Aircraft leasing in the time of Covid-19 – case review 


Share

One year on from the first UK lock down and as Europe has entered a 'third wave' of the Covid-19 pandemic, any plans on the part of the aviation sector for a "return to normal" by the summer of 2021 appear increasingly unlikely.

The crippling effect of the pandemic on carriers has been felt up and down the supply chain and particularly by lessors.

Historically, the leasing market has been comparatively robust, with aircraft supply outstripping demand.  The pandemic has changed this entirely and, notwithstanding strong government support, aircraft demand has plummeted. While many lessees initially requested payment holidays, this subsequently escalated to major discounts, write-offs, re-purposing of aircraft and ultimately events of default.  

It is therefore critical that all parties involved in the aviation leasing sector fully understand their contractual rights and potential enforcement options.  In 2020, a number of cases came before the English Courts testing whether the pandemic constitutes either an event of force majeure or frustration, thereby enabling a party to walkaway from their obligations.  These decisions provide useful guidance for the sector and their potential impact is discussed further below.

The risks of claiming force majeure

Fibula Air Travel Srl (Fibula) v Just-US Air Srl (Just-US) (2020) EWHC 3048

This dispute related to an ACMI lease under which Just-US had been due to undertake flights for Fibula between Romania and Turkey from 1 April 2020.

On 17 March 2020, Fibula sought termination of the lease on the grounds that the pandemic constituted an event of force majeure. It also sought to withhold several payments due to Just-US on 18 March and 1 April 2020 and the return of its security deposit.  Just-US refused and Fibula was forced to apply to the Court for a notification injunction (similar to a freezing order) over the security deposit. Fibula sought to argue that Just-US's refusal to return the security deposit indicated that there was a real risk of the funds being dissipated pending final judgment. The Court refused Fibula's application for an injunction and, more importantly from a sector-wide perspective, considered whether Fibula could rely on the force majeure clause to terminate the lease.

The force majeure clause in question allowed either party to terminate if a situation arose which caused "failure or delay in the performance of any obligations under this agreement" which persisted for ten days or more. The Court focussed on the commercial purpose of the lease i.e. the undertaking by Just-US on behalf of Fibula of various commercial flights between Romania and Turkey. The Court held that, as of 17 March 2020, neither Romania nor Turkey had grounded flights (full flight suspension did not occur until 28 March) and thus a "force majeure situation" had yet to arise.

The Court did indicate that, had such a suspension been in place at the date of purported termination of the lease, then Fibula’s reliance on the force majeure clause would have had more merit. However, even then, the force majeure event would only come into play 10 days after the suspension i.e. by 7 April 2020. Fibula would therefore have been required to meet both of the payments due in March and April 2020 respectively. This gave Just-US a strong argument in favour of retaining the security deposit (i.e. to cover unpaid instalments), and on that basis the application for the injunction was denied.

This judgment makes it clear that a lessee claiming force majeure must demonstrate that specific restrictions have significantly impacted upon performance of contractual obligations.  The Court's focus will be on the specific wording in the relevant force majeure clause and the factual matrix underlying the dispute, including agreed factors, such as the commercial intentions of both parties even if these are not expressly included in the contract.  In such circumstances, lessors and lessees should also be aware of alternative contractual provisions which may be available such as material adverse change or effect clauses (MAC clauses) and also common law remedies such as frustration (discussed further below) as alternative avenues for potential relief.

The law of frustration has limited application

Salam Air SAOC (Salam) v Latam Airlines Group SA (Latam) [2020] EWHC 2414.

Salam (operating out of Muscat, Oman) entered into three identical aircraft leases with Latam.  Salam provided Latam with 3 standby letters of credit (SBLCs) in lieu of deposits, which Latam was entitled to draw on without notice in the event of default.

In March 2020, in response to the pandemic, the Omani CAA suspended all flights in or out of Oman (bar cargo flights). Salam stopped paying rent under the leases in March 2020 and redelivered the aircraft to Latam in June 2020. Salam subsequently gave notice to terminate the leases on the basis that they had been frustrated due to the travel restrictions introduced by the Omani CAA. Salam then applied for an injunction restraining Latam from calling on the SBLCs.  Salam's application asked the Court to determine: firstly, whether it should interfere with the operation of the SBLCs by granting the injunction and secondly, whether Salam could adequately demonstrate that the leases were frustrated by the effects of the pandemic.

Notwithstanding the fact that Salam's application was dismissed on the basis that it would only be appropriate for the Court to intervene and provide injunctive relief in relation to the operation of irrevocable letters of credit in "exceptional circumstances" (e.g.  where the letter of credit itself was invalid), the Court still went on to consider whether Salam could demonstrate frustration of the leases due to the pandemic.

The Court applied the test for frustration set out in National Carriers v Panalpina [1981] AC 675:

"would outstanding performance in accordance with the literal terms of the contract differ so significantly from what the parties reasonably contemplated at the time of execution that it would be unjust to insist on compliance with those literal terms."

In applying this test, the Court also confirmed the position set out in Edwinton Commercial Corporation v Tsavliris Russ (Worldwide Salvage and Towage) Ltd (The Sea Angel) [2007] 1 CLC 876 - that the law of frustration has limited application and the likes of delay or additional expense will not be sufficient.

In this case, both parties agreed that rather that the pandemic rendering performance of the leases impossible, the issue was whether there had been a 'frustration of purpose'.  Considering the terms of the three leases, the Court held that there was nothing to indicate that Salam's intended use of the aircraft (i.e. to operate flights to and from Oman) was a shared purpose with Latam. Moreover, as is common in this sector, the terms of the leases placed the risk of any disruption to Salam's business solely on Salam. The leases had been drafted such that Salam's obligations as to payment of rent and maintenance continued in virtually all plausible circumstances (sometimes referred to as a "hell or highwater" basis).  Thus, Salam's case was “far too weak” to justify any interference with the operation of the SBLCs or to hold that there was a sufficiently arguable case of frustration.

Conclusion

Whilst these two cases show that the Courts have rejected an extension of the principle of frustration and will focus on the specific contractual wording/underlying matrix for each dispute rather than opening the floodgates to a raft of future pandemic fuelled force majeure claims, in rejecting what was a speculative claim in the Fibula case, it has left open the possibility to argue that lock downs and travel restrictions could, in principle, constitute an event of force majeure if such an event were to restrict the performance of the commercial objectives agreed between the parties.

Insight

Webinar: Trowers Tuesdays – mental health and wellbeing 

Explore
Insight

Mandatory vaccination: opening Pandora's box

Explore
Insight

Leisure and tourism

Explore
Insight

Duty of hoteliers

Explore
Insight

Gearing up for summer

Explore
Insight

Temporary uses of land – campsites and temporary events

Explore