January 2007 Issue No. 61

Welcome to the January 2007 edition of
Business Leasing and Finance News
formerly Business Leasing News

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FOUNDER'S NOTE
By David G. Mayer

THIS ISSUE BEGINS THE 6TH YEAR OF MONTHLY PUBLICATION OF BUSINESS LEASING AND FINANCE NEWS (BLFN), FORMERLY KNOWN AS BUSINESS LEASING NEWS (BLN).

Thank you for reading BLFN.

The change of name from BLN to BLFN is effective with this edition. The change reflects the future of leasing and emphasizes the originally-stated mission of BLN of “offering you leasing and financing strategies for your success.” BLFN will place even more focus on providing useful information, trends and insights, coupled with the usual warnings, tips and commentary. You will also see friends and clients of Patton Boggs LLP writing or editing articles for BLFN. This joint effort distinguishes this newsletter from others, helps us understand your business and enhances the quality of our articles. My basic premise is this: If the material does not help you make money or stay out of harm’s way in business, we will not write it.

I believe the future of leasing and finance of capital assets is bright, but challenged. Regulatory, accounting and economic forces have altered leasing forever from its origins 30 or even five years ago. As Jeff Taylor said in his book, The Future of Equipment Leasing (at page 90): “Equipment leasing volume in the U.S. has been steadily declining since 1999 when the dot com boom hit the market. Ironically, volume in Europe, emerging Europe and Asia continue[s] to rise.”

In its Top Ten Economic Predictions For 2007, Global Insight observes: “GDP growth has decelerated in the United States, but has—so far—remained strong in most other parts of the world and accelerated in some others, notably the Eurozone.” Opportunity abounds outside of the U.S., especially in China and India, where the economies will run just shy of red hot in 2007. BLFN will provide articles to assist you in doing international and cross-border deals.

BLFN will, of course, continue to address equipment leasing issues, but increasingly will focus on asset-based financing of a wide range of assets, including transportation assets (such as aircraft and vehicles), technology, infrastructure, electric and natural gas power facilities and more. 

This month, BLFN introduces “BLFN's Finance 101,” modeled after the very popular “BLN’s Leasing 101,” which will also appear periodically as “BLFN's Leasing 101.” The new segment will cover finance topics outside of true leasing. We also introduce “BLFN At a Glance,” which will briefly summarize the current BLFN edition and identify common themes or issues in the edition.

This year will be a year of dynamic change. Join us and help us grow and continue to learn from you. Thanks again for reading BLFN. Feel free to contact me, David G. Mayer, by telephone at (214) 758-1545 or e-mail at dmayer@pattonboggs.com to discuss BLFN’s topics or other issues in your day. 

Happy New Year! 

1. As Managed Services Expand, Financiers Fund CAPEX  

Managed services may offer an answer to intensely competitive forces in companies demanding the best practices in technology at the lowest cost. Leasing and financing companies can provide unique financing structures to a managed services provider (MSP), which in turn delivers managed services to its customer under a service agreement (SA). An SA may be supplemented by a service level agreement (SLA), which delineates the technical specification of the services. The financing enables the MSPs to acquire equipment and software required to service their customers. It also enables the MSP to monetize all or a portion of the fees paid by their service agreement customers.

The managed services function is expected to draw billions of dollars in fees during the next decade. It will require large amounts of capital for equipment and software to meet the requirements under customized service agreements. Traditionally, the leasing industry has provided equipment leasing and lending products for technology equipment and software directly to the end-user. But the trend in managed services requires different and more complex capital structures other than leasing as the primary financing solution for these customers that must reduce operating and capital expenditures (CAPEX) but still maintain leading-edge capabilities in a wide array of technology functions.

What Managed Services Is and Is Not

The term “managed services” has been characterized as a more recent derivation of “outsourcing” even though the concept has been around for well over a decade in the telecommunications and data communications industries. See BLFN’s Finance 101: “What is Managed Services”? Managed services refer to a wide variety of services ranging from help desk support, remote and onsite management, to large data center operations management, consulting, on-site technical assistance, and even project management. See The Managed Services Conundrum, De-Mystifying Conferencing Managed Services, By Wainhouse Resources and Applied Global Technologies (2004). By contrast, Motorola explains that “[t]he word outsourcing is an emotive word that is frequently misused to describe what is often a straightforward service delivered by a third party.” See Managed Services and Outsourcing White Paper, Motorola (May 2004).

The Business Case for Managed Services

Many industries can and do use managed services to meet their needs in a wide array of applications, including the following:

Industry	Application
Financial Services	Risk and portfolio analysis
Energy	Reservoir simulations, seismic processing
Entertainment/Media	Content creation, animation, rendering, digital asset management
Manufacturing	Computational fluid dynamics, crash-test simulations, aerodynamics modeling
Government/Education	Medical imaging, bio informatics, drug discovery simulations, protein folding, genomics research
Office Services	Bill and collect, backup storage, peak computing

One recent market analysis report entitled Managed Services in an IP World: New Opportunities for Wireless and Wired Networks 2006-2011 describes the huge potential growth of this market:

The U.S. managed services market will grow at a compounded rate of 22 percent over the next five years due to growth in all segments of the managed services value chain, according to a new market study from Insight Research. In today’s sophisticated communications environment, it is the managed service providers that are in the best position to assist the enterprise customer as the promise of new IP capabilities greatly increases management complexity. Thus, revenues associated with the managed services market will grow from $34 billion in 2006 to nearly $94 billion in 2011.

See also As Enterprise Network Complexity Rises, Outsourcing to a Managed Service Provider Increases Savings, Says Insight Research, Press Release (Feb. 24, 2006).

The competitive imperatives for business organizations require that they reduce costs, improve return on assets, enable rapid access to leading technology, transfer risk to MSPs, optimize data center capacity resources and establish accountability for results. To compete effectively, businesses must concurrently meet technology challenges that include balancing multiple projects with different schedules and milestones, managing seasonal growth in data management and transactions requiring increasingly larger, more complex designs while at the same time increasing throughput, and developing more and faster computing resources with available in-house IT expertise.

MSPs benefit from obtaining financing of equipment and software as well as monetizing the customer’s payment stream from a profitable SA. The benefits include:

• Revenue recognition for sales of equipment and services
  

• Profitable recurring revenue – absent sale treatment
  

• Customized financing and billing plans – not a fixed leasing obligation
  

• Cash flow management – payment tied to customer payments
  

• Risk transfer relating to return of equipment when the SA ends
  

• Use of customer’s credit strength to obtain no or limited recourse debt

Legal Structures to Finance Managed Services

Legal structures for financing managed services arrangements resemble a blend of syndications of leases, services/consulting agreements and project financing. Negotiations of agreements may be lengthy, novel and complex. Typical rights from leasing, such as the hell and high water obligation to pay rent, may or may not be feasible in the documentation. Financing organizations tend to fund fixed payment streams only even though SA customers may make substantial variable payments under their SAs. Financing entities usually require funds be used first to pay the MSP’s obligations regardless of the fixed or variable nature of the payment.

To make financing attractive to a MSP, the financing organization can assume certain payment risk of the SA customer and make appropriate risk adjustments in its yields to reflect specialized financing structures. In effect, the MSP and its financier can create a partial or full recourse transaction depending on the quality of the credit of the customer and of the terms of its SA.

*Tip: It is useful, if not imperative, for the financing organization to get involved during negotiations of the SA so that the MSP fully considers the needs of the financing transaction to optimize the amount and value of the financing.

If a typical financing of a managed services transaction exists, and it probably does not exist yet, it should include three parties: a financing entity, the MSP and the SA customer. This tri-party approach makes the deal transparent to the SA customer who then consents to the financing arrangement with its MSP.

In other words, a MSP enters into an SA with a customer (like a lease), which pays fees that may be fixed and/or variable (like basic rent and variable rent). Fees often arise out of a “pay as you go” approach on computing and other services. They often require a fixed payment to the MSP in respect of the risk the MSP takes to provide the equipment and software to, and to initiate the managed services for, the customer. The financing entity or leasing company finances the equipment and software used by the MSP to provide its services and buys or finances the cash flow stream from the SA customer in respect of the services provided by the MSP (like a sale of a lease receivable). To control funds, the financier may require that SA customers pay all fees to a lock box set up for the financier.

Accounting Issues in Managed Services Financing

Current accounting projects may result in drastic limitations on off-balance sheet leasing. See FASB Takes Aim at Off-Balance Sheet Leasing, By David G. Mayer, Business Leasing News (July 2006). The anticipated changes seem to be creating a significant impetus for companies to use other types of financing than leasing and managed services to keep technology assets off their balance sheets.

Off-balance sheet issues primarily arise under Financial Statement of Accounting Standards (FAS) No. 13 (Accounting For Leases), as modified numerous times over its nearly 30 years of existence. However, all accounting issues must be examined closely in structuring the SAs and the financing agreements relating to managed services.

Several other accounting and other regulatory pronouncements affect these transactions including FAS No. 140, Emerging Issues Task Force (EITF) Issue No. 00-21 (Revenue Arrangements with Multiple Deliveries); SEC Staff Accounting Bulletin 104 (Revenue Recognition) and AICPA Statement of Position (SOP) 97-2 (Software Revenue Recognition). EITF 01 08 (Determining Whether an Arrangement Contains a Lease) provides guidance on how to determine whether an arrangement contains a lease that is within the scope of FAS No. 13. The guidance in EITF 01 08 is based on whether the arrangement conveys to the purchaser (lessee) the right to use a specific asset. As a result, even managed services agreements remain subject to scrutiny and recharacterization to leases subject to FAS No. 13, with potential changes in balance sheet treatment. For text of the above, see FASB Guidance.

*Tip: Find accountants who can demonstrate a clear understanding of these pronouncements, including their updates, in the context of managed services. The typical answers for leasing will not suffice. Require further analysis of the true nature of the transaction. Expect savvy financiers to try to imbed leases in managed services agreements regardless of the labels.

Financing Managed Services – Is Leasing Out?

Large business expenditures and imperatives create a need to provide financing to MSPs for equipment and software to meet their contractual obligations under SAs. Captive financing and leasing organizations of MSPs and manufacturers already finance the assets used in managed services. Other financing and leasing companies can join the fray and begin to seize upon the developing financing opportunities.

*Insight Point: MSPs generally do not mention leasing equipment or financing software in negotiations or documents. They want to keep assets and obligations off balance sheets whenever feasible. With off-balance sheet leasing on the wane (potentially), MSPs do not perceive leasing as the best way to meet their objectives. Perhaps more importantly, their SA customers do not want long-term commitments to assets for SAs that may be short-lived. They want ultimate flexibility, to pay as they go. In short, leasing is often shunned by MSP and SA customers in the context of managed services.

Five Critical Elements of Financing Managed Services

Five critical components should coincide to make the financing of SAs work:

First, after substantial financier due diligence, the MSP must prove creditworthy, experienced and reputable with well documented, tested and reliable processes and quality controls.

Second, after a thorough credit analysis, the customer must be capable of meeting all SA payment obligations on a timely basis.

Third, the financing of the MSP must involve multiple pieces of mission critical equipment.

Fourth, the SA customer must be required to make substantial fixed payments that create a dependable stream of revenues that a financing organization can identify and discount.

Fifth, the financing entity must adapt to new financing structures and terminology, but, when feasible, incorporate basic legal protections under Article 2A of the Uniform Commercial Code, state laws on true leasing and the federal and state tax laws pertaining to leases. Although the words differ from leasing in managed services transactions, it is still possible to obtain some of the legal rights if the financier properly structures the transaction.

*Warning: Financing of managed services is novel. Few people know how to complete these transactions, especially when cash flow may be fixed and/or variable. As a financing source, you should proceed with caution in financing variable cash flows until the SA customer establishes its historical usage and reliance on the MSP under a quality SA. Consider financing the fixed payments only when they justify your transaction costs. Because this area is new, do not use standard legal resources; look for legal support that combines knowledge on technology, human resources, accounting, leasing and technology to avoid missing key legal issues.

Managed services and financing of managed services may eschew leasing. However, the need for superior managed services instead of exclusive use of inside personnel to perform a vast array of technology functions is expected to grow by leaps and bounds over the next few years. Leasing companies have typically been able to find innovative ways to provide capital for equipment and other assets. The era of financing managed services could well be a lucrative time for them to work their magic again.

Thanks to , Director of Sun Microsystems Global Financial Services, and to , Vice President of National City Commercial Capital, for their insights, editing and contributions to this article.

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2. Vehicle Lessors Beware: Vicarious Liability Is Back

Some experts predict lease financing will grow from about 20 percent of vehicle deliveries to about 25 percent and even higher in 2007. Fleet sales and management of light trucks and cars also show promise for growth in 2007. However, these opportunities could suffer a set back if lessors encounter a new wave of vicarious liability suits as a result of a recent New York court ruling. See Remember that Leasing Thing?, Ward’s Dealer Business (Dec. 2006); See Step on It, By Jill Amadio at 37 (Dec. 2006) and Take a Load Off, Entrepreneur at 40 (Dec. 2006). Leasing 101: What is "Vicarious Liability”?, Business Leasing News (May 2003).

Vicarious Liability: Big Exposure for Passive Lessors

In 2003, several vehicle lessors stopped providing vehicle leasing to would-be customers because of potential vicarious liability. The question now is: Will the new ruling cause more leasing companies to pull out of vehicle leasing and snuff out the expansion of fleet management due to revived vicarious liability risk?

