On Feb. 28, 2022, S&P Global Ratings reviewed the exposure in aircraft lease asset-backed securitization (ABS) transactions to airline operators in Russia and Ukraine. Of the 25 outstanding rated commercial aircraft lease ABS transactions issued since 2013, 12 (representing a total of 31 aircraft) are currently exposed to 15 airlines domiciled in either Russia or Ukraine. The exposure, based on reported adjusted base values, ranges from approximately 3% to 21%, with one-to-seven aircraft in individual portfolios (see "S&P Global Ratings Reviews Aircraft ABS Exposure To Russian And Ukrainian Airlines," published Feb. 28, 2022).

In this article, we consider how the recent EU sanctions will affect outstanding aircraft ABS lease transactions. We answer some frequently asked questions below. Some of the responses are based on feedback we received during our interactions with the lessors.

For more on the Russia-Ukraine conflict, see our special report page: https://www.spglobal.com/ratings/en/research-insights/topics/russia-ukraine-conflict.

Frequently Asked Questions

What are the key implications of the recent EU sanctions on Russian aviation operations?

The EU sanctions, which prohibit the supply of aircraft and related parts to Russian entities or for use in Russia, require lessors to terminate leases to Russian airlines by March 28.

Based on our conversations with market participants, it is our understanding that the EU sanctions have generally triggered an event of default under the leases with EU lessors. Given that the majority of aircraft-owning entities in aircraft ABS transactions are Irish entities, most leases are directly affected by the sanctions. The occurrence of an event of default gives lessors the right to terminate the lease and ground the aircraft. Most lessors are now attempting repossession of their aircraft, but our understanding is that those attempts have generally been unsuccessful so far.

What challenges are lessors facing in repossessing their leased aircraft?

Lessors are closely monitoring the flight movements of the affected aircraft so that they can attempt to repossess them outside of Russia. However, even if the aircraft is flown outside Russia, a successful repossession depends on cooperation from the aviation authorities in the local jurisdiction. It is our understanding that there have been a limited number of instances in which lessors have successfully repossessed aircraft outside Russia. Given Russia's directives to limit international flights, the window of opportunity to re-claim aircraft outside of Russia is likely closing.

Repossession of aircraft located in Russia will be challenging without the consent and cooperation of the airlines. Although some of the smaller, private airlines may have incentives to cooperate with lessors to preserve their relationship for future business, government restrictions may limit them from doing so.

Even if lessors would be permitted to repossess their aircraft in Russia, they face numerous logistical obstacles, including arranging for a crew to fly the plane out of the country, locating and obtaining aircraft maintenance records, and obtaining clearance to operate the aircraft.

If aircraft cannot be flown out of Russia, there is a risk that the stranded aircraft may be cannibalized and used to provide spare parts to keep the other aircraft in operation. Airbus and Boeing have both indicated that they will no longer supply spare parts to Russia, and it remains to be seen whether Russia will be able to source spare parts from China and other Asian countries.

If the lessor is unable to repossess the aircraft, can an ABS issuer be compensated through insurance?

Both the lessee and lessor typically maintain insurance to cover various events. Russian lessees typically maintain hull, liability, and war risk insurance with Russian insurers. In addition, lessors typically maintain reinsurance with U.K.-, EU-, or U.S.-based insurers. We understand that the insurance provided by Russian insurers is no longer valid and that reinsurance providers have canceled policies due to sanctions and illegality. The loss of coverage before cancellation of the reinsurance is likely to be litigated by lessors, which could be a lengthy process. Some lessors are expected to claim that their aircraft had effectively already been confiscated by the Russian government before their reinsurance coverage was canceled.

As an additional layer of protection, lessors typically also maintain contingent insurance that covers the risk that neither the lessee's primary insurance nor the reinsurance will pay. Many lessors are now relying on this contingent insurance. We understand that to be eligible for a payout under the contingent policy, it must be established that the lessor has not been able to repossess the aircraft and has therefore lost the ownership.

The number of potential claims under contingent coverage is presumably less than the total leased aircraft trapped in Russia, as not all lessors have maintained such coverage for all of their aircraft. Still, such large number of claims and litigation over the payment of such claims is likely to delay payments to the insured party (i.e., the lessor) under the policies, including ABS transactions.

