The Importance of a Long Term Lease in Aviation Agreements
It is critical for the overall commercial and legal well being of the airport that the airport operator to implement long leases. It must be clearly understood that it is considerably more than a mere lease of real estate; it is a composite agreement, a combination of a lease (as the term is understood by lawyers and laymen) and an operating agreement. Its terms set forth many obligations, duties, and restrictions that apply to the manner in which the aviation business operation will be carried on using the leased premises.
Reasons for a Long-Term Lease
The initial financing required to create a general aviation business operation can stagger the mind! A small operation on a public airport can easily require several hundred thousand dollars of initial capitalization; financing a large base operation can easily runs into millions of dollars. General aviation operators are usually committee by agreement to invest funds in buildings and other facilities at the airport as a condition of their lease and to enhance their business potential. Not only does such an operation require office space for its own administration, it requires a terminal facility for transient general aviation passengers. In addition, hangars, storage facilities, expensive maintenance and repair equipment are needed to handle the various types of aircraft which may require servicing, many of which are the same type as those used by the certificated air carriers. As a result of the huge investments required, such improvements normally are financed to a large degree by borrowed funds. The usual sources of loan money, such as banks and other industrial lending institutions, lack enthusiasm for advancing funds upon improvements to be installed on publicly owned land simply because of the limiting characteristics of these improvements as collateral; improvements upon leased property are not readily marketable in the event of a default on the loan and subsequent foreclosure. In financial circles it is said that such a plan is not “bankable”. Therefore, when creating a plan and setting the length of the lease and its terms, it is necessary to consider the practical requirements of potential lenders who will evaluate a loan proposal on a business investment. This is true not only of banks, but of material suppliers, such as oil companies and other product distributors, who will frequently entertain proposals for loans to develop a market for their products, provided the anticipated business is attractive to them as businessmen. Any potential lender will make his decision after an assessment of the financial return he can expect over the life of the loan as compared with other investment opportunities available to him. Thus, the amount loaned will be limited to that which can be adequately amortized from the funds generated by the business expected during the term of the lease. It is fundamental that a loan must be limited to the amount for which the collateral provides adequate security. Therefore, a lender will also evaluate the security of his investment in a business from the viewpoint of the adequacy of collateral and will insist on a reasonable expectation that the borrower can meet his continuing obligations to repay the loan. In analyzing this aspect he will take into consideration the fact that improvements usually have collateral value only over the life of the lease and diminish as the team of the lease expires. Collateral in the form of a lien upon improvements erected on the airport property leased by the operator is usually of value only if there is an assurance of
continued occupancy in conjunction with the lease, or if the lease provides for compensation for the depreciated value of the improvements in the event of a premature termination of the lease. Representatives of the lending institutions responsible for assessing the desirability of investing funds by loans to operators give prime consideration to potential sales volume, cash flow, and projected profits. It is obvious that subjecting any of these to unknown influences that could be detrimental to the business will restrict the incentive of a lender to make such investments.
The Term of the Lease
The primary term of the lease is established by setting the dates of the beginning and end of the lease period in the agreement itself. There are usually provisions for the extension of the term of the lease for an additional specified period by the exercise of an option by the lessee. To conform with the realities of the demands of lending institutions, the lease term should extend for a long enough period to permit the amortization of loans made for physical improvements on the property and the erection of hangars, terminal buildings and other installations. Financing experience has shown that 15 years is the absolute minimum accepted by most lending institutions for major improvements, and a 20-year lease, with options to extend, is preferable.
Options
The options provision, whereby the lessee may extend the lease an additional term, should specify not only the length of the additional term and any additional option, is should also specify the maximum amounts by which rents, fees, and payments can be increased during the option period. Many leases specify that rents will not be increased by more than a stated percentage of value to be paid as rent for the option period.
Assignability Provisions
It must be recognized that a lending institution advancing funds will evidence a real interest in either a lease provision for the assignment of the rights for compensation for leasehold improvements or an assignment of the lease itself in the event of default. In either case, airport authorities frequently are requested to furnish evidence of consent to such assignments, which in themselves tend to assure continued availability of services as the airport. Once the lease is signed it becomes valuable property to the lessee, although since the lessor retains an interest in the lease, the lessee’s freedom to exercise his business judgment may be limited. For example, a lessee may desire to assign or transfer the lease or parts of the rights established under the lease or assign, sublease, or transfer some portion of the land he holds on lease. Ordinarily, however, the lease will provide that he cannot exercise any of these options without the written consent of the landlord. The lessee does have certain rights that should be specifically treated in the lease since they are vitally important in financing: • The lessee should be empowered to assign the lease for financing purposes upon written notice to the lessor and approval thereof should not be unreasonably withheld. Assignment of the lease for financing purposes is a normal procedure, but the lessor then must recognize that the lending institution becomes the successor to the original lessee under the lease in the event of a default in payment or performance. • It is desirable for the lease to state that the lessee has the right to sell without restriction to any corporation formed by it, or consolidated or merged with it, provided, however, that the purpose of the surviving organization is to perform under the lease for the same purpose – as a Fixed Base Operation (FBO). Leases typically give a lessee the right to sublease part of the space covered by the lease, provided that the sublessee is subject to the same conditions and obligations as those in the basic lease is and
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that the lessor’s consent is first obtained. It should also be remembered that the original lessee is thereafter responsible for his sublessee’s compliance.
