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5 1 Chapter 5 Airport Entrepreneurial Activity â Part II 5.1 Introducon 5.2 Revenue Parcipaon in Real Estate Development 5.3 Revenue Parcipaon in Mineral Estate Development 5.4 Wrap up 5.5 Addional References Chapter 4 described a revenue development strategy that involves airport provided services and shared use of services, facilies, and systems. Today, development of non aeronaucal facilies, such as a tenant logiscs and warehouse facility, is likely to involve an airport sponsor and other business partners. The queson remains, what is the best arrangement from the sponsorâs perspecve to maximize revenues and minimize risk? This chapter discusses ways airport sponsors can parcipate in real estate and natural resources development. The techniques presented in this chapter are applicable to many non aeronaucal development projects. 5.1 INTRODUCTION For airports with developable real estate, several methods can be used to (1) capitalize on their unique posion as transportaon centers and (2) maximize non aeronaucal revenue through real estate or mineral estate development. Collecng ground rent is the most basic and tradional approach to airport real estate development. However, innovave airport directors and business managers have structured other transacons to create new revenue sources, share profits, and further smulate economic development opportunies regionally. Chapter 8 of this Airport Guide presents two case studies of airports with markedly different circumstances that have acvely parcipated in real estate development. These two airports are Pisburgh Internaonal and McCarran Internaonal (Las Vegas) airports. Pisburgh provides an example of airport officials, faced with a stagnant real estate market, capitalizing on their airportâs presence and jumpstarng development acvies. By ulizing creave financing techniques, such as formaon of a tax increment finance (TIF) district, Pisburgh Internaonalâs Allegheny County Airport Authority (ACAA) convinced a well established local developer to construct a Revenue Participation in Real Estate and Natural Resource Development
INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE 5 2 speculave (spec) building on ACAA property. ACAA assumed some of the risk by converng a poron of the spec buildingâs ground rent to parcipaon in future building rents from subtenants. The spec building leased quickly, reflecng demand for office and industrial space in the area. Construcon of addional buildings followed. Acve development demands ensued, leading to mulple development projects, some of which connued to be built on speculaon. The PiÂsburgh Internaonal Airport case study reflects how the use of creave structures and a willingness to accept some risk can smulate new development acvity and, thereby, create new revenue sources for an airport. McCarran Internaonal Airport iniated retail and commercial development projects at a me when the real estate market was robust. The airportâs sponsor, the Clark County Department of Aviaon (Aviaon Department), had acquired 5,226 acres of land from the Bureau of Land Management (BLM), pursuant to the Southern Nevada Public Land Management Act of 1998. Much of the land was located within the airportâs noise abatement zone. The Aviaon Department was able to sell, lease, or transfer land for fair market value and place deed restricons on its use. Acquision of the land presented an opportunity for the Aviaon Department to develop innovave projects. Creave parcipaon structures allowed the airport sponsor to earn revenues in excess of what might have been realized from ground rents. The approach required a risk tolerance not typically associated with airports owned by a municipality or county, but the inial phases of the program produced new and significant sources of commercial revenue for the airport sponsor. This chapter of the Airport Guide presents different ways that airport sponsors can partner with public and private companies to parcipate in real estate and natural resource development. Table 5 1 describes five ways that airport sponsors can parcipate in real estate or mineral estate projects. Table 5 1: Revenue Parcipaon Approaches to Real Estate and Mineral Estate Development Code Types of Revenue Parcipaon Descripon Finance & Property Management â FN FN 1 Parcipang Leases and Equity Parcipaon Sponsor swaps a poron of the ground rent in exchange for a share of future revenue streams. FN 2 Direct Ownership Sponsor acts as developer: plans, finances, constructs, and operates facilies. Profit or loss goes directly back to sponsor. FN 3 Public Private Partnerships (P3s) Sponsor grants a private enty the right to design, build, maintain, operate, or finance buildings or infrastructure. Many opons exist regarding division of responsibilies for construcon, financing, management, and payment to the sponsor who maintains ownership of the parcular asset. FN 4 Joint Development Similar to partnerships in that project parcipants may both help with the costs of development and share in the revenues. FN 5 Mineral Estate Parcipang Leases A potenally significant source of revenue that can come from upfront payment for exploraon acvies, producon royales, and land rent for surface acvity. Source: KRAMER aerotek inc., 2014
CHAPTER 5 â AIRPORT ENTREPRENEURIAL ACTIVITY â PART II 5-3 These approaches apply to a wide variety of property development ac vi es. Figure 5-1 presents examples of facili es and mineral development for which an airport sponsor may consider project par cipa on beyond a tradi onal ground lease. Addi onal discussion about non-aeronau cal ac vity and facili es at airports also is available in addi onal ACRP publica ons, conference proceedings, and industry publica ons, several of which are included as references at the end of this chapter. Figure 5-1: Real Estate and Natural Resources with Potenal for Airport Revenue Parcipaon Source: KRAMER aerotek inc., 2014
INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE 5 4 5.2 REVENUE PARTICIPATION IN REAL ESTATE DEVELOPMENT This sec on describes and evaluates different ways that an airport sponsor can par cipate in non aeronau cal real estate development. FN 2: DIRECT OWNERSHIP Extent of Airport Use Revenue Potential Airport Assumption of Risk Capital Required Complexity to Implement Political & Institutional Challenges - Key Low Moderate High Not Relevant Overview Depending on the circumstances, direct ownership is a valid op on for considera on, whether in the context of real estate development, concessions, parking, mineral extrac on, or other capitaliza on of an airportâs assets. Direct ownership is a more risk inherent approach, no maÂer which airport assets are being considered for further development. Focusing on the development of land for commercial real estate provides a good illustra on of the considera ons that must be taken with the ownership op on. Direct ownership involves the airport sponsor assuming the role of developer and, therefore, the obliga ons and risks inherent in that role. The airport sponsor owns the en re project and receives all the profits. Should the project fail to meet projec ons, the airport sponsor assumes the losses of the failed project, as opposed to being a ground rent recipient. Given that most airports are not tax paying enterprises, such losses do not provide a tax incen ve to them, as they might to a tax paying private developer. The second significant risk is the financing. Should the project fail to generate sufficient cash flow to amor ze debt, the airport sponsor is responsible for all shorÂalls. Addi onally, there is construc on risk. Depending on how the construc on contracts are draÂed, the airport sponsor may be responsible for overruns on construc on costs. The reward for assump on of all these risks is the receipt of 100% of the profits of successful developments. Accordingly, solid financial forecasts are crucial to any analysis of the viability of a project to determine whether such profits are likely to be sufficient to make the risk worthwhile. Extent of Airport Use Direct ownership of any airport asset can be used by all airports to develop new sources of revenue. For example, airports with retail components, excess real estate, or natural resources, to men on a few,
CHAPTER 5 â AIRPORT ENTREPRENEURIAL ACTIVITY â PART II 5 5 have the opon to operate businesses on their own or to contract with third pares to operate businesses based on these assets. Most airports contract out such operaons, but a few airports have begun operang these assets directly. Numerous examples exist of airports taking on direct ownership of various businesses outside of typical airport funcons. In 2010, Denver Internaonal Airport purchased 27 oil and natural gas wells on its property, which have been esmated at generang $3.5 million per year in revenue. PiÂsburgh Internaonal Airport owns and operates a jet bridge refurbishing business. Sarasota Bradenton Internaonal Airport operates a self storage facility. Implementaon The implementaon of ownership for any airport asset or operang component is similar to that of an equity parcipaon proposal.1 Because ownership risk in a project is much higher than the risk associated with a ground lease, however, a detailed risk reward analysis should be developed and discussed with the airportâs governing body so that the sponsor can make an informed decision whether to proceed. Significant staff me will be required to manage properes or businesses directly owned by the airport sponsor. OÂen, hiring new employees who have experience in the type of business they will be operang will be required. If the business already exists at the me the airport takes over, it is reasonable to offer posions to the current employees. Significant addional resources will likely be required, whether it is simply building management or operaonal control. The airport should develop a business plan, as any for profit enterprise would, to achieve cost efficiencies like ulizaon of airport staff that may have excess capacity. Polical, Governance, and Legal Issues The most significant challenge of direct ownership will be countering resistance (including possible polical pressure) based on the private sectorâs opinion that governmental enes should not compete with private sector enes. Nonetheless, the trend is growing for airports to undertake services and developments previously awarded to private operators or developers. If an airport can perform funcons more economically and effecvely than a private sector enty, then the airport should not be precluded from engaging in such acvies. The added compeon helps ensure that the private sector operates in a compeve and responsive manner to receive development and operang rights that are not awarded simply because of polical pressure. Addional issues with direct ownership and operaon of businesses may arise depending on the locaon and type of enterprise being contemplated by the airport. Such issues may require addional research. For example, airports considering using this technique are advised to ascertain the following: Whether state laws present any statutory impediments 1 In this context, equity parcipaon is when the airport invests in a real estate deal and in return acquires a percentage of ownership (equity) in the development project.
INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE 5 6 Whether federal funding is available for airport run operaÂons, if such funding is not available to the private sector Whether the airport sponsorâs operaÂng businesses would lose tax exempt status FN 1: PARTICIPATING LEASES AND EQUITY PARTICIPATION Extent of Airport Use Revenue Potential Airport Assumption of Risk Capital Required Complexity to Implement Political & Institutional Challenges - Overview Real estate development by airports typically has followed a tradiÂonal model when leasing land for commercial development. This opÂon involves a ground lease for a set limit term and a ground rent calculated using the real estateâs appraised value. Although this approach offers the airport a steady and predictable rent stream, any opportunity to share the more lucraÂve building rent is le exclusively for the developer. When an airport sponsor is taking no risk in a development project, the tradiÂonal ground lease approach is appropriate. However, entrepreneurial airport sponsors that are willing to assume some development risk have the opportunity to enhance cash flow from development projects by contribuÂng the land for a ground rent and retaining an equity stake in the developed property. ContribuÂng an asset (such as land) in exchange for equity is referred to as equity parcipaon. AlternaÂvely, an airport sponsor could exchange a porÂon of the ground rent for a share of future building rents received. ReducÂon or eliminaÂon of ground rent in exchange for a share of building rent is executed through a parcipang lease. This arrangement may take the form of a pre negoÂated flat rate for building rent (e.g., $4.00 per square foot) or a share of the project built into the lease rate (e.g., 50% of rent in excess of $10.00 per square foot). Extent of Airport Use Given that both parÂcipatory leases and equity parÂcipaÂon are primarily uÂlized for real estate transacÂons, the use of this technique is limited to those airports that have developable property. Airports whose enÂre land mass is occupied by aviaÂon operaÂons have no room for further development. On the other end of the spectrum, large hub airports and small general aviaÂon airports âThe Sarasota Manatee Airport Authority negoÂated with a developer for a mixed use development. The parcel was divided into pieces, with incenÂves for a full build out of the land. With the first parcel, the developer got a standard 30 year lease. With each addiÂonal piece, the enÂre developed parcel would add incremental increases in years on the lease. A hotel was built first, and its presence raised the value of other land around the parcel. The Authority iniÂated a pilot program that included ground rent from the land and a percentage of gross revenue on any food sales. The revenue parÂcipaÂon program has been very successful.â â Fredrick (Rick) Piccolo, President and CEO, Sarasota Bradenton Internaonal Airport
CHAPTER 5 â AIRPORT ENTREPRENEURIAL ACTIVITY â PART II 5 7 may have acreage available for further development. Coloradoâs Centennial Airport, as well as Dallas/Fort Worth InternaÂonal, Denver InternaÂonal, Edmonton InternaÂonal, El Paso InternaÂonal, PiÂsburgh InternaÂonal, Rickenbacker InternaÂonal, and Salina Municipal airports, are excellent examples of airports with extensive land acreage available for development. UnÂl now, the prevalence of these arrangements also has been limited by most airportsâ non acÂve and risk averse approach to real estate development. Airports that engage in parÂcipatory leases include McCarran InternaÂonal, PiÂsburgh InternaÂonal, and Sarasota Bradenton InternaÂonal. Implementaon ImplemenÂng the restructuring of an airportâs lease negoÂaÂons and, most crucially, involving contribuÂons of land, first requires âbuy inâ or approval by the airportâs governing body. ThereaÂer, it becomes a maÂer of negoÂaÂon with the airport business office and legal counsel charged with negoÂaÂng business transacÂons. Those individuals will be required to develop forecasted financial statements to indicate the potenÂal and most likely investment return over a 5 10 year period. To measure the economic impact on the airport, the analysis must compare fixed ground rent to a sharing arrangement. Polical, Governance, or Legal Issues One addiÂonal benefit of a revised leasing strategy is that there are few impediments to its implementaÂon. The airportâs governing body needs to approve the transacÂon(s), but few other approvals are