Courts Override Underlying Contractual Obligations in the Chapter 11 Surrender and Abandon of Aircraft Equipment and Vessels
When chapter 11 airline debtors seek to abandon and surrender collateral under a financing agreement, they are not required to do so in any particular condition under the Bankruptcy Code. This leaves the question of who bears the burden of associated costs unresolved. This memo will discuss how courts interpret the issue of costs associated with the surrender and return of aircraft and related equipment.
Financers of aircraft and related equipment receive special privileges under section 1110 of the Bankruptcy Code (“the Code”). Section 1110 permits a party to take possession of an aircraft in the custody of a debtor despite the automatic stay. The debtor can prevent repossession by curing its defaults under the financing agreement and agreeing to perform its obligations. This gives the debtor a choice. However, where the debtor chooses not to affirm its obligations and cure its defaults by application of section 1110, the automatic stay will not prevent the financer from taking possession of the aircraft under the terms of the underlying agreement. However, this right to take possession of any equipment must be present in the underlying lease or security agreement in order to be effective after the debtor files for reorganization.
This provision gives aircraft financers immediate access to either cash or their collateral during the debtor’s reorganization, rather than waiting until confirmation of a plan or reorganization. While this is favorable to the financers, the debtor is forced to take abrupt action despite the automatic stay. The trustee or debtor-in-possession can either return the collateral to the possession of the financer, or perform under the security agreement according to its pre-bankruptcy terms. However, section 1110 limits its protections to a class of financers that can meet four threshold requirements, specifically: (1) the party must be a lessor, conditional vendor, or secured party with a purchase-money equipment security interest; (2) the subject of the loan, lease or conditional sale must be aircraft or related equipment; (3) the debtor must be an airline operating under a certificate of public convenience and necessity; and (4) the security, lease, or conditional sales agreement must expressly provide for repossession in the event of default.
Airline debtors are tasked with the burden of choosing their own fate – they must decide to cure the defaults under the prebankruptcy lease or security agreement or, risk losing the protection of the automatic stay. Where performing under the prebankruptcy agreement is not a viable option, alternatively, the debtor can assume or reject these contracts under section 365 of the Code. In surrendering and abandoning burdensome property, debtors and creditors are left to argue over who bears the costs associated with these surrender and abandon procedures. This memo will discuss the implications between these Code provisions and how courts interpret this area on a case-by-base basis.