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Negligent Entrustment – Aircraft Lessors Beware

On April 19, 2000, Air Philippines Flight 541 crashed on approach during a flight between Manila and Davao City. All 124 passengers and seven crew members perished. At the time of delivery to Air Philippines, the aircraft was certified airworthy and complied with all applicable U.S. government and Philippine maintenance, airworthiness and export requirements. Just before the aircraft was delivered to the airline, it had been inspected and had had maintenance performed including a "C" maintenance check. Furthermore, an Export Certificate of Airworthiness was issued by the FAA.

According to an independent investigation report, the accident was caused by the pilots' loss of situational awareness on approach. The investigation committee found that there was no evidence of any structural or mechanical defect that may have contributed to the cause of the accident. The crash had no apparent nexus to the US and yet wrongful death lawsuits were brought in the Circuit Court of Cook County, Illinois, against the lessors of the Boeing 737-700 aircraft, AAR Parts Trading, Inc. and Fleet Business Credit, LLC (the "Lessors").

§44112 of a US Federal Statute (the Federal Registration and Recordation of Aircraft Act) should have provided a defense for the Lessors who were not in possession of the aircraft at the time of the accident. It provides that:

(b) Liability. – A lessor, owner or secured party is liable for personal injury, death, or property loss or damage on land or water only when a civil aircraft, aircraft engine, or propeller is in the actual possession or control of the lessor, owner, or secured party, and the personal injury, death, or property loss or damage occurs because of –

(1) the aircraft, engine, or propeller; or

(2) the flight of, or an object falling from, the aircraft, engine, or propeller.

Even though the case was ultimately settled for USD165m and paid by the insurers for the airline, the Court was willing to find the Lessors responsible and ignore the protection allowed by the Federal Statute.

Many commentators believed the Air Philippines case to be an aberration, a perfect storm and that it was highly unlikely that such a decision would be upheld by other States.

However, in a subsequent case in Florida of Vreeland –v- Ferrer 71 So.3d 70 (Fla. 2011) the Florida Supreme Court held that certain claims against aircraft owners and lessors under Florida's dangerous instrumentality doctrine are not preempted by U.S.C. § 44112. In that case, a Twin Cessna Skymaster crashed on Jan 14, 2005 killing the pilot and its single passenger. The aircraft had been leased from Aerolease of America, Inc. for one year. The plaintiff brought a wrongful death action arguing that Aerolease was vicariously liable for the pilot's negligent operation of the aircraft, a "dangerous instrumentality".

The Court held that (1) the limitation on liability provided by the Federal statute only applied to death, injury or damage that is caused to people or property that are physically on the ground or in the water; and (2) in the instant case, the plaintiff's liability claim against the owner was not pre-empted by federal statute because the victim died while he was a passenger inside an aircraft that crashed and he was not present "on the surface of the earth" beneath the aircraft when he died.

The majority decision alluded to the fact that every version of the statute has referenced injury, death, or property damage "on land or water" or "on the surface of the earth." Congress never removed this geographic requirement. Florida's dangerous instrumentality doctrine not pre-empted because the deceased "was a passenger in a plane that crashed- he wasn't the ground beneath the plane. The one sensible but lone dissent judge in the case commented that the majority decision "defies reality" – the passenger died not in the air, but from the impact with the ground. In fact, the majority should never have been analyzing the issue in the first place. Statute requires that the lessor or owner be in actual possession or control of the aircraft for it to be liable – it is irrelevant whether the passenger died from impact with the ground or before it – Aerolease was not in possession or control at the time of the accident.

Aerolease appealed the Florida Supreme Court ruling to the U.S. Supreme Court arguing that that the Court construed 49 U.S.C. § 44112 too narrowly in holding that its protection to owners and lessors applied only to damages sustained on the ground rather than those in the air as well. The whole point of the Statute was to shield owners and lessors without operational control of an aircraft from liability resulting from the negligent acts of a pilot. The U.S. Supreme Court let the Florida Supreme Court's decision stand by refusing to hear Aerolease's appeal.

