Magazine article Journal of Property Management

Controlling Risk in Fee Management

Magazine article Journal of Property Management

Controlling Risk in Fee Management

Article excerpt

In today's economic climate, many developers are aggressively pursuing opportunities to earn fee income. They want to escape the uncertainties of equity ownership for the perceived safety of regular fees for providing development management, property management, asset management, or related services.

But, eager for business, developers often sign agreements with institutional owners that require them to assume potential liability far greater than the benefits to be gained from the management contract. Similar demands are also being made of third-party management firms.

Institutional owners defend this transfer of liability to fee managers by arguing that they are paying for a manager's expertise. Consequently, they feel that a manager should utilize that expertise to protect the owner from liability that may arise in the course of management activities.

These contrasting expectations of the owner and the manager usually do not surface until the business understanding is first documented. A win-lose debate often ensues, with each party trying to transfer liability to the other. However, most developers and fee managers lack the economic leverage to win that debate by direct confrontation.

Creatively approaching the allocation of risk in management contracts is vital for ensuring business survival. Several techniques are available:

* Limit the responsibilities of the manager.

* Shift risk to third parties.

* Negotiate all of the elements of an indemnification provision.

* Consider limitations on the applicability of the indemnity.

Limiting management responsibilities

First, limit potential risk by carefully defining the scope of management services. This can be presented as a non-controversial matter, yet will significantly reduce the potential liability borne by the manager. Keep these three general principles in mind:

* Third-party service providers should execute contracts directly with the owner, if possible. Otherwise, the owner's name should appear on all contracts, with the manager listed as agent.

* The manager's duties should be expressly limited to coordination and contract administration, with no responsibility for the actual work performed by the third party, Such provisions should eliminate a manager's liability for third-party acts.

* Avoid phrases such as: "Manager shall obtain all necessary entitlements," "Manager shall cause the project to be substantially completed by (date)," or "Manager shall ensure that the project complies with all applicable laws."

In each case, the manager should only agree to use commercially reasonable efforts to keep the owner informed, to make recommendations, and to implement the owner's decisions. If drafted in a manner that will reflect actual practice, restrictions on the manager's authority are a shield against liability, not an impediment to performance.

Try to negotiate workable reporting requirements and restrictions on the manager's authority, and then follow them. Unrealistic restrictions will be ignored, until trouble strikes and the owner looks to the contract.

Allocating liability to others

Second, shift the risk of liability to third parties. Owners know that managers and developers rarely have deep pockets. Both parties have an incentive to make sure insurance covers as many risks as possible.

It is always worthwhile for the manager's insurance adviser to review the owner's existing coverage as few non-specialists understand this area. Require the owner to carry all recommended insurance coverages, with reasonable deductibles and financially strong carriers. All insurance policies should name the manager as an additional insured and contain a waiver of subrogation so that the insurance company cannot sue the manager.

Even if the premiums cannot be passed through as a project cost, consider obtaining protection not offered by the owner's insurance. …

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