Investing in the future: France’s bet on the aviation industry

The French government, through its investment bank Bpifrance, has recently invested in the newly created Ace Aéro Partenaires fund, which aims to support French SMEs in the aviation industry that have been badly hit by the COVID-19 pandemic and the subsequent drop in aircraft deliveries. 630 million Euros have been raised so far, with the French State (through Bpifrance) contributing 150 million Euros, Bpifrance (from its own funds) 50 million Euros, the “big four” French manufacturers (Airbus, Safran, Dassault and Thales) 200 million Euros, and the fund manager, Tikehau, the remaining 230 million Euros.

The investment is part of the French government’s 15 billion Euro plan to revive and transform the sector in three steps:

  1. providing emergency relief to the industry and its workforce, through export credits, government orders and emergency funding;
  2. investing in SMEs and the technological transformation of French aviation; and
  3. investing in R&D to design and build tomorrow’s aircraft.

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Case Note: What does ‘give possession’ mean under the Cape Town Convention?

Wells Fargo Trust Company, National Association (trustee) v VB Leaseco Pty Ltd (administrators appointed) [2020] FCA 1269

In a significant decision for aircraft leasing and finance, the Federal Court of Australia last week provided important guidance on the meaning of the phrase ‘give possession of the aircraft object to the creditor’ as used in Article XI of the Protocol to the Convention on International Interests in Mobile Equipment on Matters Specific to Aircraft Equipment (the Aircraft Protocol) in the context of an insolvency.

The decision is positive for lessors and financiers, and is of particular relevance as airlines globally continue to navigate the effects of the Covid-19 pandemic, and as the aircraft finance industry looks to the Convention on International Interests in Mobile Equipment done at Cape Town on 16 November 2001 (the Convention) to protect international interests subject to insolvency proceedings in a range of jurisdictions.

In summary, the Court held:

  1. that the Aircraft Protocol requires the active ‘delivery’ of aircraft objects in accordance with the provisions of the underlying lease agreements – a lessee or administrator (in the Australian context) ‘cannot rely upon any lesser requirement found in the Corporations Act 2001 (Cth) (the Corporations Act)’[1], and merely making the aircraft objects available to be retrieved by their owners is not sufficient; and
  2. that this construction of the language of Article XI of the Aircraft Protocol ‘provides an efficient model for the return of the aircraft objects, and affords security (in the event of an insolvency-related event) against mobile assets’[2], which is in line with the purposes of both the Convention and of the Commonwealth Parliament of Australia when adopting the Convention into domestic law.

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Updated Air Transport guide 2021: regulatory framework

The newly updated European Union chapter of the Getting The Deal Through Air Transport guide provides a useful and succinct overview of the European Union regulatory framework applicable to the aviation sector.

It offers highly practical insights into the various European measures that regulate the industry relating to:

  • Aviation operations and market access (safety regulations, licensing, public service obligations, regulation of airfares)
  • Ownership and control (financial fitness, nationality)
  • Aircraft and airports (maintenance, economic regulation, access, slot allocation, ground handling, air traffic control)
  • Liability and accidents
  • Competition law and state aid
  • Consumer protection

The chapter also provides a summary of the recent measures adopted by the European Union to deal with the devastating effects the COVID-19 pandemic has had on the industry.

To download the chapter please see our client alert here.

Airline bailouts: a golden opportunity to take balance sheets from red, to black, to green

Developments in environmental regulation for the aviation industry have gathered momentum over the last year, notwithstanding the challenges arising from the pandemic and the related groundings.

Last month saw the publication of plans for the UK Emissions Trading System, which is proposed to take the place of the European Union Emissions Trading System when the UK leaves the EU at the end of 2020. The baseline emissions reference period for the International Civil Aviation Organisation’s Carbon Offsetting and Reduction Scheme for International Aviation has also very recently been adjusted to reflect the dramatic drop in 2020 aviation emissions resulting from responses to the COVID-19 pandemic, in the context of a heated debate over long-term environmental goals and the aviation industry’s survival. You can read more about this in our earlier blog on the topic here.

Aviation is reportedly responsible for 2 per cent of global carbon emissions, and in the last 12 months we have all had to come to terms with Extinction Rebellion protests and ‘flyksgam’ (discussed in this piece by Ashleigh Standen last autumn). The industry is very aware of the need to reduce its carbon footprint – both for green reasons and to help mitigate its exposure to oil price fluctuations. However, the drivers are frequently external factors. We had become familiar with the push by financial institutions, which are subject to increased regulatory requirements and public scrutiny, as part of a drive for increased sustainability. However, as attention turns to what emergence from the pandemic might look like and our prospects of entrenching green imperatives in our recovery infrastructure, one of the major points of discussion in aviation is the ‘green strings’ attached to government bailouts of airlines. Continue Reading

All about that baseline: Developments in the UK ETS and the CORSIA emissions baseline

The landscape of environmental regulation is changing for aviation operators, due to a powerful combination of global pressures to reduce emissions for one of the transportation sectors with the largest emissions outputs. Plans have recently been published for the UK Emissions Trading System (UK ETS), which is proposed to take the place of the EU ETS when the UK leaves the European Union at the end of 2020.