Even though many believe the recent decisions to be that of a minority judiciary, the cases remain as precedent in the US and all lessors of aircraft need to be aware of their application and take steps to protect themselves.

How can a Lessor protect itself against negligent entrustment claims?

(1) Terms and conditions of the Lease Agreement

Lessors should review the terms of their existing leases and their oversight of lessee operations.

Lessee airlines and their insurers must remain ultimately responsible for the operation of an aircraft under lease and care must be taken to ensure that this absolute obligation is not watered down by a Lessor's right to inspect or oversee aircraft operations. The "duty to provide oversight" that plaintiffs sought to shift to the Lessors in the Air Philippines case must remain with the actual operator of the aircraft. Lessors should include lease wording to the effect that any oversight activities undertaken by the Lessor are not intended to imply an acceptance of legal liability for operational safety and training issues which remain the legal responsibility of the lessee/operator. Lessors should also request an indemnity in respect of any legal liability exposure that may be created.

Other provisions to consider amending are the warranties, conditions and covenants – the balance is in ensuring the Lessee is operating to a sufficiently high standard without the Lessor imposing operational control over the aircraft. The Return Conditions, Maintenance Provisions and Events of Default can all impose high standards of care on Lessees without imposing operational control. For example, if the aircraft is not maintained to a sufficiently high standard, the Lessor can use the maintenance reserves or call an event of default. Any such clauses should include wording to the effect that the Lessor has the right but is not obliged to act under such provisions. Therefore, if the Lessor does not take such action, it is not in breach of any oversight provisions in the lease. It is worth noting however that insurers may look to the wording of a lease – if the Lessor has audit and information rights and does not use them, there is an argument for saying that the insurers can refuse to cover an incident where had the Lessor availed of its rights, the incident may not have happened.

Aircraft Lessors must continue to insist on ironclad contractual indemnity and insurance provisions in dealing with lessees, including foreign airlines. These indemnity and insurance provisions protected AAR and its investors in the Air Philippines cases – the insurers for the airline settled the case for USD165m because the indemnity allocated the cost of the $165 million settlement to the airline and its insurers, and not to the lessors or their insurers. The indemnity can be extended to cover any exposure to the Lessor under the principles of negligent entrustment.

(2) Spoliation

In the Air Philippines case, early wreckage disposal prevented inspection by Plaintiffs' experts and allowed them to espouse alternative theories for what caused the crash. This did not help the Lessor's defense. All leasing companies and airlines should preserve aircraft wreckage as evidence wherever possible: Aircraft owners, Lessors, operators and insurers must be very cautious in their handling of wreckage after an aviation accident to avoid any situation that could give rise to a claim of spoliation of evidence. Lessors should consider including wording in the lease obliging the lessee to preserve such evidence.

(3) Due Diligence

Asking commercial lessees about their operational procedures shows due diligence on the part of the Lessor. Pre-lease due diligence should include:

(a) Operational Due Diligence – Lessors may wish to consider insisting that lessee operators submit to IOSA and LOSA safety audits. Again, it should be made very clear that the Lessor is not assuming any legal liability by doing so. When independent contractors are used as opposed to internal staff for the surveillance visits, they should be properly accredited and monitored.

(b) Regulatory due diligence – not every aviation authority worldwide imposes the same level of operational regulation over the operators they govern. It is crucial for Lessors to insist on the aircraft being operated under an aviation authority with acceptable standards of regulation. The Lessor should also be given a blanket release by the operator to seek information from the relevant aviation authority in respect of that operator.

(c) Financial Due Diligence – One final point to consider is whether operator financials are constantly monitored as financial distress (e.g. failure to pay fuel bills or being put on to progressively stricter payment terms) may result in less attention and focus on safety and maintenance issues and serve as an early warning of impending problems.

Conclusion

Because of their large role in commercial aviation, aircraft lessors are naturally an alternative potential deep pocket. The propensity for the US courts to hear what are foreign cases such as Air Philippines should alert all aircraft lessors to examine their approach to liability protection. There are many tried and tested ways of shielding financiers and their investments from huge claims. Whether the cases mentioned herein are a minority view in the US Courts, they currently have the force of law and this trend should be carefully monitored.