Maciej Zych

When an airline is short of money: Public aid for air carriers

LOT Polish Airlines is not the only carrier seeking public aid. Airlines in other countries have also been forced to seek state support. Whether the effort succeeds depends primarily on how the aid is assessed by the European Commission.

Fierce competition in the European airline industry and the financial problems of numerous airlines more and more often force airlines to seek state assistance. However, under Art. 107 of the Treaty on the Functioning of the European Union, state aid for businesses is generally prohibited, and the permissibility of exceptional support to rescue an indebted company is determined by the European Commission. This can be a life or death decision. A good example is the Hungarian national carrier, Malev, which declared bankruptcy in early 2012 after the Commission ordered it to repay EUR 100 million in financial support it received from the Hungarian government. Currently LOT Polish Airlines is waiting for a decision on aid that has already partially been granted (so far in the amount of PLN 400 million). As of the time this article was being written, the official position of the Commission on the LOT situation had not been announced yet.

Only in exceptional circumstances

TFEU Art. 107(1) prohibits, as incompatible with the internal market, “any aid granted by a Member State or through State resources in any form whatsoever which distorts or threatens to distort competition by favouring certain undertakings or the production of certain goods … in so far as it affects trade between Member States”. However, as an example of “aid to facilitate the development of certain economic activities”, support in order to rescue or restructure an undertaking is permitted as an exception (Art. 107(3)(c)), but must be considered by the Commission on a case-by-case basis. It is also the rule that the Commission should be notified and should consent prior to awarding of support to rescue an undertaking, but violation of this rule does not necessarily mean that the aid will be found to be incompatible with the internal market. The specific conditions for granting consent to public aid to rescue or restructure firms in difficulty are set forth in Commission guidelines, the latest version issued in 2004 (2004/C 244/02).

The guidelines provide a number of basic rules for financial support to rescue or restructure a firm. Rescue aid is permissible under the “one time, last time” principle, which means that the same firm may not be rescued again if it received previous aid or completed restructuring less than 10 years before. This restriction also applies to aid granted by the state prior to EU accession. New aid may be granted in exceptional circumstances, primarily if the problems arose for external, unforeseeable reasons.

Restructuring plan required

Another key condition is to prepare a feasible restructuring plan. The plan must aim at restoring the long-term profitability of the firm within reasonable time constraints (the Commission has approved restructuring plans by air carriers for up to 5 years) and on the basis of realistic projections of future operating conditions, such as changes in demand or fuel costs. Significantly, the guidelines expressly state that the plan should provide for withdrawal from loss-making fields of activity, which in the case of an airline primarily means closing unprofitable routes.

Rescue aid for a firm must also be justified by serious social difficulties, and may not cause side effects on other member states.

Sometimes aid must be refunded…

Rescue aid must be made only in the form of a loan to be repaid in up to 6 months, or in the form of loan guarantees, and must be made on market terms. The importance of this condition is demonstrated by the fact that it was violation of this condition that largely resulted in a finding that aid for Malev was inconsistent with the internal market. Moreover, aid must be limited to the amount necessary to keep the company in operation. Rescue aid is essentially interim and repayable, and is thus designed only to insure financial liquidity until restructuring begins.

…and sometimes is non-refundable

Restructuring aid is permanent, but there are additional conditions for awarding it.

First and foremost, as a counterweight to interference with market forces by awarding state aid to one market participant, the guidelines require the use of compensatory measures. These may involve divestment of the company’s assets, limitations on its operating capacity, or limitations on barriers to entering the given market. The compensatory measures must be proportionate to the amount of the aid. The purpose of the measures is to prevent a situation in which the position of a firm compared to competitors is effectively strengthened through the aid received. Public support may be used only to help the company regain long-term profitability. In the case of airlines, the Commission accepts as appropriate such compensatory measures as reduction in the size of the fleet, limitations on the network of routes, disposal of takeoff and landing slots at coordinated airports, and sale of subsidiaries servicing the airline. Elimination of loss-making operations is not regarded as a compensatory measure, however.

The aid awarded should be limited to the amount necessary to carry out the restructuring. The firm is expected to bear a large portion of the costs of the restructuring plan, and the larger the costs the greater should be the firm’s own contribution—in the case of airlines, generally no less than 50% of the restructuring costs. Clearly, for a carrier having problems with profitability, raising such funds generally requires divestment of assets (given the amounts involved, in practice this generally means aircraft, real estate and shares) or obtaining loans or an outside investor.

Although these conditions are fairly restrictive, it should be stressed that the way some of them are worded provides the Commission a certain amount of leeway in assessing individual cases. The Commission’s practice in the area of rescue and restructuring of airlines has also varied widely in recent years. In 2012 alone, apart from the negative decision for Malev, there were two positive decisions, approving aid for Czech Airlines and Air Malta. It remains an open question what concept the Polish State Treasury has for restructuring LOT and how the Commission will assess the proposal of aid for the Polish flag carrier.

Maciej Zych, Dispute Resolution & Arbitration Practice, Wardyński & Partners