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Hotels 2007: Acquiring, Managing, Developing & Converting the Hot Property

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17

other hotel development

and acquisition issues:

labor, employment and

benefits considerations

Sang-yul Lee

Seyfarth Shaw LLP

The author is a partner in Seyfarth Shaw’s Labor & Employment national practice group as well as a member of the firm’s Business Restructuring Transactional Employment (BRTE) Group which advises clients on all aspects of mergers and acquisitions. Some portions of this section have been adapted from the author’s materials for the National Employment Law Council Annual Conference (2007) M&A panel, entitled “Remember the L&E with the M&A: Labor, Employment and Benefits Implications in Corporate Transactions.”

Biographical Information

Sang-yul Lee is a partner in Seyfarth Shaw LLP’s Chicago office. He advises companies on all aspects of labor and employment law as well as on issues related to business acquisition and restructuring. His extensive experience includes working with clients in several industries, including: hotel/hospitality, food, trucking, airline, publishing, media, financial services and manufacturing. He has served as primary labor counsel on over 30 M&A and bankruptcy matters. He has been involved in over 50 union elections, including several organizing campaigns involving the hospitality industry. He is also one of the partners in charge of coordinating the firm’s international practice. He is a former trial attorney for the National Labor Relations Board.

Mr. Lee received his B.A from Northwestern University, his J.D. from the University of Illinois, as well as an A.M. in labor relations from the University of Illinois – Institute of Labor & Industrial Relations. He is a member of the American Bar Association Section of Labor and Employment Law, International Bar Association Employment and Industrial Relations Law Committee, the National Asian Pacific American Bar Association, and serves as a Board Member on the Korean American Bar Association, Korean American Scholarship Foundation Midwest Chapter, and University of Illinois – Institute of Labor and Industrial Relations. He is also a Hearing Board Member of the Illinois Attorney Registration and Disciplinary Commission. In 2007 he was honored as one of the “Forty Illinois Attorneys Under 40 To Watch.”

INTRODUCTION

Owning and operating a hotel is a labor intensive endeavor. Hotels have a multitude of employees in numerous areas: housekeeping, bell-hops, parking valets, van drivers, front desk, concierge, chefs/cooks, waiters, bartenders, banquet, maintenance, reservations, sales, and management, among others. And virtually none of these jobs can be outsourced to an off-site vendor.

Larger hotels, especially those in metropolitan areas, traditionally have been unionized. Several unions, but most notably UNITE-HERE, have long-standing interests in hotel bargaining units. And in the largest hotel markets, including New York, Chicago and San Francisco, well-established multi-employer associations bargain on behalf of many of the unionized hotels.

In a purchase and sale context, successorship is a threshold issue for the purchaser and seller. The issue of successorship entails mostly union bargaining and contractual obligations but also issues of assignment and assumption regarding lawsuits, government charges and investigations, and grievance-arbitrations.

Parties to a purchase and sale agreement must address the issues that can arise under the Worker Adjustment and Retraining Notification Act (WARN). WARN is a federal law, but several larger states like California and Illinois have state versions with lower numerical thresholds and additional penalties.

In a union context, the seller generally has “effects bargaining” obligations to its unions up to the closing of the purchase and sale transaction. A purchaser does not have any effects bargaining obligations prior to the sale; however, it can have equally troublesome effects bargaining issues if it takes certain actions post-closing such as closing the hotel for conversion or renovation.

As a general rule, whether or not a seller’s employees are represented by a union, a buyer’s failure to adequately address human resources issues will play a pivotal role in the success of the purchase or acquisition. While the business of acquiring a hotel is regarded as a predominantly financial transaction, before the ink has dried on the purchase and sale contract, this financially-driven deal becomes, as one business commentator once observed: a “human transaction filled with emotion, trauma, and survival behavior –– the non-linear, often irrational world of human beings in the midst of change.”

To address this human component, studies suggest that specialized legal counsel and senior human resources personnel should be tapped to help facilitate the process of acquiring, managing, developing and converting a hotel property. Whether the acquirer or ownership wishes to manage the hotel property on its own or contract with a hotel management company to manage the hotel and employ the employees is one of the threshold issues facing ownership.

