This article first appeared in the International In-house Counsel Journal (IICJ) Vol 16 No 62 2023
By Buchler Phillips: David Buchler, Prof David Fordham and Jo Milner
and DLA Piper: Natalie Peacock, Chris Parker, John Forrest and James Davison
1 Background
1.1 Prior to entering into administration, CargoLogicAir was the UK’s only maindeck freighter airline, which also secured a major contract to transport urgent medical supplies to combat COVID-19. CargoLogicAir is an English registered company and a wholly owned subsidiary of Cargo Logic Holding Ltd (company registration: 09605430) (“Parent”). In the period prior to its administration, CargoLogicAir had a workforce of approximately 110 employees in the UK and certain European jurisdictions, however the majority were based in the United Kingdom. Given the nature of its business the workforce included highly skilled, regulated individuals.
1.2 Following Russia’s invasion of Ukraine in February 2022 and the introduction of a wider range of EU and UK restrictions against Russian carriers and their owners (but before CargoLogicAir became subject to UK sanctions), it became increasingly difficult for CargoLogicAir to operate commercially. At this time, CargoLogicAir leased two B747 aircraft in carrying on its business (“Leased Aircraft”). In February 2022, the EU refused access to EU airports for Russian carriers and prohibited them from flying over EU airspace. Furthermore, in March 2022, the UK and EU introduced additional measures prohibiting the provision of technical assistance to Russian carriers, effectively grounding the Leased Aircraft. These measures had the effect of preventing both aircraft registered in Russia and/or aircraft leased (whether directly or indirectly) to a Russian citizen and/or entity, landing at an airport based in the EU or flying over EU countries (“EU Airspace Restrictions”). Given CargoLogicAir’s ownership structure, this had a material impact on its ability to carry out its ordinary operations.
1.3 Given the legal and regulatory environment, during a maintenance stop at Frankfurt-Hahn Airport, an operating ban was placed on one of the Leased Aircraft (where the Joint Administrators understand it remains today). CargoLogicAir has not been able to access the aircraft since. Subsequently, and prior to CargoLogicAir becoming the subject of asset-freezing provisions itself, both of the Leased Aircraft lessors also purportedly terminated the Leased Aircraft leases leaving CargoLogicAir without access to an aircraft.
1.4 On 16 June 2022, the majority shareholder of the Parent, Mr Alexey Isaykin (“Parent Majority Shareholder”), who is also the sole director of the Parent, was designated as the target of asset-freezing measures pursuant to The Russia (Sanctions) (EU Exit) Regulations 2019 (as amended) (“UK Regulations”) on 16 June 2022 (“Sanctions”).
1.5 While neither CargoLogicAir or the Parent are specifically designated pursuant to the UK Regulations, Regulation 11(7) confirms that funds and economic resources are to be treated as owned, held or controlled by a designated person if they are owned held or controlled by a person who is owned, held or controlled directly or directly by a designated person. CargoLogicAir is therefore also subject to the asset-freezing provisions imposed on the Parent Majority Shareholder. As a result, CargoLogicAir’s funds and economic resources (i.e. assets) must remain blocked (i.e. frozen) and cannot be dealt with in any way, absent prior authorisation issued by the relevant competent authority in the UK (i.e. the Office of Financial Sanctions Implementation (“OFSI”).
2 Was there a Solvent Solution Available?
2.1 Following the Parent Majority Shareholder becoming a “designated person” subject to Sanctions, CargoLogicAir engaged its legal advisors, DLA Piper UK LLP (“DLA Piper”), to assist with preparing an application to OFSI to request a licence to enable the Company to meet its basic needs and prior obligations payments, which was granted by OFSI following extensive due diligence of the Company’s creditors and prior obligations (“Basic Needs Licence“).
2.2 Whilst waiting for OFSI’s decision on the Basic Needs Licence, CargoLogicAir was prohibited from making any payments, including but not limited to payroll, lease payments and payments to essential suppliers such as IT platform providers and utility bills.
