BIS Expands Sanctions Against Russia and Belarus

April 15, 2022 Leave a comment

Yesterday, BIS announced its latest round of sanctions against Russia and Belarus arising from Russia’s invasion of Ukraine. We have written about previous BIS sanctions against Russia and Belarus over the past several weeks. The previous rounds of sanctions imposed, among other things, a license requirement for all articles controlled under CCL categories 3 through 9 under a new § 746.8 of the EAR.

The latest sanctions expand that license requirement under § 746.8 to now include CCL categories 0 through 2 as well. Thus, any item specified under any ECCN is subject to an export license requirement. Although this may not seem like a broad expansion of the licensing requirements as far as aircraft parts distribution is concerned, it is important to note that many bearings are controlled under CCL 2 and certain seals, gaskets, sealants and fuel bladders specially designed for aircraft or aerospace are controlled under CCL 1. These items now require a license to Russia or Belarus.

The sanctions also further limit the availability of License Exception AVS paragraphs (a) and (b) to aircraft registered in, owned or controlled by, or under charter or lease by Belarus or a national of Belarus (bringing it in line with limitations on the exception already applicable to Russia and Russian nationals). We can therefore not rely on License Exception AVS–a commonly used license exception–to support a Russian or Belarusian aircraft.

The United States continues to impose additional sanctions as a result of the war in Ukraine. We will keep members updated as new sanctions that affect distributors arise.

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BIS Issues New Regulations Implementing Sanctions Against Russia

February 25, 2022 3 Comments

We have written over the last few days about the implementation of new rounds of sanctions against Russia. Effective February 24, and to be published March 3 in the Federal Register, BIS has finalized its own regulation implementing sanctions measures against Russia. The goal of the sanctions is to restrict Russia’s access to items it needs to project power and includes “sophisticated technologies designed and produced in the United States, as well as certain foreign-produced items that contain or are based on U.S.-origin technology.” These controls primarily target Russia’s defense, aerospace, and maritime sectors. The following is a brief summary of BIS’s sanctions implementation.

ECCN License Requirements

The most significant change for aircraft parts distributors appears in new § 746.8(a)(1) of the EAR, which imposes a license requirement on any item subject to an ECCN in categories 3 through 9 of the CCL. This would obviously include common industry ECCNs like 9A991.d and 7A994, as well as more tightly controlled CCL 7 and CCL 9 ECCNs. Further, license applications are subject to a presumption of denial, making licenses difficult to obtain. The preamble to the regulation specifically cites ECCN 9A991.d as an example of an item subject to a low level of control that did not previously require an export license to Russia that will now require a license.

However, two notes to this general policy are important to aircraft parts distributors. First, BIS will apply a case-by-case review policy to export license applications intended to ensure inter alia safety of flight. Second, License Exception AVS paragraph (b) remains available to overcome the new license requirement. AVS paragraph (b) provides:

Equipment and spare parts for permanent use on an aircraft, when necessary for the proper operation of such aircraft, may be exported or reexported for use on board an aircraft of any registry, except an aircraft registered in, owned or controlled by, or under charter or lease to a country included in Country Group D:1, Cuba, or a national of any of these countries.

Note that Russia is a D:1 country, so AVS would not be allowed for Russian registered, owned, or operated aircraft, but non-Russian operators in AOG situations in Russia may be able to be supported under this exception.

This license exception and case-by-case review policy should allow distributors to continue to serve some civil operators in Russia (again, with the note that to support a Russian operator will require an export license), but we caution anyone seeking to use such an exception to consult with their export compliance counsel.

Additional Restrictions

Foreign Direct Product

The sanctions create two new “foreign direct product”(FDP) rules: one applicable to Russia as a whole and one applicable to Russian military end users. These restrictions apply to the export or re-export of foreign-produced items that are the product of U.S.-controlled technology or software. In the case of the FDP rule applying to Russia broadly, the relevant foreign produced products are those produced from controlled technology or software in CCL 3-9, and are subject to comparable license requirements, presumptions, and exceptions as the ECCN rule above. In the case of FDP to military end-users, all CCL chapters are restricted and no license exceptions are available (with certain very case-specific exceptions).