The following discussion will highlight what human resource matters need to be addressed in order to increase the likelihood that the acquisition, development or conversion will be successful. Among those factors include the importance of conducting a thorough due diligence of labor, employment, and employee benefit issues, establishing regular and open communications with employees of both the acquiring and acquired businesses so that employees are not forced to get their information via the rumor mill, moving swiftly on employee retention and reduction-in-force or RIF matters, among others.

IMPORTANCE OF CONDUCTING DUE DILIGENCE

While a purchaser is likely to conduct adequate due diligence with respect to matters pertaining to the acquired hotel’s financial, tax, real estate and legal profiles, it often fails in its efforts to thoroughly investigate the target hotel’s human resources operations (i.e. employee relations, labor relations and employee benefits/legacy costs). In the process, potentially costly liabilities of the seller can be overlooked or ignored. For example, one human resources professional described how management was unaware that the company it was seeking to acquire had a terrible ratio of retirees to active employees and had not taken into account the pension funding implications of those demographics (all of the retirees were drawing benefits). While not necessarily a “deal breaker,” such information leads the parties to re-value the deal.

A thorough investigation of a seller company’s human resources operations should entail obtaining the following past and current information: charge/litigation history, internal complaints, any government audits (e.g. wage-hour audit), benefit claims appeals, employee turnover rate data, employee handbooks, benefit plans and plan documents (e.g. summary plan descriptions), union organizing attempts, documents pertaining to labor agreements and ratification summaries, and grievance and arbitration history. This latter information in particular enables the purchasing company to better anticipate whether a nonunion facility will remain nonunion, whether the company has a constructive bargaining relationship in a unionized facility, and whether existing company policies could give rise to future, costly employment litigation. A company should not underestimate the time needed to prepare for and conduct an effective due diligence. Nor, should it set unreasonable deadlines for its completion –– which is one of the primary reasons why a company struggles with human resources issues after the close of a deal. Businesses should recognize that the entire due diligence process can take as little as a week to 10 days to complete and as long as a month or more, depending upon the complexity of the deal and the number of individuals assigned to assist in the process.

In addition to the above-stated benefits of conducting a thorough due diligence, the company performing the due diligence gives itself the opportunity, early in the process, to obtain the following crucial information about the business it is seeking to purchase:

• Identifying key personnel (both management and non-management level) that will be crucial to retain if the transaction is going to be successful;

• Identifying potential cultural problems between the two companies (i.e. leadership/management styles, work ethic – valuing teamwork v. individual performance, implicit norms and values); and

• Being able to conduct a comparison of the benefits, compensation policies, and labor contracts (if applicable) of the two companies.

By gaining access to this information early in the transaction, those businesses will be able to proceed with greater speed and efficiency during the crucial integration stage (the process companies undergo after a sale is announced and pre-closing activities have been completed). It is during this stage of the purchase and sale process that businesses tend to falter because they are unable to timely communicate with employees (of both companies) regarding what changes lie ahead for the business.

One should not underestimate the problems that can arise where there are significant cultural differences between the two companies. Many failed acquisitions and mergers trace their demise to insurmountable cultural differences. One survey found that 56% of the respondents identified incompatible corporate cultures as a major roadblock on the route to a successful acquisition or merger, only surpassed by the ability to sustain financial performance (64%) and lost productivity (62%). Clearly, businesses cannot bridge the gap between their corporate cultures in an acquisition and merger scenario if they have not made an effort to learn about the other company’s culture or identify the ways in which their corporate cultures differ.

Thus, a company should seize the due diligence process as an opportunity to learn what it can about the other company’s culture. In this way, a planned acquisition or merger can be modified or even abandoned if the information uncovered reveals that the two corporate cultures are not well-suited to one another.