required. FAA may provide input on lease terms to ensure that the airport is receiving fair market value for its contributed land or parÂcipaÂon in the sublease revenue stream and to confirm that other grant assurances will not be violated. As long as all of the revenues derived from these arrangements remain with the airport, there should be no violaÂons of bond ordinances or any triggering of a revenue diversion issue. It is incumbent upon the airport to partner with the right developer. The developer needs to have sufficient liquidity and net worth to ensure compleÂon of a project. From the airportâs perspecÂve, this is not qualitaÂvely different from simply ground leasing the property to a developer; however, the level of risk is slightly higher for a parÂcipatory lease, and the airport should be even more diligent in its invesÂgaÂon of the developer. One cauÂonary note is that most experienced real estate developers will form special purpose enÂÂes (SPEs) to engage in a project. Doing this is an aÂempt to limit the developerâs liability with respect to their equity in the project. The airport should require minimum capitalizaÂon of the SPE at an acceptable level and appropriate bonding to ensure compleÂon of any project. IndemnificaÂons from an undercapitalized SPE are not worth anything more than what the SPE owns, so a guarantee from either a financially stable parent company or another form of security should be obtained. PoliÂcal consideraÂons may include pressure placed on the airport by highly placed elected officials or others to select a parÂcular partner.
INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE 5 8 FN 3: PUBLIC PRIVATE PARTNERSHIPS (P3s) Extent of Airport Use Revenue Potential Airport Assumption of Risk Capital Required Complexity to Implement Political & Institutional Challenges - Overview Public private partnerships (P3s) take many forms. A common example involves a private operator, typically supported financially by an investment bank or pension fund, bidding for control of certain assets (e.g., parking faciliÂes) of a public enterprise. The bidder calculates a net present value for the assets to be acquired and enters into a long term lease with the public enterprise (e.g., the airport sponsor). The lease term must be sufficiently long to allow the bidder to amorÂze the upfront payment in full and enjoy a reasonable rate of return. Due to the reliability of the cash flow and the more favorable rates of return, P3s have become popular with pension and insurance funds. Extent of Use Although FAA has an established pilot program for airport privaÂzaÂon, the concept of total airport privaÂzaÂon as a new revenue and operaÂon model is not expected to take hold in the United States in the near future.2 PrivaÂzaÂon is the more established business model for many overseas airports. PrivaÂzaÂon of components of the airport is an opÂon available to any airport that has a source of non aviaÂon recurring revenue. The lease of assets may entail a lump sum payment or some form of revenue sharing throughout the term. Subject to the negoÂated lease terms, operaÂonal control is usually ceded to the bidder or its designee. P3s may also take the form of a joint venture, parÂal privaÂzaÂon or both. Implementaon ImplemenÂng any level of privaÂzaÂon is much more involved than the other techniques described previously in this Airport Guide. The process may entail the retenÂon of an investment banker to assist in valuing assets, analyzing proposals, making recommendaÂons to enhance marketability and idenÂfying the market of potenÂal partners. The process varies depending on the assets proposed for a P3 transacÂon. Once that process has been completed and a decision to move forward has been made, an extensive request for proposal (RFP) process is undertaken to idenÂfy the best partnering opÂon and to negoÂate a deal. Depending on the airline operaÂng agreement in place for a parÂcular airport, airline approval may be required. In the event that assets acquired with federal funds are involved, FAA approval may also be 2 Currently, two airports parÂcipate in the FAA privaÂzaÂon program: Airglades Airport (2IS) in Clewiston, Florida, and Louis Munoz Marin InternaÂonal Airport (SJU) in Puerto Rico. Stewart InternaÂonal Airport parÂcipated in the program from March 2000 to October 2007, but is now operated by the Port of New York and New Jersey. Seven addiÂonal airports applied to parÂcipate in the program, but subsequently withdrew applicaÂons.