Expanded Military End-Use and Military End User Control

The sanctions expand the restrictions on items that can be exported without a license to Russian military end users and end-uses. Previously, those items listed in Supplement No. 2 to part 744 required a license for export to a military end use or military end user. The sanctions expand the ECCNs that require a license to a Russian military end use/user to all items subject to the EAR except food and medicine designated EAR99 and items subject to ECCNs 5A992.c and 5D992.c (and even those not to Russian government end users or state-owned enterprises). In short, practically every item subject to the EAR will require a license for export to a Russian military end user or for a Russian military end-use, and those licenses will be presumptively denied.

Russian MEU Listed Entities to the Entity List

Finally, BIS transitioned 45 Russian entities from the Military End User (MEU) list (Supplement No. 7 to part 744) to the Entity List (Supplement No. 4 to part 744; 15 C.F.R. § 744.16) to reflect the heightened restrictions and licensing requirements reflected by the expanded military end-user and end-use controls described above. BIS also added and modified certain entities.

Conclusion

This is a highly complex and dynamic regulatory environment. The baseline presumption is that all aerospace exports to Russia of virtually anything subject to the BIS regulations will require a license. For the purposes of civil aviation, license exception AVS (to non-Russian aircraft) and case-by-case license review may offer some limited relief, but make sure to consult with your export compliance counsel before undertaking any new transactions. Also remember that the sanctions and regulations continue to change: what was a legal export yesterday may not be legal tomorrow. Keep your eye on this space for more updates.

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New Schedule B for 2022 Harmonizes with Revised Harmonized Tariff Codes

February 17, 2022 Leave a comment

Last month we wrote here to notify the ASA community that Harmonized Tariff Codes that affect aircraft parts were revised, effective January 27, 2022. Notably, heading 8803, which had long applied to “Propellers and rotors and parts thereof . . . Undercarriages and parts thereof . . . [and] Other parts of airplanes or helicopters” was revised to a new heading of 8807. Absent from our notification was any discussion of the corresponding Schedule B numbers (typically used for export data collection by the Census Bureau and reported via EEI filings).

We can now report that the Schedule B numbers for 2022 have been released, and as expected reflect the revisions to the Harmonized Tariff Codes we discussed last month. The U.S. Census Bureau’s website indicates that the 2022 Schedule B numbers are to be used after February 10, 2022, but to the best of our knowledge the new numbers went live only yesterday, February 16. 

Relevant examples of revised Schedule B numbers include:

Schedule B Number and HeadingCommodity Description
8807– Parts of goods of heading 8801, 8802 or 8806:
8807.10– – Propellers and rotors and parts thereof:
8807.10.0010– – – For use in civil aircraft
8807.10.0060– – – Other
8807.20– – Undercarriages and parts thereof:
8807.20.0010– – – For use in civil aircraft
8807.20.0060– – – Other
8807.30– – Other parts of airplanes or helicopters:
8807.30.0010– – – For use in civil aircraft
8807.30.60– – – Other

A complete list of obsolete and new Schedule B numbers accompanies the 2022 listing.

As always, remember that not all aircraft parts are included under new Heading 8807 and many often appear under a more precise Heading, e.g., engine parts, fasteners, and bearings. Take the time to be sure you are shipping under the correct Schedule B when you submit your EEIs.

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U.S Announces new Russia Sanctions. What it means for Distributors.

April 16, 2021 Leave a comment

Yesterday, as you are no doubt aware, the United States announced a new round of sanctions against the Government of the Russian Federation for

efforts to undermine the conduct of free and fair democratic elections and democratic institutions in the United States and its allies and partners; to engage in and facilitate malicious cyber-enabled activities against the United States and its allies and partners; to foster and use transnational corruption to influence foreign governments; to pursue extraterritorial activities targeting dissidents or journalists; to undermine security in countries and regions important to United States national security; and to violate well-established principles of international law, including respect for the territorial integrity of states.

The effect of the sanctions are to block the interests in property of certain persons (including both individuals and companies) in the technology or defense and related materiel sector, persons who have engaged in malign activities, and other persons and entities holding key roles in the Russian government or blocked entities (the full list is described in the Executive Order).

Sanctions against Russia are not a new concern for aircraft parts distributors. For many years, companies exporting to Russia have been required to review their customer and end users–as well as the individuals and entities that own or control the customers and end users–to determine whether they are subject to any of the existing sanctions regimes arising out of the situation in the Crimea region of Ukraine or other sanctions regimes imposed by the U.S. Treasury Department and administered by OFAC.

In limited cases, sanctioned persons have been corporations with a direct nexus to aviation, e.g., Rostec, Avia Group, and Avia Group Nord. In other cases, exports to entities like Aeroflot and United Aircraft Corporation may require a license depending upon facts of the transaction due to the ownership or control exercised by a sanctioned entity, like Rostec, or a high-powered individual.

The latest round of sanctions is likely to have both effects. A company called Unijet–which offers on-demand VIP business jet service–was added to the list, as well as a range of individuals and large institutions that could indirectly have a controlling interest in or position with aerospace and aviation companies.

What does all this mean for aircraft parts distributors? Unless you are doing business with one of newly listed parties, not much has changed. You already should be performing a review of your customer and obtaining detailed end user information when exporting aircraft articles to ensure compliance with OFAC sanctions (as well as BIS export regulations). When a customer, end user, or person or entity with control (more than a 50% stake) appears on the OFAC Sanctions List, you must obtain a specific license or identify an appropriate authorization prior to export.

Exports to persons in nations subject to U.S. sanctions can be tricky. Due to the nature of state-owned enterprises and monopolies, and the powerful individuals that control them, you must often dig through many layers of ownership and control to determine whether or not a blocked person is involved in the transaction. Such diligence should be memorialized in writing and kept with the other records retained for the transaction so that you can demonstrate the efforts you took to clear any red flags if the government ever asks.

Whenever you have questions about export compliance–and especially when you are dealing with customers in countries that have been subject to U.S. or international sanctions–we always recommend you consult with an export compliance attorney to help you .

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BIS clamps down on certain exports to Myanmar (Burma)

February 18, 2021 Leave a comment

Yesterday we wrote about the easing of restrictions on exports of articles to Sudan. We also noted that is important to always review your export transactions in accordance with your export compliance system because things can change quickly. As if to illustrate our point, the Bureau of Industry and Security yesterday promulgated rules clamping down on certain exports to Myanmar, referred to by the U.S. as Burma. This is in direct response to the actions of the Burmese military, which “perpetrated a coup wresting control of the democratically-elected government of Burma.”

The restrictions imposed by BIS are targeted at certain entities: Burma’s Ministry of Defense, Ministry of Home Affairs, armed forces, and security services. Sensitive items that require a license for export or reexport to these entities–previously reviewed on a case-by-case basis–will now be subject to a presumption of denial. Further, certain license exceptions–LVS, GBS, TSR, and APP–will no longer be available. (These exceptions are not commonly used in our industry.) This means that exports to those entities of articles that require licenses will be very challenging for the foreseeable future.

Fortunately, it appears that exports of articles to support civil aviation that do not ordinarily require an export license remain unaffected by this rule. Additionally, the more common license exceptions in our industry–RPL (Servicing and Replacement of Parts) and AVS (Aircraft, Vessels, and Spacecraft) remain available. If you are using a license exception to export remember to always review it carefully because they often have limitations.

If you are exporting to Myanmar it is very important to carefully review the facts of your transaction to ensure compliance with the latest export regulations. If you are currently exporting to any of the above-mentioned entities or otherwise shipping Myanmar pursuant to a BIS license, you should also review the special conditions on the license to determine whether the license has been affected by these regulations. As always, if you have questions you should consult your export compliance attorney.

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Sudan No Longer Subject to AT1

February 17, 2021 1 Comment

Frequent exporters of aircraft parts (like those of you who read this blog) are probably familiar with reason for control AT1 (Antiterrorism) found in the Export Administration Regulations. Most aircraft parts and many avionic and communication articles are controlled for export purposes as ECCN 9A991.d and 7A994, respectively. These two ECCNs are controlled only for reason AT1. And as anyone who has attended an ASA export workshop knows, when we consult the Commerce Country Chart (Supplement No. 1 to part 738 of the EAR), there was a lonely, lonely X in the AT1 column next to Sudan.

But no longer.

As of last month–January 14th to be specific–Sudan is no longer designated a State Sponsor of Terrorism. As a consequence, the Bureau of Industry and Security amended the EAR to remove the Antiterrorism control from Sudan and also remove Sudan from Country Group E:1, leaving Iran, North Korea, and Syria as those countries designated as terrorist supporting countries. The consequence of this change is that the 9A991.d- and 7A994-controlled articles that make up a significant percentage of civil aircraft parts and avionics will no longer require a license for export to Sudan. It also means that Sudan, as a new addition to Country Group B, will now be eligible for several license exceptions that can make exporting parts easier. (Note that it is always important to review the exact text of a license exception you wish to use, as there are several country-specific carveouts in many exceptions.)

This has been in the works for some time, as Sudan has been engaging bilaterally with the United States and has taken steps to ensure that it has not in the past six months and will not in the future provide support for acts of international terrorism. Four years ago BIS took steps to ease the export of aircraft related items to Sudan. Prior to 2017, applications for licenses to export to Sudan were reviewed under a general policy of denial, meaning an applicant would typically have to show a compelling reason for the license to issue. In January 2017, BIS revised its licensing policy to a general policy of approval for “parts, components, materials, equipment, and technology that are controlled on the CCL only for anti-terrorism reasons and that are intended to ensure the safety of civil aviation or the safe operation of fixed-wing, commercial passenger aircraft.” Articles controlled for reasons other than AT1 (such as avionic units like AHRS controlled for reason MT1) continued to be reviewed under a general policy of denial.

Taking a more permissive stance with respect to the export of aircraft parts to support civil aviation safety is a practice we have seen in other bilateral contexts. Previously, the United States used the export of civil aircraft parts to support civil aviation safety as a carrot during the negotiations leading up to the Iran JCPOA (the Iran nuclear deal from which the U.S. later withdrew). A safe civil aviation sector is an important economic driver and everyone benefits by improving and ensuring aviation safety.

Sudan is thus open for business–at least as far as most civil aircraft parts are concerned. It is important, however, to ensure your export compliance system verifies each transaction prior to export, because the status of countries and parties can change quickly. Just because a party was clear yesterday does not mean it will be clear tomorrow, and like Sudan, just because a destination is forbidden one day does not mean it will remain forbidden forever. If you have questions about whether an export license is required to ship an article to a destination like Sudan or anywhere else, or whether a license exception applies or how to use it, be sure to check with your export compliance counsel.

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First Position: Priority in Security Interests

July 27, 2020 Leave a comment

As the global COVID pandemic continues to substantially crimp air travel, we continue to see operators and other industry partners succumb to the economic realities of bankruptcy. As an industry, we’ve seen this before, and we will see it again. But that also means we know that we will come out the other side stronger than ever. One important way to make sure we do is to protect our interests when we extend credit to sell parts.

Last month we discussed steps to attach and perfect our security interest to guard against a customer’s bankruptcy. Perfecting a security interest gives us priority to the asset over any other later-perfecting creditors. Priority is important in deciding who takes proceeds of assets first when more than one secured party has a perfected security interest in the same goods or other assets. The goal is always to be first in priority with respect to the asset.

Generally, security interests are subject to a “first to file” rule (see UCC 9-322(a)), so whoever perfected their security interest first is first in line to the proceeds of those specific debtor assets in the event of bankruptcy. In many commercial instances this means that a bank or other lender that provided financing for the company will have a perfected security interest over not just the business’s assets at the time of the loan, but over all after-acquired assets as well. This so-called “floating lien” is a common way to secure loans to businesses.

