Brand Rights and Hotel Management Agreements

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 2010 CORNELL UNIVERSITY DOI: 10.1177/1938965510363389 Volume 51, Issue 2 215-230

Lessons from Ritz-Carlton Bali’s Lawsuit against the Ritz-Carlton Hotel Company

by CHEKITAN S. DEV, JOHN H. THOMAS, JOHN BUSCHMAN, and ERIC ANDERSON

In this article, the authors consider the managerial agreements squarely under agency law. Within the implications of a recent lawsuit, P. T. Karang Mas framework of agency law, an agent owes specific fidu- Sejahtera v. The Ritz-Carlton Hotel Company, LLC, in ciary duties to a principal that supersede contractual which a jury found for the plaintiff, the owner of the terms and a principal has a nearly absolute right to ter- Ritz-Carlton Bali Resort and Spa, against the defendant, minate such a agreement. In the Bali case, the violated The Ritz-Carlton Hotel Company, LLC. Ritz-Carlton’s par- duties included a duty not to compete with or assist the ent company, Marriott International, had previously competitors of a property being managed under agree- formed a partnership with Bulgari S.p.A., the Italian ments within that property’s competitive market set. luxury jewelry and accessories firm, to create Bulgari The authors argue that, as a consequence of these Hotels and Resorts, a new ultraexclusive line of luxury legal decisions, issues pertaining to brand rights and hotels. The first two Bulgari properties opened in Milan management agreements have been clarified. In this and Bali. Soon after the Bali project was announced, article, the authors outline these brand rights issues, P. T. Karang Mas Sejahtera (KMS) sued Ritz-Carlton for review these precedent-setting legal cases, explain breach of agreement. The authors show that this and why Ritz-Carlton lost the suit to KMS, and draw several other recent court decisions situate hotel management lessons pertaining to hotel management.

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Keywords: Brand Rights, Hotel Manage prefer to decrease operating costs to increase ment Agreements, Hotel the bottom line. It is when such tensions Brand Licensing Hotel Liti arise that the details of the hotel manage- gation, International Hotels, ment agreement terms become important. Marriott, Ritz-Carlton, Bugari, We argue that, as confirmed by four Bali major legal cases that played out over the 1990s as well as a recently adjudicated he business model under which case, hotel companies should view their many hotels operate, in which a relationships with property owners with Tproperty owner uses a management whom they agreement to manage properties agreement to engage a hotel firm to run its as a form of agency, and indeed in legal facility, has not always worked smoothly terms the cumulative effect of the cases in because of the complexities involved in the question has been to remove any doubt that use by the property of the firm’s resources hotel management agreements fall under and brand name. Complications arise, for agency law. In such a legal framework, a example, in the context of a management management agreement applies within a set firm’s often worldwide marketing strate- of constraints that can supersede the terms gies, in pursuit of which a large firm spans of a given agreement because the law rec- the globe as it jockeys for market share with ognizes specific fiduciary and other rights other major hospitality firms. In this high- that pertain to any entity that hires an stakes game, firms try to play off consumer agent to represent its interests. In this arti- trends in both traditional and newer mar- cle, we summarize several issues involving kets, hoping to capitalize on the latest pref- brand rights that are affected by these legal erences and appetites for locations, facilities, outcomes, briefly review the 1990s cases to and amenities. Since the early 1990s, how- set the stage for the most recent one, describe ever, a series of court cases in which prop- the situation that unfolded recently on the erty owners have litigated to protect their island of Bali involving the Marriott Corpo- interests have gradually clarified the legal ration’s Ritz-Carlton unit and a venture into obligations that a hotel property manager the hotel business by the high-end Italian incurs upon entering such a agreement. jewelry brand Bulgari S.p.A, and consider The hotel management agreement is ide- the implications of all these developments ally beneficial for both the property owner for brand rights in management agreements. and the operating management company. The case in question is titled P.T. Karang The owner benefits from the value added to Mas Sejahtera v. The Ritz-Carlton Hotel the property by the prestige, marketing skill, Company, LLC (Civil Action No.: 8:05-cv- 1 and good management of the operator. The 00787-PJM). P.T. Karang Mas Sejahtera operator has a profitable revenue source (KMS) was the owner of the Ritz-Carlton from a property in which the capitalization Bali Resort & Spa, a luxury property man- is provided by the owner. Tensions arise aged by Ritz-Carlton. Ritz-Carlton is a sub- between the owner and the operator when sidiary of Marriott International, Inc. In the there are perceived conflicts of interest, as in case in question, KMS sued Marriott and the instant case, or when the operator desires Ritz-Carlton because the latter, in partner- to maintain standards for the brand (higher ship with Bulgari, opened a luxury resort operating costs) while the owner would and spa in Bali, the same market in which

1. Hereafter we shall refer to this case as KMS v. Ritz-Carlton. 2. Marriott International, Inc., originally a defendant in the lawsuit, was voluntarily dismissed by KMS at trial.