CHAPTER 5 â AIRPORT ENTREPRENEURIAL ACTIVITY â PART II 5 9 required. Finally, and arguably most significantly, bondholder approval will need to be obtained for any assets covered by outstanding bonds. Each of the foregoing interested groups will likely also seek input into how proceeds from a P3 transacÂon will be uÂlized by the airport. Polical, Governance, and Legal Issues Depending on the airportâs governing body, any level of privaÂzaÂon may require public support. PrivaÂzaÂons, whether parÂal (e.g., an operaÂng component of the airport) or total, generate strong public senÂment if the privaÂzaÂon extends to businesses that interact with the public. Parking again offers a good example. Although privaÂzaÂon may bring the implementaÂon of new technologies and efficiencies, in many instances there may also be impacts on pricing modelsâwhich in turn generates strong public reacÂon. In the publicâs view, airports belong to the taxpayers, whether or not they have been funded enÂrely with bonds and Department of TransportaÂon funds. The conÂnued belief that taxpayer dollars fund airports provides the public with a plaÂorm from which to claim a say in privaÂzaÂon decisions. This places poliÂcal pressure on the elected officialsâwho oÂen are responsible for appointment of airport management or oversight boardsâto react accordingly. As noted above, other stakeholders (bondholders, airlines, FAA) have an interest in any privaÂzaÂon proposals. If the funds raised from any privaÂzaÂon proposal do not go to the airport sponsor, then the airport has the opÂon to not consider the proposal. FN 4: JOINT DEVELOPMENT Extent of Airport Use Revenue Potential Airport Assumption of Risk Capital Required Complexity to Implement Political & Institutional Challenges - Overview Joint development projects share many aÂributes with parÂcipaÂng projects, including parÂal privaÂzaÂons. Joint ventures are similar to partnerships formed for a single purpose, albeit without the formal legal structure inherent in a partnership. In a typical joint venture, the partners make their respecÂve contribuÂons to the venture based on their experÂse or ability to provide property or capital. In the context of an airport, the airport controls unique assets that may be contributed to a venture, whereas the co venturer brings capital and experÂse to capitalize on a revenue opportunity. An example is a contribuÂon of land by an airport to be developed by the co venturer, who provides all of the experÂse of a real estate developer to create a joint development, with revenues shared based on a pre negoÂated split. An example of a joint venture not based on real estate is a master concession arrangement, such as the operaÂon of an airportâs retail faciliÂes or air mall. Once again, the airport controls and contributes the retail operaÂng component of the airport to an experienced operator, who brings leasing experÂse,
INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE 5 10 Denver Internaonal Airport (DIA) has oil and gas development and acve agriculture on the airport. It also owns subsurface water rights. DIA owns the mineral rights on all of its 34,000 acres, but leased approximately 27,000 acres to Petro Canada Resources (PCR) for oil and gas exploraon. In 2010, PCR planned to divest its U.S. upstream oil and gas assets. DIA exercised its first right of refusal to buy back PCR assets on the airport property. As a result, the airport has more than tripled its original investment in the mineral rights re purchase. DIA also has water rights. The airport does not own surface water, but owns subsurface water (approximately 26,000 acre feet). The airport has no current plans to moneze its water rights. DIA also leases land for farming; however, agriculture is used primarily for cost avoidance. Currently 25,000 acres are farmed, mostly by farmers on the land acquired prior to the airportâs opening in 1995. The airport collects several hundred thousand dollars per year in cash rent and restricts what can be planted on airport land. This conforms to the airportâs wildlife migaon plan. If the airport had to maintain the land, it would cost $6 or $7 million to remove noxious weeds and wildlife aÂractants. â John Ackerman, Chief Commercial Officer, Denver Interna onal Airport capital improvements, and operaonal enhancements for a percentage of the gross revenues generated. Extent of Airport Use Joint ventures offer a business model that is quite common in the private sector. There is no reason why this model would not provide a reasonable means of increasing revenues through shared parcipaon at an airport. Polical, Governance, and Legal Issues Some characteriscs of joint developments overlap with characteriscs of other opportunies described thus far in this chapter. Accordingly, they involve similar challenges. However, the joint development concept provides enough disnguishing aspects that the challenges discussed in relaon to iniaves such as direct ownership should be easier to address. Specifically, because the private sector is a parcipant in joint developments, claims of unfair compeon are not significant. Furthermore, since the iniave does not involve privazaon in the strictest sense, the airport maintains more control. 5.3 REVENUE PARTICIPATION IN MINERAL ESTATE DEVELOPMENT Overview Non aeronaucal revenue generaon is highly dependent on special situaons. Many of the naonâs busiest airports have liÂle or no land unoccupied by terminals, consolidated rental facilies, parking lots, and other dedicated airport uses. However, some airports have significant surplus property that is not dedicated to airport operaons and, therefore, can be used for real estate development and other non aviaon revenue generang acvies. Airports that sit on such landmasses also may have the opportunity to develop mineral estates and other natural resources that, in many instances, have proved to be a significant revenue source. Such resources include minerals such as oil, gas, and coal, but could also include water, mber, and similar natural resources.