Obviously, this sort of “all future assets” perfected security interest is problematic for a distributor who seeks to sell inventory to a customer on net 30 (or other credit) terms, because the inventory sold by the distributor, even upon perfection of a security interest by the distributor, would mean the distributor was secondary (or “junior”) to the lender even with respect to its own goods sold. As we have previously discussed, when assets are liquidated to satisfy all a business’s creditors there is generally not going to be enough money to go around. Securing first priority is therefore very important to a distributor seeking to protect against insolvent customers.

As you might have guessed, knowing that they could be subordinate to a previously secured lender (with the mega-resources to fight for its position in bankruptcy court) could easily discourage a business’s suppliers from selling to that business on anything other than a cash basis if the business hits a bumpy patch or the entire economy takes a negative turn. Reticence on the part of suppliers worried about getting paid can hurt a struggling business’s ability to continue in its ordinary course, creating a feedback loop that can doom the already struggling business, which likely does not have the cash on hand to buy inventory on cash terms.

Fortunately, the UCC anticipates this problem and has built in provisions to encourage suppliers to a struggling business to continue supplying (on credit) without sacrificing to a large lender priority in the goods they sell. Enter: the Purchase-Money Security Interest (“PMSI”).

Remember, to have a security interest we need attachment and perfection. And as we just discussed, perfection is generally subject to the first-to-file principle. A PMSI allows a seller of goods that sells on credit terms to gain a first-priority security interest—essentially jumping ahead of all other creditors regardless of when they perfected their security interests—in specific goods sold when the customer/debtor incurs a purchase money obligation to the seller of the goods in order to purchase the goods.

There are several variations on PMSIs, but for our purposes we are concerned with PMSI in inventory sold. (PMSI in equipment may also be important.) PMSIs in inventory sold can be slightly complex, so it is important to pay attention to the details and make sure each step is taken to secure your interests in your goods sold.

The key complication in a PMSI for inventory is the requirement that the security interest be perfected before the goods are received by the debtor. Ordinarily, perfection allows for the filing of a financing statement (usually the UCC-1) after the debt is incurred. This is also true of PMSIs in consumer goods, which allow a PMSI to be perfected if a financing statement is filed within 20 days. Distributors, however, are not generally viewed as selling consumer goods. Distributors sell inventory to their customers. Thus, special rules for PMSI must be followed (see UCC § 9-324).

As we said, for the PMSI in inventory to be effective we must perfect prior to the goods being delivered to the customer. This means filing our UCC-1 before delivery. Ideally, this will occur before the goods even leave our facility.

Next, we need to notify any other higher priority secured party in writing. So, if a lender has provided financing for our customer and has a floating lien over all of the customer’s assets, we are required to notify that lender in writing of our PMSI in the specific inventory (more on this in a moment).  You can find previously secured lenders and other parties with security interests by searching the UCC-1 filings in the state where the customer is incorporated or headquartered. (It is generally best to search both locations to ensure all your bases are covered, as well as, for companies with locations in multiple states, the state in which the actual destination facility is located.)

The notice to other secured parties should be sent by a secure, trackable system, like certified mail, return-receipt requested and—like PMSI perfection—the notice must be received before the goods are delivered to the customer. (Notice must also be renewed every five years in the event the security interest is held that long.)

Finally, the notice must state that the distributor has or expects to acquire a purchase-money security interest in inventory of the debtor (again, this is your customer) and describe specifically the inventory affected. This can be done directly in the notice, or by referencing and attaching a copy of the commercial invoice if it provides enough specificity to identify the inventory secured.

A PMSI in non-consumer goods takes much more effort than perfecting an ordinary security interest, so factors like the value of the credit extended, customer payment history, and current financial strength of the customer (or the economy more broadly) will all factor in deciding whether the additional steps to a PMSI are worthwhile.

