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Vedder Thinking | Articles ACG v. Olympic - Affirmation of "As-Is, Where-Is" and "Hell or High Water" Clauses

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A standard commercial operating lease setting forth a process for delivery of a used aircraft has two essential components. First, the lessee is responsible for inspecting the aircraft (which is delivered on an "as-is, where-is" basis) and, upon completion of its inspection, issues an acceptance certificate confirming that the lessee has completed its inspection and accepted the condition of the aircraft. Second, the lease is a net lease with a "hell or high water" clause, which provides that, once the lessee has accepted delivery of the aircraft, the lessee must pay rent on an absolute and unconditional basis. In ACG Acquisition XX LLC (ACG) v. Olympic Airlines S.A. (Olympic), a closely watched case in England, the courts have affirmed that this delivery process, if conducted properly, functions as intended, protecting the lessor from liability and obligating the lessee to pay rent.

Background

In August 2008, Olympic took delivery of a Boeing B737-300 Aircraft (the Aircraft) from ACG, under a 5-year operating lease between the parties.

Prior to delivery to Olympic, the Aircraft had been on lease to AirAsia and was redelivered immediately prior to delivery to Olympic. In court, it was shown that the redelivery from AirAsia was accepted by ACG only because Olympic agreed to accept the Aircraft on lease following such redelivery.

The Hellenic Civil Aviation Authority (the CAA) issued a Certificate of Airworthiness upon delivery to Olympic, but shortly afterwards a defective cable was discovered, and the Aircraft was withdrawn from commercial service. Investigations by Olympic then revealed further defects and, in September 2008, the Aircraft's Certificate of Airworthiness was suspended.

The Aircraft subsequently was sent for repair and maintenance to an MRO, but upon its return to Athens eight months later the CAA refused to reinstate its Certificate of Airworthiness, determining that Olympic’s compliance with airworthiness directives was unsatisfactory.

Olympic failed to pay any rent or maintenance reserves following delivery. In September 2009, ACG sued Olympic in the High Court of England and Wales for unpaid rent and maintenance reserves and Olympic counter-claimed for its alleged damages. Olympic ceased to trade in October 2009. ACG terminated the lease in March 2010 and required the return of the Aircraft, which finally was returned in November 2010 pursuant to a court order issued in August.

The Claims

ACG’s principal claims were for (a) possession of the Aircraft, (b) payment of rent and maintenance reserves up to the date of return and (c) damages relating to the period from the return date until the scheduled lease termination date.

Olympic claimed that the Aircraft was not airworthy when delivered, that this breached the terms of the lease agreement and that the airline therefore was not obliged to pay rent or maintenance reserves. The airline further claimed that, even if this was not the case, there had been a total failure of consideration or that performance under the lease agreement was frustrated by the suspension of the Certificate of Airworthiness. As a consequence, the airline claimed it was entitled to recover its costs for repairing the Aircraft and obtaining a replacement aircraft as damages.

ACG claimed that (a) the Aircraft met the terms of the lease agreement and was airworthy, (b) even if the Aircraft was not airworthy, estoppel prevented Olympic from asserting that the Aircraft was not delivered in accordance with the lease agreement because it had signed the acceptance certificate or was otherwise estopped by law and (c) the failure to pay rent and maintenance reserves amounted to a repudiatory breach of the lease agreement by Olympic.

Key Provisions in the Lease

The lease agreement required that the Aircraft be delivered by ACG in "as-is, where-is" condition and that the Aircraft be in the required delivery condition (which included a requirement that the Aircraft be "airworthy and in a condition for safe operation").

Under the acceptance certificate signed by Olympic at delivery, the airline represented (a) that it "irrevocably and unconditionally accepts and leases from Lessor" the Aircraft and (b) that the Aircraft " complied in all respects with the condition required at delivery... "

The lease agreement itself provided that Olympic’s execution of the acceptance certificate was conclusive proof that it had "irrevocably accepted the Aircraft for lease" but did not also state that its execution was conclusive proof that the Aircraft was in the required delivery condition. The court determined that the terms of the lease agreement itself did not preclude a claim by the airline for ACG's purported failure to deliver the Aircraft in the required delivery condition; and as a result considered whether the Aircraft actually met this condition.