2.3 With the help of its legal advisors, and while waiting for OFSI’s decision, CargoLogicAir sought to explore various options in order to try to attempt to save the business and to alleviate the likely substantial impact of Sanctions on the Company’s creditors and, arguably most importantly among them, its employees. In early July 2022, the Company made a further application to OFSI to request authorisation for the ownership of CargoLogicAir to be transferred to a British-based and registered employee-owned trust structure, with ownership and control moving from the Parent Majority Shareholder to the Company’s employees (“EOT Licence Application”). It was evident that if the transfer of ownership in CargoLogicAir was not effected quickly, the business would likely be damaged such that it would not be able to recover, meaning there would no longer be a British-registered cargo-only airline.
2.4 Following multiple communications with OFSI, it was communicated to CargoLogicAir that senior decision makers had determined to refuse the EOT Licence Application. The proposed reorganisation of the Company which would have resulted in CargoLogicAir ceasing to be owned by the Parent Majority Shareholder (and therefore no longer subject to Sanctions) would not be possible.
3 $13 million in the bank, but cash-flow insolvent
3.1 CargoLogicAir had one operational bank account (the “CLA Account”). In June 2022, CargoLogicAir informed its bank (“Bank”) promptly as regards the Sanctions and maintained a regular and open dialogue with the Bank’s Regulatory and Compliance Team and its Customer Relationship Manager in respect of the Sanctions, including in relation to CargoLogicAir’s application for its Basic Needs Licence.
3.2 However, despite:
(a) regular, open correspondence (including arranging a call with OFSI and the Bank); and
(b) CargoLogicAir being granted its Basic Needs Licence (which was promptly provided to the Bank),
there were very significant delays in processing payments, despite authorisation under the Basic Needs Licence, some payment instructions taking more than a month to process (including employees’ salaries). Further, on 28 October 2022, the Bank also notified CargoLogicAir of its intention to close the CLA Account effective from 30 November 2022. This meant that CargoLogicAir would no longer be able to access its funds in its only operational bank account in a manner consistent with the Basic Needs Licence.
3.3 CargoLogicAir found itself in the unique position of having achieved a profit of circa. US$45.4m in 2020 and having over US$13 million in the CLA Account but unable to pay its liabilities as they fell due through a series of circumstances entirely outside of its control.
3.4 It is these circumstances in which the Joint Administrators were faced with considering whether to take appointment as office holders of CargoLogicAir.
4 Sanctions in Administration
Administration as a last resort
4.1 On 10 October 2022, following OFSI’s decision to refuse CargoLogicAir’s EOT Licence Application, CargoLogicAir engaged David Buchler and Joanne Milner of Buchler Phillips to assist with contingency planning and options analysis. Multiple options were explored, including the possibility of whether the circumstances were “extraordinary” enough to meet OFSI’s guideline for OFSI to authorise a sale of the business and assets to a potential investor to salvage CargoLogicAir.
4.2 In particular, the sole director was mindful of their fiduciary and statutory duties. In particular, pursuant to s214 of the Insolvency Act 1986 (“Act”), directors can be held liable for detriment to creditors which is caused by their conduct in breach of their duties or during a period of “wrongful trading” unless it can be evidenced that they took every step with a view to minimising the potential loss to the company’s creditors. “Wrongful trading” occurs if the directors know or should have known that there was no reasonable prospect of avoiding insolvent liquidation or administration. Therefore:
(a) in light of the issues CargoLogicAir was experiencing with its Bank;
(b) the loss of access to its aircraft (and therefore without the ability to trade); and
(c) no certainty that an application to OFSI to reorganise the ownership structure of CargoLogicAir would have any greater chance of success that the EOT Licence Application (and in any event authorisation would unlikely be provided quickly enough to ensure that the company was not entering “wrongful trading” territory), the sole director of CargoLogicAir, with the benefit of Buchler Phillips’ expertise and DLA Piper’s specialist Sanctions, Aviation and Restructuring and Insolvency teams, made an application pursuant to paragraph 12(1)(b) of Schedule B1 of the Act to appoint David Buchler and Jo Milner as administrators of the company on 8 November 2022.
4.3 On 16 November 2022, pursuant to the administration order of Mr Justice Michael Green (Administration Order), David Buchler and Joanne Milner, were appointed as joint administrators of CLA (Joint Administrators).