Preliminary Planning
It is basic that any businessman proposing to operate a business does so with the reasonable expectation of deriving a financial profit; a businessman that does not make a profit simply does not survive. If constraints are posed which make his ability to derive a profit questionable, prudence would dictate that the business should not be entered into in the first place. Furthermore, it is imperative that every businessman plans for the future growth of his business. Naturally, if he does not make enough profit to expand his operations in the future, his business cannot grow; and, when a business is unable to grow to meet growing demands, it cannot properly serve the community. If a FBO on leased property obtains loans from financial institutions, but because of contractual constraints placed upon him subsequently fails in business, it invariably becomes difficult, if not impossible, for a successor business to obtain funds from the same sources. This development can be harmful to the entire aviation business community. It is therefore vitally important that all parties entering into an airport lease agreement for a single or a variety of aeronautical activities understand all of the problems involved.
Move Slowly
A successful airport lease is a work of art. It must serve the best interests of both parties and at the same time be financially and practically sound. Not only must the terms of such a lease be reviewed and approved by the several groups of attorneys representing the lessor and lessee, they must be acceptable to the attorneys of various financing institutions as well. The resulting document may contain terms that are not entirely satisfactory to the parties, but in any event it is imperative that they all understand the import and meaning of all lease language before entering into such an agreement in the first place.
Lawyers
In all cases, it is absolutely necessary that the services of an attorney be obtained, and the attorneys, together with their clients, must spend considerable time acquainting themselves with the peculiarities and niceties of the problems involved. If possible, the proposed lessee and his attorney should study the lessor’s previous agreements with parties involved in operating similar businesses. If the lessor is a public body, such leases are a matter or public record. Furthermore, if a certificated air carrier operates from the airport, the proposed lessee should study its lease as well. Attorneys representing air carriers are experienced in the field of lease negotiations and the form of their agreement should be analyzed thoroughly.
Acquire Information Prior to Negotiation
Before entering into negotiations, a proposed lessee should have his accountants develop a prospectus for the business and make financial projections which will give him a dependable guide for make judgments during every phase of the negotiations. He must be completely informed as to what lease costs can be contractually accepted without compromising his legitimate profit objectives. The can be determined by carefully reviewing the minimum operating standards or requirements for that airport. Furthermore, the proposed lessee should ascertain prior to negotiating exactly what lease terms will be acceptable to the specific lending institutions from which he intends to borrow money. This is especially important in planning to build a hangar or other large facility on leased real estate. A lessee who intends to sell aviation fuel should obtain the advice of his intended fuel supplier concerning lease or purchase agreements covering a fuel storage tank farm, fuel trucks, and fees related to fuel handling. This information also should be ascertained prior to institution negotiations on the lease.
During negotiations the proposed lessee should constantly review his financial and business projections to maintain a clear picture of his objectives, the conditions under which he can operate, and what he can afford to pay for all the requirements sought to be imposed upon him by the lessor. He must comprehend clearly the limits of his financial abilities and of his business experience so that he will not accept contractual terms and commitments that he will be unable to meet. If acceptable terms cannot be reached between the parties within these clearly defined limits and the duties and obligations proposed in the lease under negotiation are recognized to be beyond the financial and business capabilities of the proposed lessee, it is to the advantage of both parties that such a lack of capability be clearly stated and frankly understood and, in the event that the proposed lessor insists that his demands be met, it is recommended that the proposed lessee break off negotiations.
Ownership
Early in the negotiations, the proposed operator should be certain that the people with whom he is negotiating have the legal capacity and authority to deal with him on behalf of the community. In addition, he and his attorney should conduct a title search to be absolutely satisfied that there is a clear title to the premises and that ownership of the entire premises rests in the parties with whom he is negotiating. There have been many cases in which airports have extended over the boundaries of two or three counties – and, in some cases, across state lines – and it is possible that a lessee may find himself in the unhappy position of having invested a great deal of money to improve premises which were not within the jurisdiction of the lessor in the first place.
It’s a Partnership
Aviation, a unique and complicated business, is growing beyond the imagination of most Americans. In the United States there are approximately 4,000 fully attended airports. The certificated air carriers serve about 400 of these; yet, all of them are served by general aviation. During the past 15 years, the general aviation fleet has grown at an unprecedented rate. In order for these aircraft to be useful for business and personal transportation to all communities, there must be a similar growth of airport support facilities. The general aviation Fixed Base Operator and airport operator are truly partners working for the benefit of all citizens in their community. An airport lease is more than just a lease. It is a lease/operating agreement/partnership agreement that establishes a mutually beneficial relationship for all parties concerned – and the people they serve. It cannot be entered into without a full realization of the implication of each phase on the relationships of everyone concerned with the operation of the business. The lease should be the document for planned, shared success.
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The National Air Transportation Association (NATA), the voice of aviation business, is the public policy group representing the interests of aviation businesses before Congress, federal agencies and state governments. NATA's 2,000+ member companies own, operate, and service aircraft. These companies provide for the needs of the traveling public by offering services and products to aircraft operators and others such as fuel sales, aircraft maintenance, parts sales, storage, rental, airline servicing, flight training, Part 135 on-demand air charter, fractional aircraft program management and scheduled commuter operations in smaller aircraft. NATA members are a vital link in the aviation industry providing services to the general public, airlines, general aviation and the military.