IMPORTANCE OF EFFECTIVE COMMUNICATIONS

Oftentimes, only the dealmakers are privy to why a company has decided to purchase another company. The failure to adequately communicate this and other information of interest to employees is problematic on several fronts. A survey conducted by one of the Big Four accounting firms several years ago, which looked at 124 mergers, found that businesses that implemented effective communications strategies showed better results in employee commitment and productivity than those businesses that had a delayed communications strategy. A survey from a leading global consulting firm found that communications was among three critical activities in a company’s integration plan –– the other activities being retention of key talent and addressing cultural differences. Thus, it is crucial that the human resources staff be instructed to develop and implement a communications strategy before the acquisition or merger announcement is made by the company.

Human resources professionals on both sides of the transaction need to be a part of the dialogue so they can communicate with employees in a timely and effective manner. These individuals need to be able to convey information regarding:

• The nature of the transaction (e.g. acquisition or merger);

• The reason behind the sale or merger;

• A rundown of the changes employees can expect to see in the coming months, including changes in the brand or format of the hotel, ;

• Downsizing, conversion or redevelopment plans, in particular, should be conveyed in advance to comply with obligations to any union and governmental authorities as well as for good relations with individual employees ; and

• Any employee queries or concerns should be taken seriously and properly responded to in a timely fashion.

Employees who are kept in the dark, or left to rely on the rumor mill, are more likely to respond in ways that are not beneficial: low morale, reduced job productivity, increased grievances and complaints, increased sick leave utilization, and the departure of key employees. Studies indicate that frontline employees and managers, alike, lose a minimum of 15% of personal effectiveness as a result of rumors, misinformation and worrying about what the future will bring. By keeping as many people “in the loop,” the selling company is less likely to experience a downturn in its business operations or an exodus of its most valued employees.

EMPLOYEE RETENTION, DOWNSIZING, WARN ACT AND EMPLOYEE BENEFIT ISSUES

Any hotel transaction will generate some fear of job loss. How the acquirer or its designated management company, addresses employee retention, downsizing, and coordination of employee benefits issues, will be crucial to its efforts to retain valued employees and avoid unnecessary litigation.

1 Retaining Key Employees

Well before an acquisition or merger deal closes, the acquiring company should have a strategy in place for retaining key employees. As noted earlier, through its due diligence the acquiring company should have identified which employees are key to the operation. Studies reflect that successful acquisition and merger transactions identify and target key employees for retention either during the due diligence phase or within the first 30 days after the acquisition announcement has been made.

Incentives in the form of stock options or retention bonuses should be offered to employees that are viewed as essential to the success of the transaction. Financial incentives should be tied to an employee’s promise to remain with the company for a specific period of time or until the completion of a project such as a major overhaul or renovation of the hotel. Non-financial incentives include the prospect of internal advancement and the use of existing professional networks.

2 Employee Downsizing

Reduction-in-force (RIF) decisions are best made shortly after the acquisition deal is signed to avoid engendering an environment of uncertainty among the employees of the selling company. Initially, the company should consider alternatives to involuntary termination, such as offering early retirement packages (ERPs) or voluntary separation programs (VSPs). Such voluntary downsizing measures result in better employee morale and engender good will between the acquiring company and the remaining employees. The downside to such programs is that it is difficult to predict who and how many employees will take the VSP or, in the case of ERPs, that too many people may take advantage of the offer.

When voluntary measures fall short of the workforce reductions sought, a company should adopt predetermined selection procedures for an involuntary RIF that articulate what factors (e.g. seniority, past performance) will be used in selecting which employees will be let go. These selection procedures should be utilized only after a determination has been made with respect to which positions and job functions need to be retained so that the hotel can continue to function after it has been restructured. Additionally, a statistical impact study must be performed before any RIF decisions are finalized to determine whether the process, as applied, has an adverse impact on women, minorities, or other protected employees.

3 WARN Act Notice Requirements

The WARN Act, a federal statute, obligates employers who have at least 100 employees to provide at least 60 days advance written notice of a layoff or facility closing where the employer’s actions (layoff or facility closing) will result in the loss of employment of at least 50 full-time employees over the course of a 30- or 90-day period. The WARN Act applies whether or not the employee is represented by a union.