Remember, priority of security interest is key to payment when a customer becomes insolvent. When the economy is rocky it is important to pay attention to the financial health and track record of your customers and the customers of your customers. Our industry has and will continue to see its fair share of liquidations and restructurings. By monitoring the health of your customers and taking the steps to meticulously secure your interests, you put your company in the strongest position to fight through troubling times.

As always, these things can be complex. When in doubt, contact your lawyer.

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Steps to Perfection: Security in a Time of Insolvency

June 12, 2020 1 Comment

Last week we had a brief overview of some bankruptcy issues and talked about the some of the risks presented by bankruptcy filings in these uncertain times. Today we are going to expand on ways to mitigate some of those risks when we aren’t in a position to demand and receive cash in exchange for goods.

The most important step to take to ensure you are protected against the risks of an insolvent customer is to attach and perfect a security interest in the goods sold to the customer. A security interest in the goods you sold on credit helps you to get paid first (before unsecured creditors, shareholders, and others, who often get nothing) in the event your customer enters bankruptcy.

Many companies are good at attaching a security interest to goods sold on credit by including terms that state the buyer grants the seller a security interest in the goods sold to secure the purchase price. If your sales agreements do not include such a provision you should work with a lawyer to make sure that they do.

An attached security interest on its own, however, has little effect in truly securing you as the seller (and more importantly, as creditor). In order to be effective, a security interest must be perfected. A perfected security interest gives notice to the world that you have a security interest in the particular goods so that others who may attempt to attach a security interest later know that they are behind you in priority.

Let’s drill down a bit deeper on the ideas of “attachment” and “perfection.”

Attachment

The Uniform Commercial Code (UCC) provides that “[a] security interest attaches to collateral when it becomes enforceable against the debtor with respect to the collateral . . . .” (UCC § 9-203). The debtor in this case is your customer. The UCC goes on to explain what it means for a security interest to become “enforceable.” (We have limited the text to be relevant for our purposes, because some very specific things, like descriptions of timber to be cut, simply don’t apply!)

Under the UCC, “a security interest is enforceable against the debtor and third parties with respect to the collateral only if:”

(1) value has been given

In this case, the goods sold in exchange for the promise to pay the purchase price in the future—for instance on net 30 terms—is value given.

(2) the debtor has rights in the collateral or the power to transfer rights in the collateral to a secured party

Here, the debtor (your customer) gains the rights in the collateral and power to transfer rights when they receive the goods.

And finally, (3) one of the following conditions is met (only one is applicable for the purposes of this discussion):

(A) the debtor has authenticated a security agreement that provides a description of the collateral

A security agreement is any agreement that provides a security interest, for instance our sales agreement (with appropriate terms, as mentioned above). To authenticate the agreement, the debtor (customer) merely needs to sign it (or otherwise accept the record through electronic sound, symbol, or process). The security agreement must also provide a reasonably detailed description of the collateral. The part number, nomenclature, and quantity that appears on our documentation is an example of a reasonably detailed description.

Although verbose, the process of attaching a security interest is relatively straight forward and many or most of you may be doing it now. You should review the terms and conditions that appear on your quotes, confirmations, invoices, and other sales documents to be sure. If there are questions, remember to consult your attorney.

Perfection

Merely attaching a security interest, though, is not enough to protect you. In fact, an attached security interest without more provides little security indeed. In order to protect your interests, you must perfect the security interest. This gives notice to others that you have a security interest (in the form of a lien) against the goods. That way if they attempt to attach their own security interest to the goods or other assets to protect their extension of credit (for instance in the form of a loan), they know that they are behind you in order of priority with respect to those goods. (We’ll have more to say about priority in our next post—sometimes a previous secured lender like a bank may have priority for even newly acquired goods).

The exact details of perfecting a security interest are a matter of state law, but in general the primary method of perfecting a security interest is by filing a financing statement with the relevant public office—usually the Secretary of State. The UCC specifies the elements required in a financing statement in § 9-502:

  • The name of the debtor
  • The name of the secured party
  • An indication of the collateral

Typically, you can use as your financing statement a Form UCC-1, which is a standardized form that is widely available online, often via the very state agency with which it must be filed.

The most important thing to note in completing the financing statement is that the name of the debtor (your customer) must be precise. The UCC explains that it should be the name that is listed on the company’s most recently filed document in its jurisdiction of registration. (See UCC § 9-503). Put another way, the debtor name on the financing statement should be the most up-to-date name of the organization as filed in its state of incorporation. This level or precision is necessary because the financing statement is recorded under the debtor’s name and it must be of sufficient detail to put other potential secured parties on notice.

The secured party’s name is more straight forward (your company) and the indication of the collateral can be the same as appeared on the security agreement we discussed above, for instance, part number, nomenclature, and quantity.

The financing statement is generally filed where the debtor is incorporated, so make sure you are identifying the appropriate jurisdiction’s requirements. You can often kill two birds with one stone because the Secretary of State is typically where the financing statement is filed (and can be found) and you should also be going there to identify the correct name of the debtor for the financing statement anyway. As always, if you have any questions, you should consult an attorney.

As a secured creditor you can have confidence you will get paid (at least in part) even if a company becomes insolvent, because the liquidated assets of an insolvent company are first used to pay secured creditors. Specifically, the money raised from the liquidation of your secured goods is used to pay your security interest. This also applies to proceeds from those goods when the proceeds are directly identifiable. Creditors with no security are often left hoping for a share of what little is left after the secured creditors are paid.

Attaching and perfecting a security interest in goods sold is a valuable risk mitigation strategy. While it may not be as relevant when the economy is hot, when the economy gets rocky and the industry sees upheaval it is an important way to protect yourself against the unpredictability of the global aviation market.

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Bankruptcies are Happening. What do you need to know to protect yourself?

June 3, 2020 1 Comment

It is no doubt that these are trying times. With air travel substantially curtailed the need for parts to support commercial fleets is significantly reduced. That means challenges for distributors. Adding to those challenges is a harsh reality: even when customers are buying parts,  they may have difficulty paying. And when a customer to whom you’ve extended payment terms becomes insolvent, you may be left holding the bag.  So far in 2020 we’ve already seen several operators enter bankruptcy, including Flybe (UK), Virgin Australia, Avianca, and LATAM.

Struggling operators still need parts to maintain their aircraft, and therein lies the rub. Distributors want and need to sell parts, and airlines want and need to buy them. With an airline that may be on the brink of bankruptcy, the question becomes how can a distributor make a much-needed sale, and protect itself against the risk that the customer may not be able to pay?

Obviously, the safest way to protect yourself is to require cash up front. If you and your customer are in a position to make such an arrangement, great! You can stop reading now. But the reality of our (and may others) industry is that goods are typically sold on Net 30 or similar terms. If you send goods to your customer and they declare bankruptcy before you get paid (or worse, have several outstanding invoices unpaid), you may be placed into a class with dozens of other unsecured creditors fighting for pennies on the dollar of what you were actually owed.

When cash is tight invoices can pile up. So, what steps should a distributor take to protect itself in the face of a struggling customer? In this series of articles, we’ll discuss the steps necessary to attach and perfect a security interest in goods, as well as mistakes to avoid to ensure payments your customer makes to you can’t be clawed back.

First, though, there are some things to know about bankruptcy filings. For the purpose of these articles we’ll be focusing on the US bankruptcy laws, which are found in Title 11 of the United States Code. The two types of bankruptcy filings most people are familiar with occur under Chapter 7 of the Bankruptcy Code (Liquidation) and Chapter 11 (Reorganization).

Under a Chapter 7 filing, an organization (like an airline) will cease operations and a trustee will be appointed to sell the company’s assets to satisfy creditors. Creditors are divided into classes with secured creditors being first in line to be paid, followed by unsecured creditors, and finally stockholders.

Secured creditors are those whose credit is backed by collateral. Unsecured creditors have extended credit but without the backing or security of collateral. Aircraft parts distributors can fall into either category depending upon whether they have taken the necessary steps to attach and perfect a security interest in the goods they’ve sold.