Plans to establish a baseline emissions reference for the International Civil Aviation Organisation’s Carbon Offsetting and Reduction Scheme for International Aviation (CORSIA) have also been adjusted to reflect the dramatic drop in 2020 aviation emissions resulting from responses to the COVID-19 pandemic, in the context of a heated debate over long-term environmental goals and the aviation industry’s survival.

The UK ETS Continue Reading

The Lufthansa bail out: Lessons learned

On 24 May 2020, the German government announced that it had agreed an extensive €9 billion rescue package for Lufthansa, including a significant recapitalisation leading to a government shareholding of 20 per cent. The European Commission indicated that any approval of the proposed bail out would be subject to slot divestitures at Lufthansa’s Frankfurt and Munich hubs. While Lufthansa’s supervisory board had initially indicated it would not approve a rescue package subject to these conditions, it reversed its position, and on 30 May 2020 decided to accept giving up eight aircraft with 24 landing slots at Frankfurt and Munich in return for the bail out. This case illustrates some important lessons.

The Lufthansa case shows that while the Commission has accepted that government recapitalisations may be required to provide urgently needed liquidity, it is determined to ensure that such aid does not unduly distort competition in the market. Its firm position further reflects the fact that any Commission approval decisions are likely to be subject to appeal. Ryanair, in particular, has adopted an aggressive stance, and has indicated its intention to challenge a significant number of aid packages.

In addition to any conditions the Commission may impose, national governments may attach further strings. For example, Air France has had to accept certain environmental obligations in return for the French government’s financial support.

It is clear that a major restructuring of the aviation industry will take place when the worst effects of the pandemic have subsided. The conditions attached to the rescue packages may, however, impose some important limitations that the airline recipients will need to take into account when devising their post-COVID-19 strategy to deal with these changes.

Read the full article here.

License Tax May Apply to Aircraft Stored in the State of Arizona

The COVID-19 pandemic has caused many airlines to temporarily ground aircraft.  Due to its dry desert conditions, Arizona is a popular state for airlines and commercial aircraft lessors to park aircraft while not in active use.  Airlines and commercial aircraft lessors should be aware, however, that Arizona’s annual aircraft license tax may apply to an aircraft owned by a nonresident of Arizona if the aircraft is based  in the state for more than 90 days in a calendar year.[1]  The annual license tax is administered and enforced by the Arizona Department of Transportation (“ADOT”).

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Reed Smith update on the impact of Coronavirus on the aviation industry

The impact of COVID-19 (“Coronavirus”) on aviation is becoming more pronounced by the day, with the International Air Transport Association (“IATA”) yesterday asking that airport slot allocation rules be suspended to prevent airlines from losing their take-off and landing slots on the basis of failure to meet the required 80% usage rates, as flights continue to be cancelled globally[1]. About 54 countries, including the US, have now introduced travel restrictions to China and the wider Asia/Pacific (“APAC”) region.

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JOL-ted into action

Background

Leasing has been a staple of the aviation industry for more than 40 years, and has become increasingly attractive to the shipping industry over the last five years, particularly given the scarcity of traditional bank finance.

Until 2017, Chinese money was the dominant force – particularly in aviation finance. However, the Chinese government has since put pressure on domestic corporations to sell assets and deleverage. With Chinese money no longer so readily available, a product that was better known in aviation (and container box leasing) has become increasingly common in shipping over the last few years: the Japanese Operating Lease (more commonly known as the “JOL”).

The JOL has been a feature of aviation financing for nearly 20 years. Common in the wider maritime sector, there has also been a noticeable increase in the desirability of this product in the vessel-financing market over the last five years.

Traditionally, JOLs were more popular in aircraft finance because investors were comfortable with the residual value risk. Shipping, by contrast, is a much more diverse asset class, with value being a direct consequence of the country in which a ship is built and the specification of each particular vessel. Continue Reading

The eye of the beholder: After a dramatic year in aviation, how is the industry perceived by investors?

