OFFICE OF THE CITY ADMINISTRATIVE OFFICER

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1 REPORT FROM OFFICE OF THE CITY ADMINISTRATIVE OFFICER Date: To: From: Reference: Subject: June 8, 2012 GAO File No Council File No. Council District: 11 The Mayor The City Council Miguel A. Santana, City Administrative Office~ C. {j_. Transmittal from the Department of Airports dated May 16, 2012; referred by the Mayor for report on May 17, 2012 AWARD OF A 17-YEAR TERMINAL COMMERCIAL MANAGER CONCESSION AGREEMENT TO WESTFIELD CONCESSION MANAGEMENT, LLC FOR MANAGEMENT OF THE TERMINAL CONCESSIONS IN TERMINALS 1, 3, AND 6 AT THE LOS ANGELES INTERNATIONAL AIRPORT SUMMARY The Executive Director of the Los Angeles World Airports (LAWA; Department) requests approval to award a contract to Westfield Concession Management, LLC (Westfield), a division of the Westfield Group headquartered in Sydney, Australia, for a period of 17 years, to develop, lease, and manage convenience retail, specialty retail, food and beverage, and certain other concessions in Terminals 1, 3, and 6 at the Los Angeles International Airport (LAX). If approved, the proposed agreement, subject to City Attorney approval as to form, will begin during the second quarter of 2012 and conclude in This is the second in what will likely be three separate agreements for concessions at LAX (the remaining agreement will be for Duty Free Sales). When fully implemented, the proposed Terminal Commercial Manager (TCM) Agreement for Terminals 1, 3, and 6 is estimated to provide LAWA with $17 million in revenue for the "first fully developed year" (the 12-month period following completion of all design and construction work and where the spaces are fully operational for the traveling public) and between $180 million and $195 million over 17 years. The 17 -year term is comprised of ( 1) a two-year period to develop concession and related spaces for a minimum of 69,970 square feet in Terminals 1, 3, and 6; market and promote the concessionaires; and negotiate and administer the individual concession contracts; and (2) a 15-year operational period to monitor and manage concessionaire performance. The 15-year operational period was determined by LAWA to be optimal in order for Westfield to recover its capital investment and LAWA to offset its development costs and debt service on the redevelopment of the three terminals. In addition to the revenue due to LAWA from its management of the terminal concessions, Westfield and its concessionaires will also invest a minimum of $94.3 million in improvements ($78.6 million

2 GAO File No initially and $15.7 in mid-term) over the term of the Agreement. The proposed contract includes a termination clause for cause and for underperformance in the tenth year of the operating portion of the term (approximately 12 years from the date of contract execution). The reason for selecting the tenth year of the operating portion of the term is that ten years is the minimum length of time that would ensure ( 1) that the required investment is made by the TCM and its concessionaires, and (2) that LAWA receives the benefit of the TCM and concessionaire improvements in case of an early termination. Even at ten years, the Department is obligated to provide a buy-out payment for certain undepreciated investments in Terminal 1, 3, and 6. Under the proposed Agreement, Westfield has the exclusive right, subject to approval by LAWA, to select and manage the concessions in the designated areas (e.g., Terminals 1, 3, and 6). Airportwide concessions (e.g., duty free and duty paid sales, advertising, sponsorships, luggage carts, communications media, currency exchange, banking, and ATM services), however, are not part of the Agreement; those services are either provided through existing agreements or they will be addressed in future RFPs. And while the Department has an opportunity to significantly expand the concessions in the three terminals, it also retains the right to reduce the 69,970 square foot space if it is necessary for operational purposes, physical or financial non-feasibility, design inconsistency, or other reasonable justifications. According to the Department, the principal reason for recommending the TCM model for managing the concessions in LAX Terminals 1, 3, and 6 is to improve performance. Improved performance includes: (1) improved coordination of, and accountability for, a complex, multi-component renovation and concessions expansion project; (2) improved passenger satisfaction; (3) increased opportunities to attract small/women/minority/disadvantaged business enterprises and help ensure their success; and (4) increased revenues to LAW A. Although the Department had previously considered the TCM model, the unique opportunity to combine a new approach to concession management with a $1.545 billion airport modernization project affecting some of the most visited and visible areas of the airport, and with the potential for significant benefit to the airport and the traveling public, was an action the Department believes it could not forgo. On February 22, 2012, the Council approved a similar agreement with Westfield Concession Management, LLC (selected through a competitive process), for the Tom Bradley International Terminal, Terminal2, and the Theme Building. Pursuant to Charter Section 606, the Board of Airport Commissioners (BOAC; Board} may authorize the Department to proceed with executing the Agreement, subject to the approval of the Council. The above-referenced aspects of the proposed Agreement, and this report, are based upon revised information received from the Department subsequent to the initial request submittal. BACKGROUND The Department released a Request for Proposals (RFP) on June 22, 2011, to obtain the services of a Terminal Commercial Manager for LAX Terminals 1, 3, and 6. On October 24, 2011, LAWA received three proposals, all of which were determined by the Department to be responsive to the established requirements.