CHAPTER 5 â AIRPORT ENTREPRENEURIAL ACTIVITY â PART II 5 11 FAA has determined that revenue derived from the sale of an airportâs natural resources consÂtutes âairport revenue.â3 Therefore, it is subject to the revenue diversion rules requiring that such revenue be uÂlized only at the airport [see Grant Assurance 25 as to permiÂed use of Airport Revenues]. Although a sponsor municipality may claim ownership of the airportâs natural resources, that claim has limited relevance in that the revenues from the sale of such resources must remain with the airport for airport uses. The method for generaÂng revenue from these resources varies depending on the type of resource that the airport sponsor wishes to exploit. For example, coal and Âmber are usually sold based on the highest and best bid. Because of the experÂse that may be required to extract and market such resources, however, the airport may limit the number of bidders by first undertaking a request for qualificaÂons (RFQ). The RFQ allows the airport to prequalify companies that may be eligible to bid for the applicable resource. For example, the extracÂon of coal requires that the extracÂng company have: (i) experience in strip and deep mining; (ii) sufficient financial net worth to ensure that the property can be restored to its pre extracÂon condiÂon; (iii) adequate insurance to cover claims that may be made in connecÂon with injuries arising during the process; and, to the extent that royalÂes may be involved, (iv) sufficient market presence to ensure the maximum price for the sale of coal to the end users. These agreements are typically for a term sufficient to extract the coal deposits, but should be terminable by the airport sponsor in the event of nonproducÂon or if the airport needs the property for other purposes, especially aeronauÂcal purposes. FN 5: MINERAL ESTATE PARTICIPATORY LEASES Extent of Airport Use Revenue Potential Airport Assumption of Risk Capital Required Complexity to Implement Political & Institutional Challenges - Bonus Payments, Royales, and Surface Rights A royalty paying oil and gas lease is typically the governing document for oil and gas exploraÂon on airport property. With the advent of horizontal drilling4 and the discovery of new major shale deposits, natural gas exploraÂon has presented a major revenue opportunity for airports that have shale deposits and the ability to access them. The revenue stream from oil or gas exploraÂon acÂviÂes is two fold in that the exploraÂon company pays a significant upfront bonus payment (in the case of Dallas/Fort Worth InternaÂonal Airport, $10,000 per acre) and then a royalty on conÂnuing producÂon. Gas, like coal, is very market driven. If 3 Per 64 Fed. Reg. 7696, at 7716, airport revenue includes revenue received â(iii) For the sale of (or sale or lease of rights in) sponsor owned mineral, natural, or agricultural products or water to be taken from the airport.â 4 The FAA requires clearance if horizontal drilling occurs under airfields, terminals, or other aeronauÂcal assets. In a horizontal drilling process, a well is turned horizontally at depth. This technique is normally used to extract energy from a layer of shale rock.
INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE 5 12 gas prices fall below a certain dollar amount, companies may find it more economically viable to cap a well and cease producÂon for the period of Âme that the market is depressed. In order to ensure that the landownerâin this case the airportâis not harmed by such capping acÂvity, it is necessary to include a conÂnuing producÂon clause requiring the driller to conÂnue drilling for as long as a well is producing in certain paying quanÂÂes. The remedy for ceasing producÂon is a terminaÂon of the lease, which leaves the airport with the bonus payment originally paid for the right to receive the drilling contract and the airport is free to enter into a similar arrangement with a new driller. The typical lease term for an oil and gas lease is five (5) years with a conÂnuaÂon provision that allows the driller to maintain its leasehold interest provided it conÂnues to drill. It is also important for the airport to ensure that drilling acÂvity will begin by a predetermined date, taking into consideraÂon the environmental approval process, land preparaÂon, and other acÂviÂes that need to be undertaken prior to sinking the first well. Two years should be more than sufficient Âme between the lease award and commencement of drilling. Grant Assurance 24 requires the airport to obtain fair market value for all of its leased assets.5 Therefore, it is imperaÂve that the airport calculate the surface rent for the land used for well pads or pipelines. The airport earns addiÂonal revenue from land rent charged to the driller to ensure recovery of surfaces granted to the driller to access sites, lay out well pads, and install pipeline. Some of these revenue generaÂng acÂviÂes may not be available in gas leases with smaller acreage (e.g., a couple of hundred acres). For airports that have larger land masses, however (such as Dallas/Fort Worth InternaÂonal, Denver InternaÂonal, and PiÂsburgh InternaÂonal), the lease becomes more valuable and the airports have a greater bargaining posiÂon when negoÂaÂng terms. The royalty revenue provides the airport with a conÂnuous revenue stream for as long as gas is being produced and marketed. Careful deal structuring is required to ensure that the royalÂes are not net of costs associated with producÂon, permiÂng, transporÂng, processing, storage, markeÂng, taxes, or other costs. Moreover, it must be remembered that first and foremost, the airport is dedicated to airport operaÂons. Therefore, any lease or agreement for extracÂon of mineral resources should include language that subjects all such acÂvity not only to applicable laws and environmental regulaÂons, but to airport regulaÂons as well. This may affect such items as well spacing, controlled access by drilling companiesâ personnel, and the airportâs right to suspend operaÂons, among other things. Performance Security Significant performance security in the form of a surety bond, leÂer of credit, or similar security should be obtained to ensure that, at the end of the lease term or well abandonment, the driller removes all equipment and undertakes the proper abandonment process as may be required by the applicable 5 Grant Assurance 24 states that a sponsor will maintain a fee and rental structure for faciliÂes and services, which will make the airport as self sustaining as possible.
CHAPTER 5 â AIRPORT ENTREPRENEURIAL ACTIVITY â PART II 5 13 stateâs regulatory agency. AddiÂonally, adequate insurance and security is necessary to secure any indemnificaÂon to which the airport may be enÂtled for damages arising out of fires, accidents, polluÂon, or other causes that might be brought about by a companyâs operaÂons on airport property. Ownership of Subsurface Mineral Estates Issues regarding ownership of mineral estates go beyond the potenÂal claims by sponsoring municipaliÂes. Title to mineral estates may not always follow Âtle to property surface rights. UnÂl fairly recently, it was not unusual for deeds transferring property to reserve the rights to mineral estates. To make maÂers more complicated, such reservaÂons of rights vary significantly from deed to deed and from jurisdicÂon to jurisdicÂon. Such reservaÂons may include gas Âtle for a period of 5 years or for as long as the property wells are acÂvely producing. Ownership of the airport surface rights alone is not definiÂve as to the ownership of the mineral rights, even with sustained airport operaÂons for a significant historical period. In order for the airport to exploit the minerals on its property, it may be necessary to engage inmineral estate condemnaon.6 Whether it is operated by an authority or by the municipality in which it is located, the airport has condemnaÂon power to be able to transfer and then secure Âtle to the mineral estates. However, once condemned, the condemning power must pay âequitable just compensaÂon,â which is usually based on the valuaÂon of the mineral estates condemned. In some instances, mineral estates may have no value if they cannot be pracÂcally or commercially obtained and uÂlized. A significant example of this is shale gas, which had no value prior to commercializaÂon of current hydraulic fracturing (fracking) acÂviÂes. However, over the past 20 years, technological advances in the industry have created significant value in those same mineral estates. Title to mineral estates must be clearly established for the airport landowner to be able to sell or lease those assets. ExploraÂon companies want to ensure that they have the absolute rights to the minerals for which they are paying significant dollars. The typical gas lease includes a holdback or escrow of amounts necessary to cover quesÂons as to Âtle. Establishing clear ownership of Âtle is laborious and can require searches back to the first deed on the property, in some cases as early as the early 1800s. Protecon for Airport Financial and Aeronaucal Interests Mineral estates may be appraised. Appraisal companies that specialize in specific resources (i.e., water, Âmber, oil, gas, coal) are able to give airports a reasonable expected valuaÂon of the mineral estates. For any on going mineral estates royalty revenue, the contracts granÂng rights to third parÂes should include audit rights allowing the airport to confirm that it is receiving all of the royalty revenue to which it is enÂtled. Typical penalÂes for understatement of royalÂes would include recovery of the cost of any audit plus a penalty of 5% of the understatement. When structuring agreements with conÂnuing site ingress and egress by a mineral estate purchaser or lessee (whether for drilling, excavaÂon, harvesÂng, surface operaÂons, or other acÂvity), acÂvity should 6 The transfer of property Âtle under the power of eminent domain.
INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE 5 14 be limited to designated porons of the airport that are not planned for development pursuant to the airportâs master plan. FAA Regulaons (FARs) specify that âPart 77â surfaces must be protected, and any lesseeâs operaons should be restricted to prevent interference with the airportâs use of the airport, whether for its aeronaucal or commercial development acvity.7 Unrestricted access of personnel also is problemac, and controls need to be in place to ensure no violaons of security procedures or FAA or TSA rules and airport regulaons. Furthermore, the airport should maintain the right to relocate operaons to ensure that the airport maintains flexibility in its connued development plans. Because of the risks associated with mineral estate exploraon and exploitaon on airport land, it is also important for the airport to consider the types of indemnificaon and insurance requirements to be imposed upon drilling firms. Based on each airportâs parcular circumstances, the airport should determine what types of coverage and limits it would impose, as well as its willingness to allow for self insured limits depending on the financial strength and creditworthiness of the contracng party. 5.4 WRAP UP Flexibility in various real estate and mineral estate development techniques will provide airports new opportunies to enjoy a greater share of revenues. Each such technique is weakened by various degrees of risk; therefore, it is imperave that airport management analyze the risks of each technique to determine whether the risk is at an acceptable or unacceptable level and respond accordingly. Such analysis should include development of an understanding as to how such risks may be migated or minimized. There may be legal or polical implicaons or challenges to each technique discussed herein, which would have an impact on an ulmate determinaon. Although issues invariably arise with any aÂempt to find ways to maximize non aeronaucal revenue, most of those issues can be addressed. Airports need to focus on developing such revenues as funding connues to shi away from strict reliance on governmental grants and airline fees. Nearly all federal funding is increasingly the subject of scruny as polical des move to curb spending. Likewise, pressure on airline profitability (such as rising fuel costs) means that even small budget items, like enplanement costs, will need to be managed. Development of airport resources and land will help to ensure the airport remains compeve and is able to afford connued growth and enhancements. To the extent that quasi public enes, such as airport authories, provide more flexibility in undertaking such iniaves, it is advantageous for local municipalies to explore whether their municipally operated airport would be beÂer served by implemenng such techniques. Table 5 2 summarizes the revenue parcipaon approaches presented in this chapter. 7 FAR Part 77 establishes standards for determining obstrucons off runways in navigable airspace.
Table 5 2: Approaches to Revenue Parcipaon Code Approaches to Revenue Participation Extent of Airport Use Revenue Potential Airport Assumption of Risk Capital Required Complexity to Implement Political & Institutional Challenges Finance and Property Management â FN FN-1 Participatory Leases and Equity Participation - FN-2 Direct Ownership - FN-3 Public-Private Partnerships - FN-4 Joint Development FN-5 Mineral Estate Participatory Leases - Source: KRAMER aerotek inc., 2014
5.5 ADDITIONAL REFERENCES KRAMER aerotek inc., ACRP Synthesis 19: Airport Revenue Diversificaon, Transportaon Research Board of the Naonal Academies, Washington, DC, 2010 LeighFisher, Kaplan Kirsch & Rockwell LLP, and LeighFisher/Eno Transportaon Foundaon, ACRP Report 66: Considering and Evaluang Airport Privazaon, Transportaon Research Board of the Naonal Academies, Washington, DC, 2011 5 16 INNOVATIVE REVENUE STRATEGIES â AN AIRPORT GUIDE