This article was updated on Jan. 9, 2020.
In a recent matter handled by Gowling WLG professionals (Canada) LLP  (the "Transaction") representing a key financial institution in the Canadian aviation market (the "Aircraft Financing Company"), a Canadian court order implemented "Alternative A" of the insolvency provisions set out in the Convention on International Interests on Mobile Equipment (the "Convention") and the Protocol on the Convention on International Interests on Mobile Equipment on Matters Specific to Aircraft Equipment (the "Aircraft Protocol", and collectively with the Convention, the "Cape Town Convention"). The Transaction is significant in the sphere of international aircraft financing as a Canadian court has, for the first time since Canada's ratification of the Cape Town Convention, recognized the primacy of the principles and recourses set out in the Cape Town Convention over the general principles and recourses of Canadian insolvency law. This article briefly discusses the origin of the Cape Town Convention, as well as the insolvency provisions in connection with the Transaction.
1. The Origin of the Cape Town Convention
On November 16, 2001, representatives from 53 countries gathered in Cape Town, South Africa, and signed two international documents, namely the Convention and the Aircraft Protocol that are now commonly known as the "Cape Town Convention". These international treaties are the result of a diplomatic conference hosted by the local government and held by joint efforts of the International Institute for the Unification of Private Law ("UNIDROIT"), the International Civil Aviation Organization ("ICAO") and the Aviation Working Group ("AWG"). This was a historic moment for practitioners and key players in the aircraft finance and acquisition industry and this is why the Cape Town Convention is often referred to as one of the most "ambitious international commercial law instruments".
Canada signed the Cape Town Convention in 2004 but it was only in December 2012, that the Government of Canada adopted the International Interests in Mobile Equipment Act ratifying the Cape Town Convention and the laws of many provinces of Canada formally proclaimed in force on April 1, 2013, the local laws necessary to implement the Aircraft Protocol. Even though this article's main focus is the Aircraft Protocol, it is important to note that as of today two other protocols exist, namely the Luxembourg Protocol to the Convention on International Interests in Mobile Equipment on Matters Specific to Railway Rolling Stock and the Protocol to the Convention on International Interests in Mobile Equipment on Matters Specific to Space Assets. Furthermore, a diplomatic conference will be held in Pretoria on November 22, 2019 for the adoption of the draft Protocol on matters specific to Mining, Agriculture and Construction Equipment.
The main objective of the Cape Town Convention is to facilitate the efficient financing and leasing of mobile equipment of high value or particular economic significance. Airframes, aircraft's engines and helicopters, defined as "aircraft objects" in the Cape Town Convention ("Aircraft Object"), are by nature objects that have no fixed location. As a result, creditors had, before the Cape Town Convention, difficulty obtaining secure and enforceable rights in such type of mobile assets, especially in an international context, which had an impact on the financial risk levels. It created uncertainty for lending institutions regarding the effective recognition of their rights, consequently impeding Aircraft Objects financing, and increasing the borrowing cost.
The Convention has five key objectives:
- to provide for the creation of an international interest which will be recognized in all the states that have consented to be bound by the Cape Town Convention (the "Contracting State");
- to provide the secured creditors with a range of basic default remedies and, where there is evidence of default, a means of obtaining speedy interim relief pending final determination of its claim on the merits;
- to establish an electronic international registry for the registration of international interests which will give notice of their existence to third parties and enable the secured creditor to preserve its priority against subsequently registered interests and against unregistered interests and the debtor's insolvency administrator;
- to ensure through the relevant protocol that the particular needs of the industry sector concerned are met; and
- by these means to give secured creditors greater certainty of rights in the decision to grant credit, enhance the creditworthiness of equipment financing receivables and reduce borrowing costs to the advantage of all interested parties.
2. Novelties of the Cape Town Convention
Undeniably, the Cape Town Convention contains many novelties and advantages for aviation financing. This article focuses on the international registry and the insolvency provisions of the Cape Town Convention as they played a particularly important role in the successful completion of the Transaction.
2.1 The creation of an international registry
One of the main novelties of the Cape Town Convention is the creation of an international registry (the "Registry") operated by Aviareto, a joint venture of the Irish government and the SITA ("Société internationale de telecommunication aéronautique"). The Registry is computerized and allows rapid and precise searches of Aircraft Objects. In fact, the Registry is based on a system that is greatly influenced by what already exists in Canada and the United States.
The Registry is an asset-based registration system that registers not the debtor but individualized and uniquely identifiable asset by the serial number of the Aircraft Object.. Parties to a security agreement, a title reservation agreement, a lease agreement, a transfer of rights under the those agreements, or a sale without reservation of ownership can register interests in the Registry. It is important to note that registration is done by way of notice of rights and does not require the filing of the actual agreement among the parties.
Moreover, the Registry is a central element of the priority system of the Cape Town Convention. Registration is not necessary for the creation of the international interest or its proof of existence, but it ensures, in most instances, priority against subsequently registered and unregistered interests.
3.2 The insolvency proceedings
One particularly interesting development of the Cape Town Convention is its approach concerning the insolvency of a debtor. Each Contracting State has the option to make a declaration and to choose between two alternatives that will guide the insolvency process relating to Aircraft Objects. Under Articles XI and XXX of the Protocol, the declaration made by the Contracting States provide secured creditors with a special insolvency regime governing their rights. It is important to note that a Contracting State can choose not to make a declaration in which case the alternatives will not be implanted by the Contracting State laws. The Articles XI and XXX read as follows:
Article XI—Remedies on insolvency
1. This Article applies only where a Contracting State that is the primary insolvency jurisdiction has made a declaration pursuant to Article XXX (3).
2. Upon the occurrence of an insolvency-related event, the insolvency administrator or the debtor, as applicable, shall, subject to paragraph 7, give possession of the aircraft object to the creditor no later than the earlier of:
(a) the end of the waiting period; and
(b) the date on which the creditor would be entitled to possession of the aircraft object if this Article did not apply.
3. For the purposes of this Article, the "waiting period" shall be the period specified in a declaration of the Contracting State, which is the primary insolvency jurisdiction.
4. References in this Article to the "insolvency administrator" shall be to that person in its official, not in its personal, capacity.
5. Unless and until the creditor is given the opportunity to take possession under paragraph 2:
(a) the insolvency administrator or the debtor, as applicable, shall preserve the aircraft object and maintain it and its value in accordance with the agreement; and
(b) the creditor shall be entitled to apply for any other forms of interim relief available under the applicable law.
6. Sub-paragraph (a) of the preceding paragraph shall not preclude the use of the aircraft object under arrangements designed to preserve the aircraft object and maintain it and its value.
7. The insolvency administrator or the debtor, as applicable, may retain possession of the aircraft object where, by the time specified in paragraph 2, it has cured all defaults other than a default constituted by the opening of insolvency proceedings and has agreed to perform all future obligations under the agreement. A second waiting period shall not apply in respect of a default in the performance of such future obligations.
8. With regard to the remedies in Article IX(1):
(a) they shall be made available by the registry authority and the administrative authorities in a Contracting State, as applicable, no later than five working days after the date on which the creditor notifies such authorities that it is entitled to procure those remedies in accordance with the Convention; and
(b) the applicable authorities shall expeditiously co-operate with and assist the creditor in the exercise of such remedies in conformity with the applicable aviation safety laws and regulations.
9. No exercise of remedies permitted by the Convention or this Protocol may be prevented or delayed after the date specified in paragraph 2.
10. No obligations of the debtor under the agreement may be modified without the consent of the creditor.
11. Nothing in the preceding paragraph shall be construed to affect the authority, if any, of the insolvency administrator under the applicable law to terminate the agreement.
12. No rights or interests, except for non-consensual rights or interests of a category covered by a declaration pursuant to Article 39(1), shall have priority in insolvency proceedings over registered interests.
13. The Convention as modified by Article IX of this Protocol shall apply to the exercise of any remedies under this Article.
2. Upon the occurrence of an insolvency-related event, the insolvency administrator or the debtor, as applicable, upon the request of the creditor, shall give notice to the creditor within the time specified in a declaration of a Contracting State pursuant to Article XXX(3) whether it will:
(a) cure all defaults other than a default constituted by the opening of insolvency proceedings and agree to perform all future obligations, under the agreement and related transaction documents; or
(b) give the creditor the opportunity to take possession of the aircraft object, in accordance with the applicable law.
3. The applicable law referred to in sub-paragraph (b) of the preceding paragraph may permit the court to require the taking of any additional step or the provision of any additional guarantee.
4. The creditor shall provide evidence of its claims and proof that its international interest has been registered.
5. If the insolvency administrator or the debtor, as applicable, does not give notice in conformity with paragraph 2, or when the insolvency administrator or the debtor has declared that it will give the creditor the opportunity to take possession of the aircraft object but fails to do so, the court may permit the creditor to take possession of the aircraft object upon such terms as the court may order and may require the taking of any additional step or the provision of any additional guarantee.
6. The aircraft object shall not be sold pending a decision by a court regarding the claim and the international interest.
Article XXX—Declarations relating to certain provisions
1. A Contracting State may, at the time of ratification, acceptance, approval of, or accession to this Protocol, declare that it will apply any one or more of Articles VIII, XII and XIII of this Protocol.
2. A Contracting State may, at the time of ratification, acceptance, approval of, or accession to this Protocol, declare that it will apply Article X of this Protocol, wholly or in part. If it so declares with respect to Article X (2), it shall specify the time-period required thereby.
3. A Contracting State may, at the time of ratification, acceptance, approval of, or accession to this Protocol, declare that it will apply the entirety of Alternative A, or the entirety of Alternative B of Article XI and, if so, shall specify the types of insolvency proceeding, if any, to which it will apply Alternative A and the types of insolvency proceeding, if any, to which it will apply Alternative B. A Contracting State making a declaration pursuant to this paragraph shall specify the time-period required by Article XI.
4. The courts of Contracting States shall apply Article XI in conformity with the declaration made by the Contracting State, which is the primary insolvency jurisdiction.
5. A Contracting State may, at the time of ratification, acceptance, approval of, or accession to this Protocol, declare that it will not apply the provisions of Article XXI, wholly or in part. The declaration shall specify under which conditions the relevant Article will be applied, in case it will be applied partly, or otherwise which other forms of interim relief will be applied.
Each alternative offers a different regime and is subject to conditions. These alternatives are commonly referred to as Alternative A and Alternative B. As outlined in the Articles, the legal consequences for secured creditors and debtors are directly related to the declaration.
3.2.1 Alternative A
Alternative A provides many advantages to the secured creditor as it grants more in-depth protection than otherwise available to a secured creditor under bankruptcy and insolvency laws. For that reason, Alternative A is the preferred choice by most Contracting States. According to the Practitioner's Guide to the Cape Town Convention and The Aircraft Protocol, Alternative A "is one of the most, if not the most important, of the declarations that a Contracting State may make in order to increase the availability of and reduce the cost of financing for aircraft in its jurisdiction generally". The debtor has two options upon the occurrence of an "insolvency event" as defined in the Cape Town Convention:
(i) give possession of the aircraft covered by the contract to the secured creditor; or
(ii) cure all defaults and agree to perform all future obligations under the contract no later than the earlier of the end of the waiting period specified by the Contracting State or the date on which the secured creditor would be entitled to possession if the Cape Town Convention was not applicable.
Choosing Alternative A entitles a Contracting State to the maximum financing benefits made available for export credit financing provided for under the Organisation for Economic Co-operation and Development's Aircraft Sector Understanding (the "ASU"). Indeed, it is intended that Contracting States may benefit from a reduction of the minimum premium rates for officially supported export credits relating to civil aircraft.
Alternative A also requires that the de-registration process and exportation of the aircraft must be expeditious. These two steps have to be completed in less than five working days. This is an undeniable advantage for a secured creditor.
Finally, Alternative A ensures the priority of secured creditors. It provides the Contracting States with a special provision stating that only non-consensual interests following a declaration under Article 39 (1) of the Cape Town Convention have priority over rights published in the Registry during insolvency proceedings.
3.2.2 Alternative B
Alternative B gives much less protection to secured creditors than Alternative A. It is often characterized as the "soft" version of the insolvency recourses available to a secured creditor. In fact, Mexico and Spain are currently the only Contracting States operating under this declaration. For instance, Alternative B does not provide the benefits made available for export credit financing provided under the ASU, nor does it provide strict time periods that the debtor must respect.
3.2.3 Main differences between Alternative A and B
The two alternatives differ in the following aspects:
- Under Alternative B, the insolvency administrator does not have to take action to cure all defaults or to give the secured creditor the opportunity to take possession of the Aircraft Object;
- Under Alternative B, if the insolvency administrator does not give the notice to the secured creditor or if he fails to give the opportunity to the secured creditor to take possession, he must deal with the court and the court may impose conditions (it is also important to note that during the court's deliberation, the aircraft cannot be sold) ; and
- There is no equivalent under Alternative B of paragraph 12 of Alternative A concerning the priority of the non-consensual rights under Article 39. Article 39 relates to non-consensual rights. They are two types of non-consensual rights under the Cape Town Convention, which are provided at Article 39 and 40. When a Contracting State makes a declaration under Article 39, non-consensual rights or interests created under the legislation of the Contracting State have priority without registration, over registered interest in an Aircraft Object equivalent to that of the holder of the registered international interests. To benefit from Article 39, the Contracting State making the declaration must specify the type of non-consensual interest or right that has priority. For instance, Canada made a declaration in accordance with Article 39.