When the job losses are in conjunction with the sale of an employer’s business, the law allocates the responsibility for giving notice between the seller and purchaser. Thus, the seller is responsible for providing notice only if the required layoffs take place up to and including the effective date of the sale. After the sale is completed, the purchaser is responsible for providing notice for any eligible post-sale layoffs. The purchaser and seller can allocate WARN liabilities and agree on indemnification provisions to ensure that all WARN issues have been addressed.

Increasingly, states and municipalities have enacted their own closing or layoff notification laws which, in some instances, may be significantly more restrictive than the WARN Act’s requirements. Currently, at least 12 states, plus the District of Columbia, have state or “mini” WARN statutes. Thus, while the federal WARN Act effects mostly larger hotel properties with larger workforces, hotels in states with these mini WARN statutes should be careful to take them into account.

4 Employee Benefits

The subject of employee benefits raises a host of issues for a purchaser, none the least whether the existing benefit package of the employees of the hotel being acquired should remain unchanged. As with employee retention decisions, a thorough review of the benefits offered by the seller should occur as early as possible in the acquisition process so that critical decisions can be made with respect to what benefit programs will be offered in the future. Clearly, employees will be anxious to know what will become of their benefits. If the acquirer or ownership has decided to hire a hotel management company to be the employer and administrator of all employment and benefits matters, the manager should be consulted as soon as practicable.

If the hotel being acquired is subject to a union collective bargaining agreement (CBA), that CBA may impose certain financial obligations on the seller with respect to employee benefits. For example, some CBA’s obligate the seller to make severance payments to its employees, pay accrued vacation pay or continue existing health and welfare benefits for a specified period of time after the sale or closure of the business. Additionally, the seller that is a subscriber to a union pension plan will have to address any underfunding and the issue of withdrawal liability.

UNIONS ISSUES

A frequent issue is whether the acquiring (successor) company must assume the seller’s labor contracts or bargaining relationship. The extent to which a successor will be bound by these existing labor obligations will depend on a variety of factors, including:

• Type of transaction involved;

• Extent to which predecessor’s business has changed;

• Whether a majority of predecessor’s workers are retained by the purchaser; and,

• What the labor contract’s “successor and assigns” clause provides.

Generally speaking, when the purchasing company steps into the shoes of the seller –– as in the case of a stock transfer –– the purchaser will be bound by the terms of the labor agreement. Conversely, when a purchasing company has acquired an ongoing business via an asset sale and is regarded as a “successor” employer under the law, the general rule is that the purchaser will not be bound by the provisions of the predecessor employer’s labor agreement unless it has expressly or implicitly agreed to be bound. A purchaser in an asset sale will be treated as a “successor” if two factors are present: 1) a majority of the purchaser’s employees worked for the predecessor company; and 2) the employees experience “substantial continuity” in their work. A successor employer does have a duty to bargain with the union but may set the initial terms and conditions of employment before such bargaining commences, provided that it informs employees (who previously worked for the predecessor company) at the outset that the terms of their employment going forward will be different. Buyer Beware: questions pertaining to whether someone is a successor are among some of the thorniest to resolve under federal labor law.

To avoid any unexpected surprises, both seller and purchaser should review any “successor and assigns” provisions which may exist in the relevant labor contracts or side agreements so they are familiar with their obligations. For example, some clauses impose damages on the seller for failing to secure the purchaser’s agreement to be bound by the labor contract. Others may impose financial obligations on the seller, as noted in the previous section on employee benefits. Other seller obligations that should be investigated include:

• Does the seller have outstanding or potential grievances which may lead to a status quo injunction blocking the transaction, unfair labor practice charges, or other types of employment litigation?

• Has or will the seller engage in any required decision- or effects-bargaining relative to the proposed transaction?

• Has the seller made statements to employees concerning the proposed transaction, any hiatus, or prospects of eventual reemployment?

• What statements has the seller made concerning how the labor agreements will be affected by any transaction?

