What is a performance test? Essentially, a performance test sets objective criteria for minimally acceptable financial performance of a hotel and, ultimately, provides the hotel owner with the right to terminate the management contract if the operator fails to achieve the goal. Beyond these basic concepts, performance tests come in all shapes and sizes. A savvy hotel owner will always demand that the hotel management agreement contain some type of performance test. Most hotel operators accept, albeit grudgingly, that such performance standards come with the territory of management contracts. Operators are usually concerned with limiting the scope of the test as much as possible and with negotiating cure rights that protect them from loss of the management agreement.

Many performance tests are based on economic criteria, such as the property's achievement of certain projected levels of gross operating profit, net cash flow, return on the owner's equity investment or other objective benchmarks. Other performance tests measure the quality of the hotel's performance against that of other similarly situated hotels over the same period of time. The majority of management contracts also offer the manager some protection against a rocky startup period or an otherwise "off" year by providing that the first ...