The unprecedented disruption to international travel caused by COVID-19 has created unique challenges for the aviation industry. In this note we consider how lessors can manage their exposure going forward and deal with the challenges arising from the pandemic.
Consider clawback and local insolvency
Lessors should anticipate the risk that local liquidators or insolvency officeholders of an airline may not continue to perform the lease and the arguments that local liquidators or insolvency officeholders may put forward seeking to clawback previous payments. As a result of these clawbacks and disclaimers the actual outcome of an airline failure may therefore be worse than currently modelled by lessors. For example in addition to increased costs of recovery and sale of aircraft local insolvency officeholders may assert that lease payments (such as security deposit and rent) made prior to the failure (time periods can vary across jurisdictions) can be clawed back. Additionally, there may be difficult legal questions for lessors to consider as to whether or not to participate in local insolvency proceedings and submit to the local jurisdiction. Strategically, submitting to the local jurisdiction may be unattractive (particularly when asserting that a local law insolvency proceeding would otherwise not affect any English law liabilities) but this may also be the quickest route to recover aircraft in practice. So lessors may face a choice where either option involves giving up rights.
Analysing the robustness of contractual protections
Lessors should review their aircraft leases and analyse whether provisions such “hell or high water”, indemnities, insurance covenants, default remedies (including termination and repossession) offer the expected protection contractually, and where required, that relevant interests are appropriately filed on local and international registers. Lessors should also consider potential recharacterisation of cash security deposits and maintenance reserves and familiarise themselves with procedures for claiming under letters of credit.
Identify potential issues signing off accounts
We would expect that auditors will closely scrutinise internal forecasts as to the depth and duration of the impact of Covid-19. We are seeing more aggressive behaviour from auditors and lessors should be prepared for difficult conversations with auditors and possible additional disclosures.
Develop a strategy for dealing with financiers
Over the coming weeks and months, lessors will be required to issue compliance certificates, meet financial covenants, make representations and comply with other requirements in finance documents. Where lessors are currently comfortable that this will not be an issue, stress testing these assumptions against further airline distress will allow them to develop a robust contingency plan which involves pre-emptive engagement with financiers. Lessors should also consider their obligations as servicers under limited recourse financings and securitisation structures. There may be an upside in seeking early waivers from the relationship team at financiers to achieve a stable platform, including where onerous cross-default provisions or LTV tests are identified.
Managing potential pressures on boards
Lessors should make an informed assessment of the downside risk which will assist in managing any concerns from boards, including employees who are directors of SPVs set up for specific financings. Directors often face significant pressure from creditors in a restructuring context and will rightly want to understand specific risks, including wrongful trading, faced by directors if the distress in the sector is deeper than anticipated. This includes the risk of personal liability for example when signing compliance certificates or when faced with hostile financiers challenging the proposed approach of the lessor or SPV to renegotiations with an airline.
Where some form of compromise with financiers is required, lessors should consider the potential application of an English law scheme of arrangement to reduce consent thresholds to 75% by value of each class of scheme creditors or (for non-English law liabilities) analyse equivalent schemes in other jurisdictions.
Our team has extensive experience with the above and related issues across the globe and can assist with developing a holistic strategy to navigate through the challenges posed by airline distress and strategically engage with financiers. Click here to contact a member of our team.