The UK Government’s Airline Insolvency Review – proposed Special Administration Regime for UK airlines could impact the aircraft leasing & finance community

By Richard Sharman, Nicholas Puschman

06-2019

In late 2017 the UK Government spent £60 million of taxpayers' money repatriating over 110,000 Monarch Airlines passengers stranded overseas.

The Airline Insolvency Review was created to "consider both repatriation and refund protection to identify the market reforms necessary to ensure passengers are protected".

Its Final Report was issued on 9 May 2019, making 28 paragraphs of recommendations. The Report estimates that there is a 13% chance of an insolvency event occurring in the next year based on the latest analysis of the top 17 airlines serving the UK.

Special Administration Regime

Of interest to the aircraft leasing & finance community, the recommendations include the creation of a Special Administration Regime ("SAR") to keep an insolvent airline flying for the purpose of repatriation.  In reaching this conclusion the Report notes that an orderly wind-down of an airline can mitigate disruption and have less of a financial impact on both consumers and the taxpayer.

The Report finds that creating an SAR would be "feasible" though there would be "significant challenges" to overcome for it to be workable. 

The Report notes that in stakeholder workshops "there was general support [amongst lessors] for this in principle if they could be assured that they would not be unfairly prejudiced as a consequence." It adds that "at a basic level" this would include payment of lease costs for the period of repatriation and ensuring the terms of the lease continue to be met.

As the UK has implemented the Cape Town Convention the usual insolvency moratorium will not apply, and the airline will have to return the aircraft to the lessor or cure all debts by the end of a 60 day waiting period.

Though it may be possible to complete a repatriation exercise within the 60 day waiting period under Cape Town, delaying the repossession of the aircraft gives rise to a number of issues from the lessors' perspective:

• Remarketing – potential commercial prejudice as a result of delaying remarketing of the aircraft and possible uncertainty as to when and in what condition it will be returned

• Security for non-performance – adequate security for non-performance of e.g. maintenance covenants during the repatriation period and/or diminution in value of the asset

• Exposure to UK liens – the interaction in the UK between the SAR and liens that are exercisable by airports and the UK Civil Aviation Authority ("CAA"), notably the (unique to the UK) fleet-wide lien for all unpaid air navigation charges incurred by the airline

• Exposure to unknown liens overseas – the risk that the aircraft could be arrested overseas during the repatriation exercise by other third party creditors not subject to any protections the SAR may offer (e.g. local airports/aviation authorities, fuel suppliers), whereas in the ordinary course the aircraft would already have been repossessed by the lessor

• Financing terms – if the aircraft being used for SAR would trigger a breach of any underlying financing (if not expressly permitted)

• Insurance terms – consent of the lessor's contingent/possessed risks insurers may be required

• Requisition compensation – whether the basic rent is adequate compensation for usage in these circumstances

• Selection process – if the whole fleet is not required, how will the CAA decide which aircraft to use and whether the lessors can be compelled to make their aircraft available

• Breach of property rights – any compulsory SAR might not be compatible with private property rights

More generally, the Report recognises that the following factors would need to addressed:

• Aircraft – on the basis most aircraft are leased, the lessors would need to agree to defer their right to terminate the lease and repossess the aircraft

• Management – the insolvency practitioner will need to take on responsibility for running an airline and related potential liability exposure

• Key employees – key employees (flight crew, ground crew, operations) would need to be retained and given comfort as to payment of wages

• Regulatory compliance – the airline will need to continue to hold a valid AOC/Operating Licence whilst insolvent (not currently possible in the UK)

• Insurance – the insurances will need to be maintained in full force and effect

• Key suppliers – other than aircraft lessors, there will be charges payable to airport and air navigation authorities, fuel suppliers, ground handlers, etc., and credit terms are unlikely to be available

• Working capital – the airline will need (and will need to demonstrate it has) sufficient working capital to pay for the costs of the repatriation exercise

Other key recommendations

Otherwise, the Report recommends that "a formal repatriation scheme is put in place" and calls it the Flight Protection Scheme ("FPS"). In outline: 

• The FPS would protect UK-originating air passengers with a return ticket to the UK if the airline becomes insolvent when they are overseas

• The FPS would be funded exclusively by the private sector, by a combination of (1) requiring airlines serving the UK market to put up security (i.e. a financial instrument) that can be drawn in the event of its failure and (2) a "small, per passenger levy"

• The Report estimates that the overall cost of the security plus the levy to be less than 50p per UK-originating passenger

The Report also recommends:

• The implementation of changes to "increase the commerciality" of the ATOL scheme, including changing the appointment process for Air Travel Trustees

• Regulatory and legislative changes, such as additional powers to the CAA to monitor and enforce airline licence compliance and obliging airlines to develop repatriation plans