Aviation was exceptionally – and often uncomfortably – visible to the public eye over the course of 2019. The powerful combination of the grounding of the 737 MAX fleet as a result of tragedies and the advancing ‘flygskam’ (‘flight shame’) movement had influenced the global conversation to a significant extent by the middle of the year, which was then compounded by various airline insolvencies and an announcement from a British political party as part of an election campaign that it would investigate a complete ban on private jets from 2025.

As an asset class and as an industry, aviation has been attractive to investors for some time now, as its relative youth as a market compared to its peers and the reliability of its returns have drawn funds from all over the world. Recently, however, it has seemed that some of the features of the market we have come to take for granted have been evolving. For example, the words ‘long haul’ now bring to mind an image of the two-engined 787 Dreamliner, rather than its four-engined predecessors. The famed “double digit” returns for investors may be easing (with IATA reporting a 5.7 per cent ROI for the end of 2019)[1], investments once considered “platinum” are now being sent for part-out, reports of ‘trade wars’ are developing on a weekly basis and we appear to be coming to the end of the era of low interest rates and oil prices.

However, we are also seeing increasing attention from new investors and ever-growing passenger demand figures which, together with the evolutions noted above, indicate a maturing market with a new set of trends being observed by aviation financiers. Continue Reading

Means, motivation and opportunity: How can we better respond to flygskam?

I went to the Bath Children’s Literature Festival a couple of weekends ago, and at one of the events a very well-known illustrator mentioned that the main focus of the climate strike movement was aviation, before going on to suggest that in her opinion another industry was more particularly culpable. A hall full of primary school children (and their parents) nodded soberly – this was not news to them. They know what ‘flygskam’ means.

It is a commonplace in the press at the moment that the aviation industry is a major contributor to humanity’s carbon emissions, especially with the renewed efforts of Extinction Rebellion also hitting headlines. Private aviation is an especially soft target, with high-profile (and even royal) individuals and occasions attracting criticism for their use of corporate and personal aircraft.

The thing is, I have been trying to write this blog post for months now, hoping to be able to do some research and identify some positives to try to respond to this, but there is a dizzying amount of press coverage of the issue every week, and a bewildering number of industry reports from the last twelve months alone, and it is exceptionally difficult to find a unifying message or distil an accurate sense of the progress we are making – even if, like me, you work in the sector and are actively looking for some digestible takeaways. Continue Reading

Case Note: Odyssey Aviation Ltd v GFG 737 Limited

Speed read

A party should not assume that the failure of its counterpart to provide or satisfy conditions precedent gives rise to an automatic right to terminate or not perform a contingent obligation, where it could have obtained or satisfied those conditions precedent itself.

Summary

The recent Odyssey Aviation Ltd v GFG 737 Limited[1] in the English High Court saw both the buyer and seller under an aircraft purchase agreement (the ‘APA’) claiming the deposit, as both parties attempted to terminate the APA on the basis of various alleged breaches of warranty, failure to satisfy conditions precedent and non-payment of purchase price and fees.

The case is significant for aviation sale and leasing practitioners, especially in relation the satisfaction of conditions precedent which is noteworthy for transactional lawyers more generally. It was held that a term should be implied in the APA where a party was to ‘have received’ certain documents, evidence or confirmations, or that the sale would take place ‘subject to the fulfilment’ of conditions precedent, the recipient should take ‘reasonable steps’ to obtain them themselves. This was held to be the case even where there is no express obligation to this effect. Failure to take these steps will mean that the intended recipient would not be able to rely on the other party’s failure to satisfy the condition precedent as a ground for termination. Continue Reading

Fight or flight? The eternal battle for efficiency

The Extinction Rebellion protests in London have finally died down, after several weeks of aggravation and disruption to City commuters making their way to work, protestors gluing themselves to overground trains and grinding traffic on Waterloo Bridge and at Oxford Circus to a halt. Their execution was annoying, but they had a point. Serious remedial action needs to be taken within the next 12 years, or humans will have taken our fragile environmental state one step too far away from recovery. The automotive, rail and shipping industries have already put electrification and environmentally conscious fuel-saving on the menu. Why then has the aviation industry, known to be a development trailblazer, not yet been able to make hybridisation more readily available in the commercial aviation space?

It may well be a question of scale. Batteries used for electric cars are fairly small and therefore easier to manufacture. Overall, battery packs are heavier than their combustion engine counterparts. Aircraft-grade batteries are weighing in between 2 and 3 metric tons (that’s Range Rover heavy). This means that aircraft manufacturers will need smarter materials to reduce some weight to compensate for those heavy batteries and their cooling systems.

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French airport market turbulence

In recent weeks, the French airport industry has seen two major and unexpected setbacks, with the cancellation of the privatisation of Toulouse airport and the postponement of the sale of the Paris airports company.