If a purchasing company is likely to meet the definition of a successor company, should it engage in preliminary discussions with the predecessor’s union before the deal is struck? On the one hand, the purchasing company may best be in a position to negotiate with the predecessor’s union before the transaction itself is consummated, particularly if it is an alternative to a closing or significant reduction in the predecessor’s operations. On the other hand, preliminary discussions with the union predictably will prompt an immediate demand either for recognition or for a promise that employment offers will be extended to the predecessor’s workforce. Indications that the predecessor’s employees will be retained (if unaccompanied by simultaneous statements that employment conditions will be changed) may produce an affirmative obligation to bargain before setting initial contract terms. However, bargaining before a representative employee complement has been retained by the new enterprise could violate Section 8(a)(2) of the National Labor Relations Act (NLRA or federal labor act).

Misunderstandings concerning the ongoing visibility of the predecessor’s labor agreement also may give rise to status quo injunction litigation and/or allegations that the predecessor’s contract was voluntarily assumed or adopted by the new enterprise. Unions will deal with the purchasing company or designated management company based on those entities track record in the industry and geographic region as well as overall reputation in the area of labor, employment, benefits, and human resources.

CONCLUSION

Paying attention to labor, employment, benefits, and human resources issues early in the acquisition process can pay big dividends post-closing for the new employer, whether it will be the owner itself or its designated management company. More often than not these issues can play a significant role in the ultimate success of a newly acquired, developed or converted hotel property.

sample DUE DILIGENCE CHECKLISTS

1 Initial Due Diligence Checklist for Labor and Employment Issues

1 Copies of current Management Agreement.

2 Copy of current organizational chart.

3 Summary of the current workforce, including without limitation, total number of union and non-union employees, names, titles, job descriptions, dated of employment, salary or hourly wage rates.

4 Copies of all collective bargaining agreements, side agreements and memoranda, or letters of understanding with all unions.

5 Copies of all individual employment agreements, including arbitration, retention, change in control, incentives, bonus, commission, restrictive covenant, non-competition, non-solicitation, confidentiality, severance, indemnification, independent contractor and/or consultant agreements.

6 Copies of offer letters or representative offer letter.

7 Copies of all employee, supervisor or human resource handbooks, manuals and/or any other policies or practices, written or unwritten, relating to the employment relationship, including without limitation all third-party policies or practices.

8 Copies of documents relating to pending or threatened labor or employment litigation or investigation in any forum, including without limitation, administrative agencies such as the National Labor Relations Board, Equal Employment Opportunity Commission, U.S. Department of Labor, the Occupational Safety and Health Administration, and any comparable state or local agencies and/or industrial commissions.

9 Copies of settlement agreements with former or current employees or unions in the last five years.

10 Copies of documents related to pending or threatened grievances or arbitrations (can be based on a materiality threshold).

11 Copies of documents related to organizing or decertification activity during the last five years.

12 Copies of documents relating to pending or threatened labor issues, including strikes, lockouts, work slow downs, job actions, work stoppages or other material labor disputes during the last five years.

13 Copies of EEO-1 Reports and any Affirmative Action Plans for the last five years.

14 Copies of all government contracts for the last five years.

2 Due Diligence Checklist for Employee Benefits Issues

1 Copies of each profit sharing plan, money purchase pension plan, target benefit plan, employee stock ownership plan (ESOP), stock bonus plan (collectively, “defined contribution plans”), defined benefit plan, or any other tax-qualified employee benefit plan, whether or not terminated, and any amendments to date.

2 Copies of each welfare benefit plan (i.e. health, dental, vision, long-term disability, short-term disability, life insurance, accidental death and dismemberment), child care, tuition reimbursement, prepaid legal services, severance plan, program or arrangement, the underlying contracts, if any, and any amendments to date.

3 Copies of each top-hat plan, supplemental benefit plan (often known as a SERP), deferred compensation plan, change-in-control arrangement, executive compensation agreement, bonus agreement, plan or program, consulting arrangement, non-compete arrangement and any other non-qualified employee benefit plan.

4 Copies of each trust, group annuity contract, investment management agreement, voluntary employee benefit association (VEBA or “501(c)(9)Trust”), cafeteria plan (“Section 125 Plan”), secular or rabbi trust, multiple employer welfare arrangement (MEWA) or any other type of funding vehicle and any amendments to date.

5 Copies of each Internal Revenue Service (IRS), Department of Labor (DOL) or Pension Benefit Guaranty Corporation (PBGC) determination letter or ruling and any communication regarding pending determination or ruling request.

6 Copies of each IRS Form 5500, 5500 C/R, PBGC Form-1, if applicable, (including attachments) filed with the IRS or PBGC for the last three taxable years.

7 Copies of each summary plan description, summary of material modification and summary annual report.

8 Copies of the most recent actuarial report for each defined benefit pension plan, the most recent financial statements for all defined contribution plans and a description of any corporate or economic change since the date of such reports which could alter the figures presented in the reports.

9 List and describe all pending and threatened litigation involving any employee benefit or employee benefit plan, plus all benefit-related claims and appeals of any kind, internal or external, which relate to any employee benefit or employee benefit plan.

10 List all controlled group members and plans to which each member contributes.

11 Copies of the most recent collective bargaining agreements and any amendments thereto.

12 Copies of any multiemployer pension or welfare plan and trusts to which any member of the controlled group contributes. With respect to each such multiemployer pension or welfare plan:

1 the amount of employer contributions;

2 the most recent determination of unfunded liability, if any, and the method of allocating such liability;

3 Forms 5500 for the last three taxable years;

4 actuarial valuations for the past three taxable years;

5 any withdrawal liability estimates; and

6 information as to any event which could give rise to the occurrence of withdrawal liability or potential withdrawal liability.

13 List of employees on leave of absence, short-term or long-term disability or sabbatical and the benefits offered to such persons.

14 List of all individuals eligible for COBRA, the duration of such eligibility and the cost of the COBRA coverage.

15 List of any post-retirement benefits provided to current or former employees of the Company and any member of the controlled group and the present value of such benefits.

16 List of contributions made to any tax-qualified and non-qualified plan for the last three years and any funding waiver requests and approvals.

17 List of premiums paid for each welfare benefit plan.

18 List of employees who participate in a flexible spending arrangements and the amounts currently available to each such employee.

19 Communications with the PBGC concerning any reportable event or communications with the IRS or the PBGC regarding the termination of any plan.

20 Description of any acquisition or disposition of qualifying employer securities or qualifying employer real property.

21 Description of any prohibited transaction, any party in interest transaction or loan involving any employee benefit plan.

22 Any booklets not listed above which describe the employment policies and benefit plans of the Company.

23 Any SEC registration statements and Forms 11-K (check), if applicable.

24 If any employee benefit plan offers loans, documentation on any loans outstanding.

25 Copies of any handbook, employee manual or other booklet which describes any employee benefit.

OTHER HOTEL DEVELOPMENT AND ACQUISITION ISSUES:

LABOR, EMPLOYMENT & BENEFITS CONSIDERATIONS

Sang-yul Lee, Seyfarth Shaw LLP (Chicago, IL)[i]

I. INTRODUCTION 1

II. IMPORTANCE OF CONDUCTING DUE DILIGENCE 4

III. IMPORTANCE OF EFFECTIVE COMMUNICATIONS 9

IV. EMPLOYEE RETENTION, DOWNSIZING, WARN ACT AND EMPLOYEE BENEFIT ISSUES 12

A. Retaining Key Employees 12

B. Employee Downsizing 14

C. WARN Act Notice Requirements 15

D. Employee Benefits 17

V. UNIONS ISSUES 19

VI. CONCLUSION 24

VII. SAMPLE DUE DILIGENCE CHECKLISTS 25

A. Initial Due Diligence Checklist for Labor and Employment Issues 25

B. Due Diligence Checklist for Employee Benefits Issues 27

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[i] The author is a partner in Seyfarth Shaw’s Labor & Employment national practice group as well as a member of the firm’s Business Restructuring Transactional Employment (BRTE) Group which advises clients on all aspects of mergers and acquisitions. Some portions of this section have been adapted from the author’s materials for the National Employment Law Council Annual Conference (2007) M&A panel, entitled “Remember the L&E with the M&A: Labor, Employment and Benefits Implications in Corporate Transactions.”

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