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KMS operates the Ritz-Carlton Bali.2 KMS There are not, of course, this many hotel claimed that this action violated its manage- companies—through the strategies of brand ment agreement with Ritz-Carlton; the out- extension and cobranding, many hotel brands come of the case affirmed this claim and are operated by the major hotel companies. was another instance in which the courts Marriott, for example, includes several brands have applied agency law to disputes involv- among its subsidiaries, including such famil- ing management agreements. We argue that, iar names as Courtyard by Marriott, Renais- while some questions pertaining to manage- sance Hotels & Resorts, Fairfield Inns by ment agreements and the relevant rights of Marriott, and of course the brand that inter- property owners and hotel firms may remain ests us here, Ritz-Carlton. To this list we open, the disposition of the case involving should add Bulgari Hotels and Resorts, KMS, Ritz-Carlton, and Bulgari has clari- which is affiliated with Marriott through its fied these issues to a considerable extent. cobranding partnership with Ritz-Carlton. Before we take up the case itself, however, The association of the Bulgari brand with we must consider brand and brand rights that of Marriott is clearly expressed in issues in greater detail, because the dispute Marriott’s 2006 Annual Report: over the noncompetition clause in effect turned on the question of whether it was a Bulgari Hotels & Resorts, developed in violation of KMS’s exclusive right to use partnership with jeweler and luxury goods the Ritz-Carlton brand on its property and in designer Bulgari SpA, is a collection of its marketing efforts on the island of Bali. sophisticated, intimate luxury properties located in exclusive destinations. Proper- Brand Relationships Involved in ties feature Bulgari’s striking contempo- rary interpretation of luxury design and KMS v. Ritz-Carlton cuisine. The Bulgari Resort Bali opened The American Marketing Association fall 2006 with 59 private villas, two res- defines a “brand” as “a name, term, design, taurants, and comprehensive spa facilities symbol, or any other feature that identifies in a spectacular sea-view setting. (Marriott one seller’s good or service as distinct from International 2006, 3) those of other sellers.”3 More technically, a brand is a trademark or, when the brand What is not shown in this report is the asso- applies to an entire firm, a trade name. Prac- ciation between Ritz-Carlton and Bulgari tically, however, a brand is an “intangible” that forms the basis of the lawsuit. We shall or abstract concept in the minds of consum- see, however, that Marriott did publicize ers, carrying with it any number of implica- this relationship sufficiently to establish in tions for consumer buying decisions (Keller the courts the proposition that the Bulgari 2008, 10). From a marketing standpoint, the Bali involves a cobranding partnership purpose of a brand is to attract consumers to between Bulgari and Ritz-Carlton that vio- buy a good or service by associating that lated the brand rights of the Ritz-Carlton good or service in the mind of a consumer Bali. In the next section, we discuss these with an expectation that the good or service brand rights. will satisfy the consumer’s purpose in entering a particular marketplace. Ritz-Carlton Brand Rights There are more than 230 hotel brands in It is often difficult in recent times to the United States and nearly 330 worldwide. keep abreast of changes in brand names, as

3. From the dictionary posted on the American Marketing Association website, http://www.marketingpower .com/_layouts/Dictionary.aspx?dLetter=B (accessed January 28, 2009).

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company buyouts and mergers often involve purposes, apply to some specified territory, brand rights. That is, when one company within which the management firm or buys another company that has a recogniz- agent may not operate a comparable prop- able brand name, the buying company often erty under the same brand name. This has will also purchase the right to use that brand been expressed in the literature as the right name in marketing its own products as well to a reasonable, restrictive (non-compete) as those that had previously worn the brand covenant. Such a covenant expressly name. To convey a sense of the signifi- acknowledges a right against competition cance of brand rights, it suffices to con- that arises automatically under agency sider the history of the Ritz-Carlton name. law. According to industry experts, In 1964, when Gerald F. Blakely Jr. and associates acquired the Ritz-Carlton Boston, It is increasingly difficult for owners to it was the only property in the United States ensure that their hotel is the sole beneficiary with that name. Later, the Blakely group of a brand’s strength in a particular market; acquired the rights to use the name “Ritz- careful consideration should be given to Carlton” everywhere in North America negotiating an exclusive trade area and the except Chicago and Montreal. Brand rights, term or duration of the non-compete clause. then, can be highly specific. In 1978, Blakely Specific attention should be given to defin- ing similar or “sister” brands under the sought and was awarded the U.S. trademark same corporate management (e.g., Marriott rights to the Ritz-Carlton name. These rights full-service hotels and Renaissance, Sheraton, were then conveyed to Johnson Properties, and Westin), as well as to crafting carefully which purchased Ritz-Carlton in 1983. the legal language surrounding this provi- Johnson had acquired the worldwide rights sion (e.g., specifying the use of impact stud- to the name by 1988 (excepting Paris, ies to determine infringement on a trade Montreal, and Madrid, as well as all of area). (Crandell, Dickinson, and Kanter Portugal and the United Kingdom). Marriott 2003, p. 101) International purchased a 49 percent share in the Ritz-Carlton brand in 1995, eventually Brand rights issues—as indicated here— increasing that share to 99 percent in 1998 can be complicated by the many and fre- for $290 million. So when Ritz-Carlton quent corporate mergers and buyouts that arranged to help develop, market, and man- occur in the hotel industry. Many branded age the new Bulgari Hotels and Resorts hotels belong to a larger corporate struc- properties, Marriott found itself (initially) ture, and such arrangements are sometimes as the primary defendant in the KMS suit. indicated by brand names, as in the case In purchasing the right to use the Ritz- of Sheraton or Westin. There are, however, Carlton brand, Marriott also assumed respon- cases in which the parent company’s brand sibility for the consequences of its use. name is deliberately excluded from a prop- Hotel management agreements typically erty’s marketing efforts. This appears to be involve brand rights because hotel property so with the Ritz-Carlton’s inclusion in the owners engage with hotel management Marriott’s large family of brands. companies like Ritz-Carlton to benefit from It is likely that guests of Ritz-Carlton the name recognition and favorable brand hotels do not see the Marriott name promi- image that accompany such a name. The nently displayed at a given property because brand rights in such a case typically remain the Ritz-Carlton name is associated with a in force for the duration of the agreement particularly high level of luxury and personal and, perhaps more importantly for our service that distinguishes it from all other

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Marriott brands. If consumers seeking the as many markets as possible. Yet the inter- specific qualities that they associate with ests of an operating company with several the Ritz-Carlton name were to see that name brands in the fold could conflict with those explicitly associated with Marriott—with of a property owner. If the managers attempt “Marriott Ritz-Carlton” emblazoned all over to move multiple brands into a given mar- the properties, for example—they might ket, and when the brands are positioned dif- assume that the level of luxury that they had ferently, that may well produce no detrimental associated with Ritz-Carlton was now com- effects on individual properties under the promised. This would be a classic case of same brand umbrella. After all, there is little brand dilution. (To avoid this, when Marriott resemblance between, say, a Ritz-Carlton bought Ritz-Carlton, it made the latter a sep- and a Fairfield Inn. Even within a given arate strategic business unit within the Mar- geographical territory, they are going to riott corporate structure, complete with its appeal to different market segments. But own central reservations system.) Brand dilu- the potential for conflict by introducing tion occurs in other circumstances as well, multiple brands within one market is obvi- however, which explains the contractual ous (for more on this topic, see McCarthy interest expressed by property owners in and Raleigh 2004). restricting same-brand competition within When Marriott International completed a given territory through a “radius clause.” its purchase of The Ritz-Carlton Hotel When nearby properties operate under the Company in 1999, it had set the crown jewel same brand name, they could “thin” the in its brand portfolio. Johnson Properties brand equity the name represents, preventing had already expanded the brand signifi- either property from realizing the full poten- cantly by that time, and the Ritz-Carlton tial of the brand to generate revenue in that Bali Resort and Spa, owned by KMS, an market. This could result in brand dilution. Indonesian hotel company, has been widely It may not affect the parent brand’s business, regarded as one of the world’s premier lux- but it can adversely affect the profitability ury resorts since it opened for business in of individual property owners: 1996 (the project was initiated in 1991). Combining a hotel of 368 guest rooms with Although it is seemingly logical that the 78 villas, including 38 new cliff villas offer- operator, as the owner’s agent, should work ing breathtaking ocean views, the property to advance only ownership’s interests, an offers twelve restaurants and lounges; lux- inherent conflict exists between building ury amenities such as putting golf, tennis, an brand equity and owner’s equity. Oftentimes outdoor pool, and an indoor thalasso pool the operator’s decisions benefit the brand but do not necessarily add asset value— that is part of an elaborate spa; and access and, in some instances, may detract from the to secluded Kubu Beach. It has consistently value of the hotel asset. (Crandell, Dickinson, achieved high rankings by worldwide stan- 4 and Kanter 2003, p. 99) dards. Its presence in Bali has helped to elevate that market into one of the top luxury Branded hotel operating companies by tropical destinations in the world. Among its their very nature seek growth, which means chief brand competitors in that market are situating as many properties as possible in Four Seasons, Aman, and Banyan Tree.

4. Among these rankings are Travel and Leisure’s 2004 World’s Best Awards, 24th (August 2004); Condé Nast Traveler’s Top 100, The Best in the World, 18th (November 2004); and Spa Asia 45 Spa Asia Crystal Awards, 2nd (December 2001).

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Thus, when Marriott opened the Bulgari The creation of the Bulgari Hotels and Bali with help from Ritz-Carlton, it was Resorts brand is an example of such a prac- apparently in violation of the agreement tice, extending both the Bulgari brand (into by virtue of which Marriott, through Ritz- the hotel business) and the Ritz-Carlton Carlton, managed the Ritz-Carlton Bali, brand (into a new line of luxury proper- owned by KMS, even though the new ties), but this is the most general charac- property did not bear the Ritz-Carlton terization of what has taken place. From a name. Was this a form of brand dilution? It marketing standpoint, brand management would appear so if it is a case of brand con- strategies on the part of one entity may fusion, a specific form of brand dilution, adversely affect the market position of other protection against which is provided by the entities, a phenomenon sometimes known Trademark Dilution Revision Act of 2006.5 as brand dilution. Whether this is a case of Brand confusion occurs when the same brand dilution depends crucially on the rela- brand operates two properties in a given tionship between Ritz-Carlton and Bulgari market. Whether that occurred as a result in the Bali market, where it affects the of the opening of the Bulgari Bali depends Ritz-Carlton Bali. We argue that, whether on the precise nature of the relationship or not it is brand dilution in that market, between Bulgari Hotels and Resorts and the relationship more broadly is a case of The Ritz-Carlton Company, LLC, and on cobranding. Cobranding occurs when two the manner in which this relationship was “parent” brands join forces in some way to used in the launch and operation of the enhance the images of both brands. That is, Bulgari Bali. This is because the effects of consumers who respect both of the brand brand confusion in this case apply only to the names involved in a cobranding venture Bali market. As we have noted, this cobrand- should find the combination of brands even ing venture would likely increase both Ritz- more attractive than either by itself—or at Carlton’s and Bulgari’s brand equity. There least find that the combination in a particu- would be no brand confusion at the interna- lar local market elevates the attractiveness tional level between Ritz-Carlton and Bulgari, of a given property relative to that of its because they represent distinct industries, local competitors. If this is true, the strategy albeit Bulgari was now entering the world of of bringing in Ritz-Carlton to help develop, lodging. At the same time, however, in the market, and manage the Bulgari hotels Bali market, it would dilute the Ritz-Carlton should benefit both companies. Bali’s brand, the equity from which KMS We argue here that the relationship had contracted with Ritz-Carlton to enjoy. between Ritz-Carlton and Bulgari Hotels is The brand confusion would come into play an instance of cobranding because it is a at that local market level, as potential cus- marriage of Ritz-Carlton’s expertise in the tomers would choose between the Ritz- development, marketing, and management Carlton Bali and the Bulgari Bali. of luxury hotel properties with Bulgari’s expertise in design and luxury product Brand Management Issues marketing. Furthermore, we suggest that it Pertaining to KMS v. Ritz-Carlton was undertaken for conventional branding We have mentioned the practice of brand purposes—to create a market position and extension in noting the many brands that are grow market share. Bulgari provides the typically managed by major hotel companies. design features of its hotel properties while

5. 15 U.S.C.A. s. 1051 et seq.

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Ritz-Carlton provides the approach to Four Legal Cases Involving managing the facilities and molding the Hotel Management agreements personnel and services into a set of viable Our earlier claim that management agree offerings that suggest to the consumer that ments have come to be viewed by the to stay at a Bulgari hotel is to experience courts as instruments governed by agency the ultimate in luxurious, personalized ser- law is based on several court decisions, vice and amenities. The goal of achieving the most important of which were Robert this elevated level of product luxury was E. Woolley et al. v. Embassy Suites, Inc. et the business driver that led to the partner- al. (1991); Pacific Landmark Hotel, Ltd. ship between Ritz-Carlton and Bulgari. v. Marriott Hotels, Inc. (1993); Govern- The problem in the Bali case was that ment Guarantee Fund of the Republic of there was already a Ritz-Carlton in Bali. Finland v. Hyatt Corporation (1996, Even if the cobranding of Ritz-Carlton and 1998); and 2660 Woodley Road Joint Ven- Bulgari enhances the brand value or image ture v. ITT Sheraton Corporation (1998, of both of those firms and as a consequence 1999). These cases have had the cumulative creates considerable brand equity in their effect, reflected in the disposition of KMS Bali property, that effect posed a threat to v. Ritz-Carlton, of clarifying (and appar- the Ritz-Carlton Bali owned by KMS, ently restricting) the rights of companies which, however strong its reputation (and operating hotel properties under manage- it was strong indeed, as evidenced by its ment agreements. To understand how this top ranking in leading international travel has affected the legal framework within magazines such as Travel & Leisure), would which management agreements operate, now face a competitor in its local market we must briefly review some main prin- that was benefiting from cobranding. To be ciples involved in agency law. sure, the name “Ritz-Carlton” rarely occurs According to the Legal Information in the consumer-facing communications Institute of the Cornell University Law or facilities of Bulgari Hotels and Resorts School, (although the initial marketing campaigns of Marriott, Ritz-Carlton, and Bulgari prom- Agency law is concerned with any inently featured the role of Ritz-Carlton). “principal”-“agent” relationship; a relation- There are good reasons, however, to consider ship in which one person has legal author- this relationship an example of cobrand- ity to act for another. Such relationships ing, and if it is an example of cobranding, arise from explicit appointment, or by there are in turn good reasons to argue that implication. . . . The law of agency is based the brand equity that the Ritz-Carlton Bali on the Latin maxim “Qui facit per alium, enjoyed through its relationship with Ritz- facit per se,” which means “he who acts through another is deemed in law to do it Carlton would be diluted by the presence himself.” Agency, in its legal sense, nearly of the Bulgari Bali. We shall return to these always relates to commercial or contrac- issues after we discuss some of the details tual dealings.6 of KMS v. Ritz-Carlton. To set the stage for that review, we examine four earlier cases Anything an agent does on behalf of a that centered on the legal status of hotel principal—the person or other entity that has management agreements. authorized the agent—is legally an action

6. Quoted from the Legal Information Institute website, http://topics.law.cornell.edu/wex/agency (accessed January 28, 2009).

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for which the principal can be held for KMS’s suit against Ritz-Carlton. In the responsible. The courts have interpreted this first two cases, the property owners had ter- through agency law to mean also that the minated their management agreements; the agent bears certain common-law or fiduciary hotel management firms then challenged duties to the principal to ensure that the prin- the terminations in court by asserting that cipal’s interests are protected and promoted the management agreements by their terms through the agent-principal relationship. were irrevocable. In the earliest case, The recognition by the courts of specific Robert E. Woolley et al. v. Embassy Suites, fiduciary duties under agency law estab- Inc. et al., the 1991 ruling in favor of the lishes a set of principles that can supersede owner was based on the principle that “any the specific terms of an individual agree- provision in the hotel management agreement. They are duties that apply in addition ment attempting to restrict owners’ powers to and even in spite of any explicit contrac- to terminate manager would be ineffective tual obligations (Wilson 2001, 12, 47). In in light of the owners’ absolute power, as other words, independently of the express principals, to revoke agency even if char- terms of a written agreement, agency law acterized as irrevocable.”8 The common law imposes implicit duties that apply regard- of agency, which allows the principal to less of the content of the express terms of revoke the power of its agent, superseded such an agreement. Such duties were set the management agreement terms, which forth in the Restatement (Second) of the stated that the agreement was irrevocable. Law of Agency (1958). In accordance with The next case, which came to trial in these duties, an agent must, among other 1993, closely followed the reasoning from things, always act in the best interest of the Woolley v. Embassy Suites. The ruling in principal, be loyal to the principal, main- Pacific Landmark Hotel, Ltd. v. Marriott tain good faith in dealing with the princi- Hotels, Inc. again came down in favor of pal, provide to the principal full disclosure the hotel owner, with the court finding that of all activities, and provide to the princi- the “management firm did not have agency pal a complete rendering of accounts. In coupled with interest so as to preclude general, agency law requires the agent to owner from exercising power to terminate obey the principal’s directives. The frame- agency.”9 work established by these obligations has The principle was reiterated that, unless been interpreted more recently, in the the hotel manager had an “agency coupled Restatement (Third) of the Law of Agency with an interest” by a share in the hotel (2005), to include a “duty to refrain from ownership, the owner had an absolute competing with the principal and from tak- right to terminate the agreement at any time ing action on behalf of or otherwise assist- despite contrary language in the manage- ing the principal’s competitors.”7 This last ment agreement. The hotel manager was an duty, it seems clear, forms the basis of the agent whose benefits were the manage- case made by KMS against Ritz-Carlton in ment fees and incentives provided by the the circumstances of the Bulgari Bali. agreement. The remedies of the manager Let us now briefly consider the four were to claim for damages from breach of precedent-setting cases that set the stage the management agreement, but the agency

7. American Law Institute, Restatement (Third) of the Law of Agency (2005), §3.12 at 248, 253. 8. Robert E. Woolley et al. v. Embassy Suites, Inc. et al., 227 Cal. App. 3d 1520, 278 Cal. Rptr. 719 (1st DCA Cal. 1991). 9. Pacific Landmark Hotel, Ltd. v. Marriott Hotels, Inc., 19 Cal.App.4th 615, 23 Cal.Rptr. 2d 555 (3rd DCA Cal. 1993).

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relationship was terminable at will by were later reduced on appeal in 2004,12 a the owner. precedent had been set for considering the The circumstances of the third case, fiduciary relationship of agency in a hotel Government Guarantee Fund v. Hyatt Cor- management context. poration (1996, 1998), were more com- We now summarize the implications of plex. The Government Guarantee Fund of these four cases in which agency law has the government of Finland had stepped in been consistently applied to the termina- to secure a failing bank that had foreclosed tion of hotel management agreements. The on a mortgage taken out by the owner of a cumulative effect of these decisions has hotel that had hired Hyatt as its manage- been to change the landscape on which ment firm. Government Guarantee then sold property owners and hotel management the property to a Finnish government– companies approach their contractual obli- owned holding company, 35 Acres. That gations. Even though the decisions strictly company terminated the agreement with speaking did not create new rules govern- Hyatt almost immediately. Hyatt, refus- ing such agreements, it has been observed ing to vacate the premises, found itself in that “none of the foregoing rules [of agency] court, which ruled in favor of the new was commonly understood or even recog- owner on the basis of the 1958 Restate- nized by hotel owners and operators prior ment on Agency.10 Again, the hotel owner’s to the early 1990s. Today, however, those right to revoke the management agree- rules influence the manner in which hotel ment with Hyatt was validated, despite owners and operators negotiate and draft contrary agreement language. their management agreements . . .” The fourth case, 2660 Woodley Road v. (Renard and Motley 2003, p. 59). The ITT Sheraton Corporation (1998, 1999), most important implications of the cases was still more complex, due to joint own- for hotel owner-manager relationships ership issues and the creation of a separate are as follows: corporation to represent the owner’s interests. Again, however, the courts applied •• Hotel management agreements fall agency law and ruled in favor of the owner. under agency law. Finding no coupled interest in the man- •• Agency law confers fiduciary duties agement agreement with Sheraton, the upon hotel managers under agree- court held that the latter’s role as agent ment that supersede the specific terms was revocable.11 of such a agreement, even when those What makes the Woodley case more terms seem to contradict such duties. interesting in connection with the outcome •• Under agency law, owners have the of KMS v. Ritz-Carlton is that it was the right to terminate agreements at any time, regardless of contractual terms, first such case in which a jury was able to unless the agency granted in the agree- scrutinize the accounting books reflecting ment is “coupled with an interest.” the hotel’s operations in light of the fidu- •• It is difficult to prove such an interest, ciary duties implied by agency law. As a even where its existence is stated result the jury awarded damages to the expressly in a management agreement; plaintiffs, three-quarters of which were and it cannot include “management punitive damages. Although the damages fees, protected trademarks and trade

10. Government Guarantee Fund of Finland v. Hyatt Corporation, 95 F.3d 291 (3d Cir. 1996). 11. 2660 Woodley Road v. ITT Sheraton Corporation et al., 1998 WL 1469541 (D.Del. 1998). 12. 2660 Woodley Road v. ITT Sheraton Corporation et al., 369 F. 3d 732 (3rd Cir. Del. 2004).

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names, proprietary chain services, [or] villas with no central hotel building. It fea- management expertise” (Renard and tures a restaurant, a bar, elaborate spa facil- Motley 2003, 69). ities, ocean views, and beachfront access. •• An owner’s termination of a agree- With Ritz-Carlton’s exclusive brand image ment can be voided only if it is shown conveying the ultimate quality in hotel ser- to be wrongful, which requires dem- vice and amenities and Bulgari’s exclusive onstration that the power of agency is brand image conveying the ultimate style coupled with an interest. •• A hotel manager may be required to in jewelry and accessories, the new Bulgari open its accounting books and dis- Hotels and Resorts, a brand extension of close its operating practices as a con- Bulgari and a cobranded (Bulgari and Ritz- sequence of its fiduciary duties to an Carlton) division of Marriott, promised to owner. set a new standard of luxury and haute cou- •• An owner may be entitled to substan- ture in the hotel industry—hospitality in the tial damages as a result of violating its grandest of styles. With both brands, Ritz- fiduciary duties under agency law. Carlton and Bulgari, the Marriott brand itself would remain in the background. We In addition to all these points, we have have already noted that such a strategy already noted that the Restatement (Third) would prevent dilution of the Ritz-Carlton of the Law of Agency establishes a pre- brand. The same should be true for the sumption that hotel management firms are Bulgari brand. obliged to refrain from practices that create Yet the Bulgari initiative would involve or promote competition against a given the Ritz-Carlton brand and the question property to which it is under agreement. It became, Did Marriott, in arranging for is on this basis that we now add KMS v. Ritz-Carlton to help develop, market, and Ritz-Carlton to the list of precedent-setting manage the Bulgari hotel properties, vio- cases, because Ritz-Carlton was unable to late the brand rights that KMS had acquired show in its defense that it had not violated through its management agreement with a noncompete clause in its agreement with Ritz-Carlton? The answer, according to the KMS (even though under agency law no jury, was an emphatic yes. The lawsuit that such clause would have been required to was filed on behalf of KMS alleged that it protect KMS from competitive behavior violated both territorial and other brand on the part of Ritz-Carlton). We turn now rights pertaining to its use of the Ritz- to the particulars of the case itself. Carlton name, and we now consider the KMS v. Ritz-Carlton: One merits of that case in some detail. The jury, finding in favor of KMS, awarded $382,000 Company, Two Luxury Brands in compensatory damages and $10 million in Partnership in punitive damages.13 The jury also found When Marriott entered into its part- that Ritz-Carlton had committed a material nership with Bulgari S.p.A. in 2001, Ritz- breach of the management agreement, Carlton was the natural choice to help which permitted KMS to immediately ter- develop, market, and manage the new prop- minate its agreement with Ritz-Carlton. We erties. The Bulgari Bali differs from the discuss the final outcome of the case Ritz-Carlton Bali insofar as it is smaller below. Here we attempt to explain why and consists entirely of fifty-nine luxury Ritz-Carlton was unsuccessful in its defense.

13. The parties subsequently settled the case for an undisclosed amount on confidential terms.

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Ritz-Carlton argued that its role in the on Bali for a ten-year period that would operation of the Bulgari hotels does not end in 2014, after which it provided for an involve the use of Ritz-Carlton brand rights approximately forty-five-kilometer radius because the Bulgari brand name is strong within which Ritz-Carlton was not to oper- enough to stand on its own, and neither of ate such a hotel. The critical phrase in this the existing Bulgari hotel properties bears clause is, however, “Ritz-Carlton rights.” Yet the Ritz-Carlton name or logo on its prem- Marriott’s determination to jump on a ises. In whatever way the Ritz-Carlton name worldwide marketing strategy bandwagon might have been used to promote these by using a successful brand from another new hotels, there was nothing for the Ritz- industry to expand its luxury market offer- Carlton name to add to the cachet of the ings persuaded it to neglect the fact that Bulgari name, which, if anything, was posi- by situating the new property on Bali tioned to provide an even more exclusive it risked violating KMS’s agreement with level of luxury and style than Ritz-Carlton. Ritz-Carlton.14 Apparently no one consid- Moreover, according to the defense, Ritz- ered the potential conflict with the Ritz- Carlton’s agreement with KMS effectively Carlton Bali to be serious enough to hold made it an independent contractor, able to up the project because the new property use its name freely for its own purposes. would not be called a Ritz-Carlton. KMS To see why Ritz-Carlton lost its argu- was able to convince the jury, however, that ments, consider the following language the radius clause applied to this case because from the management agreement between the manner in which the Bulgari was devel- KMS and Ritz-Carlton. In particular, KMS oped, managed, and marketed violated those argued, building the Bulgari Bali only about brand rights acquired by KMS. To see this, five kilometers from the Ritz-Carlton Bali consider the contractual language in which violated clause 2.7 of the agreement, which these rights were conveyed to KMS. The provided the following protection against Ritz-Carlton brand rights include the potential competitive disadvantage of another Ritz-Carlton-operated hotel in the (i) the names and marks “Ritz-Carlton”; Bali market: (ii) the Ritz-Carlton logo attached hereto as Exhibit B; and (iii) all other words, trademarks, indicia of origin, slogans and designs 2.7 Territorial Restriction (including restaurant names, lounge names, (a) From and after the . . . Commence or other outlet names) used or registered ment Date while this agreement shall be by Ritz-Carlton or any of its Affiliates and in effect, Operator [Ritz-Carlton] shall which are used to identify or are otherwise not, without prior approval of Owner used in connection with Ritz-Carlton Chain [KMS] . . . open another hotel using the hotels . . . all of the foregoing being indica- Ritz-Carlton rights within the Island of tive of the renowned Ritz-Carlton mystique, Bali, Indonesia. . . . programs, processes, procedures, and systems (including the philosophy that drives cus- This clearly is the equivalent of a radius tomer satisfaction, the business management clause of this management agreement. In model, business strategies, the employee fact, the agreement prohibited Ritz-Carlton selection, training and career development from managing a comparable hotel property approach, and the Ritz-Carlton Standards).

14. Similar partnerships have included Baccarat Hotels & Resorts, a partnership between Starwood Capital and Baccarat Crystal; and Armani Hotels & Resorts, a partnership between Emaar Hotels & Resorts LLC and Giorgio Armani SpA. Donatella Versace has a hotel property (but not yet a chain) in Australia, the Palazzo Versace, with another opening in Dubai.

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In arguing that the relationship between Bali market was already providing ample Ritz-Carlton and Bulgari, in particular with evidence, was too valuable to abandon. For respect to the Bulgari hotel in Bali, violated its part, Ritz-Carlton argued that because it these rights, KMS focused its testimony was an independent contractor with KMS on the intangible assets that Ritz-Carlton it bore no responsibility for any fiduciary provided. In an exchange of testimony duties owed to KMS under agency law. between expert witnesses for both sides, In the end, there was abundant evidence a witness for Ritz-Carlton argued that, and testimony establishing that, in market- because the Bulgari Bali did not publicly ing terms, Marriott and Ritz-Carlton had display the “Ritz-Carlton” name or logo on arranged a cobranding partnership between its physical, tangible assets—the facilities Bulgari and Ritz-Carlton. In reference to and grounds—Ritz-Carlton had not violated the above-quoted brand rights clause of KMS’s brand rights to the Ritz-Carlton the management agreement, Ritz-Carlton name. In rebutting this testimony, an expert was using the Ritz-Carlton name to market witness for KMS argued that the intangible the new venture in the industry as well as attributes “are the very attributes underly- Ritz-Carlton managerial expertise to man- ing the Ritz-Carlton rights in this case.”15 age the property. Indeed, as we will make apparent here, As we have seen, cobranding occurs when KMS was able to show that the Bulgari two “parent” companies create a “child” by Bali project publicly involved not only combining key aspects of their respective explicit references to Ritz-Carlton as a brands. KMS argued that this is precisely “partner” with Bulgari in various media what Marriott did in bringing together the but, more specifically, that it involved many cachet of Bulgari style with that of Ritz- elements of the list of intangibles in the Carlton’s hotel management reputation to above-quoted brand rights clause of the create Bulgari Hotels and Resorts. Expert management agreement between KMS and testimony from the case established this Ritz-Carlton. proposition to the satisfaction of the jury. Not long after the Bulgari Bali’s planned In particular, it was shown that not only did opening was announced, KMS saw that it the name “Ritz-Carlton” as well as refer- would lose market share to the newcomer. ences to it as Bulgari’s “partner” appear on KMS sent a letter to Simon Cooper, then various web sites and other media available the CEO of Ritz-Carlton, expressing the publicly (likely to be seen by industry insid- concern that Ritz-Carlton’s activity with ers and customers alike), but Bulgari would Bulgari on Bali was in violation of its con- be using Ritz-Carlton staff training and tracted brand rights. The suit was brought career development processes, the Ritz- after KMS found Cooper’s response to be Carlton central reservation system (reserva- inadequate (the suit was first brought in tions at Bulgari hotels can be made through California but moved to Maryland near Ritz- either its own or Ritz-Carlton’s reservation Carlton’s corporate headquarters). Appar- systems), a Ritz-Carlton booth at a trade fair, ently the initial letter sparked some internal Ritz-Carlton’s incentive system for travel debate within Ritz-Carlton’s and Marriott’s agents and group travel brokers, and so on. management teams, but the potential upside It was shown, for example, that Bulgari of the initiative with Bulgari, for which the coveted Ritz-Carlton’s hotel management

15. Dr. Chekitan S. Dev, Expert Report, “Rebuttals to the Critiques of My Opinions by: Dr. Jeffery Alan Durbin and Mr. Roger Cline,” in Civil Action No 8:05-cv-00787-PJM, P. T. Karang Mas Sejahtera, Plaintiff, v. Marriott International, Inc., et al., Defendants, p. 6.

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cachet to legitimize its hotel venture. Citing for booking customers at Bulgari hotels. a quote from Bulgari CEO Francesco Tra- Moreover, the Marriott official also agreed pani, an expert witness argued that cobrand- with a statement that Bulgari relied on Ritz- ing was an explicit part of the strategy: Carlton for “operational and management “In lodging, the brand is becoming more activities unrelated to the physical appear- important. You’re happier if you’re able ance and construction of the hotel.”17 to say, ‘I went to a brand that’s considered On January 25, 2008, the jury handed prestigious.’” Adding, “We could not afford down its decision to assess compensatory to be unsuccessful,” Trapani further indi- and punitive damages as noted above and cated the brand value that Bulgari perceived to permit KMS to terminate its manage- in a partnership with Ritz-Carlton. After all, ment agreement with Ritz-Carlton.18 In the even though the Bulgari name is a world- words of KMS’s counsel, Bickel & Brewer, wide symbol of luxury and haute couture, “Ritz-Carlton breached its fiduciary duty it had no prior association with the hotel from a financial, operational, and competi- business and might be perceived as inex- tive point of view,” thereby committing “a perienced and potentially inept at hotel material breach of loyalty” in using “the management. As the witness suggested, Ritz-Carlton name and brand to operate “Mr. Trapani feels that customers need to another hotel on the Indonesian island of be convinced that they would not be disap- Bali without our client’s consent.”19 After pointed at a Bulgari hotel because Bulgari the case was dismissed, KMS did termi- hotels had the Ritz-Carlton hospitality nate its management agreement with Ritz- engine under its hood.”16 Carlton. KMS has now contracted with Testimony in the case established sev- another management company, the West eral other ways in which the Bulgari Bali Paces Hotel Group (which, not coinciden- violated KMS’s contractual rights to the tally, includes as its chairman and CEO Horst exclusive use of the Ritz-Carlton name and Schulze, who formerly worked for Ritz- its obligation not to compete with KMS’s Carlton), and rebranded its Bali property, property on the island of Bali. An official officially becoming the Ayana Resort and representing Marriott admitted in a deposi- Spa in 2009. tion that the Bulgari Bali used Ritz-Carlton’s It is difficult to find much credibility in recruiting and placement system (called Ritz-Carlton’s claims that the Bulgari brand Pearlnet) to staff the facility, its international name needed no help from Ritz-Carlton. sales organizations (ISOs) to market it, and KMS was, in the end, able to convince the its central reservation system to book cus- jury that the cachet of the Ritz-Carlton brand tomer stays. Moreover, the deposition shows was being exploited in a way that posed that Bulgari had shared booths at trade a competitive threat to KMS in violation shows with Ritz-Carlton (booths that would of its fiduciary duties—and contractual typically show the Ritz-Carlton logo and be arrangement—with Ritz-Carlton. In so doing, appointed in Ritz-Carlton corporate colors) the jury also found the argument based and that Ritz-Carlton rewarded travel agents on Ritz-Carlton’s contractual status as an

16. Ibid., p. 10. 17. Dr. Chekitan S. Dev, “Supplemental Report,” in Civil Action No 8:05-cv-00787-PJM, P. T. Karang Mas Sejahtera, Plaintiff, v. Marriott International, Inc., et al., Defendants, pp. 3–8. 18. The case was decided under the laws of the state of Georgia, United States, pursuant to a clause in the parties’ Operating Agreement. 19. Bloomberg, “Bickel & Brewer: Ten Million Dollar Jury Verdict Announced,” http://www.bloomberg.com/apps/ news?pid=conewsstory&refer=conews&tkr=BUL%3AIM&sid=a04b13Zunp3k (accessed February 2, 2009).

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independent contractor unconvincing, instead by reminding hotel managers that they finding that Ritz-Carlton did, after all, owe owe to property owners a set of duties that to KMS a range of fiduciary duties that may well supersede specific rights that included not competing with another prop- are included in contractual language. The erty it was operating. fiduciary responsibilities that include loyalty and not competing with existing prop- Managerial Implications erties apply regardless of specific contractual KMS v. Ritz-Carlton was almost imme- terms. Moreover, it should make it easier for diately hailed as an important case, confirm- property owners to include in management ing yet again the applicability of agency law agreements explicit terms that reflect these to hotel management agreements, thereby duties, as managers can no longer assume providing legal recourse against perceived that duties that are not explicit in agree- violations of fiduciary duties associated ments do not apply. As noted in an earlier with agency law, even if a given agreement commentary on the four 1990s cases we might seem not to impose such duties have reviewed here, these legal develop- explicitly. In particular, it applied the non- ments “have substantially shifted the balance competition restriction that was included in of power between owners and managers, the 2005 Restatement (Third) of the Law of and have introduced an entirely new set of Agency while shedding new light on the risks, liabilities, and uncertainties into the role of brand rights in hotel management industry. . . . Management . . . companies agreements. No longer can a hotel manage- have placed added emphasis on disclosing ment company, no matter the strength and the details of their centralized services and scope of its corporate resources, success- corporate programs and the methods by fully defend itself on the grounds that it acts which owners are charged for their ser- as an independent contractor when arrang- vices” (Renard and Motley 2003, 59). This ing to manage hotel properties or that con- should reduce the incidence of lawsuits tractual clauses explicitly render its agency against managers on the part of owners. power revocable. Adding this case to the These rulings should also cause hotel other four we have reviewed above, we management companies, especially the large argue that developers and property owners ones with lengthy brand portfolios, to have achieved a much stronger position rel- undertake expansion and enter new mar- ative to that of the hotel management com- kets much more carefully than they may panies, a position that is now recognized by have in the past. The corporate meetings the courts—rather emphatically, consider- in which Marriott and Ritz-Carlton execu- ing the size of the judgment in this case. tives considered the letter from KMS ini- In this era of profligate brand extension tially protesting Ritz-Carlton’s role in the in industry after industry, these rulings should Bulgari Bali would have to run a bit differ- provide to prospective hotel property own- ently now. It can no longer be assumed that ers some measure of confidence that, when market expansion decisions involve only they enter busy hotel markets with multi- a simple calculation weighing minor set- ple brand extensions and cobranded opera- tlement fees against prospective market tions, they are protected against same-brand gains. In the case discussed here, it is likely competition in their respective competitive that, although they recognized that they sets and market segments. It should encour- might be on thin ice, the allure of a Bulgari– age them to challenge potential difficulties Ritz-Carlton partnership was too powerful

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to relinquish to avoid a lawsuit. The size of power with an interest in the Bulgari ven- the awards (the court has not yet determined tures, should a contractual dispute with the legal fees, so the amounts remain tenta- Bulgari arise. tive to that extent), which might well esca- At this point, it remains to be seen what late in future cases should courts perceive specific effect this lawsuit and KMS’s termi- that KMS v. Ritz-Carlton did not send a nation of its agreement with Ritz-Carlton strong enough message to hotel companies, will have on large multibranded firms should be sobering. Perhaps the largest like Marriott, Starwood, InterContinen- hotel management companies will continue tal, Hilton, and Hyatt. After all, the Bulgari to accept such legal actions as a cost of Bali remains in business, and Ritz-Carlton doing business, but it seems likely that they remains the engine under its hood. If the will from now on consider with much greater Bulgari Bali continues to grow its market care the brand rights implications of expan- share while the newly rebranded Ayana sion into hotel markets, avoiding such same- Hotel and Resort thrives under West Paces brand conflicts to a much greater extent than management, even such a large judgment in the past, when they might have willingly might prove unpersuasive. On the other undermined the market position of one man- hand, that West Paces includes expertise aged property for the sake of a new one from former Ritz-Carlton executives in with greater market potential. its management structure may signal that Alternatively, hotel firms might be more Ritz-Carlton and Marriott will eventually willing to assume the burdens of property face a formidable competitor in luxury ownership in some markets, since indepen- markets, one that better understands the dent property owners seem now to have the changing legal landscape in which market upper hand. That will always depend in par- competition plays out. What we do know, ticular cases on detailed cost and profitabil- based on our communication with the legal ity analyses, but these companies now realize counsel of two large multibranded hotel com- that their efforts to build broad brand equity panies, both of whom declined formal com- will be more difficult because they cannot ment on this case, is this: hotel management do so without simultaneously promoting firms are looking carefully at this case and and preserving the rights of the owners of thinking about its ramifications for negotiat- properties they manage. Indeed, Marriott ing their management agreements and devel- assumes a 35 percent ownership stake in oping brand strategy. Specifically, one change Bulgari Hotels and Resorts (Bulgari has the in business practice that can be attributed to other 65 percent), a stake that would seem the outcome of this case is that in manage- to provide a strong incentive to Marriott ment agreements, operating agreements are not to have Ritz-Carlton operate hotels with now being negotiated separately from brand outside ownership in markets in which rights in two separate documents, each with Bulgari operates (and ought to have made its own fee structure. We expect this will it sympathetic to the plight it created for the become a permanent change in modus ope- Ritz-Carlton Bali).20 Such an ownership randi for the negotiation and administration stake seemingly provides Ritz-Carlton of hotel management agreements by branded with a stronger case that it has agency hotel management companies.

20. Tracie Rozhon, “For Bulgari, a New Look and New Ventures,” New York Times, Business, April 6, 2007, http://www.nytimes.com/2007/04/06/business/07bulgari.web.html?_r=1&pagewanted=2 (accessed on February 2, 2009).

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References McCarthy, Jon M., and Lori E. Raleigh. 2004. Evaluating franchise and chain affiliation programs. In Hotel asset Crandell, Chad, Kristie Dickinson, and Fern Kanter. management: Principles and practices, ed. Paul Beals 2003. Negotiating the hotel management agree- and Greg Denton. Lansing, MI: Educational Institute ment. In Hotel asset management: Principles and of the American Hotel and Lodging Association. practices, ed. Paul Beals and Greg Denton. Lansing, Renard, James S., and Kristi Motley. 2003. The agency MI: Educational Institute of the American Hotel challenge: How Woolley, Woodley, and other cases and Lodging Association. rearranged the hotel-management landscape. Cornell Keller, Kevin Lane. 2008. Strategic brand management. Hotel Administration Quarterly 44 (3): 59-76. 3rd ed. Upper Saddle River, NJ: Prentice Hall. Wilson, Robert H. 2001. Agency law, fiduciary duties, and Marriott International. 2006. Marriott International 2006 ann hotel management agreements. Journal of Hospitality ual report. Washington, DC: Marriott International, Inc. and Tourism Research 25 (2): 12, 47.

Chekitan S. Dev, Ph.D., is a professor in the School of Hotel Administration and Cornell University (csd5@ cornell.edu). John H. Thomas is an assistant assistant professor in the School of Hospitality and Tourism Management at Florida International University ([email protected]), where John Buschman is an instructor and graduate research assistant (john [email protected]). Eric Anderson received his master's degree in hospitality and tourism management from Florida International University in 2009 ([email protected]). The authors thank the following for their helpful comments: William Brewer, James Renard and Ken Hickox from the law firm of Bickel & Brewer; Rudy Suliawan, owner of the former Ritz-Carlton Bali; James Condo from the law firm of Snell & Wilmer; Cecelia Fanelli and Jonathan Twombly from the law firm of Stroock & Stroock & Lavan.

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