Secured creditors can sometimes have their collateral returned to them, though this process has some limitations and requires very quick action.  It also has very strict requirements that the debtor (customer) have been insolvent and the goods be delivered within 45 days before bankruptcy. A specific written demand for the goods must also be made within 45 days of delivery or within 20 days after bankruptcy if the 45 days expired after the declaration.  Chapter 2 of the the Uniform Commercial Code may also provide rights to reclaim goods. We’ll discuss these options in a future post.

It can often be difficult to reclaim specific goods, but a secured creditor still has a claim for the value secured by those goods if they are liquidated by the trustee in the course of the bankruptcy and in satisfaction of other secured debts. (If the value of secured collateral is insufficient to cover the amount owed, creditors become unsecured creditors for the balance due.) Because of the value of remaining assets when a company enters liquidation, unsecured creditors often receive only pennies on the dollar, if they receive anything at all.

Under a Chapter 11 filing the organization remains in operation and under management’s control, but major decisions must be approved by the Bankruptcy court. Rather than liquidate all assets in satisfaction of outstanding debts, a committee of unsecured creditors will be formed to develop a plan to allow the company to eliminate part of its debt to regain its financial footing. Committees representing secured creditors, stockholders, and other interested parties may also be formed. The plan the committees develop specify classes of claims and how those claims are to be treated, in addition to numerous other considerations to enable the company to continue to function.

Under Chapter 11, aircraft parts subject to a security interest may also be subject to special treatment. A customer filing under Chapter 11 may be preferable to Chapter 7 for a distributor who is unsecured because although the full amount owed may not be paid, partial payments may be made to encourage the distributor (and other suppliers) to continue selling to the company to allow it to operate. On the other hand, a distributor with a security interest in aircraft parts may have the right to take possession of the collateral or be assured of payment under the security agreement.

Being a secured creditor is always preferable to being unsecured. It puts the creditor in a position to reclaim its collateral or get paid to the greatest extent possible. Unsecured creditors are often left with significantly diminished claims if they receive anything at all.  In our next article, we’ll talk about the steps you need to take to attach a security interest to the parts you sell.

Bankruptcy is confusing and can be fast-moving, and we haven’t even scratched the surface here. Always be sure to consult a bankruptcy attorney if you have a customer file for bankruptcy that owes you a significant amount.

This post has been updated for clarity.

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U.S. Considering Tariffs on European Aircraft and Aircraft Parts

April 9, 2019 1 Comment

The Office of the U.S. Trade Representative has announced a preliminary proposal to implement new tariffs on a range of European products with a significant focus on the civil aviation sector, including both parts and completed aircraft.  The proposed tariffs arise as a result of a long-running WTO case brought by the U.S. against the EU and France, Germany, Spain, and the UK.  The WTO found that the EU provided substantial “launch aid” to Airbus and that those subsidies both helped Airbus launch its commercial aircraft and cost Boeing market share.

The purpose of the tariffs (or countermeasures) is to offset the estimated $11 billion per year in trade harm the USTR estimates result from EU subsidies.

It is unclear at this point at what rate tariffs would be imposed on the particular goods identified.  The proposed HTS numbers affected include numbers that are very familiar to the distribution community, including 8803.20.0030, 8803.30.0030, and 8803.90.9030, however, the scope appears to be limited to parts imported “for use in new civil aircraft, not for use by the Department of Defense or the U.S. Coast Guard, of an unladen weight exceeding 15,000 kg provided for in statistical reporting numbers 8802.40.0040, 8802.40.0060 and 8802.40.0070.” Thus from the language it appears the countermeasures target the importation of parts used in the manufacture of new aircraft, but not for the maintenance of the existing fleet.  Anyone supporting the production of new civil aircraft would be well advised to review the HTS numbers proposed for countermeasures.  They can be found here.

The USTR has requested public comments on the proposed action.  Comments can be submitted through http://www.regulations.gov under docket number USTR-2019-0003.  Any comments must be submitted by May 28, 2019.

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