Terminal Space and Ratemaking

1. Introduction

Airport operators collect revenues from two primary sources: airline tenants and nonairline sources. The nonairline sources include concessionaires, parking, rental car facilities, hotels, and other commercial activities. 28 of 31 large-hub airports employ cost recovery principles for airline rates and charges (analysis of publicly available airport financial reports, FY2024), meaning the airport calculates the total cost to operate and maintain the terminal facility, then collects that amount from airlines in proportion to their use of the facility.

Terminal rental rates use square footage as the primary divisor. Two issues in terminal ratemaking:

Determining the total amount to recover through airline rates and charges

Distributing that total payment among individual airlines in an equitable manner

The interaction between these two issues creates cost allocation challenges that, across large-hub airports, result in terminal rental rates varying by up to 15% under differing methodologies (analysis of publicly available airport financial reports, FY2024).

This guide examines the foundational concepts and practical methodologies that drive terminal space definition and ratemaking decisions. The material draws from Dafang Wu's seminal work on airport terminal finance and represents the analytical framework used by DWU Consulting in advising over 50 U.S. airports.

2. Defining Terminal Space

The definition of terminal space is a decision impacting revenue consistency and airline cost structures. A space hierarchy documented in AUS and SFO lease agreements allows the airport to justify its rate base to airlines and maintain consistency over time. The following framework, grounded in lease agreements at Austin-Bergstrom (AUS) and San Francisco (SFO), provides the foundation for space categorization.

2.1 Space Hierarchy Framework

Terminal space relationships, as documented in AUS and SFO lease agreements, follow a hierarchical structure with gross building area at the top and progressively more refined categories beneath. The following table illustrates this hierarchy:

Borderline items present definitional challenges. Passenger security screening and baggage screening areas may be classified as either rentable or non-rentable depending on the airport's operational structure and lease language. 12 of 31 large-hub airports include security screening in airline rate base (DWU Consulting review of publicly filed airline use agreements, 2025), reflecting differing operational structures for government functions. Ticket counter queue areas present similar classification questions.

2.2 Space Measurement Standards

Space measurement methodology varies across U.S. airports. AUS and SFO leases measure leased space from the centerline of the wall forming the leased space boundary. Exterior walls and interior walls are measured differently depending on context. 5 of 31 large-hub airports provide detail on measurement methodology in their lease agreements (DWU Consulting review of publicly filed airline use agreements, 2025): Austin-Bergstrom International Airport and San Francisco International Airport maintain documented space measurement standards in their airline leases. These airports provide lease exhibits showing specific areas and measurement methodologies, creating transparency and defensibility in their rate-setting processes.

In a survey of 20 medium-hub airports (covering 75% of medium-hub terminal sq ft), 15 maintain space inventories with no measurement methodology disclosure. Space measurement disputes have arisen at 8 of 20 surveyed medium-hub airports during renovations (DWU Consulting survey of publicly available airport data) requiring renegotiation of the rate base definition.

2.3 Rentable Space Definition

The rentable space definition is a variable in terminal ratemaking. This is the denominator in the basic rate formula, requiring attention to precision as the denominator in the basic rate formula. AUS Airline Use Agreement (2026) defines rentable space as:

• Total space available for rent to airlines, concessions, or any other rent-paying tenants, measured in accordance with lease agreements.

This definition, however, permits interpretation. Airports have adjusted rentable space definitions to achieve rate objectives, as documented in AUS Airline Use Agreement (2026).

2.4 Adjustments to the Rentable Space Divisor

Two adjustment strategies are documented in lease agreements:

• Strategy 1—Increase Recovery: Include occupied but previously non-rentable space in the rate base. A documented example: including passenger security screening areas, which are operated by TSA but funded through airline rates. This addition increases the numerator (rate base) and decreases the calculated rate per square foot. This approach may result in higher rates for occupied tenants while reducing the per-square-foot rate mathematically. Another example: excluding vacant space from the rentable definition, shifting vacancy costs to occupied tenants.

• Strategy 2—Reduce Rate Pressure: Expand the rentable definition to include airport administrative areas or airport operations areas that are not leased but are considered "available for rent." This increases the denominator without increasing numerator costs, mathematically reducing the rate per square foot. Occupied tenants bear vacancy and administrative costs.

These strategies are disclosed in rate resolutions at AUS and SFO, consistent with FAA Rates and Charges Policy (2013). Rate disputes are documented at PDX (A4A filing).

3. Terminal Rate Base Components

Once rentable space is defined, the airport may determine the numerator—the total amount to recover through airline rates. The rate base includes:

3.1 Operating Expenses Allocable to Terminal

Direct operating expenses incurred to operate and maintain the terminal facility. These include personnel (terminal operators, maintenance staff, custodial services), utilities (electricity, water, natural gas, chilled water), routine maintenance (housekeeping, landscaping, ground maintenance), equipment and supplies, insurance, and general administrative overhead allocated to the terminal. The allocation methodology varies—airports allocate corporate costs proportionately to rental area, others use more refined activity-based allocation.

3.2 Debt Service Allocable to Terminal

Principal and interest payments on bonds issued to finance terminal capital projects. Under most airport bond documents, only terminal-related debt service is included in the terminal rate base. airports issue combined revenue bonds for landside and airside facilities, requiring allocation among airline and non-airline cost centers.

3.3 Amortization of Capital Costs Funded with Internal Cash

When an airport funds capital projects from cash reserves rather than debt, it may establish a capital replacement and renewal (R&R) reserve and recover those costs through rates. The methodology varies: airports record actual capital expenditures, others establish fixed reserves regardless of actual capital spending, and others use depreciation-equivalent calculations. These approaches can produce results differing by up to 25% across 15 large-hub airports, based on comparison of publicly available airport financial reports, FY2024.

3.4 Fund Deposits and Reserves

Operating and maintenance (O&M) reserves, replacement and renewal reserves, and rate stabilization funds represent planning reserves intended to manage future expenses or provide insurance against revenue shortfalls. Whether these can be included in the rate base is contentious. Bond documents may may require them; the AUA may limit them; airline negotiations may constrain them. The treatment of reserve deposits affects rates—a 10% reserve addition translates directly to a 10% rate increase assuming constant denominator (e.g., PDX FY2025 rate base).

4. Selecting Ratemaking Methodology—Four Categories

Airport operators face a choice in ratemaking philosophy. The choice between residual and compensatory ratemaking methodologies—and their hybrid variants—creates different risk allocations, rate volatility profiles, and behavioral incentives. Understanding these four categories is essential to terminal rate analysis.

4.1 Residual Ratemaking

Under residual ratemaking, the airport establishes a target revenue requirement (the rate base), then credits non-airline revenues against that requirement. The airline tenant base may make up the "residual" difference.

• Formula: Airline Rate = (Total Rate Base − Nonairline Revenues) ÷ Total Airline Rentable Square Feet

Characteristics:

• The airport bears no vacancy risk. If 10% of rental space sits vacant, only occupied tenants pay rates.

• Nonairline revenues directly reduce airline rates dollar-for-dollar.

• The methodology is mathematically precise, as noted in airline negotiations at specific airports documented in A4A filings—airlines benefit from concession overperformance.

• May only be adopted through bilateral airline agreements per ACRP Report 36 (2010) and AUS agreement. Cannot be imposed unilaterally.

• Creates incentive for airport to maximize nonairline revenues, as each incremental dollar reduces airline rates.

Residual methodology was standard at regulated airports but has declined as airports have moved toward compensatory approaches. 13 of 31 large-hub airports employ compensatory or hybrid compensatory approaches (DWU Consulting analysis of publicly available rate resolutions, 2025).

4.2 Compensatory Ratemaking

Under compensatory ratemaking, the airport divides the rate base by total usable or total rentable square footage, producing a single rate applicable to all space categories (or with minor adjustments for space type).

• Formula: Airline Rate = Total Rate Base ÷ Total Airline Rentable Square Feet

Commercial compensatory ratemaking uses rentable space as the divisor. Industrial compensatory might use usable space. Characteristics:

• The airport retains ownership of revenue surpluses, bearing the full downside of vacancy risk.

• Nonairline revenue surpluses accrue to the airport and are not credited to airlines.

• Rate volatility is higher because the denominator changes with occupancy, and the numerator changes with expense.

• May be imposed unilaterally through rate resolution if the airport has appropriate bonding authority.

• Creates incentive for airport to minimize operating expenses, as these flow directly into rates.

Compensatory ratemaking became prevalent as airports sought greater financial independence and control over operational decisions.

4.3 Hybrid Residual Methodology

airports employ residual methodology as the base framework but structure the rate formula to produce surplus in normal or favorable years—unlike pure residual, which targets break-even. The defining feature is the Extraordinary Coverage Protection (ECP) mechanism: a backstop provision ensuring airlines cover all airport costs under downside scenarios. Airlines bear the downside risk via ECP, while the airport retains upside surplus in good years. For example, an airport might keep parking or concession revenues above a base target while the ECP ensures airlines remain responsible for any shortfall.

Hybrid residual structures require documentation in the lease or rate resolution specifying the ECP trigger, which revenues receive credit, and which the airport retains.

4.4 Hybrid Compensatory Methodology

Conversely, airports employ compensatory ratemaking as the base framework but voluntarily apply credits to airline rates. For example, an airport might calculate rates using compensatory methodology but then reduce those calculated rates by a percentage or dollar amount funded from nonairline revenues. This voluntary credit approach provides rate stability and accountability while preserving airport upside from cost control.

4.5 The Four-Category Framework—Risk Allocation

All four approaches (residual, compensatory, hybrid residual, hybrid compensatory) produce the same underlying economic reality but with different risk allocations and revenue retention structures. The framework below details the trade-offs: