Issues in Airline Insolvencies
05 March 2020
A common feature of UK airline insolvencies is that an insolvent airline is unable to continue to service its routes. This can have a knock-on effect on passengers and the taxpayer: passengers may have to wait overseas until alternative travel arrangements can be made, while repatriation efforts may be funded by the government. There are a number of reasons why this is the case:
- To operate, UK airlines require a CAA operating licence. This licence is automatically suspended when an airline enters an insolvency procedure. Without it, the airline can't fly.
- Operating an airline will always entail a degree of risk, but these risks can increase when an airline is insolvent: overseas creditors (not automatically affected by the powers of the UK insolvency framework) may take action to impound planes and 'hold the rescue to ransom' until they get paid, while crew wellbeing may be affected given their employer is in an insolvency procedure. These additional risks can also lead to insurance costs becoming unaffordable. It is much safer - for passengers, crew, and creditors - to not continue to operate the insolvent airline's own planes.
- In UK insolvencies, the insolvency practitioner overseeing the process is personally liable for the insolvent company (directors of solvent companies benefit from limited liability). Stopping the insolvent airline's planes from flying will limit the insolvency practitioner's personal exposure.
A final key factor in the decision about whether or not to continue to operate an insolvent airline's planes is funding: if funding is there, stakeholder confidence in the airline can be maintained until a rescue package is arranged and some of the issues associated with operating an insolvent airline will fall away. However, government is often the only body able to provide sufficient funding. This is not without its own problems: Italian government-funding for Alitalia has been subject to an EU Commission state aid inquiry, for example.
Reforms on the Horizon?
In the wake of Monarch Airlines entering administration in 2017, the Government commissioned an independent review team to explore how consumers and taxpayers could be better protected when airlines become insolvent.
The independent review published its final report in May 2019, recommending a new insurance system for airlines, new powers for the Civil Aviation Authority (CAA), and the creation of a new Special Administration Regime for airline insolvencies. These recommendations are outlined below. The Government included plans for airline insolvency reform in the December 2019 Queen's Speech.
While some of the recommendations are welcome, others are problematic. They do not necessarily solve the issues which prevent insolvent airlines' planes from flying, and, if introduced, may have serious financial consequences for the airline sector in future.
A Flight Protection Scheme
The review recommends the Government introduce a 'Flight Protection Scheme' (FPS) to fund passenger repatriation in the event of an airline becoming insolvent. This scheme would be paid for by the airlines themselves, and the review estimates that this would cost up to 50p per passenger. This proposal will have financial implications for airlines, and additional costs may be passed onto passengers.
The review recommends three means of repatriating passengers, funded by the FPS: self- and assisted-repatriation, where stranded passengers arrange their own flights home; chartered repatriation, where a new, chartered fleet would be deployed; and a 'keep the fleet flying' approach where the insolvent airline would continue to operate for a short time.
The 'keep the fleet flying' approach would be supported by two further changes: changes to the CAA regime to allow insolvent airlines to retain their operating licence (this is currently suspended upon insolvency); and the introduction of a Special Administration Regime for airline insolvencies, which would prioritise passenger repatriation over maximising creditor returns.
This approach is problematic. It does not address of the practicalities of airline insolvencies which prevent an insolvent airline from flying, and it will have a serious impact on the risks of trading with and lending to UK airlines.
Even assuming insolvent airlines keep their operating licence, there will be a number of reasons why an insolvency office holder will not be comfortable with letting the airline's planes continue to fly. For example, the airline's planes can be vulnerable to action by overseas creditors, potentially putting aircraft and crew safety at risk: suppliers and other stakeholders may impound planes at non-UK airports, demanding repayment of debts in return for releasing the aircraft. Among many other factors, office holders will also consider crew wellbeing, and insurance costs.
Moreover, the daily costs of running an airline are exorbitant and - without cash coming into the business in the form of fresh ticket sales - money can run out fast. Whether the FPS will be large enough to fund the full scope of an airline's operations, rather than simply funding charters or emergency ticket purchases, remains to be seen.
Consequences of a Special Administration Regime
The review's proposal that a Special Administration Regime (SAR) prioritise passenger repatriation over maximising creditor returns could well have serious implications for the financial health of the airline sector, and the taxpayer.
As above, running an airline is expensive and continuing operations will deplete the value of what the insolvent airline can repay to creditors. By increasing creditor losses in the event of an insolvency, an SAR for UK airlines may well deter lenders, investors, and other companies from lending to, investing in, or trading with a UK airline in the first place. Similarly, the costs of repatriation may mean funds are not left over to cover office holders' costs, disincentivising insolvency practitioners from taking airline appointments. This would leave airline insolvencies to be handled by the government's Official Receiver - and funded by the taxpayer.
Recently, the Government has proposed that, in all insolvencies, the repayment of some HMRC debts be prioritised over repayment of most other categories of debt. This proposal has been met with strong criticism from UK lenders and business representatives, who have warned that the move will lead to a restriction on UK access to finance, trading and investment, driven by lenders and creditors reacting to the increased risks associated with insolvency. The airline SAR may have a similar impact.
New CAA Powers
The review recommends additional powers for the CAA. As part of these increased powers, airlines would be required to: undergo annual certification to confirm financial fitness; develop repatriation plans and provide access to data; and to notify the CAA when there is a material change in its financial situation. As above, the review recommends the CAA have the power to grant a temporary licence to allow an insolvent airline to continue to fly in support of a repatriation operation.
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