Cause & Effect

by Paul Brown, President, Paul Brown Consulting

Financial troubles for airlines could mean they take a less aggressive role in retail planning, and result in more opportunities for airport retailers. Paul Brown, a consultant with experience at O’Hare, Midway, and Seattle-Tacoma airports, shares his thoughts on changes in airport funding and the impact on concessionaires.

Bad news: The 40-year honeymoon between airports and airlines is over.

Airports have never operated their concessions independently of the airlines. Airlines have traditionally been involved, sometimes directly, sometimes behind the scenes, in determining how an airport’s retail and food and beverage plan is put together. In addition, because of the residual nature of many airport financing relationships (in which airlines foot the bill for the residual shortfall in airport revenues at the end of a financial period), airlines usually have had much to say on how airport capital is spent, how space is allocated, and how an airport’s request for proposal (RFP) respondents are selected.

However, it is not likely that the previous level of airline territorialism will be warranted in the future. The priorities of airlines and airports have started to diverge in light of the current economic environment. As airlines slowly retract from and refine the hub approach, they will continue to file for bankruptcy, missing the occasional lease payment to airports. Meanwhile airports, hungry for cash, will attempt to more prudently manage their inflows in a self-sufficient manner. This pressure will require that airports seek long-term viability from their concessions programs. In short, they will have to rely on their concessionaires more than ever before.

The impacts of airline financial woes on concessions programs will not be limited to the reassignment and decommissioning of gates and hold rooms. The aggregate impacts on airport concessions programs are likely to be varied and far-reaching.

Effect #1: An adjustment to the deal-making balance of power between concessionaires and airports. This is simply the result of concessionaires continuing to learn how to protect themselves from air industry downturns, especially since the impact of the 9/11 attacks. Basically, concessionaires still want to get into airports, but they’re a little wiser than they were ten years ago. Here’s what we can expect over the next five years:

Deal cautious concessionaires. Moving forward, concessionaires want to see financial deals that work, which will require airports to be more creative in attracting desirable retailers and restaurateurs. In order to command high, 20 percent and above rents, airports will need to possess the same winning qualities looked for in street real estate transactions: good visibility, good traffic (enplanements), and good access (post-security locations for most airports).

A pragmatic approach to minimum rent. Many airports (and even some developers) are beginning to see that high-minimum rents that forever escalate, irrespective of major shocks to enplanement levels, contribute to tenant failure. Although the high minimum rent approach works in shopping centers seeking to weed out the weaker merchants, it is a crude, unforgiving hammer in airports where enplanements can vanish overnight due to catastrophe or airline closure. Because of political and budgetary pressures, airports will (and should) be more motivated than shopping centers to preserve full occupancy conditions.

Longer lease terms. Airports, leery of the mall manager’s worst enemy, the vacancy factor, are beginning to offer longer lease terms to tenants, contrary to pre-9/11 trends. It is not uncommon today to find five-year term deals for even the smallest of retailers. Before, airports were content to offer the two- or three-year deal in attempts to minimize commitments and keep the retail concept "fresh."

Redesign of the master concessionaire concept. The master concessionaire is "morphing" into a scaled-down, Austin Powers-like version of itself, affectionately called the "mini-master." Mini-masters function similarly to master concessionaires; however, they only control a portion of the concessions program, which is divided up either by geography or intended use.

Big squeeze on retail space (TSA impact). Don’t look for a huge inventory of airport retail/food space to suddenly become available. The TSA baggage screening mandate is beginning to impact concessions programs in earnest, resulting in the absorption of a number of retail, restaurant, and concessions support spaces into the massive explosive detection device retrofit effort.

Effect #2: Less airline influence in the concessions decisionmaking process. Airlines will continue to be involved in the fortunes of airport concession programs; however, look for that influence to be watered down over time, in the following areas:

Majority-in-Interest (MII) clauses. A boiler-plate feature of the residual airline/airport use agreement, the MII clause governs the degree of control that signatory airlines can exert over airports’ capital investment in the improvement and expansion of their facilities. (A signatory airline refers to one that has signed an airline/airport use agreement). Because there is little congruence in the priorities of airlines and airports, look to airports to attempt to secure the right to perform capital expansion without airline approval. This should play favorably into the hands of airports wishing to modernize outdated food courts and retail shopping areas.

Impact for concessions: More retail/food projects of major consequence; speedier go-no go decisions on retail/food projects that create useable space.

RFP response and evaluation. Airlines typically are invited to sit on committees to evaluate and/or select qualified concessionaires from a list of RFP respondents. The decision to place a particular airline on a commit tee historically depended upon whose "turf" of the terminal was up for consideration. Over time, look for airlines to be less involved in this process as more point-to-point airlines take over what was once "primary airline" space at an airport. This is because the newer discount airlines either do not have enough overhead to devote to tasks that they largely consider to be airport business, or they do not command a significant share of the airport to merit an invitation to sit on a given committee.

Impact for concessions: It is likely that airlines will have less of a say in how a program is put together; however, the selection process will remain largely a political one for the foreseeable future. The loss of airlines’ political influence on the committees will be backfilled with priorities from airport and developer interests.

Space allocation: the move toward self-branding of the airports. Some large airports will use this opportunity of relative airline weakness to convert former proprietary airline spaces, such as ticket counters and hold rooms, into common use facilities in which airlines rent a basically generic space, allowing for airline interchangeability.

Impact for concessions: Airports should be able to recover a great deal of excess space allocations to airlines resulting from long-standing, outdated agreements. However, airlines are loath to give up any ticketing or hold room space – ever. Only the most desperate of carriers will welcome this option to curb operating costs.

A more aggressive interpretation of revenue diversion. This refers to the concept of using airport-generated revenues for non-airport uses, which is a violation of the Airport and Airway Improvement Act.

Impact for concessions: Retailers and restaurateurs today are still interested in airports; however, they are no longer deluding themselves into thinking that the marketing potential of an airport far outweighs the need to be financially viable. This means that airports, in order to attract the "A" tenants, may need to consider leasing spaces at attractive rates that may be lower than the going rate for airport space as dictated by the prevailing rates and charges model. Although this could be construed as possible revenue diversion, look for airports to find ways to skirt the concept by aggregating deals into an acceptable, blended rate. This will allow airports to subsidize the "A" retail and food and beverage tenants with higher rents from less desirable concessionaires.