For months, the infrastructure world has been scrutinising the French market, with all major players in the airport sector eagerly lining up for the sale of 49.99% of the shares in the Toulouse airport company, announced by its current Chinese owners, and the sale of 51% of the shares in the Paris airport company (Aéroports de Paris, ADP) announced by the French government. The size of ADP, which not only runs three of the four Paris airports (CDG, Orly and Le Bourget), but also runs eight other major airports around the world, makes this an extremely lucrative prospect for private sector investors.

However, the last two weeks have seen major and quite astonishing setbacks in both these transactions, leaving the industry in turmoil with many unanswered questions about the future of these projects. The resulting uncertainty has both political and legal implications.

On the one hand, Toulouse airport finds itself owned by a consortium that is no longer authorised to own it, leaving it in a legal quagmire that will take months to unpick. On the other hand, the sale of ADP may find itself being put out to a national referendum following a constitutional challenge using a procedure that has never been used before.

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Aviation: Endgame (… not really)

Well, sort of.

There are parallels to be drawn – I know, but indulge me for a moment. With Avengers: Endgame released this week, it’s the end of an era.

Much like the Avengers, we in aviation have lost a few of our heroes recently, and there are likely to be more losses to come. As the cover of the latest issue of Airline Economics (pictured) demonstrates, we are seeing very high airline casualty rates at the moment, with forecasts of further collapses in the short and medium term. While it has been sad to see some greats fall (although the disappearances are attributed variously to flawed business models, rising fuel prices, Brexit uncertainty and lack of funding rather than a super-villain snapping his gauntleted fingers…), and we are undeniably looking at challenges as the industry cycle begins to turn, we are also seeing this provoke some self-reflection and perhaps re-direction in the industry.

Some of this reflection relates to Earth Day, which also happened in the last week, and while the commentary on the environmental impact of aviation is more or less constant, there are moments of hope peeping through the fog. We have written before about the need to develop some sort of Tony Stark-style arc reactor to innovate out a lot of the fuel-related environmental side effects, but (if we could turn for a moment from Iron Man to Thor and his lightning bolts…) there are also increasingly viable options emerging in electric technology, which are particularly suited for countries like Australia where there are high volumes of short-haul travel, and few cost-effective options for accessing remote areas. It is predicted that we could see electric 150-seat aircraft with a 500 km range in operation before 2030, which could significantly reduce both the environmental costs of air travel and the operating costs incurred by airlines running these routes, who would gradually become less reliant on expensive and polluting aviation fuel. Innovation in this vein would be a meaningful step forward for our industry. Continue Reading

Lean, green flying machines: Aviation and CORSIA leading the way?

We are observing a distinct uptick in press coverage of aviation in the context of climate change discussions of various kinds at the moment. The headline item is, of course, the conversation about the proposed place of aviation within the Green New Deal plans in the United States, and what that might look like in the context of a 100 per cent carbon-neutral society, alongside clean fuels, high-speed electric rail, etc. At the industry level the conversation is centred on the new Carbon Offsetting and Reduction Scheme for International Aviation (CORSIA), as the mandatory emissions reporting requirement kicked in on 1 January this year.

Closer to home, we are also seeing incoming lessees, lessors and financiers asking these questions when re-leasing aircraft emerging from the various recent airline insolvencies, as people query the ongoing place of the familiar EU ETS letter and seek to understand where the new CORSIA reporting requirements will need to be accommodated in lease and finance documentation, and how this monitoring will be carried out and reported in practice. The freshly updated Green Loan Principles are also raising questions in asset finance generally, as the latest advice in relation to how these principles can be applied to revolving credit facilities clarifies the options available to operators and financiers in terms of green tranches within working capital revolvers.

What seems clear from all of these discussions is that the finance aspect of the industry will be equal in importance to technological advancement if aviation is to meet the targets and regulatory regimes to which it has signed up, within the necessary time frame.

CORSIA takes a two-pronged approach to ensuring that airlines are able to cap their emissions at 2020 levels, by imposing the reporting requirements mentioned above to encourage emissions reductions in the first instance by way of transparency, but also by establishing an offsetting scheme requiring carriers to buy carbon credits from other industries that have made more progress in their reductions, thereby financing advances in other fields while aviation technology catches up. As a result, it may be the case that we see airlines seeking to use green loans or green revolver tranches to finance the purchasing of these credits, which will encourage the development and meaningful implementation of emissions reductions technologies in various industries as well as in aviation, while simultaneously making investment in aviation more attractive to financiers keen to show participation (and tangible results) in green financing.

Intriguingly, it has been suggested that CORSIA might be a source of hope to industry generally, as an example of the ways in which the ‘profit incentive’ can be mobilised for environmental good. “In short,” it has been observed, “CORSIA could catalyse a global carbon market that drives investment in low-carbon fuels and technologies” (Less Than Zero). Aviation has a real opportunity to show leadership on this issue, despite the distance yet to be covered in terms of more efficient equipment and less harmful fuel sources. And with the next generation of aviation CEOs (now as young as 10 years old and already proving to be both observant and organised: Qantas boss Alan Joyce responds to letter from 10yo CEO of Oceania Express) watching us closely, the example we set and the changes we make now will be beyond price.

(Un)Happy Valentine’s Day

It turned out to be an unhappy Valentine’s Day for the Airbus A380 and her admirers, as Airbus announced the scrapping of the A380 programme, with the last deliveries scheduled for 2021.

It’s hardly a shock, however, after the fleet’s first retirement last year and with two of them already being parted out. The economics of operating these fantastic beasts just never really made sense, however game-changing the concept (or indeed the passenger experience).

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How many racehorses can you fit inside a 747? – Dublin Conference Week 2019

The answer to this question is just one of the many fascinating things the Reed Smith aviation finance team discussed around St Stephen’s Green this January, as members of our London, Paris and Miami teams attended aviation’s largest annual industry gathering in Dublin.

The presiding concern in discussions this year was where the industry is in its cycle. More and more money is being made available, by banks and private equity, to the point where we are now hearing that there is more money than there are aircraft to back it. We have heard, for example, of nascent leasing platforms that are fully funded but are struggling to obtain the necessary aircraft, and of end-of-life lessors/operators and cargo carriers having to take retired aircraft back out of the desert and refit them, due to the disruption caused by the necessity of keeping mid-life aircraft in service to meet capacity demands, to cover manufacturer delays affecting new aircraft and to provide assets capable of delivering the yields required by this influx of funding.

While the abundance of cash is causing certain stresses on the aircraft life cycle and pressure on margins, conference week also made it clear that this cash and those responsible for deploying it are increasingly asset-agnostic, drawn by the prospect of high single- to double-digit returns and long asset life rather than by the assets themselves. These investors tend to be already active in shipping, rail, real estate and even aerospace as they look for new opportunities in aviation. We spoke to people mandated to invest anything from US$2 to 8 billion in the industry over the next 24 months, so it seems there is quite the investment pipeline developing, with all of the attendant challenges and opportunities (and warning signs). However, it is not just about investing in ‘aviation’ across the board, but rather about finding the right airline, aircraft and region at the right time.

This combination of ready funds and potentially scarce metal, when considered in light of more macro factors relating to jurisdiction (for example, the as-yet-untested new economic substance rules in the Cayman Islands, ‘trade war’ issues, and general Brexit uncertainty), would seem to suggest that we will increasingly be seeing more asset trades rather than M&A activity, as it becomes more efficient and less risky to buy and sell the assets themselves rather than the entities or platforms that own them. (This tends to be the preferred approach in aviation, as size is not necessary for survival and M&A tends to be seller-driven – for example, in distressed situations.) This would, in some cases, include the financing arrangements attached to the asset, so that secondary debt trading may in tandem become more of a focus. The sale and leaseback market is also likely to continue apace as competition to finance and own the aircraft intensifies, with lease extensions and novations similarly continuing to tick over as operators try to hold onto or redistribute the capacity they already have.

It therefore seems that we are in for an interesting year, as new players come to prominence, financier attention shifts and grows, and we collectively deal with regional economic and political turbulence. Overall, we would say the atmosphere at the conference was wary but optimistic, and there was a general enthusiasm to tackle these emerging headwinds, as well as real enthusiasm from the financiers to get stuck in.

The answer, in case you are still wondering, is 67.

Elusive, yet still alluring: What did 2018 show us about investment in aviation?

At the end of last year I wrote a published piece entitled “The Allure of Investing in Aviation”. A client asked me this week whether, a year later, I stood by what I’d written.

To answer that, you have to decide whether or not you think 2018 was a good year for the airline industry as a whole. There were many highs, but some telling lows as well. There can be no doubt that we are still in a ‘supercycle’ of sorts, but this has to be balanced against both macro and sectoral environmental conditions.

The expectations as we headed into 2018 were that profitability would improve over the year, with 56 per cent of airline CEOs in a positive mood[1]. However, this positivity has to be tempered by IATA’s adjustment of its own profit forecast from US$38.4 billion in December 2017 down to US$33.8 billion by June last year[2].

So what should investors be looking at? Is aviation still an attractive investment?

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