4.4 At the hearing of the administration application the Judge noted that the closure of the CLA Account would not lead to funds being divested from the account but it would lead to a cessation of activity on the account because the Bank would cease to administer it. Indeed, Mr Al-Attar, Counsel of South Square Chambers, showed the Judge the closure notice from the Bank which shows the Bank appeared to want to transfer the monies sitting in that account, but there was no account to which those funds could be transferred.
4.5 As set out in the judgement of Mr Justice Michael Green, because CargoLogicAir was subject to Sanctions, it was highly unlikely that any commercial bank would be willing to do business with the Company, at least whilst it was not in administration. Further, due to the difficulties that CargoLogicAir was facing with its Bank, CargoLogicAir would have had no operational bank account and would have been immediately unable to pay its debts as they fell due if the Bank were to cease to allow access to the CLA Account, even though CargoLogicAir may well have been balance sheet solvent as a result of its assets. It was therefore clear that CargoLogicAir was unable to pay its debts and was therefore cash flow insolvent at the time the Administration Order was granted. Therefore, the Administration Order was the only way in which CargoLogicAir could avoid a disorderly wind-down and to realise value for its creditors.
Key considerations pre-appointment
4.6 Pursuant to paragraph 5 of Schedule B1 of the Act, an administrator is an officer of the Court (whether appointed by the Court or in the out-of-Court process) and only a regulated, licenced professional may take an appointment as an office holder. An administrator is a person or persons appointed under Schedule B1 of the Act to manage the company’s affairs, business and property of the company in administration.
4.7 Generally, administrators seek to act without personal liability. However, the conduct of the administrators can be scrutinised by creditors of the company to which they are appointed and where there is wrongdoing on the part of an administrators (including any breach of their duties), administrators can be held personally liable.
4.8 Prior to taking an appointment as an office holder of a company subject to asset-freezing provisions, substantial work is therefore required by the proposed office holders in order to ensure that the office holder:
(a) operates in compliance at all times with the Sanctions regime;
(b) is able to discharge their statutory duties; and
(c) is able to and appropriate authorised to deal with the company’s assets.
4.9 When assessing the situation CargoLogicAir found itself in, and in anticipation of their appointment as administrators of CargoLogicAir (the hearing for which would be heard in Court on 16 November 2022), David Buchler and Joanne Milner considered that:
(a) early engagement and an open dialogue with OFSI would be imperative to an orderly administration of CargoLogicAir;
(b) early engagement with key stakeholders (both internal and external) would be key to securing the best outcome for creditors as a whole, including engagement with the relevant competent regulator for airlines in the UK (the Civil Aviation Authority (“CAA”) and, of course, CargoLogicAir’s employees;
(c) the proposed administrators would need to engage with alternative banking providers to seek to transfer and gain access to CargoLogicAir’s funds currently held in the CLA Account as soon as possible post-appointment; and
(d) the proposed administrators would need to quickly assess whether there was a possibility that, by virtue of being officers of the Court once appointed and subject to being granted the relevant OFSI authorisation to deal with the company’s assets, the company could be rescued as a going concern.
Early OFSI engagement
4.10 First and foremost, the proposed administrators required their own specific OFSI licence (“Administration Licence”, together with the Basic Needs Licence the “OFSI Licences”).
4.11 In making the application to OFSI, and in order to be in a position to operate as efficiently as possible on appointment and in the best interests of creditors as a whole, the proposed administrators needed to provide OFSI with detailed information, setting out the likely costs of administration in multiple scenarios with the consideration of meeting the purpose of administration at the forefront of the proposed administrators’ minds.
4.12 The proposed administrators worked closely with OFSI to provide a detailed breakdown of the likely scenarios that could materialise in achieving the purpose of administration, as well as likely costs of each scenario (including detail such as the identity and charge out rate of relevant team members and legal advisors), the creditor position and anticipated realisations (“BP OFSI Plan”). Once submitted, OFSI would then conduct detailed due diligence of the BP OFSI Plan, in order to grant the Administration Licence.
