SPECIAL FEATURE Buying and selling aircraft and loan portfolios

The recent acquisition by Sumitomo Mitsui of RBS Aviation Capital from Royal Bank of Scotland is a significant transaction for the aviation finance sector as a whole, and not least for the participants, writes James Cameron, in the first of a two-part article

ilbank Tweed Hadley & McCloy Capital. In addition, many of the transporta$ and industry understanding to assume what M represented five of the bidders tion asset books owned by banks are so large is an already very e/cient, well$regarded for the acquisition of RBS Aviation that a seller could not easily absorb even business. For the founders of the company Capital, including winner Sumitomo Mitsui a +( per cent write$down, which in many who are still there % including Peter Barrett, Banking Corporation #SMBC). cases would be conservative, notably if a chief executive o/cer, and Catharine Ennis, The transaction may prove to be a fillip for seller’s obligations are government backed general counsel % the transaction represents a the transportation sector generally, including where regulatory issues, such as government further phase in the company’s history. banks looking to dispose of other non$core consent, may be a factor. RBS’s aviation division was founded transportation assets and potential buyers of In the case of RBS Aviation Capital, the around +( years ago, when the bank acquired those assets. motivations were clear. RBS first considered International Aviation Management Group While not particularly complex, the selling the business over three years ago, and #IAMG0, formerly Lombard Aviation Capital. transaction is of unprecedented size and has in doing so has materially reduced exposure The company was rebranded with the been closed in very challenging and uncertain to dollar$denominated transportation assets RBS name in '((1, by which point it times. It would appear likely that, with the at a time of considerable market volatility and had +(* aircraft, and was a dominant success of this transaction, the unsuccessful concern over availability of dollars. presence in the sale/ market bidders and other potential acquirers will SMBC has acquired a strong business that for narrowbody aircraft. continue to look to buy aircraft and aircraft is transformational to its already well$estab$ loan portfolios that are regarded as non$ lished aircraft finance and leasing business. Seller goals core, particularly from state$owned banks. Investment bank Goldman Sachs has There are a number of potentially competing Milbank Tweed Hadley & McCloy is currently succeeded in arranging what is yet another considerations for a seller in deciding what is involved in a variety of these projects. ground$breaking transaction by co$ordinating to be achieved. For example, does the seller There is no better time to consider how what many commentators thought was a want to achieve “true sale”, such that it no transactions of this nature and in various surprisingly large number of serious bidders longer legally or from a tax or per$ derivative forms are closed, as applied to and bringing the deal to a successful close in a spective owns the business or assets? Or, does the RBS deal and also others that are in relatively short timeframe. the seller want to retain the business and the pipeline. RBS Aviation goes to a new home that monetise the assets, for example, through a clearly has the financial resources, expertise receivables sale? A hybrid might be an asset Why buy or sell? sale but with a total return swap of part of Notwithstanding that banks, particularly RBS Aviation Capital is scheduled to receive the to the seller with a view to tranching those that are wholly or partially government nine A320-family aircraft in 2012, with another and selling remaining exposure at a later date. eight to be delivered in the first half of 2013. owned, are under pressure from sharehold$ Further, is the seller looking to sell the ers, politicians, the public and regulators to entire business with the “platform” #that is, dispose of what are perceived to be their more the inclusion of sta5 and goodwill0, as in the risky and expensive assets % both in dollar RBS Aviation Capital sale, or just part of the terms and also due to the need to set aside business or assets? We are seeing consistently capital % there have been comparatively few in non$core asset disposals, including the RBS significant non$core disposals closed in the trade, initial requests for proposal #RFPs0 transportation sector since '((*. Why? This issued by sellers that provide a variety of is mainly due to the gap between book value IHS Global Limited/Patrick Allen: 1172200 options % including, for example, share sale, and actual value. asset sale and part$asset sale. This may be Many of the bidders for RBS Aviation because sellers are not confident of achiev$ Capital more commonly play in the distressed ing the sale of all of the business or assets, or quasi$distressed debt markets, and so are and so want to garner expressions of less accustomed to paying full value for a for less than the whole business. In reality, strong, well$run business like RBS Aviation those bidders that bid for an entire business

