Distressed Assets – The opportunity for a bargain but pitfalls abound

Purchasing or investing in distressed businesses gives rise to complexities and considerations that are not typically present in ‘good book’ deals. Considerations for buyers and investors in such circumstances include the need to pay careful attention to structuring the transaction from the outset, the applicability of insolvency laws and the extent and duration of due diligence. Buyers should also be mindful of the extent of the seller’s and/or target’s distress, the underlying interests of stakeholders, valuation difficulties and any advantages that insolvency processes can offer. The expanding range of insurance products available in the market, such as warranty and indemnity policies incorporating ‘synthetic warranties’, can also help facilitate a deal where suitable warranty and indemnity protection from the seller is lacking. In this alert, the first in a three-part series, we consider transaction structuring and the impact of insolvency laws when investing in distressed businesses.

The ongoing COVID-19 situation has affected a large number of businesses across a wide variety of sectors. It is, however, not all doom and gloom, for, as with previous crises, opportunities emerge for astute investors and buyers seeking acquisitions or investments at attractive valuations. Strong-willed business owners may now be more easily persuaded to transact with the promise of a cash injection lifeline, and cash-rich, opportunistic buyers will undoubtedly be interested in businesses with strong fundamentals that are positioned to ride out the storm and emerge stronger.

Read the rest of this article here.

Staying afloat: managing liquidity in the COVID-19 fallout

Presumably everyone is tired of hearing about COVID-19. However, there is no doubt that its all-encompassing impact on the world’s economic activity has adversely affected most industries, including  transportation, and has ultimately affected companies’ balance sheets. IATA reported that in April 2020, global aviation demand was down by 94.3 percent compared to April 2019. By the end of May, however, daily flights had risen by 30 percent globally,[1] showing the aviation industry is attempting to restore some version of normality. However, as airlines are operating far from capacity, they are losing millions of dollars a week. Meanwhile, shipping companies are facing their own set of issues, such as the safety and repatriation of their crew, as well as supply chain disruptions. With high costs and lower demand, the industry is facing a lack of liquidity and mounting debt. Due to the sheer scale of the crisis, across the transportation industry prospective and protective measures can be taken in order to preserve some of that all-important liquidity to enable some of the hardest hit transportation operators to stay afloat.

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New regime for ship leasing tax concessions in Hong Kong

On June 19, 2020, the long-awaited Inland Revenue (Amendment) (Ship Leasing Tax Concessions) Ordinance 2020 (the Ordinance), which introduces concessionary tax regimes for qualifying ship lessors and ship leasing managers, finally came into effect.

The Ordinance is a follow-up of the well-received tax concessions policy for aircraft leasing businesses in Hong Kong, and the new tax regime applies to revenue received on or after April 1, 2020.

The Ordinance

i. Tax rate

The tax rates for qualifying ship lessors and ship leasing managers will be as follows:

Hong Kongs new regime for ship leasing tax concessions - table 1
#Note: i.e. half of the current profits tax rate for corporations.

ii. Ships

The Ordinance targets ships in general (including barges, air-cushion vehicles, and dynamically supported crafts) but excludes junks, vessels propelled by oars, and military vessels. It also does not appear to cover seaborne units, such as offshore drilling rigs, which are not capable of navigating in water.

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Chattel paper in the electronic age

The world is going digital and equipment lease transactions are no exception.  Today, business is increasingly conducted online, and the necessity to do so has only been amplified with the COVID-19 health crisis.  Luckily, because the movement of transactions into the digital space was already well underway prior to COVID-19, the law and the market have had time to adapt to provide relatively clear guidance as to best practices to ensure transactions, including equipment lease transactions, can be completed seamlessly online.

There are two main areas of concern regarding ‘virtual’ transactions:  (i) the validity of signatures; and (ii) the creation of an original, authoritative copy of the relevant lease documents.  This article tackles both to provide lessors guidelines to ensure any electronic lease transaction is properly executed and the lessor is provided with the original paper.

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Harder than it looks: the impact of COVID-19 on luxury transportation

The COVID-19 pandemic has taken the world largely by surprise, especially as regards the speed with which countries have closed their borders, restricted travel and seen a sharp drop in economic activity. The outbreak has had a significant negative impact on the aviation and shipping sectors, with an increasing number of countries partially or totally closing their borders,[1] coupled with a widespread awareness that people could catch or spread the virus through travel.

The difficulties faced, in particular by commercial aviation and the cruise industry, have garnered substantial media attention, but important developments have also been occurring in the luxury transportation market.

Private aviation

Travel by private aircraft offers more space, more privacy and almost complete separation from the remainder of the travelling public, so it is not surprising we have seen substantial recent increases in demand. The increase began in January, as people left China, which, at the time, was the most severely affected by the outbreak. Demand has since moved west with the virus, and we have also seen movement as those who had exited Asia now return as restrictions are eased. Hong Kong International Airport, for example, reported one of its busiest days on record for private jet activity in March, as those with the means to do so used private aircraft to return home.[2]

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JOL-ted into action: how leasing is changing asset finance


Leasing has been a staple of the aviation industry for more than 40 years, and has become increasingly attractive to the shipping industry over the last five years, particularly given the scarcity of traditional bank finance.

Until 2017, Chinese money was the dominant force – particularly in aviation finance. However, the Chinese government has since put pressure on domestic corporations to sell assets and deleverage. With Chinese money no longer so readily available, a product that was better known in aviation (and container box leasing) has become increasingly common in shipping over the last few years: the Japanese Operating Lease (more commonly known as the “JOL”).

The JOL has been a feature of aviation financing for nearly 20 years. Common in the wider maritime sector, there has also been a noticeable increase in the desirability of this product in the vessel-financing market over the last five years.