Airworthiness - a "New" Objective Test

The court considered whether the Aircraft was, in fact, airworthy for the purposes of the required delivery condition. The court could not identify any previous authority for the meaning of the term “airworthiness” and looked to the world of shipping for assistance, adopting the following objective definition:

"would a prudent operator of an aircraft have required that the defect should be made good before permitting the aircraft to fly, had he known of it. If he would, the aircraft was not airworthy."

Whether an aircraft is airworthy does not rely on the knowledge of a particular defect by either party. On the basis of the definition, the court found that the Aircraft was not airworthy. As the court’s ultimate decision in the case did not rest on its finding on this matter, the definition is obiter dictum, and other courts need not be bound by this definition.

Estoppel

The court then turned to Olympic's specific representation in the acceptance certificate and agreed with ACG that Olympic was prevented from alleging that the Aircraft did not comply with the required delivery condition under the lease because of Olympic's representation in the acceptance certificate (a) that it "irrevocably and unconditionally accepts and leases from Lessor" the Aircraft and (b) that the Aircraft " complied in all respects with the condition required at delivery... "Olympic asserted that ACG had not believed the representation, but the court found that it was improbable that ACG, as a major lessor, leasing to a national airline, would deliver an aircraft that it believed was defective and did not meet the required delivery condition. ACG believed Olympic's representation and relied upon it to its detriment, by agreeing to the redelivery from AirAsia. The court consequently denied Olympic's claim as a result of the action of estoppel by representation.

In the circumstances, two of Olympic's advisors had recommended a detailed inspection of the Aircraft and a series of pre-delivery inspections had provided Olympic with the opportunity to determine the condition of the Aircraft, with rectification work undertaken by AirAsia in relation to defects discovered during those inspections. The fact that there might have been hidden defects that could not have been detected by Olympic must have been appreciated by Olympic before signing the lease and agreeing to provide an acceptance certificate.

The court distinguished a case relating to the acceptance by a consumer of a car under a hire purchase contract (Lowe v Lombank [1960] 1 WLR 196), which was not fit for use as a means of transport on the grounds that (a) the representation as to condition differed ("good order and condition" versus "airworthy"), (b) the nature of the parties differed and (c) there was no reliance by the hire purchase company on the representation of the hire?purchaser.

The scope of the court’s analysis leaves open the possibility that an unsophisticated lessee may have scope to argue that it did not intend any statement as to condition to be relied upon, but the strength of this argument is, at the very best, questionable.

The court went on to reject a claim by Olympic that ACG’s failure to deliver an airworthy aircraft had been a breach of a "fundamental" obligation under the lease. The court clearly took into consideration that the agreed terms had been the subject of a free negotiation of the lease agreement between a leading participant in the aircraft leasing industry and a major airline.

Olympic’s Further Claims

As the court decided that delivery of the Aircraft had taken place (and that Olympic was estopped from claiming it had not):

  • Olympic was obliged to pay rent and maintenance reserves from the date of delivery;
  • there was no total failure of consideration, as the Aircraft had been properly delivered by ACG in August 2008; and 
  • the contract had not been frustrated by the withdrawal of the Certificate of Airworthiness. 

The court further noted that the withdrawal of a Certificate of Airworthiness is an inherent risk in the leasing of aircraft, which, pursuant to the "hell or high water" clauses of the lease, was a risk borne by Olympic. The clause specifically identified "any prohibition or interruption of...Lessee's use, operation or possession of the aircraft" and "any lack...of airworthiness" as matters which would not affect the Lessee’s obligation to pay rent and maintenance reserves.

Conclusions

Financiers and operating lessors should ensure that the delivery condition of an aircraft (including the requirement for airworthiness) is an objective condition precedent in favour of the lessee. In this way, no positive obligation need be imposed on the lessor to ensure the delivery of an aircraft in any particular condition.

Lessees must take care to inspect the Aircraft at delivery and be absolutely satisfied that the Aircraft is in a condition acceptable to them. Lessees must be aware that any residual risk of an undetected defect rests with them.

The inclusion of clear wording in a lease acceptance certificate, which states that execution constitutes “conclusive proof that the aircraft is delivered in the delivery condition” (rather than merely irrevocable acceptance for lease), will make it difficult for an airline to bring a claim for failure to satisfy delivery condition.

A thorough "hell or high water" clause that identifies the risks inherent in leasing an aircraft that are to be borne by the Lessee will help prevent a claim for frustration of contract. Lessors should ensure that their clauses identify all the elements of operational risk that are to be borne by the lessee, so that it can be plainly shown that the parties intended that such risk was to be borne by the lessee.

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