3.2.4 Canada's Declaration and Impacts to the Canadian Insolvency Act
Canada first adopted the International Interests in Mobile Equipment (aircraft equipment) Act in 2005 to implement the Cape Town Convention. This act did not fully proclaimed the Cape Town Convention. For example, amendments to the bankruptcy and insolvency legislations were made by including provisions similar to Alternative A but not Alternative A as described in the Cape Town convention. In 2013, by way of an omnibus statute, the Jobs and Growth Act, the federal government implemented article XI of the Cape Town Convention and the amendments to the insolvency and bankruptcy act implemented in 2005 were repealed.
In addition, according to Canada's declaration, the "waiting period" as defined in the Cape Town Convention is sixty days.
3. The Transaction
In 2017, a helicopter company (the "Helicopter Company") was in a precarious financial situation. With over $70 million owed to different creditors, the Helicopter Company sought an Initial Order under the CCAA. The Aircraft Financing Company was one of the Helicopter Company's secured creditors and had a first-ranking security over eight helicopters (the "Helicopters") owned and/or operated by the Helicopter Company with subordinate security in all other assets. As the Aircraft Financing Company security/international interest related to Aircraft Objects, the Aircraft Financing Company made registration of its international interests in the Registry.
The Initial Order contained requests that were not aligned with the provisions of Cape Town Convention. For instance, the Helicopter Company asked the Court to grant charges over the Helicopters, set to rank in priority over the Aircraft Financing Company. The existence of a Court-ordered charge can run contrary to the ability of a secured creditor to procure the deregistration and export of the Aircraft Objects or to sell the Aircraft Objects. Furthermore, the grant of a Court-Ordered Charge would also make it impossible for the debtor to comply with its obligations under Article XI of the Protocol, should it wish to retain the Aircraft Object for longer than 60 days insofar as curing all defaults would involve securing a discharge of any unauthorized charge.
In theses circumstances, we determined that the remedies of the Cape Town Convention had to be applied. The CCAA proceedings by the Helicopter Company constituted an "insolvency related event" as defined in the Aircraft Protocol and enabled the Aircraft Financing Company to benefit from the remedies provided in the Cape Town Convention, in particular, Alternative A. The Cape Town Convention provides secured creditors with special rights. Canada chose to ratify the Cape Town Convention and to adopt Alternative A. As such, a Canadian court had to comply with the obligations under the Cape Town Convention and enforce a security/international interest duly registered in the Registry.
In light of the arguments of Gowling WLG professionals, the Aircraft Financing Company was permitted to sell the Helicopters, and for the first time in Canadian history, a Canadian Court recognized the application of the Alternative A remedy.
The buyers of the Helicopters also had to deal with the deregistration process. According to the Canadian Aviation Regulations, every aircraft/helicopter operating in Canada has to be registered with Transport Canada Civil Aviation (the "TCCA"). Once the aircraft/helicopter in question is registered, a certificate is issued to the person or the legal entity responsible for the custody and control of the aircraft/helicopter. This certificate does not confirm actual title to the aircraft/helicopter as it shows the "registered owner" meaning the operator of the aircraft/helicopter. This entails that during a change of control, such as for the sale of the aircraft by the seizing creditor, the aircraft registration with TCCA must be changed. Nonetheless, the Aircraft Protocol allowed the deregistration, most commonly known as an irrevocable deregistration and export request authorization for an Aircraft Object(the "IDERA"), from a civil registry as a remedy for default by a debtor. Basically, the IDERA is defined as "a declaration by an applicant for registration or a registered owner, which identifies the authorized party and requests that TCCA de-register an aircraft on instruction from the authorized party". It takes the form of a letter from the owner notifying TCCA that consent was given to the authorized party to cancel the registration. Once de-registration is complete, the Aircraft Object can be transported out of the country to the buyer. In this Transaction, a court order confirmed the transfer of title free and clear of all rights and ordered all regulatory authorities to effect the change of ownership.
In practice, the application of the Cape Town Convention is not as simple as intended. Not all Contracting States, when faced with a situation where the Cape Town Convention is applicable, recognize and apply the Cape Town Convention as expected by ratification. Indeed, the recognition and scope of the Cape Town Convention are not the same for all Contracting States. However in Canada, the Transaction has set a precedent for the procedure to be followed by other Canadian courts in similar circumstances.
Gowling WLG has relevant expertise in the field of aircraft financing following this pioneering Transaction. It is a precedent that will serve as a guide in similar future situations.