3 According to staff, the three proposals were scored (1) using an existing Department process, and (2) based upon nine criteria and a maximum total of 200 points, as outlined below: CRITERIA POINTS Concession Development Experience/Capabilities 20 DesiQn and Construction Experience/Capabilities 30 ManaQement Team Dedicated to LAX 25 Conceptual Plan for LAX Terminal Improvements 30 Financial Capacity and Commitment 20 Process for Concessionaire Selection and Approval 20 Managing ACDBE Initiatives 10 Managing Concessionaire Performance and Operations 15 Financial Proposal 30 TOTAL POINTS 200 Oral interviews were conducted with representatives from the three firms between November 29 and December 1, A five-person Evaluation Panel, comprised offour Department personnel and one Harbor Department employee, conducted the oral interviews. The composition of that Panel was as follows: Chief Operating Officer- Department of Airports Deputy Executive Director, Administration - Department of Airports Deputy Executive Director, Commercial Development- Department of Airports Airport Manager Ill- Department of Airports Deputy Executive Director- Harbor Department Upon conclusion of the oral interviews, the Evaluation Panel used the criteria and accompanying scores to develop the final ran kings as follows: Proposer Rank Westfield Concession Management, LLC 1 AIRMALL USA 2 MarketPlace Development 3 TCM Model- Benefits to LAWA The Terminal Commercial Manager model is a new method of operating at LAX. However, this model has been used successfully by other airports similar to LAX for years. Combined with the Department's philosophy of managing the airport in a holistic or more comprehensive "concessions development" manner, its vision for creating a unique and positive passenger experience, its desire to increase customer satisfaction by accommodating the needs of the traveling public (who are spending more time in airports, especially international passengers, as a result of security measures

4 introduced after September 11, 2001 ), and its estimate of increased revenues, this model presents an alternative that is expected to be in the best interest of the Department and the traveling public. According to the Department, the primary reasons for utilizing the TCM model are as follows: It provides the flexibility needed to reconfigure the concessions areas (including expansion of the space) in a way that will achieve both an optimal mix of food and beverage and retail outlets (explained in the merchandising plan) and increase sales It provides a single point of contact for phasing the construction and coordinating multiple concessionaire projects It enhances the Department's ability to attract local firms as part of the federal ACDBE (Airport Concessions Disadvantaged Business Enterprise) program It encourages creativity in structuring financial arrangements with concessionaires, which, in turn, results in increased revenue to LAWA It emphasizes a more comprehensive "concessions development" approach rather than simply managing concessions It contributes to customer satisfaction and increased LAWA revenues It reduces the financial risk to the Department and provides a Minimum Annual Guarantee (MAG) revenue The Department believes that experience at similar airports demonstrates that the TCM model outperforms the in-house, or direct leasing, model, at least in the areas that correspond to the Department's highest priority objectives and philosophy for management of LAX. Since passengers now spend more wait-time after they process through security checkpoints than in pre-security areas, the redevelopment and expansion of the terminals' concessions will greatly increase post-security square footage and the number of retail and food and beverage concessions. Consequently, one of LAWA's reasons for moving to the TCM model is to improve its current performance relative to post-security checkpoint wait-time services and per-passenger purchases, which lag the industry standard. Not only does LAWA anticipate that the TCM model will improve passengers' experience at LAX, moving to this model will not negatively affect the Department's terminal (previously known as "concession") management group. According to management, staff already devotes much of its time to developing relationships and managing the numerous aspects of terminal operations and business; addressing concession operations is no longer one of their highest priorities. Due to the staff's diversified assignments and work portfolios, implementing the TCM model will not reduce the workload. Existing staff that provide support services (e.g., security, custodial, maintenance) will also not be negatively impacted. Capital Projects Affecting TCM Oversight The Los Angeles International Airport Master Plan was approved by Council in December 2004 and by the Federal Aviation Administration in May Subsequently, the Board adopted an LAX Development Program for capital projects to modernize the airport with a budget of approximately $3.3 billion during its early years. The primary location of the capital improvement projects is the Tom

5 Bradley International Terminal and surrounding acreage. Additionally, there are a number of capital projects that will enhance other terminals as well as facilities and spaces within the LAX central terminal area. It is proposed that the TCM will develop, lease, and manage a minimum of 69,970 square feet of concession space consisting of convenience retail, specialty retail, and food and beverage concessions, as well as certain other passenger services in Terminals 1, 3, and 6. TCM Duties and Responsibilities Highlights of the TCM responsibilities as enumerated in the RFP are as follows: Responsible for--within certain areas of Terminals 1, 3, and 6--ensuring successful delivery and management of food and beverage, convenience retail, specialty retail, vending, free/sponsored Wi-Fi, premium lounges, certain other concessions, and non-airline revenue opportunities and passenger services Responsible for subletting concession spaces and managing the concessionaires' operations and performance, marketing the concessions program, and re-letting units upon expiration of concession agreements Responsible for--with the assistance and cooperation of the selected concessionaires- developing, financing, directing, and coordinating design and construction of the unit spaces and related areas. Also, the TCM, and its concessionaires on behalf of the TCM, will be required to make significant capital investments to develop the units and related areas Contractor Selection Process On June 2, 2011, LAWA released a Request for Proposal (RFP) to solicit competitive proposals from firms with demonstrated experience in developing, leasing, marketing, and managing high-volume, upscale retail and dining opportunities from which a Terminal Commercial Manager could be selected. The BOAC established the following four primary goals for the redevelopment of the concessions program for LAX passengers: Enhance the passenger experience Improve LAX passenger terminal facilities Maximize non-airline revenue generation Expand opportunities and participation The Department's executive management anticipates that the stated goals can be attained through a TCM Concession Agreement As such, the RFP Evaluation Panel's recommendation to award the Terminals 1, 3, and 6 concessions agreement to Westfield was based not only on the overall score but on the following attributes: Sixteen years of experience in developing and managing concession programs similar to the program specified in the proposed agreement

6 Currently manages concession operations at nine other airports using a model similar to the LAWA TCM model: Boston Logan International; John F. Kennedy International; Miami International; Newark Liberty International; Orlando International; Ronald Reagan Washington National; Washington Dulles International; George Bush Intercontinental/Houston; and Chicago O'Hare International Airport (under development) Has a committed transition team, with over 200 years of experience in retail and airport retail management, to develop and implement the LAX concession program Revenue estimates that exceed those of the competing proposals ACDBE performance at other airports that consistently exceeds the established goals. In the limited situations where the ACDBE goals were not met, factors beyond Westfield's control were explained in the written proposal and interview Provided a financial guarantee from Westfield America, Inc., a United States-based subsidiary Protest Received Regarding Recommended Contract Award Contained in the Department's RFP package is a procedure for registering protests regarding the award of a contract. The Department received one such protest, covering several areas, in response to its recommended award to Westfield Concession Management, LLC, which was referred to the City Attorney. The City Attorney, in turn, examined the protest materials, the RFP criteria, and the overall process in order to determine the merit of the allegations. At the June 6, 2012 meeting of the BOAC, the protest was considered in closed session. After discussion, the protest was duly noted and the award made to Westfield Concession Management, LLC. With respect to the specifics of the protest and the conclusion, the Department advises that the City Attorney can provide additional information. PROPOSED CONTRACT AND JUSTIFICATION As discussed earlier, improved performance is the principle reason for the Department's recommendation to use the TCM model for concession management in the designated areas at LAX. Improved performance, however, has multiple facets ranging from increased passenger satisfaction and increased revenue to the Department to an enhanced passenger experience to the application of specialized expertise and experience (especially when determining the most beneficial mix of concessions and designing optimal space layouts) to the concessions management, expertise that neither resides in LAWA nor is easily attainable given the time constraints of the current airport renovations. Contract Terms The proposed 17 -year contract period-two years for construction and implementation and 15 years for operations-is considered optimal by the Department for two reasons: first, it allows the TCM and

7 GAO File No its concessionaires to fully amortize their investments ($94.3 million in initial and mid-term improvements) and second, it enables the TCM and concessionaires to pay the minimum required rent to LAWA (the Westfield proposal includes rental payments that exceed the minimum requirements established by LAWA in the RFP). To avoid a conflict of interest between the TCM and its concessionaires, the TCM is prohibited from operating any of the concessions. Concessionaire Concepts: When a concessions concept is proposed by the TCM that would require adding additional space, and LAWA deems the proposal acceptable, the TCM has priority with respect to negotiating terms for the space. However, if an agreement is not reached in a timely manner with the TCM, the Department is free to contract with another provider for development of the concession space. Development of an annual Business and Operations Plan for management of the concessions is required under the proposed Agreement. The plan, subject to LAWA review and approval, must include, at a minimum, the following: A plan for maximizing payments and value to LAWA Operational goals and objectives, including sales opportunities Marketing plans for promoting sales A plan for marketing opportunities to potential concessionaires with emphasis on ACDBE opportunities A customer service and quality assurance plan A maintenance plan Policies and procedures for ensuring compliance with the pricing policy A review of the prior year's performance In addition to the Business and Operations Plan, the TCM must submit a "Definitive Improvement Plan" (DIP) for each space. The DIP identifies a specific area to be incorporated into the Agreement and the cost of any related non-premises-or common areas-(e.g., areas adjacent to the concession spaces like children's play areas, restrooms, public seating areas, and possibly holdrooms) improvements. The Department must approve each DIP prior to implementation and before the TCM obtains rights to a space. The process by which concessionaires will be selected by the TCM will consist of multiple steps with the final selection subject to LAWA approval. With an emphasis on transparency, the TCM will use the following three-step selection process (termed the "Westfield Competitive Evaluation Process") for all concessionaires (except those providing duty free and duty paid sales, advertising, sponsorships, luggage carts, communications media, currency exchange, banking, and ATM services-all of whom the TCM is prohibited from contracting with unless specifically authorized by LAWA): 1. Establish a merchandising plan for available concession space that considers the mix of food products and retail concepts and that ensures a complementary, diverse

8 selection of products and services. Input will be requested from stakeholders (i.e., airlines, current concessionaires, and businesses wanting to introduce new concessions to the airport) 2. Develop and maintain a brand list for the various product and service categories that will include ACDBEs, other local and small businesses, regional concepts, national, and international brands 3. In terms of an established scoring system, evaluate interested concessionaires for each available space using one of the following three processes (the TCM must provide LAWA with its rationale for using the second or third selection process options): (a) a wide open process that solicits competitive proposals from all interested parties, (b) a streamlined competitive process that seeks to obtain at least three competitive proposals from specific brands or, in limited circumstances, (c) a straight negotiation Westfield has committed to use a well established, documented decision-making process to support its selection of concessionaires. Additionally, the company will comply with the Federal Aviation Administration's Airport Concessions Disadvantaged Business Enterprise (ACDBE) program by encouraging a minimum 25 percent participation level for retail and service concessions and a 20 percent participation level for food and beverage concessions. Revenue and Costs With the TCM proposal, one of the anticipated benefits is increased revenue to LAWA from the additional concessions space being developed (69,970 square feet between the three locations). The estimated revenue of between $180 and $195 million over the 17-year term is based upon a guaranteed $240 per square foot multiplied by a minimum of 69,970 square feet (the Minimum Annual Guarantee or MAG), as well as an annual adjustment (beginning January 1, 2014) by the greater of (1) the $210 per square foot multiplied by the Consumer Price Index (CPI) not to exceed two-percent annually, or (2) 85 percent of the prior year's Base Percentage Rent paid to LAW A. This is in addition to the $94.3 million in initial and mid-term improvements to be invested by the TCM and its concessionaires. For any year in which the number of total passenger enplanements in the three terminals is (1) less than that for 2011 or (2) less than 90 percent of the prior year's total passenger enplanements in the three terminals an adjustment to the MAG will be calculated an applied retroactively. The $94.3 million investment for premises improvements to Terminals 1, 3, and 6 is comprised of $78.6 million in initial and $15.7 in mid-term improvements by the TCM and concessionaires. The $78.6 million is derived from an average $1,123 square foot investment multiplied by 69,970 square feet. In addition to the initial and mid-term improvements, $46.4 million in non-premises improvements (e.g., public seating, restrooms, children's play areas) will be made by the TCM, which can be acquired by LAWA either by a lumpsum payment or through rental credits.

9 ""'~"'M~ - CAO File No With respect to the Department's revenue projections associated with the TCM model-done prior to the release of the RFP and corroborated by the resulting proposals-there are three primary benefits that are expected: More revenue will be generated than with the traditional direct leasing model Increased revenue will more than offset LAWA's costs for use of the TCM as manager Unknown future costs and performance risks associated with managing a concessions program of this size and nature (especially given the complexities involved with international passenger traffic) will be avoided by LAWA As noted in the table below, the TCM rental rates paid to LAWA consist of the greater of (1) the MAG or (2) the Percentage Rent (which is comprised of two components: Base Percentage Rent and Contingent Percentage Rent): "PERCENTAGE RENT" FORMULA FOR DETERMINING LAWA REVENUES Projected Annual Components Calculation Factors Detail Revenue to LAWA,_.J, ~BaseJ'~rcentage Rent I.. 80% of TCM Revenues Minus the TCM Improvement I Allowance ~~~ ~! "~ ~ I I I - -"'~"" $12.00 per square foot multiplied Approximately $17 million in by the number of square feet of first-full year revenue; concession units in the thereafter, approximately premises/terminal $18 million annually -~- - ansi - Minus the TCM Management Fee $1.2 million, beginning 1/1/2014, increased by the greater of CPI or 3.5% --M--~---""---- r plu_$ - Contingent Percentage 2% of TCM Revenues greater Between $700,000 and Rent than $35 million but less than $45 $900,000 million.... -~ and ~~-- -~---~-~---~ --~-'""'~- 4% of TCM Revenues greater Minimum of $1.8 million than $45 million As illustrated in the above table, the Base Percentage Rent includes (1) a TCM Improvement Allowance of $12.00 per square foot multiplied by the square footage of the concession units in the premises, and (2) a TCM Management Fee of $1.2 million beginning January 1, 2014, that increases by the greater of CPI or 3.5 percent. During the 17-year term, the TCM may be required to assume additional responsibilities beyond those specifically enumerated in the agreement, in which case the TCM Management Fee will be increased to allow the TCM to recover its costs. Additionally, the TCM must provide a Faithful Performance Guarantee (initially for $1.5 million), as a letter of credit, at the time the agreement is

