III-The Aircraft Sector Understanding of the Oecd

The

Aircraft Sector Understanding

of the OECD

Marc D. Latman • Kendra Medina •

Jeff Tenen • Carlos Eduardo Torres

September 13, 2012

Marc D. Latman Partner, New York

+1 212 318 3108

[email protected]

Marc D. Latman is a partner at the international law firm of Fulbright & Jaworski L.L.P., resident in

their New York City office. Mr. Latman is a member of the firm’s Equipment Finance Group and

for fifteen years has focused his practice on aircraft financing, aircraft acquisition and aircraft

disposition matters, domestically and internationally. His representations include operators,

operating lessors, finance lessors and lenders. Mr. Latman is the incoming Chair of the American

Bar Association’s Aircraft Financing Subcommittee.

AREAS OF CONCENTRATION: Equipment financing • Aviation • Transportation Lending and leasing • Bankruptcy and insolvency

Kendra Medina is an attorney at Law admitted to practice since 2000. She obtained her law degree at

Instituto Tecnológico Autónomo de México (ITAM), in Mexico City and completed post-graduate

diplomas in law in Australia (Law and Technology) and Canada (Aviation Law) She practiced as an in-

house counsel for a major Mexican airline for three years before becoming an associate at Abogados

Sierra y Vazquez, where she leads along with Carlos Sierra the aircraft leasing, finance and acquisition

practice area, representing mostly aircraft lessors.

Kendra Medina Attorney-at-Law

+ 52.55.52.92.78.14

[email protected]

Jeffrey S. Tenen Shareholder

+1 305 579 0500

[email protected]

Jeffrey's primary areas of practice are aircraft finance and leasing, cross-border structured lending and

asset-based financing transactions, aviation, and international business and commercial transactions. He

represents domestic and foreign air carriers, leasing companies and lenders on such matters as aircraft

acquisitions, sales, leasing and financings (including export credit, mismatch/SOAR facilities and

manufacturer supported financings, mortgage financings and cross-border leveraged lease financing

transactions), spares and engine financings and leases, aircraft operating lease transactions, progress

payment financings, international development bank facilities, receivables and aircraft securitizations, fuel

and currency hedging, comprehensive code share and marketing alliances, cargo handling agreements,

computer reservation systems and similar agreements, commodity and service procurement agreements,

airline mergers and acquisitions, regulatory matters before the Federal Aviation Administration and related

corporate and commercial matters affecting airlines and leasing companies.

Carlos Eduardo Torres is an attorney at Law, admitted to practice since 2000. His law degree is

from Pontificia Universidad Javeriana in Colombia. Completed post graduate studies in

commercial law at Pontificia Universidad Javeriana and an International LLM at Hamline

University in Minnesota with focus in ADR mechanisms and negotiation. He is currently

AviancaTaca’s Fleet Legal Director and has been in Avianca for the past 9 years working mainly

in leasing and financing of its fleet.

Carlos Eduardo Torres Attorney-at-Law

+ 57 (1) 4578700

[email protected]

Export Credit Financing

Government-backed financing offered to support foreign

purchases of domestically-manufactured goods, usually provided

through Export Credit Agencies (ECAs)

Methods of Financing:

• Guarantees

• Insurance programs

• Lending – direct lending, financial intermediary loans, interest rate

support

The Organisation of Economic Cooperation and Development

governs ECA financing for aircraft

The OECD Organisation for Economic Cooperation and Development

International economic organization of 34 Member

Countries

Key objective to promote worldwide economic growth

Established in 1961 and headquartered in Paris, France

OECD Activities

Identification of economic, social and environmental policy

challenges

Collaboration with industry leaders, policy makers,

regulators, trade unions and civil society

Involves data collection and analysis, peer reviews, hosting

conferences, issuing publications

Develops structural reforms, best practices, legal

instruments and policy guidelines

OECD Member Countries

Australia

Austria

Belgium

Canada

Chile

Czech Republic

Denmark

Estonia

Finland

France

Germany

Greece

Hungary

Iceland

Ireland

Israel

Italy

Japan

Korea

Luxembourg

Mexico

Netherlands

New Zealand

Norway

Poland

Portugal

Slovak Republic

Slovenia

Spain

Sweden

Switzerland

Turkey

United Kingdom

United States

The ASU Aircraft Sector Understanding

OECD-developed regulatory framework that governs ECA financing of

aircraft

Establishes uniform terms and conditions for ECA-supported aircraft

financings, including minimum exposure fees, minimum interest rates

and maximum repayment terms.

Purposes of the ASU

• Provide guidelines for predictable, consistent and transparent use of ECA

financing of aircraft

• Establish level playing field across worldwide aviation industry

• Minimize competition between ECA financing and commercial markets

Evolution of the ASU

LASU (1986) • Large Aircraft Sector Understanding – applied only to aircraft with 70+ seats in

passenger configuration

• Between U.S., U.K., Germany, France and Spain

• No regulation of minimum premium rates but 3% fee typically required (unless

borrower a weak credit)

• No universal risk classification process

• Home Market Rule – informal agreement whereby Ex-Im Bank and European

ECAs agree not to provide export credit financing to borrowers located in U.S. or

European countries

• Grounds for Revision:

Need for expansion of framework to smaller regional aircraft

Criticism that ECA pricing guidelines not in line with commercial markets

Evolution of the ASU ASU (2007)

• Brazil and Canada now signatories to the ASU but do not observe Home Market Rule

• Sized-Based Categories – new rules based on the relevant size category for the aircraft

• Minimum Premium Rate – from 4.0% to 7.5% based on buyer’s risk classification

• Establishes basic Risk Classification Process

• Cape Town Discount – permits variable discounts from 5-20% for borrowers located in countries that had enacted the Cape Town Convention

• Grounds for Revision: Criticism that size-based categories result in distortions in financing conditions with smaller

aircraft receiving more favorable terms

Criticism of Home Market Rule in response to Bombardier’s announced manufacture of the CSeries

Criticism that ECA financings undercut the commercial market due to perceived “lower than market” ECA financing terms

Evolution of the ASU ASU (2011)

• Signatories include Australia, Brazil, Canada, the European Union, Japan, Korea, New Zealand, Norway, Switzerland & the United States

• Brazil & Canada continue not to observe Home Market Rule

• Market-Based Fee System – considerably higher fee structure for purpose of aligning ECA financing levels with market conditions

• Minimum Premium Rate Based on buyer’s risk classification plus market adjustments ranging from 7.72% to 12.91%

Quarterly periodic fee adjustment based on Moody’s credit spread

Annual periodic fee adjustment based on 4-year moving average of annual Moody’s Loss Given Default

• Risk Classification Process – new rules based on Risk Categories Size-Based Categories eliminated

ECAs must classify all borrowers into 1 of 8 categories based on risk profile

• For highest risk borrowers, ECA support cannot exceed 80% of net price of aircraft

• For average risk borrowers, ECA support cannot exceed 85% of net price of aircraft

Risk Categories also determine number of required Risk Mitigants

• Maximum Repayment Term – 12 years or 15 years plus 35% premium surcharge

• Cape Town Discount – 10% flat discount for borrowers located in Cape Town countries

• Grandfathering Provisions – terms of 2011 ASU do not apply in certain circumstances

• Review Process ASU (2011) mandates first formal review of guidelines in 2015

Earlier review may be requested by signatories who provide 3-month notice with written explanation

ASU Risk

Category

Risk Ratings

1 AAA to BBB-

2 BB+ to BB

3 BB-

4 B+

5 B

6 B-

7 CCC

8 CC to C

Risk Assessment System

Determined by ECAs

All airlines on one common

ratings list

Unanimous consensus on

each rating required

Imprecise process for

addressing rating

disagreements

Exposure Fees as of July 15, 2012

Risk

Category

1

Risk

Category

2

Risk

Category

3

Risk

Category

4

Risk

Category

5

Risk

Category

6

Risk

Category

7

Risk

Category

8

Rating

Range

AAA to

BBB-

BB+ to BB

BB-

B+

B

B-

CCC

CC to C

New ASU

Fees*

8.12%

10.91%

11.79%

12.97%

15.28%

15.82%

17.32%

17.74%

2007 ASU

Fees*

4.00%

4.75%

5.50%

5.50%

6.25%

6.25%

7.50%

7.50%

*without Cape Town Discount

Looking Forward

Home Country Rule has yet to be resolved

Ambiguity surrounding success of 2011 ASU

• Unknown if changes in pricing structure will be effective to bring ECA terms

in line with commercial markets

• Extent of impact unknown due to high number of grandfathered transactions

Possibility of New Market Entrants – neither Russia nor China

signatories to the 2011 ASU and both currently manufacturing

models that will compete with aircraft produced by the other

major manufacturers