The COVID-19 crisis has made a substantial economic impact on businesses and industries worldwide. The sharp decrease in airline travel has caused the aviation industry to be particularly affected by the crisis. This has caused a detrimental economic effect on airlines, suppliers, manufacturers and other aviation companies.
The decrease in airline travel demand also presents aviation companies with a variety of present and future contract disputes. To name a few, companies are likely to face issues arising from employment contracts, supply contracts, and repair and maintenance contracts. The practical effect is that aviation companies will see a flood of litigation arising from actual or prior material breaches of contract.
As such, many companies will have to make the difficult choice to either (1) fight the flood of litigation and incur substantial legal fees, or (2) file for bankruptcy. There are a variety of factors that each company should consider when making this decision.
The Amount, Likelihood and Costs of Litigation
Each company should first assess the amount of litigation that is likely to arise and the amount of accompanying legal fees. Whether companies can afford litigation will greatly depend on the company’s current financial status and future projections, including the odds that the company will generate profits as the demand for aviation services increases over time.
When considering the likelihood of litigation, companies are well-advised to first consult with their attorneys to see if they can avoid or suspend contractual obligations, and/or re-negotiate contracts before any litigation arises. Parties can do so by reaching out to the parties to their contracts to see if the parties are willing to re-negotiate or amend the contracts at issue.
Parties should also examine their contracts for force majeure clauses that could suspend or avoid a party’s contractual obligations. Whether COVID-19 is an event that would trigger a force majeure clause will largely depend on the language of the clause itself. Clauses listing epidemics, pandemics or quarantines as force majeure events are most likely to release a party from its contractual obligations. But absent this express language, it may be difficult for the party to employ the force majeure clause, as many jurisdictions have not addressed whether pandemics or disease outbreaks qualify as force majeure events.[1]
Ultimately, if parties can re-negotiate contracts or avoid their contractual obligations, companies will be more likely to avoid both litigation and bankruptcy — the best-case scenario.
Types of Bankruptcy and Interim Factors
If a company is suffering economically and also facing imminent, costly litigation, companies may find bankruptcy a suitable option. If so, companies will need to consider whether a chapter 7 or chapter 11 bankruptcy is preferable.
In chapter 7 cases, a company liquidates its assets and ceases doing business,[2] whereas chapter 11 cases typically restructure the company’s debts, repaying them over time while staying in business and maintaining control of the company.[3] As such, companies will want to consider whether they can afford to reorganize their debts and continue their business, or whether they are forced to liquidate their assets and go out of business.
Although many debts can be reduced through a chapter 11 case, certain other debts cannot. Certain taxes, government fines[4] and other debts cannot be reduced or avoided by filing bankruptcy.[5] Additionally, aviation companies that lease aircraft equipment or vessels must continue to pay rent on their leased equipment; they cannot continue to lease the equipment free of charge.[6]
While weighing these factors, companies must be cognizant of preferential transfers and other avoidable transfers. Preferential transfers occur when an insolvent debtor transfers any interest in property to a creditor on account of antecedent debt within 90 days of filing bankruptcy, or within one year if the creditor is an insider.[7] A fraudulent transfer occurs when a debtor transfers its interest in property, or any sort of obligation, either to defraud creditors or without receiving reasonably equivalent value for the transfer.[8] As such, an aviation company’s critical vendors may not be inclined to continue doing business with the company if they are later required to return payments made prior to the company filing bankruptcy.
Factors Arising from the CARES Act
Finally, the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) raises additional considerations for companies to take into account, particularly for small businesses.
For example, if a small aviation business is considering taking a loan from the federal government under the CARES act for a cash infusion, it should know that it will not be eligible for a loan if it is a debtor in bankruptcy proceeding.[9] Additionally, a condition of a small business loan under the CARES Act is the requirement that the company retain 90 percent of its workforce until Sept. 30, 2020.[10]
Additionally, the CARES Act includes the Small Business Reorganization Act of 2019 (SBRA).[11] The SBRA makes it easier for small businesses to file for chapter 11 bankruptcy by allowing small businesses owing less than $7.5 million of total debt to reorganize their debts up to one year after the CARES Act was enacted.[12] After this date, the former debt threshold of $2,725,625 will apply.[13] This is a major benefit for small businesses that qualify, as the SBRA bankruptcy process is faster and less expensive than a traditional chapter 11 proceeding.[14]
These two examples are two of many that show how the CARES Act may present additional considerations for companies to address when assessing whether to fight litigation or file for bankruptcy.
Consulting with Counsel
These factors are abbreviated considerations that each company should weigh when assessing their business objectives. As such, companies are strongly encouraged to consult with a lawyer to discuss the intricacies of these points and additional legal considerations, including the CARES Act and other federal, state and local legislation, when determining how to move their business forward in the present and future days of the COVID-19 pandemic.
[1]Force Majeure Clauses, Impracticability, and Pandemics, The Uniform Commercial Code Law Letter, Vol. 54, Issue 3 (Mar. 2020).
[2] See 11 U.S.C. §§ 725-726 (1978).
[3] Id., §§ 1101-1116.
[4] Id., § 523(a)(1).
[5] Id., § 523(a)(2)(A).
[6] Id. § 1110.
[7] Id. § 547(c)(5)(A).
[8] Id. § 548 (a)(1)(A).
[9] Coronavirus Aid, Relief, and Economic Security Act, H.R. 748, 116th Cong. § 4003(D)(V) (2020).
[10] Id., § 4003(D)(II).
[11] Id., § 1113(a)(1)(1).
[12] Id., § 1113(a)(B).
[13] Id.; 11 U.S.C. 101 § (51D).
[14] Compare 11 U.S.C. §§ 1101-1146 with Coronavirus Aid, Relief, and Economic Security Act § 4003.