10 executed. After January 1, 2015, the Faithful Performance Guarantee must be equal to two months of the Minimum Annual Guarantee for each year, but not less than $1.5 million. At the same time, the TCM's cost to manage the concessions on behalf of LAWA, which must be deducted from the estimated revenues, are estimated to be approximately $1.2 million for the first year. In subsequent years, the management costs will increase by the greater of CPI or 3.5 percent. While the cost to LAWA for the TCM's management services begins at $1.5 million for the first year, two factors must be considered to help place the costs in perspective: ( 1) the increased revenues that are anticipated and that are discussed above; and (2) LAWA's future costs to manage the concessions if the TCM model were rejected and the direct leasing model retained. Providing a level of service equivalent to that of Westfield Concession Management, LLC would, according to the Department, require the use of consultants and outside contractors that would likely be more expensive, less experienced, and whose services would be less performance motivated--with corresponding results. As discussed earlier, in addition to the estimated revenue to LAWA from the redevelopment of the Terminal 1, 3, and 6 concessions, the Department will benefit from approximately $78.6 million in premises improvements (or $1,123 per square foot multiplied by 69,970 square feet) and up to $46.4 million in non-premises (also known as "Common Areas") improvements (primarily consisting of code-related work that any landlord would be responsible for) during the term of the Agreement. Taken together, the minimum benefit to the Department for the first 10 years is estimated to be $274.3 million. Alternatives to Approving the Concession Agreement According to the Department, there are no viable alternatives to approving the proposed Concession Agreement with Westfield Concession Management, LLC in that, if the Westfield proposal is not accepted and an agreement executed soon, one of four things could occur: (1) LAWA staff would have to design and develop concession and related spaces using other available consultants, market and promote the concessionaires, negotiate and administer the individual contracts within a compressed time period and with limited staff resources, and coordinate the various components of the LAX Development Project; (2) there would be a shortage in concession space in LAX Terminals 1, 3, and 6; (3) concession revenue to LAWA would be reduced, at least temporarily; and (4) an opportunity to make comprehensive improvements to the terminals would be missed likely resulting in a hodgepodge of future concessions development. Compliance with City Administrative Requirements Westfield has been assigned a Business Tax Registration Certificate number and must have approved insurance documents on file with the Department, in the terms and amounts requested, prior to the Issuance of a Notice to Proceed. The concession agreements proposed through the TCM process must be approved by the City Attorney as to form. Westfield has submitted the Contractor Responsibility Program Pledge of Compliance and a signed

11 Labor Peace Agreement. In accordance with the contract, Westfield is required to comply with the provisions of the following standard City contract requirements: Affirmative Action Program; Child Support Obligations Ordinance; Contractor Responsibility Program; Living Wage Ordinance; and the First Source Hiring Program for all non-trade LAX airport jobs. According to Department staff, there have been no objections to this proposed Agreement by the affected City labor unions. Pursuant to Charter Section 1022, staff determined that work specified in the proposed TCM contract can be performed more feasibly and economically by an independent contractor than by City employees. Westfield is not subject to the provisions of Bidder Contributions, City Ethics Commission Form 55 pertaining to the City's contract bidder campaign contribution and fundraising restrictions (Charter Amendment H) that became effective in Apri In addition, staff from the Department of Public Works, Office of Contract Compliance must determine that Westfield is in full compliance with the provisions of the Equal Benefits Ordinance prior to execution of the contract. The Department's Procurement Services staff reviewed this action and established two different categories of participation goals for the following ACDBE: 25 percent for Food and Beverage concessions and 20 percent for Retail concessions. Staff reports that Westfield also proposed ACDBE participation levels of 25 percent and 20 percent for Food and Beverage and Retail concessions, respectively. The issuance of permits, leases, agreements or other entitlements granting use of existing facilities at a municipal airport involving negligible or no expansion of use beyond that previously existing or permitted is exempt from the requirements of the California Environmental Quality Act (CEQA) pursuant to Article Ill, Class 1 (18)(c) of the Los Angeles City CEQA Guidelines. Pursuant to Charter Section 606 and the Los Angeles Administrative Code Section 10.5, the proposed Concession Agreement, being that it is for a period longer than five years, must be approved by the Council. RECOMMENDATION That the Mayor and City Council: Approve, subject to City Attorney approval as to form, the proposed 17-year Los Angeles International Airport Terminal Commercial Management Concession Agreement between the Los Angeles World Airports (LAWA) and Westfield Concession Management, LLC for the development, lease, and management of concessions in Terminals 1, 3, and 6 at the Los Angeles International Airport (LAX). FISCAL IMPACT STATEMENT Approval of the proposed agreement will generate approximately $17 million for the first fully developed year and an estimated $180 to $195 million for LAWA over the 17-year term. This Agreement complies with the Department of Airports adopted Financial Policies. Approval of the proposed Terminal Commercial Management Concession Agreement with Westfield Concession

12 Management, LLC will have no impact on the City's General Fund. Time Limit for Council Action Pursuant to Charter Section 606, "Process for Granting Franchises, Permits, Licenses and Entering Into Leases," and the Los Angeles Administrative Code Section 1 0.5, "Limitation and Power to Make Contracts," unless the Council takes action disapproving a contract that is longer than five years within 30 days after submission to Council, the contract shall be deemed approved. MAS:WDC: