AAAE Rates and Charges Workshop Air Service Incentive Programs. Thomas R. Devine KAPLAN KIRSCH & ROCKWELL LLP October 2, 2012

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1 AAAE Rates and Charges Workshop Air Service Incentive Programs Thomas R. Devine KAPLAN KIRSCH & ROCKWELL LLP October 2, 2012

2 Overview Airports are under increasing pressure to preserve and enhance air service. Airports of all types and sizes have considered air service incentives to: induce carriers to provide service where none existed or existing service was lost obtain service to selected markets, at home or abroad. 2

3 Overview Airlines are becoming increasingly aggressive in seeking incentives to provide service. 3

4 Overview An assessment of air service incentives should: realistically consider the environment in which airports operate, and ensure that airports comply with their federal obligations. 4

5 Legal Standards FAA s Incentives Guidebook may provide helpful information but it is sometimes confusing; It is not the ultimate standard. Instead, incentives must be assessed against the federal legal obligations imposed on airports. 5

6 FAA Recommends Four Steps to Develop Compliant Incentives Program Review and understand sponsor assurances and applicable laws and policies Identify goals and types of service that may be covered Define incentive program timelines Design a properly structured incentive program 6

7 Legal Standards Statutory and grant obligations prohibiting unjust discrimination/ exclusive rights (49 U.S.C (a), Grant Assurance 22; 40103(e), 47107(a)(4), Assurance 23); Self Sustaining Requirement (Assurance 24); Policy and Procedures Concerning the Use of Airport Revenue ( Revenue Use Policy ) ( 47107(b) & 47133, Assurance 25; The Policy Regarding Airport Rates and Charges ( Rates and Charges Policy ) 7

8 Legal Standards Incentives Guidebook also lists: The Airline Deregulation Act (ADA) ( 41713), as applicable legal authority, But FAA has also said the ADA does not apply to voluntary incentives programs. 8

9 Sources of Confusion Incentives Guidebook States restrictions on airport incentives, often without underlying legal support. 9

10 Sources of Confusion FAA may be flexible in evaluating an incentive if an airport can demonstrate there is no legal prohibition. 10

11 Sources of Concern Incentives Guidebook appears to specify absolute requirements: but may only be describing a safe harbor. So you can avoid... 11

12 Sources of Concern 12

13 Sources of Concern Viewing the Guidebook guidelines as absolute prohibitions may unduly inhibit airports from thinking outside the box. 13

14 Sources of Concern FAA should clarify that other approaches may comply with applicable federal obligations. 14

15 Airline Anomaly Airlines as a whole (e.g. A4A) oppose incentives. 15

16 Yet individual Airlines seek or even demand incentives. Airline Anomaly 16

17 Airline Anomaly The same Airline may demand a particular incentive from one airport: and oppose the exact same incentive from another airport. 17

18 General Economic Development The following are prohibited as revenue diversion: use of airport revenues for general economic development, marketing, and promotional activities unrelated to airports or airport systems. 49 USC 47107(l) So Airport dollars cannot be used for ads promoting regional attractions 18

19 Allowable Incentives Revenue Use Policy allows Airport Sponsors to offer incentives to air carriers for two express purposes: Encourage new air service Encourage competition 19

20 Duration of Incentives Up to 1 year for new entrants only Up to 2 years for incentives available to any carrier that meets service criteria: 20

21 Duration of Incentives FAA SAYS YOU MAY: Offer incentive time periods shorter than: 2 years; or 1 year for new entrants Offer an incentive program over a staggered timeline, but the time period for the incentive must not exceed 2 years to each carrier 21

22 Prohibited Actions FAA prohibits: Direct subsidies Indefinite fee waivers or discounts could raise questions of compliance with: grant assurances prohibiting unjust discrimination; and self sustaining rate structure 64 Fed. Reg (Feb ) 22

23 Subsidies v. Incentives Subsidy: direct payment of airport revenue to a carrier or any provider of goods or services to the carrier in exchange for additional service by the carrier. 23

24 Subsidies v. Incentives Incentive: any fee reduction, fee waiver, or use of airport revenue for acceptable promotional costs, where the purpose is to encourage an air carrier to increase service at the airport. 24

25 No Subsidies From Airport Revenue The use of airport revenue to pay an air carrier to serve markets is strictly prohibited. Acceptable Incentives: Waiving or reducing landing fees, rental fees, or fuel flowage fees, certain promo advertising, etc. Unacceptable Incentives: Providing aircraft parts, free fuel, interest free loans, payment for service or any subsidy to operate, etc. 25

26 No Payments to Pay or Purchase of Tix FAA SAYS YOU MAY NOT USE AIRPORT REVENUE TO: Provide cash incentives to passengers using the airport; or Purchase seats from the air carrier or guarantee a number of seats will be filled. 26

27 Sponsor Assurances and Obligations FAA says these are violated when: The airport sponsor does not make incentives available to all similarly situated carriers providing the specified service. The sponsor provides subsidies, not incentives. 27

28 New Service In Guidebook, New Service is defined to include only new flights: Service to an airport not currently served; Nonstop service where no nonstop service is currently offered; New entrant carrier; or Increased frequency of flights to a specific destination. 28

29 New Service Historically, new service has not included upgauging. 29

30 New Service FAA s Clark County Decision: Incentive program may reward upgauging under certain conditions: Upgauging cannot be the only component of the program (e.g., the program must include adding flights too); Carriers must increase service above the program s targeted markets baseline; and No incentives for new flights to targeted markets if service to other targeted markets is reduced. 30

31 New Service/Upgauging FAA s Revised Position is a welcome change from Guidebook, which disallowed incentive for a 76 seat increase due to upgauging, while allowing incentive for a 50 seat increase due to a new flight. 31

32 Passenger Based Incentives Guidebook would not allow incentives based on new passengers served But what federal obligation would be violated? Providing opportunities for air travelers is the fundamental purpose of air carrier airports. 32

33 Passenger Based Incentives A properly structured and administered Air Carrier Incentive Program may enhance air carrier service at an airport and may create an opportunity to increase traffic. FAA Air Carrier Incentives Guidebook (September 2010) 33

34 Passenger Based Incentives An airport should be able to fund incentives based on the success of those efforts. That is, how many new passengers actually use the new service. 34

Increasing revenues generated at the airport is a legitimate airport goal

35 Policy Considerations Adding new passengers increases airport revenues from concessions, rental car/ground transportation fees, and increases PFC revenues. Increasing revenues generated at the airport is a legitimate airport goal provides tangible benefits to airports;is consistent with self sustaining requirement. 35

36 FAA Examples of Allowable Categories of Service An international destination or a destination not presently served. Sponsors may identify destinations, routes, and/or frequency. Categories may provide sponsors with greater flexibility in creating incentive programs. 36

37 Jet Service Guidebook does not allow airports to limit incentives to jet service. Yet, jet service may be qualitatively different from turboprop service, both for airports and air travelers. 37

38 Jet Service Should airports be forced to include service they do not desire in their incentives programs? Airline Deregulation Act prohibition effects on airline rates, routes and services does not apply to voluntary incentive agreements. (FAA letter to Wichita) 38

39 Low Cost Carrier Any fee waiver or discount must be offered to all users of the airport, and provided to all users that are willing to provide the same type and level of new services consistent with the promotional offering. Revenue Use Policy Low fare carriers are not a type of service recognized by FAA. Airports may call them a type of carrier, but FAA says they do not utilize the airport differently from other air carriers. 39

40 Low Fare Service FAA does not accept distinction between low fare carriers and legacy carriers in criteria for incentives. (Wichita case) 40

41 Low Fare Service If an airport seeks to attract low fare carriers, it must develop objective criteria that they can meet Recognize that legacy carrier may qualify for incentive if it meets the requirement 41

42 Type of Cabin Service Some carriers, passengers, etc. call first class a type of service. FAA says that distinctions such as coach, business, or first class service may not be the basis for an incentive. 42

43 Impact on Other Carriers Fees Guidebook says that An airport s rates and charges for air carriers not participating in the incentive program may not be impacted negatively by any incentive program without the carriers express permission. 43

44 Impact on Other Carriers Fees The cost of providing incentives cannot affect the rate base for air carriers not participating in the incentive program without their express permission. 44

45 Impact on Other Carriers Fees These are two different things Fundamental point airport must make up waived fees from non airline revenue source 45

46 Residual Airports In a residual airport, an incentive can adversely affect signatory carriers rates without increasing the rate base. The rate base is the sum of all costs charged to the air carriers in a cost center. 46

47 Residual Airports In a successful residual airport, net concession revenues are applied to reduce signatory airline rates and charges to below those that would be applied if all costs in the rate base were charged to the airlines (i.e., below compensatory rates). 47

48 Residual Airports The use of concession revenues to make up for a shortfall due to an incentives program simply reduces the amount of non airline revenues used to subsidize airline fees below the rate base costs. 48

49 Residual Agreement Issues Federal law expressly provides that airports may use a residual, compensatory, or hybrid ratesetting methodology. (49 U.S.C ). This is at the airport s option, not the carriers nor the FAA s option. 49

50 Residual Agreement Issues FAA has identified no legal basis to preclude airports with residual methodologies from using net concession revenues to make up for fees that are foregone due to an incentives program. 50

51 Residual Agreement Issues However, an airport may still be precluded from doing so by the terms of its residual agreement. Specific terms of agreement must be examined. 51

52 Influence on Air Fares Guidebook says airports cannot tie incentives to ticket price. (Q&A 30) Under the Airline Deregulation Act, Airports may not, by regulation or agreement akin to regulation, force carriers to adjust their rates, routes, or services. 52

53 Influence on Air Fares Yet all incentive programs are designed to affect airline routes so assertion of ADA prohibition is curious. 53

54 ADA Is Not Applicable FAA has recognized that the ADA does not apply to voluntary incentives programs. Such programs are not a regulation or agreement that has the effect of regulation FAA Letter to Wichita 54

55 ADA Is Not Applicable Thus, the ADA does not bar an airport from providing incentives only for air service that meets its goals for low fare service. 55

56 Third Party Incentives Community organizations or non sponsor local governments may offer a subsidy to one or more air carriers. Moreover, non sponsor entities need not make the same offer to other air carriers. However, if the airport makes decisions on which airline gets the non airport revenue subsidy. The prohibition against unjust discrimination applies; and All similarly situated carries must be given an opportunity to earn the subsidy. 56

57 Third Party Incentives Where a third party provides an incentive to only one carrier, the sponsor cannot be a party to the agreement and must not be involved in negotiating, implementing, or monitoring the program in any manner. 57

58 Monitoring On Airport Activity In informal discussions, FAA has clarified that airport sponsors may monitor activities (air service) on their airport, even if this comes about as a result of decisions by an outside incentive provider. Allowed 58

59 Third Party Incentives Moreover, airport sponsors may provide technical assistance and expert analysis of things such as: the facilities available for new service at the airport; the levels of service those facilities could support, and the legitimate costs that may be incurred by a carrier, either to start up or maintain air service, 59

60 Third Party Incentives Thus the Airport may provide information so the outside body may properly assess which elements it chooses to subsidize and the appropriate levels for the subsidies. 60

61 International Air Service Concerns Bilateral or multilateral agreements Typically cannot discriminate against flag carriers of the other country or group of countries Provisions may be similar to, but somewhat different from, Grant Assurance requirements New entrant vs. incumbent distinction may raise potential bilateral/multilateral agreement concerns. 61

62 Lease and Use Agreement Concerns Most favored Nations clauses: Could be a problem for incentives targeted only at new entrants. May need to structure more objectively, e.g., new service to X destination, open to incumbents and new entrants. 62

63 Lease and Use Agreement Concerns Other provisions may limit airport flexibility. Particular challenges for airports with residual agreements, as previously noted. 63

64 Takeaway Thought If you are contemplating an incentive that appears to be precluded by the Guidebook Examine the underlying legal obligations, and Implement those you believe are compliant [with an appropriate escape hatch if FAA disagrees]; or Work with FAA to see if it can be accepted or modified in a way acceptable to you and the FAA. 64

65 Questions? Thomas R. Devine Partner Kaplan Kirsch & Rockwell LLP

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