4.13 CargoLogicAir was also required to apply to OFSI for an extension of its Basic Needs Licence as, at the time of the appointment of the Joint Administrators, this was due to expire on 1 January 2023. An application for an extension, including an extension to the value threshold to which CargoLogicAir was permitted to make payments (in line with the proposed administrators plan), was also submitted on 8 November 2022 in order to try to mitigate any difficulties that could be faced if the Basic Needs Licence expired.
Early engagement with key stakeholders
The CAA – preserving value for a potential sale
4.14 Pursuant to the relevant regulations in English law, an air carrier must only operate in accordance with the terms of its air operator certificate (“AOC”), which is granted by the CAA as the competent authority in the UK. In order to maintain its AOC, an air carrier must at all times have access to an aircraft.
4.15 An AOC can be extremely valuable given requirements that any company would need to meet when applying.
4.16 The relevant regulations permit the CAA to provisionally suspend, revoke or vary an AOC, which it can do once an airline enters insolvency. Revocation of an AOC is a terminal decision and so the proposed administrators, on appointment, would need to engage with the CAA to ensure try to preserve the value of CargoLogicAir’s AOC to the extent possible for the benefit of creditors.
4.17 Given the purported termination of the Leased Aircraft by the relevant lessors, and the possibility that the early dialogue with the CAA would be integral to the proposed administrators maintaining the possibility of achieving a sale of the business as a going concern once in office (subject of course to OFSI approval of the same).
4.18 CargoLogicAir and the proposed administrators therefore worked together to maintain an open and honest dialogue with the CAA, informing the CAA of the application for the appointment of the proposed administrators and the company’s financial circumstances, in order to try to preserve value in CargoLogicAir’s business for the creditors as a whole once the company entered administration.
The Employees
4.19 Working closely with the sole director and the CargoLogicAir management team, the proposed administrators worked hard to establish whether it would be feasible and in the interests of the creditors as a whole (as well as the individual employees) to maintain a full workforce post-appointment. CargoLogicAir had over 100 employees prior to the Sanctions coming into effect, which ranges from office staff to pilots, technical engineers and the management team.
4.20 In light of the Sanctions, and impact on the Bank’s ability to process transactions, most employees had not been paid their salaries for two months as at the date of the Administration Order. Given the uncertainty surrounding whether a sale of the business would be possible, the proposed administrators identified a core team of employees that would be necessary to retain on appointment in order to ensure an orderly administration process, but also to ensure that value was preserved in CargoLogicAir for creditors as a whole whether a sale be possible or not.
4.21 On this basis, CargoLogicAir commenced the statutory consultation period for redundancies for those employees that would not be retained in order to provide the employees with certainty going forward and enable them to secure alternative employment.
Access to the CLA Account
4.22 There are currently no provisions in UK legislation for companies with UBOs subject to Sanctions (i.e. where the company is not directly sanctioned) to enjoy any sort of exemption or partial relief from the Sanctions regime. As a consequence, banks, necessarily, treat such a company in the same way as any other entity impacted by sanctions, despite:
(a) insolvency practitioners being regulated and licensed professionals, and in the case of CLA’s administrators, officers of the court having been appointed by the court having considered evidence of the specific impact of sanctions of that entity;
(b) any payments authorised by the administrators needing to be pre-approved by OFSI;
(c) administrators being personally liable for any infringement of the Sanctions regime and consequently being fully incentivised to fully adhere it.
4.23 It was clear from the delays in processing payments caused by sanctions prior to the application for administration, and the Bank’s intentions to close the CLA Account at the end of November 2022, that the existing CLA Account would not be a feasible option to facilitate an orderly administration of the company.
4.24 Despite multiple efforts in the intervening period before the administration hearing, the proposed administrators were not able to identify a UK based, FCA registered bank that would be willing to set up a new account for CargoLogicAir on their appointment due to the Sanctions. The proposed administrators therefore reached out to the Insolvency Service in respect of the Insolvency Service Account (“ISA”), which office holders must, as a matter of law, use for companies in compulsory liquidation (albeit there is no equivalent requirement in administration). In consideration of the circumstances, and subject to Court approval and the OFSI authorisation, the Insolvency Service provided CargoLogicAir with the ISA account details and the appropriate wording necessary to be included in the draft administration order.
4.25 The Administration Order also granted the Joint Administrators permission to utilise the ISA for the purpose of receiving CargoLogicAir’s funds in the CLA Account and “operational banking, including utilising basic banking functions such as receiving payments in and making payments from the ISA”. The Joint Administrators hoped that the Insolvency Service and the bank which the ISA holds its account with, would take comfort from the fact that the Joint Administrators would act at all times in accordance with their duties as officers of the Court and only in accordance with the relevant OFSI licences when granted. However, at the time of writing the approval of the ISA’s bankers has still not been granted and the issue remains unresolved.
5 Navigation of Sanctions Post-Appointment
5.1 Immediately post-appointment, and as ever as a court appointed office holder acting in accordance with their statutory duties, it was important to:
(a) communicate the appointment with key stakeholders;
(b) obtain access to the funds in the CLA Account;
(c) assess in more detail CargoLogicAir’s assets (both contingent and actual), liabilities and its creditor position; and
(d) engage with the retained employees to ensure an effective understanding of CargoLogicAir’s business.
OFSI Licences
5.2 OFSI granted the Administration Licence and the updated Basic Needs Licence on 6 February 2023.
5.3 One of the regulatory requirements under the OFSI Licences is maintaining the open dialogue, through relevant reporting requirements, with OFSI while discharging their duties as Joint Administrators. The Joint Administrators therefore must report regularly to OFSI with any material updates, as well as providing OFSI with copies of their proposals and administrations reports to creditors so that OFSI remain well-informed of the Joint Administrators compliance with the Sanctions regime.
5.4 Since their appointment and in consideration of the ongoing impact of the Sanctions on CargoLogicAir, the Joint Administrators have determined that achieving a sale of the business and assets of the Company is unlikely.
5.5 Instead, the strategy of the Joint Administrators has shifted to achieving a better result for CargoLogicAir’s creditors as a whole with a key focus being on ensuring the employees can be paid as soon as possible.
Access to the CLA Account Post-Administration
5.6 The Joint Administrators promptly notified the Bank of their appointment, informing the Bank of the permission granted in the Administration Order to enable use of the ISA and the Joint Administrators’ intention to transfer the funds in the CLA Account. Since the OFSI Licences were granted, the Joint Administrators have been working tirelessly to liaise with the Bank and the Insolvency Service (as well as the Insolvency Service’s bankers) to ensure that everything is in place to effect the transfer of the balance of the CLA Account.
5.7 However, in light of the Sanctions and UK clearing banks’ low appetite for risk in the current climate, as well as the complexities of a bank operating a “frozen” account, the Joint Administrators may yet face a number of hurdles before being able to access CargoLogicAir’s funds and be able to pay creditors (including employees who have been without payment for some five months).
Access to Premises, Books and Records
5.8 Obtaining access to CargoLogicAir’s books and records would be paramount to the Joint Administrators conducting an effective administration process.
5.9 CargoLogicAir leased its premises via a sub-lease from a company (“VD”) which was also ultimately beneficially owned by the Parent Majority Shareholder, and therefore also subject to Sanctions.
5.10 Within the first week of their appointment, the Joint Administrators received notice from the head landlord, that the landlord had re-entered the premises under VD’s lease. The Joint Administrators had to act quickly to negotiate access with the landlord and were able to obtain the few books and records (and minimal physical items) that were stored at the premises.
5.11 However, notwithstanding the Joint Administrators were able to recover the physical books and records, the majority of CargoLogicAir’s books and records were stored on online databases and within IT systems, which presented a different hurdle for the Joint Administrators as the Company had lost access to some of the services provided as a result of the Sanctions, including Microsoft Outlook (which had been blocked since 18 July 2022) and key databases housing both the technical records for the aircraft and the record of CargoLogicAir’s stock, parts and tooling.
5.12 The Joint Administrators have been in regular contact with the relevant IT providers in an effort to obtain access to CargoLogicAir’s books, emails and records.
5.13 Without the ability to pay IT providers given the lack of access to the funds in the CLA Account, and with multiple stakeholders at play across a number of jurisdictions, it is unknown and outside of the Joint Administrators control as to when they might be granted access to CargoLogicAir’s books and records.
