturbance benefiting the hotel manager is the so called spring back provisions. If the hotel management agreement was wrongfully terminated by the hotel owner, or if the hotel manager was precluded from operating the hotel in a manner not contemplated by the hotel management agreement, then the hotel manager's right to manage the hotel under the hotel management agreement will "spring back" when a subsequent owner acquires the hotel through foreclosure. One way to think of it is the prevention of mischief by an owner or lender to gain an unencumbered hotel, free from the encumbrance of the hotel management agreement, by wrongfully terminating the hotel management agreement prior to foreclosure. The subsequent owner still acquires the hotel encumbered by the wrongfully terminated hotel management agreement, through the obligation to enter into a new hotel management agreement on the same terms as the prior hotel management agreement for the remainder of the term of the prior hotel management agreement. Most SNDA forms are generally fair in that the subsequent owner will avoid liability for most of the failures of its predecessor. These include the prior owner's defaults under the hotel management agreement, with the understanding that there are certain omissions or failures by a prior owner that will continue and need to be remedied by the subsequent owner as a matter of continuing hotel operations and good business. For example, if the prior owner failed in its obligations to provide cash to cover a shortfall, the subsequent owner will not be directly liable to the hotel manager if the hotel manager advanced funds, but the subsequent owner would inherit the responsibility to insure that all reserves are fully funded and that all operating accounts are at proper levels.

A word about Timing. Properly dealing with the SNDA can be very complex and time consuming. The relationship and interplay between the loan documents and the hotel management agreement requires a solid understanding of both in order to assess and address the wide variety of potential concerns. In addition, the SNDA can be, and often is, used as the vehicle for the modification of the hotel management agreement either temporarily, for the term of the loan as affecting the current lender only, or permanently, for the term of the hotel management agreement, as a 'back hand" amendment. With so much to do in the SNDA it remains one of the great mysteries of life in the law that the SNDA is relegated to the end of the deal and rises up like a great wave on an endless sea after the loan documents are fully negotiated and as the parties believe they are on the last road to the closing table. The final word on the SNDA is about developing best practices. One important element of best practices it to place the development, structuring, form fights and negotiation of the SNDA more at the core of the entire transaction rather than at the tail end. The likelihood is that the process will be timelier and that the product will be better.

Nelson F. Migdal is a Principal Shareholder at Greenberg Traurig and head of the Mid-Atlantic Real Estate practice group. He has practiced hospitality law for over 25 years. He handled the management agreements for The Echelon Place, in Las Vegas. In Panama, as owner's counsel, he obtained the first "Trump" license in Central America. Nelson is owner's counsel for The Trump Soho Project, and handled the Exclusive License with Trump in Istanbul. Nelson is an officer of the Academy of Hospitality Industry Attorneys and a member of the International Society of Hospitality Consultants. Mr. Migdal can be contacted at 202-331-3180 or migdaln@gtlaw.com Extended Bio...

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