The Aircraft Protocol to the Cape Town Convention on Aircraft Financing: A Civil Lawyer’s Perspective Submitted by: Niclas von Planta Faculty of Law Institute of Air and Space Law McGill University, Montreal February 2009 A thesis submitted to the Faculty of Graduate Studies and Research in partial fulfillment of the requirements of the degree of Master of Laws (LL.M.). ABSTRACT The coming into force in March 2006 of the Convention on International Interests in Mobile Equipment (“Cape Town Convention”) and its protocol related to aircraft equipment (“Aircraft Protocol”) established a new international legal regime to facilitate the cross boarder financing of mobile equipment in general and aircraft frames and engines in particular. The implementation of a new legal regime invevitably brings with it a transitional period of uncertainty. Legal and business actors need time and experience to fully assimilate the new framework. The transitional challenge is magnified exponentially when the vehicle of reform is an international convention intended to have global scope. The wide diversity of legal traditions and business practices among States make the assimilation process particularly challenging. The challenge is even more acute in the case of the Cape Town Convention and Aircraft Protocol. These instruments straddle property, civil procedure, creditor and insolvency laws, areas of private law which traditionally have been particularly resistant to global harmonization efforts. In addition, the Convention establishes a new global institution – an international property rights registry - the first such attempt in private law. This thesis has three intertwined goals. The first is to show that the Cape Town Convention and Aircraft Protocol are not neutral to legal tradition. Rather, they are primarily rooted in the statutory regimes adopted by the common law states and provinces of the United States and Canada over the latter half of the twentieth century. Secondly, this thesis seeks to ease the transition challenge this presents for civil law lawyers by giving a comparative overview of the Convention and Protocol which takes into account those aspects which civil law jurists may have difficulties in understanding. The third and final goal of this thesis is to contribute a deeper substantive understanding of the Convention and Protocol to the existing literature, much of which to date has been concerned – understandably – with general or preliminary implementation issues. 2 Résumé L'entrée en vigueur en mars 2006 de la Convention relative aux garanties internationales portant sur des matériels d’équipement mobiles ("Convention du Cap") et de son Protocole relatif aux matériels d’équipement aéronautiques ("Protocole") en a établi un nouveau cadre juridique international simplifiant le financement transfrontalier d'équipement mobiles en général et des aéronefs et moteurs d'avion en particulier. La mise en œvre d'un nouveau cadre juridique apporte inévitablement une période passagère d'incertitude. Les acteurs juridiques et économiques ont besoin de temps et d'expérience afin de s'adapter à ce nouveau cadre, en particulier lorsque celui-ci a un impact mondial, les différences entre systèmes juridiques rendant plus compliqué cette mise en œvre. Dans le cas de la Convention du Cap et de son Protocole l'ajustement est encore plus difficile. Ces textes concernent les droits mobiliers, des créanciers, des procédures civiles et des procédures d’insolvabilité, des domaines juridiques qui, dans le passé, ont été résistantes à une harmonisation globale. En outre, la Convention du Cap établit une nouvelle institution globale - un registre international pour les biens aéronautiques - la première dans le droit international privé. Cette thèse a trois objectifs interconnectés. Le premier est de montrer que la Convention du Cap et son Protocole ne sont pas neutres en termes de traditions légales. Ils prennent leurs racines dans les codifications de droit adoptées par les pays du "Common Law" et les provinces des Etats-Unis et du Canada durant la deuxième moitié du 20ème siècle. Le second cherche à faciliter la compréhension pour les juristes en droit civil en leur donnant un aperçu comparatif de la Convention du Cap et de son Protocole qui reposent sur des principes du "Common Law". Le dernier objectif de la thèse est de contribuer à approfondir la compréhension de la Convention du Cap et de son Protocole par rapport à la littérature existante, qui s'est - à bon droit - concentrée sur des questions relatives à leur mise en œvre. 3 ACKNOWLEDGEMENTS My primary thanks go to my mother for her support in each and every aspect of my life and especially for encouraging me in my decision to follow a master program at McGill University. I must also express my appreciation to both my father and “my” firm – Rosenow Grob Schilling in Zurich ─ without whose material and moral support my year of graduate studies at McGill would not have been possible. A very special thank you also goes to Hans-Ruedi Grob for introducing me to aviation law and pointing me in all the right directions, including towards McGill. This thesis is dedicated to him. I also wish to thank Professor Paul Dempsey for his supervision and critical remarks on my thesis and his support to finalise the same. I must also recognize Prof. Michael Milde who inspired me and who has proven what a difference a teacher can make. Last but not least, I wish to thank all the people I met in Montreal who made this year so unique and memorable. Nicole Metz’s great attitude and spirit enriched my life in a very special way. Special mention also goes to Joy and Zach Detra, Sebastian Fernandez-Pena, Julie Brisson, Peter Parez, Florent Clere, Boris Coll, Steph Polic, and the entire Java U crew. 4 TABLE OF CONTENTS Abstract Résumé Acknowledgements Table of Contents 5 CHAPTER ONE: INTRODUCTION 9 I. Industry background 9 II. Aircraft financing patterns 9 III. Sources of external financing 10 IV. Goals and structure of the thesis 11 CHAPTER TWO: DISHARMONY AMONG NATIONAL SECURED TRANSACTIONS LAWS 13 I. The idea of security 14 II. The security of security 15 III. Security in European civil law 15 1. General 17 2. Effectiveness of the security right 17 3. Priority of security interest 19 4. Enforcement / Default remedies 20 IV. Security in North American common law 21 1. Notion of security interest 22 2. Attachment and Perfection of security interest 23 3. Priority of security interests 24 4. Enforcement of security interests 24 V. Remarks 26 CHAPTER THREE: NATIONAL DISHARMONY IN CONFLICT OF LAWS AND THE LIMITATIONS OF THE GENEVA CONVENTION 27 I. The lex rei situs rule 27 1. Effect of a subsequent change of situs 28 2. Choice of law for Perfection and Priority 29 5 3. Recognition of foreign security rights under common law 32 4. Conclusions 32 II. The Geneva Convention 33 III. Scope of the Geneva Convention 34 1. Recognised rights / Protected rights 34 2. Registration of Rights 35 3. Privileged and Priority Claims 35 4. Transfer of Aircraft between Registries 36 5. Enforcement 36 6. Remarks 36 CHAPTER FOUR: THE CAPE TOWN CONVENTION AND THE AVIATION PROTOCOL 38 I. Analytical Methodology 38 1. Language / Terminology 39 2. Perception of the Convention 40 II. Initiation process 41 III. Objectives of the Convention 42 IV. Sphere of Application of the Convention 44 1. Agreements 44 1.1. Formal requirements 45 1.2. Security agreements 46 1.3. Title retention and leasing agreements 47 1.4. Sales 47 2. Equipment 49 2.1. Airframes and helicopters 49 2.2. Aircraft engines 50 3. Location of the debtor / registration of aircraft 52 4. Relevant time 53 V. Registration System of the Convention 53 1. General 53 1.1. The term “registration” 54 1.2. Type of registry 55 1.3. Data and form of data to be submitted 56 6 2. Registration of an International Interest 56 2.1. Consent to registration 56 2.2. Time of effectiveness 57 2.3. Duration of registration 58 2.4. Effect of registration 59 3. Entry points / access to registry 60 4. The object 61 5. The Registrar 61 6. The Supervisory Authority 62 7. Certificates 63 VI. Priority rules and their effect on insolvency 63 1. General rule 64 2. Priority between parties 65 3. Priority against third parties 65 4. Exceptions 65 4.1. Article 29(3) 65 4.2. Article 29(4) 66 5. Subordination agreements 67 6. Proceeds 67 7. Effect on national property law 67 8. Effect on insolvency 68 VII. Non-consensual rights or interests 69 1. Article 39 70 2. Article 40 71 VIII. Assignments 71 1. General 72 2. Assignment and associated rights 73 2.1. Rights to payment or performance by the debtor 75 2.2. Associated with orsecured by the object 76 3. Effect of assignment 76 4. Debtor’s rights and duties 78 5. Formal requirements of assignment 79 6. Priorities 79 7 6.1. Contracts secured byor associated with the object 81 6.2. Financing transactions 82 7. Effect of assignors insolvency 82 8. Subrogation of assignment 83 IX. Default remedies and enforcement 83 1. Default of the debtor 84 2. Remedies 85 2.1. Qualification of underlying agreement 86 2.2. Remedies of the chargee 87 2.3. Remedies of the conditional seller and lessor 89 2.4. Additional remedies and procedural requirements 89 3. Relief pending final determination 91 4. Remedies on insolvency 93 4.1. Alternative A 94 4.2. Alternative B 95 4.3. Insolvencyassistance 95 5. Deregistration and export request authorisation 95 X. Declarations by Contracting States 96 1. Overview 97 1.1. Opt-in declarations 97 1.2. Opt-out declarations 97 1.3. Mandatory declarations 98 1.4. Otherdeclarations 98 2. Specific declarations 98 2.1. Article 54(2) 98 2.2. Article 60 99 XI. Relationship to other Conventions 100 1. General rule 101 2. The Geneva Convention 101 2.1. Effect of Article XXIII 101 2.2. Scope of application of the Geneva Convention 102 CONCLUSION 103 8 CHAPTER ONE: INTRODUCTION I. Industry background The commercial aviation industry entered into the second century of its existence coincidentally with the increased passenger demand produced by globalisation’s dramatic expansion of markets. In its 2007 Global Market Forecast,1 Airbus predicts an increase in world passenger traffic of 7.7% annually from 2007 to 2011. Boeing, in its 2008-2027 year Outlook, anticipates 5% average annual growth.2 Cargo traffic over the same time period is expected to grow at a rate of between 5.8% (Airbus) and 6.1% (Boeing) annually. The estimated number of aircraft needed to meet the predicted demand varies between 24,262 (Airbus) and 29,400 (Boeing) representing an aggregate cost in U.S. dollars (at today’s values) of 2.8 Trillion (Airbus & Boeing). The number of passenger aircraft (with over hundred seats) in service is expected to increase from 13,284 today to 28,534 (Airbus) or even to 35,8003 in 2027 (Boeing). II. Aircraft financing patterns Prior to the advent of jet planes in the 1960s, the acquisition of new aircraft by commercial carriers was mainly financed by retained earnings or short-term bank loans. These financing sources proved to be insufficient to 1 GlobalMarketForecast,2007-2026,online:http://www.airbus.com/en/corporate/gmf(January4, 2009). 2 CurrentMarketOutlook,2008-2027,online:http://www.boeing.com/commercial/cmo/(January4, 2009). 3 Starting from a higher level of passenger aircraft in Service today of 18,230; Boeing Outlook Summary,2006to2026,online: http://www.boeing.com/commercial/cmo/pdf/Boeing_Outlook_Summary_2007.pdf(January4,2009) 9 finance the high acquisition costs of jetplanes.4 This continues to be the case today. According to the International Air Transport Association’s (“IATA”) Fact Sheet of December 20085, the airline industry generated a net loss of approximately USD 5 billion in 2008 alone. The estimated loss was mostly generated in the United States6 and Africa, and did not include European and Asian airlines.7 For 2009, it is predicted that the airline industry will generate a loss of USD 2.5 billion.8 It is therefore expected that airlines in the foreseeable future will continue to be unable to finance aircraft purchases merely through cash flow, especially in light of the continuously increasing prices for civil aircraft. For example, the cost of an Airbus A320, one of the “workhorses” of civil aviation, has increased from USD 52.2 millions in 2001 to USD 58.8 millions in 2006. This reflects an increase of more than 10% within 5 years9, not to mention the high cost of the new generation of wide body aircraft such as the Airbus A380 which currently sells for USD 290.5 million10, or the balance sheet uncertainties created by instable fuel costs. III. Sources of external financing Airlines can obtain the necessary capital to renew or expand their fleets either through the equity market or through the secured credit market ─ with the latter including, from a business perspective, such functional 4 Donald Bunker, International Aircraft Financing, (Montreal: IATA, 2005) at 154 [Bunker, “International”]. 5 AirlineIndustryStatistics,FactsheetJune2006,online:http://www.iata.org/pressroom/pr/2008-12- 09-01.htm,(January4,2009). 6 Since deregulation of the aviation industry in the United States 1978, 162 airlines declared bankruptcy,22oftheminthelast5years,UnitedStatesGovernmentAccountabilityOffice,Reportto Congressional Committee, Commercial Aviation (September 2005) at 8, online: http://www.speednews.com/GAObankruptcy.pdf,(June7,2006). 7 IATANewFinancialForecast,December2008online:http://www.iata.org/NR/rdonlyres/03FA3524- 3E8E-4A20-8A55-C68A9B797330/0/Industry_Outlook_Dec08.pdf,(January4,2009). 8 CEOBrief,April2008,online: http://www.iata.org/NR/rdonlyres/4B88C67F-B358-42D5-8ADB- FA6E9D8FA67E/0/ceo_brief_Apr08.pdf(January4,2009). 9 DevelopmentofAircraftpricesonline:http://www.airguideonline.com/aircraft_prices.htm(January2, 2009). 10 Ibid. 10