What is the impact on non-Russian airlines that operate throughout the world?

Following the EU's closure of its airspace for Russian operators, Russia shut its airspace to 36 countries. Airlines, such as Finnair, are re-routing aircraft around Russian airspace, which often increases flight time and raises fuel costs. This is particularly challenging for airlines given the recent spike in fuel prices. Other airlines are suspending flights that were previously operated through Russian airspace. This may place additional financial strain on airlines, which were on a slow path to recovery from the impact of the COVID 19 pandemic. From our conversations with some of the lessors, it seems that there are no non-Russian operated aircraft in ABS portfolios currently located in Russia. At this point, it is also unclear what the implications could be in such circumstances.

Is the Cape Town Convention an option for aircraft recovery?

The Cape Town Convention is an international treaty that is intended to protect the security interests of lessors, among others, through the creation of an International Registry. Although Russia is a member of the Cape Town Convention, which should facilitate a smooth repossession of the aircraft, cooperation from the country is questionable given the current geopolitical environment. We are not aware that any lessor has requested a Russian court decision to recover their aircraft.

What is the effect of Bermuda's revoking the certificate of airworthiness of Russian aircraft?

The Bermuda Civil Aviation Authority (BCAA) has suspended the certificate of airworthiness of all aircraft operating in Russia that are held on the Bermuda registry, claiming that the international sanctions on Russia have had a significant impact on the ability to maintain safety oversight on the Bermuda-registered aircraft operated by Russian carriers. The U.S. and EU have closed their airspace to Russian aircraft, and Boeing and Airbus have suspended the provision of parts, maintenance, and technical support for Russian airlines. The sanctions and Bermuda's airworthiness decision effectively limit Russian aviation to domestic flights and could reduce the active fleet of Boeing and Airbus aircraft for Russian airlines if they can no longer adequately maintain such aircraft.

Those Russian operators with Bermuda-registered aircraft are now expected to move their aircraft onto the domestic Russian registry.

What are the main concerns for ABS transactions?

Most of the affected leases in ABS transactions had a relatively long remaining lease term based on their existing contract. The abrupt termination of these leases in the current environment will likely diminish collections as well as expose the transactions to a potential loss of collateral (although it may still be too soon to arrive at this conclusion). However, given that these are relatively diverse pools of assets, collections under other leases may partially offset some of the immediate impact on the transactions. The fact that this comes on the back of the pandemic is an added stress.

In addition, lessors typically deposit amounts in the expense account to cover for future repossession costs, which is typically a senior payment in the waterfall, prior to any payment on the rated notes. Lessors may also have security deposits and maintenance reserves, which they may access to mitigate losses. In some cases, these reserves may be in the form of letters of credit rather than cash. There are some concerns whether banks will be able to honor demands for payments on the letters of credit if they are all due at once. In our analysis, we typically do not give credit to security deposits in the form of letters of credit. We generally only rely on cash security deposits.

We believe it is too soon to assess the overall impact of these events, but it will certainly stress liquidity in the near term for the affected transactions.

How do the impacts of the conflict and the pandemic compare?

The pandemic's impact was nearly universal, with passenger air travel coming to an abrupt halt. Most, if not all, airlines struggled to pay monthly rent. Deferrals and restructuring of leases resulted in a decline in cash flow over a one-month period of more than 90% for some transactions.

In the conflict's case, the risk is generally limited to Russia and Ukraine airline operators for now, and collections from other performing lessees should be able to partially offset the losses in the near term. The one significant uncertainty this event poses is the possibility of the lessor not being able to repossess the plane, which was not a concern at any point during the pandemic. In any case, the risk is limited to the exposure to such aircraft in individual portfolios and is not universal.

Related Research

• 28 Ratings From Seven Aircraft ABS Transactions Placed On Watch Negative On The Russia-Ukraine Conflict, March 15, 2022
• S&P Global Ratings Reviews Aircraft ABS Exposure To Russian And Ukrainian Airlines, Feb. 28, 2022