jtf.janes.com 2 February 2012 Jane’s Transport | 25 SPECIAL FEATURE

or assets are likely to make the future bidding rounds, with bidders for part of a business ‘Execution risk is a significant only being held pending outcome of the consideration, because however main bids. Finally, there may be tension between tempting the highest bid may be, an timing and price. Goldman Sachs and RBS appeared to manage this very well in the aborted transaction, particularly one recent transaction and achieved fairly quickly what most commentators appear to think is of this size, would have far-reaching a strong price. But it can be a tactical call. For example, would RBS have taken less to close consequences’ the deal in '(++? And did the bank risk loss of momentum once year$end had passed? In might buy the company and that their inten$ sale will involve transfer of title and novation the end it was moot, but for future trans$ tions were genuine. Once bids are received, of leasing transactions % which, in the RBS actions the commercial parties may view both initially and in subsequent rounds, a case, totalled more than '(( . An asset timing risk di5erently, particularly in such seller will undertake price comparisons. This purchase, therefore, involves each volatile markets. may not be a straightforward process because agreeing to sign a novation agreement, along di5erent bidders may have submitted their with diligence and advice on the jurisdiction The RFP bids on di5erent bases. As with timing, a in which each aircraft is located at the time Having determined what it wants % or hopes further consideration will be execution risk. of title transfer to ensure a valid and tax$free % to achieve, a seller issues an RFP against There have been instances on both closed transfer of title. Such issues are minimised signature of a non$disclosure agreement. and aborted portfolio sales in which the and in some cases negated by a share sale. RFPs vary in form from the detailed to the highest bidder presented the greatest execu$ Notwithstanding that a share sale may fairly bland. It is for the bidder to decide how tion risk, for example, the ability to bring appear to be more straightforward, a seller to respond, but clearly the process is designed the purchase price at completion because of may want to protect itself against buyer to encourage buyers to be more aggressive the requirement for external financing or non$performance. and descriptive in their responses in the hope consents under existing facilities. It has been reported that exclusivity was of attracting a seller’s interest. Another issue is structure in the form of not granted to any one bidder in the RBS airline consent and involvement on an asset Aviation Capital transaction, but in most The data site bid compared to a share bid, or the need for portfolio trades #either by shares or asset0 Accompanying the RFP or at the second$ extensive merger filings or consents. Execu$ there comes a point in the transaction when round bid stage, bidders may be permitted tion risk is a significant consideration because it would be. Following such time, a seller is access to an electronic or physical data room however tempting the highest bid may be, an heavily exposed to a number of factors, for or data site containing information about a aborted transaction, particularly one of this example, the state of the financial markets target, its business, assets and underlying size, would have far$reaching consequences but also to a buyer’s acting in good faith, transactions. In the RBS case, it has been not only for the seller % which may need to and may want to impose penalties in the reported that some potential bidders com$ restart the process on a further two to three$ form of pre$determined liquidated damages plained about the lack of company informa$ year sale cycle but also for the sector and if the buyer fails to complete all but a small tion available to them. related financial markets. number of agreed and well$diligenced and The tactical issue for a seller is that it may understood circumstances, such as obtaining not want to disclose sensitive information Buying an aircraft lessor merger consents. to a large number of potential bidders, some The main consideration for a buyer will be In either case, a buyer is likely to want to of which may be regarded less seriously than whether to bid for assets or for an entire restrict a seller’s conduct with respect to the others, and may be bidding to understand company. There are a number of factors to business, assets or leases during the period the business better as a competitor rather this decision. The most obvious is that, when following signing but before completion than as a genuine buyer. For example, RBS buying a company, a buyer would be expected of a sale. For example, a buyer will want to Aviation Capital has on order a large number to take the business “warts and all”, with all prevent lease amendments, aircraft modifi$ of Airbus and Boeing aircraft, purchase details previous and future liabilities, whether or cations and creation of over the assets of which would be of significant interest to not related to the principal activity of aircraft during that period. The analysis with respect competitor lessors. While many of the lessors ownership and leasing. By taking the assets to employees and merger filings may be more with whom the company has traded aircraft only, a buyer is to a degree naturally insulated straightforward on an asset rather than share would have some knowledge of the basis and from such risks. However, with an asset sale sale, unless the acquisition is of the entire terms on which it is prepared to buy and sell, comes greater complexity, execution risk and business, in which case, there is greater likeli$ there would be significant information about potentially time and cost. hood that protection of employment and the company that remains unknown. So RBS A share sale is, documentarily, relatively merger control laws will apply. decided, rightly, to delay disclosure of much straightforward, with the main benefit James Cameron is a London-based partner in of the important information about its busi$ being comparatively little disturbance to the the transportation and space group at law firm ness until it had a good feel for which bidders underlying transactions. However, an asset Milbank Tweed Hadley & McCloy