Traditionally, JOLs were more popular in aircraft finance because investors were comfortable with the residual value risk. Shipping, by contrast, is a much more diverse asset class, with value being a direct consequence of the country in which a ship is built and the specification of each particular vessel.

You can read more in our blog on Legal Flight Deck here.

Ship Sale and Leaseback Transactions

The shipping industry has experienced a very turbulent and somewhat negative decade since the 2008 financial crisis. The banking industry is a lot more regulated post-recession era and risk management is paramount. Many of the traditional shipping banks have either sought to leave the shipping industry altogether or have drastically reduced their exposure in response to a significant number of defaults and non-performing loan portfolios. As a result, traditional financing is at most only available to the minority of “blue chip” shipowning companies, and this has led to a significant number of shipowners pursuing alternative methods of financing for the acquisition of vessels, including sale and leaseback transactions.

With vessel prices rising in light of regulatory demands, particularly in the area of environmental protection, shipowners are increasingly considering these types of transactions as a means of freeing up capital whilst maintaining the ability to operate a vessel and trade as owners under a long-term lease, typically a bareboat charter. In particular, lease financing provided by Chinese companies, primarily for new vessels built in China, has, in recent years become a hugely important feature of global financing for shipping.

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Decarbonisation: new opportunities for financiers

If the shipping industry were a country on its own, it would be the sixth largest greenhouse gas emitter worldwide. Economic and regulatory pressures, including the much-discussed IMO 2020, have been building up and there is no question that it is time for all maritime stakeholders to start preparing for new decarbonisation challenges. In this blog we explore an internal pricing mechanism and an external collaboration, which each provide new opportunities for financiers to aid and profit from decarbornisation initiatives.

The main obstacle to industry-wide decarbonisation lies with the industry’s composition; it is largely privately owned, and both shipowners and charterers are driven by short-term cyclical patterns. So far, public environmental concerns have not effectively been translated into any tangible pressure.

Incentivising shipowners is further complicated by the fact that they are responsible for investing in fuel-efficient technologies whereas it is the charterers who, in most cases, pay for fuel. As a result, only a small part of the fuel savings are passed back to the shipowners.

Nevertheless, financiers have an important role to play in helping the industry move towards effective decarbonisation. There has been an increasing desire to hold greener portfolios, which stems from a practical need to mitigate against the risk of future (and more stringent) environmental regulations that could directly impact the value and liquidity of vessels, as well as the profitability of potential loans. The two strategies we explore below, could be the first steps towards financiers incentivising shipowners to invest in cleaner technologies. Continue Reading

LNG for 2020: IMO Sulfur Limits and the LNG Alternative

This blog post compares the uses of liquefied natural gas (LNG) as a marine fuel with other options for complying with the more stringent sulfur emission requirements of the International Maritime Organization (IMO) beginning in 2020 and then discusses the development of LNG as a marine fuel.

The IMO 2020 sulfur limit

The IMO is the United Nations agency tasked with setting global standards for safety, security and environmental performance in global shipping. In 1973 the IMO signed the International Convention for the Prevention of Pollution from Ships (MARPOL), and on May 19, 2005 the provisions for preventing air pollution from ships (Annex VI of MARPOL) came into force. Over the past decade the IMO’s Marine Environment Protection Committee (MEPC) has been lowering the emission limits set forth in Annex VI for sulfur as well as other pollutants such as nitrogen oxide. Ships had originally been permitted sulfur emissions of 4.5 percent, but after several incremental reductions the MEPC confirmed in October 2016 that the new sulfur emissions limits effective January 1, 2020 are 0.5 percent globally and 0.1 percent in IMO-designated emission control areas (ECAs). Continue Reading

Bankruptcy Hypotheticals for Equipment Lessors to Consider

No equipment lessor wants to find itself a creditor of a lessee in a reorganization case under chapter 11 of the U.S. Bankruptcy Code (the Bankruptcy Code).  However, when such a situation arises, a lessor is not without recourse – even where the facts give rise to situations not specifically addressed by the Bankruptcy Code.  This post considers two scenarios highlighting the exposure creditor-lessors may face in the bankruptcy context and provides guidance for minimizing risk of losses: first, when a debtor-lessee continues to use the subject equipment without payment; and second, where the debtor-lessee no longer uses the subject equipment but has not rejected the underlying lease.

The treatment of unexpired leases and executory contracts (which encompasses equipment leases) is codified in section 365 of the Bankruptcy Code.  Section 365 provides, in relevant part, that a chapter 11 debtor-lessee is required to perform under the equipment lease after 60 days from entry of the order of relief until the lease is assumed or rejected.[1]  A chapter 11 debtor-lessee may assume or reject an equipment lease any time before confirmation of the chapter 11 plan.[2]  The time period between the bankruptcy filing and the time the equipment lease is assumed or rejected is, in effect, the “limbo period.”  With the exception of the debtor-lessee’s obligations under section 365(d)(5), during the limbo period, the lease is enforceable by, but not against, the debtor-lessee.  Accordingly, it is in this limbo period where equipment lessors can be most vulnerable to non-payment and depreciation in the value of the equipment, for example through continued use or lack of maintenance.  It is this exact potential exposure that section 365(d)(5) should minimize.  Yet, as the hypothetical scenarios illustrate, provisions of the Bankruptcy Code may assist in minimizing lessors’ potential losses, but lessors must play an active role to maximize the protections afforded by the Bankruptcy Code.

Consider the following:

  1. A lessee files for bankruptcy protection, continues to use equipment subject to a lease, but does so without making payments (or without making the full contract-rate payment) to the lessor during the limbo period. What recourse, if any, does the lessor have?
  2. A lessee files for bankruptcy protection, does not make any payments to the lessor, but is not using the subject equipment. What can the lessor do?

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