5.14 In the meantime, the Joint Administrators have been doing as much as possible in accordance with their duties and in compliance with the OFSI Licences, with the help of the retained employees and the Joint Administrators’ legal advisors in order to preserve CargoLogicAir’s known assets.
Recovery of Deposits and Other Assets
5.15 As set out above, CargoLogicAir’s records will be key to unlocking certain assets of the company and to allowing the Joint Administrators to realise these for value.
5.16 One of the immediate issues faced by the Joint Administrators was the potential recovery of significant security deposits for the Leased Aircraft. CargoLogicAir had issued a claim against one of the aircraft lessors seeking to recover CargoLogicAir’s security deposit following the lessor’s purported termination of the aircraft lease. The claim remains live at the date of writing, however the Joint Administrators, in compliance with their statutory duties, must first assess its merits prior to taking any decision to pursue the claim. Without access to the relevant books and records of the Company (which in large part is reliant on accessing the CLA Account), the Joint Administrators are not in a position to assess the merits of the claim nor could they sign any statement of truth for any evidence to be filed in support of the claim, if and when required to do so.
5.17 The Joint Administrators are also therefore not yet in a position to engage meaningfully with after-the-event (“ATE”) insurers as to the merits of the claim or protection should any order for adverse costs be made against CargoLogicAir. They are also not in a position to pay any ATE insurance premium given the lack of access to the funds in the CLA Account.
5.18 The Joint Administrators are also seeking to make recoveries in respect of some outstanding book debts due to the Company and also seek a potential recovery in relation to Corporation Tax paid by the Company. Until full access is received to the Company’s books and records it is not possible to progress these recoveries at all.
Once the Joint Administrators are able to establish an operational bank account, they will also be able to commence realising other known assets in the estate for value, such as stock, parts and tooling.
Other Key Legal Issues
5.19 Other key legal issues that the Joint Administrators of CargoLogicAir have been faced with include:
(a) pursuing intercompany debtors, such as VD, which are subject to various sanction regimes and registered outside the UK, with the debts disputed; and
(b) consideration of certain contractual clauses regarding liquidation.
6 Summary
6.1 As set out above, navigating Sanctions in the context of an administration is no easy feat. The statutory duties that the Joint Administrators must adhere to as officers of the Court, combined with Sanctions regime compliance and additional reporting mean that any insolvency practitioner considering an appointment should take professional and specialist legal advice before doing so. Further, it would be prudent for an insolvency professional considering appointment to ensure that they diligently understand the context of the relevant company’s situation as to the possible effect that Sanctions may have on achieving the purposes of administration.
6.2 It is anticipated, based on the quantum of cash in the CLA Account, that there may be a surplus in CargoLogicAir’s estate. However, if this is the case it will present its own legal issues to navigate when it comes to a distribution and potential dividend due to the Parent, whose sole director is the Parent Majority Shareholder and is also, to the knowledge of the Joint Administrators, without the benefit of an OFSI licence.
7 Key Take-Aways
7.1 Pre-appointment:
(a) Ensure that the company and the proposed office holder have taken professional, specialist legal advice from a law firm with the capability to advise on all relevant aspects of the situation. Navigating Sanctions in administration is complex and would not be helped by having multiple firms and/or legal advisors involved;
(b) Engage openly and as early as possibly with OFSI and key stakeholders, including relevant regulators and the company’s bank; and
(c) Gain as much understanding of the company and/or business and its structure, assets (both contingent and actual), liabilities and creditor position as possible prior to appointment.
7.2 Post-Appointment:
(a) Maintain open and ongoing dialogue with OFSI, including in accordance with relevant reporting requirements;
(b) Try to get on the front-foot with essential suppliers and key stakeholders to mitigate any potential delays or gaps in the company’s records that may fetter the office holder’s ability to operate; and
(c) Sanctions can cause a domino effect of other inter-related issues, meaning time is of the essence and where delays occur outside of the office holder’s control this can result in increased unexpected costs and an inability to operate in the ordinary course – communication with creditors is key.