26 | Jane’s Transport Finance 2 February 2012 jtf.janes.com SPECIAL FEATURE: PART TWO and loan portfolio market: part two The RBS Aviation Capital transaction is the largest of its type to be closed in the transport sector and similar deals are likely. However, with more new investors coming to the market, these transactions bring risks, writes James Cameron in the second of a two-part article

he commercial issues on a share sale described above may apply as the sales will be to create a trust over the assets and leases. But T are to a degree distinct from those on separate, but with the need for share sale-type again this would be unusual as anything other an asset sale. For example, on a share protections and warranties. A buyer should than an interim measure, because the buyer sale there is likely to be significant discussion also take care to diligence each SPC’s liabili- will want commercial as well as legal certainty in the sale and purchase agreement over war- ties, to ensure that it does not have obligations as to its relationship with a lessee airline. ranty coverage, indemnities for pre-comple- that are unrelated to the transaction it owns, tion conduct and irregularities and limitations such as guarantees back to the seller. Due diligence on the ability to claim for breach of warranty. In conducting its due diligence, the buyer will A buyer will undertake extensive due Methods of transfer need to set very firm goals and parameters and diligence, but will also want to be told about With an asset sale comes the decision of how also targets for completion. For a business the the business in a manner that gives the buyer to transfer assets and the associated leases. size of RBS Aviation Capital, failure to do so recourse if the information and basis on which Under English law there are three main op- would have resulted in a costly and lengthy it buys proves to be incorrect. However, an tions as to how to transfer a lease: novation, exercise that may not produce the informa- asset sale and purchase agreement will contain assignment and by creation of a trust. The tion that is most helpful and necessary to warranties that are likely to be limited to as- underlying leases will determine what is pos- the buyer. On both a share and asset sale the sets and lessees, rather than the business. sible. Novation involves the creation of a new buyer will achieve a degree of protection from A key and often heavily negotiated part of contract, and will require lessee action and warranties, but it will want to conduct its own an asset sale will be what happens if a seller consent. It is by far the most certain method due diligence in order, for example, to help it cannot deliver the entire portfolio. This is un- of transfer, as a buyer is sure that a lessee to determine pricing as a function of the busi- likely to be an issue on a share sale. For exam- knows about and has agreed to the transfer. ness, its liabilities, strengths and weaknesses. ple, a buyer will want to protect itself against An assignment may or may not be notified to For example, are there any transactions that the possibility that a seller really intends to the lessee, but will be required to be perfected. the buyer should discount because of legal or keep the best assets/lessees while selling the In any event, the seller will need to remain commercial imperfection, or would just want rest, or does not manage – for example, due to involved in any future enforcement, as it to exclude from the bid? failure to obtain airline consents – to transfer remains the party through which rights are Key issues include third-party involvement assets. Often on portfolio asset sales we see exercised. So for a seller looking to divest itself (for example, in the leasing chain or through assets categorised or ‘bucketed’, with a thresh- fully of its portfolio, assignment is an imper- bank debt), the existence of fixed-price pur- old either in monetary terms or more likely fect solution. If both novation and assignment chase options (that may be out of the money), by airline or asset type below which a buyer are prohibited without lessee consent, and the inadequate return conditions and any lessor can ‘unwind’, or put back assets it has already parties do not want to seek that consent (for obligation to contribute to maintenance costs. taken in the event of a partial sale. example, because they want to close quickly) The methods and standards of due diligence A hybrid situation may arise where a target then if the documents permit they could elect vary depending on the buyer and its policies. company keeps its as- For example, some buyers sets in special purpose focus on pricing issues, and companies (SPCs). Some others buying the business, leasing companies do ‘With the potential for secondary having conducted due dili- so to facilitate ease of gence to a standard that ena- transfer, and also to trades such as ABS and securi- bles it to run the business spread liability. If that tisation, particularly of loan books, or from closing. In a share sale, is the case, a seller can pricing issues are more likely sell each company to a possibly more conventional onward to be relevant whereas on buyer, requiring analysis an asset purchase, in which on both an asset and sale of assets, these are interesting the buyer is taking assets share sale basis. So, for only, without the people example, the bucketing and challenging transactions’ and process to continue to

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administer the deals, fuller due diligence is business or asset sale. With many of the non- portfolios of assets using classic securitisation often required. In either case, a buyer is likely core disposals we have seen recently, a price techniques. For example, if the requirement to require physical inspection, either by itself debate can become structural, particularly in is to ensure a complete divestment of the or by its technical adviser. loan book disposals. designated aviation assets, then any structure Aircraft leasing and loan books are heavily For example, although a seller will usually falling within the collateral requirements reliant on administration systems, placing want a ‘clean-break’, it may need or want to directive’s broad definition of a securitisation significant reliance on a transitional services o*er vendor finance. An increased margin would be unsuitable as the seller would, as a agreement and the need for quality advice and on such finance may be a way for a buyer to consequence, be required to retain a 5 per cent counsel to negotiate it. e*ectively subsidise the purchase price, giving stake for the life of any resultant transaction. Business integration issues can be some of the buyer access to finance for purchase and In a recent transaction we have provided the most intricate and delicate transactions of the seller, indirectly, the price it needs. alternative structuring options that permit this nature. If handled badly, what the parties Ironically, the o*er of vendor finance may a sale of the relevant assets to an o*-balance may regard as largely process, can become a unintentionally (or otherwise) disadvantage sheet vehicle in a fashion that would pro- significant commercial issue. Handled well, those bidders that can pay cash for the busi- vide attractive investment opportunities to the talks and agreements work hand-in-glove ness, but which do not want to pay the full end-investors, but without qualifying as a to respond to the due diligence and to reflect price, by providing a bidder that cannot with securitisation under the terms of the collateral the commercial deal. both finance and the seller with an incentive requirements directive, or where the 5 per Conventionally a buyer would conduct due to take the financed bid. cent retention requirement can be met by an diligence, but there have been circumstances entity other than the seller. in which the seller and/or its counsel insist Aircraft loan books In respect of the former, techniques focused on diligencing the portfolio. If so, a buyer will We are also seeing a number of aircraft loan on avoiding credit-tranching in the traditional either elect to ignore that diligence or want books come to the market (for example, RBS’ sense and in respect of the latter, the key to have its counsel conduct confirmatory due aircraft loan book), and many of the principles focus was to ensure that the retaining party diligence of the seller’s due diligence. There is set out above apply equally to their transfer, in was structured so as to be compliant with the a perceived, but not often actual, cost-saving particular, seller considerations, due diligence technical requirements set down by the collat- in doing this. A seller may push for a buyer and methods of transfer. eral requirements directive so that su'cient to just diligence a sample of the underlying For example, as with leases it would be investor protection was maintained. portfolio, for example, when several deals conventional for loans to be freely transfer- have been written on similar terms with the rable, and to contain a pre-agreed mechanism Conclusion same counterparties. However, this is rarely for transfer within the loan agreement Portfolio transfers of assets, leases and loan advisable. A buyer will want a full picture of (for example, signature of the transfer cer- books are surely fertile ground for those what it is buying, particularly if the seller is tificate, which is, in e*ect, a novation of the with the ability, financial and/or intellectual looking to disclose the data site fully against contract). However, either intentionally or wherewithal to be involved in the space. The its representations. otherwise, lessee/airline involvement or the RBS Aviation Capital deal represents the larg- If, as in the RBS Aviation Capital transac- participation of third parties is often required, est transaction of its nature to be closed in the tion, there is a forward-order book then manu- so the discussion above about methods of transportation sector, and we know there will facturer consent is likely to be required to transfer (novation, assignment and trust) be others. disclose a purchase agreement and associated becomes relevant. With the potential for secondary trades documentation. The manufacturers under- Some of the non-core loan disposals that are such as ABS and securitisation, particularly standably regard their purchase agreements currently in play involve ABS or securitisation- of loan books, or possibly more conventional as proprietary and commercially sensitive, so type structures. As with the ‘monetisation’ onward sale of assets, these are interesting disclosure may be di'cult to achieve until a transactions referred to above, the asset being and challenging transactions with which to very late stage in a transaction, or possibly not transferred is a loan receivable, rather than the be involved. Aircraft in particular appear to at all, with an agreement governed instead by ‘metal’, so particular thought will be given to continue to be a very attractive asset class, assumptions in the sale and purchase agree- issues such as whether the incoming lender with many aircraft lessors performing far ment as to the terms on which an order has loses any of the protections in the underlying better than the they serve. However, been made. documentation as a result of the transfer, for with more new investors, such as pension and Any secondary trade envisaged (for exam- example, increased costs and other indemni- hedge funds, coming to the market, ple, an asset-backed securities (ABS) or a secu- ties. The transaction will also be structured in these transactions present significant risks, ritisation) may e*ect the standard of due dili- such a way as to avoid withholding tax on any many of which can be mitigated in an entirely gence required. For example, if the intention cashflows between the issuer and bondholder. satisfactory way with the help of top-end is to place the receivables or debt into the US Perhaps the most significant structuring industry expertise. markets, then the arranger will want to avoid considerations on loan book transfers are The first part of this article, ‘Buying and liability under US law by requiring its counsel the new ‘skin-in-the-game rules’, that is, the selling aircraft lease and loan portfolios’ was to perform extensive due diligence and to collateral requirements directive and, in par- published on 31 January 2012. issue confirmatory legal opinions (called 10b+ ticular, Article 122a thereof. James Cameron is a London-based partner opinions), which diligence will go way beyond These rules present a number of chal- in the transportation and space group at law what would typically be required for a straight lenges when looking at how to divest whole firm Milbank Tweed Hadley & McCloy

26 | Jane’s Transport Finance 16 February 2012 jtf.janes.com