*Term to Know: Vicarious liability is a well-established legal doctrine that imposes liability of an owner of an asset, such as a vehicle, for the negligence of the operator of the asset. Often seen in the context of automobile leasing, vicarious liability rests on a public policy that third parties should be protected by an owner for the wrongful acts of an operator of an asset who cannot pay for the harm he or she causes. Vicarious liability can arise for a lessor without any fault or negligence on its part, solely as result of being the registered and/or titled owner of a leased motor vehicle. See Motor Vehicle Leasing and Vicarious Liability—An Update for Lessors, by Teresa Davidson, ELT Magazine at 8 (May 2006).

Graves Act: Federal Preemption of Vicarious Liability

Congress took note of the trend of leasing companies exiting the vehicle leasing products due to vicarious liability concerns when it enacted the "Graves Act," 49 U.S.C. §30106 (Aug. 10, 2005; P.L. 109-59) protecting lessors from vicarious liability. The Graves Act provides in part:

Sec. 30106. Rented or leased motor vehicle safety and responsibility.

(a) In General – An owner of a motor vehicle that rents or leases the vehicle to a person (or an affiliate of the owner) shall not be liable under the law of any state or political subdivision thereof, by reason of being the owner of the vehicle (or an affiliate of the owner), for harm to persons or property that results or arises out of the use, operation, or possession of the vehicle during the period of the rental or lease, if – (1) the owner (or an affiliate of the owner) is engaged in the trade or business of renting or leasing motor vehicles; and (2) there is no negligence or criminal wrongdoing on the part of the owner (or an affiliate of the owner).

As of 2005, lessors could apparently rest easy on vicarious liability exposure as the Graves Act preempted conflicting state law under Article VI of the U.S. Constitution, which makes federal law the supreme law of the land. See Infante v U-Haul Co. of Fla., 2006 NYSlipOp 26020 (Jan. 18, 2006).

*Warning: Although not quoted above, the Graves Act also requires compliance with state financial responsibility laws, puncturing total immunity from liability.

State Statutes: At Odds with Graves Act

As a result, state statutes such as New York’s Vehicle and Traffic Law § 388 should have been rendered ineffective. That statute reads in relevant part:

"§ 388. Negligence in use or operation of vehicle attributable to owner.

"1. Every owner of a vehicle used or operated in this state shall be liable and responsible for death or injuries to person or property resulting from negligence in the use or operation of such vehicle, in the business of such owner or otherwise, by any person using or operating the same with the permission, express or implied, of such owner."

A Queens County court in New York supported the effect of the statute in the Infante case

Federal Law Not So Supreme: Graham v. Dunkley Case

Another lower court judge in the same county had a different idea. In Graham v. Dunkley, 2006 NYSlipOp 26358 (Sup.Ct., Queens Co., Sept. 11, 2006), a car lessor moved to dismiss a complaint on the basis of the Graves Act. The trial court denied the motion and held that “Vehicle and Traffic Law § 388 is a legislative act within the New York State Legislature's inherent authority pursuant to the United States Constitution Tenth Amendment, and that 49 USC § 30106 is an unconstitutional exercise of congressional authority under the Commerce Clause (US Const, art I, § 8 [3]).”

In reaching its conclusion, the court states:

This court cannot conclude that Vehicle and Traffic Law § 388 has a substantial effect on interstate commerce or that there is a rational basis for 49 USC § 30106. To find that a rational basis for 49 USC § 30106 exists by reasoning that the insurance industry and the car rental industry are required to compensate individuals injured by cars they have put on roads in New York subverts the inherent authority of the New York State Legislature to legislate according to the collective will of its citizens, and it abrogates a long-standing substantive law of torts in New York State.

As one insurance observer explained:

According to the court, Congress had no power to legislate as it did because there is no reason to believe New York's prior rule of vicarious liability had any significant impact on interstate commerce. (Try telling that to anyone in the car leasing business!) The reality is that our Commerce Clause jurisprudence has been so politicized and outcome-driven for decades that it is now easy for a court to cherry-pick precedential support for just about any position. See Insurance Coverage News (Dec. 2006).

*Tip: As a lessor, if you encounter a vicarious liability or have exposure in your state to claims:

• Try to keep a lawsuit in, or remove lawsuit to, federal court where the court may give greater judicial deference to the Graves Act (that is, confirm it as the controlling law);

• Review all your evidence of insurance and actual insurance coverage existing and future vehicle transactions to confirm that you have insurance for vicarious liability claims;

• Study your local statutes, and ask your counsel to assist you in strengthening your lease indemnities to protect you against vicarious liability because that clause may then enable you to trigger liability coverage from your lessee or user to protect you.

Conclusion

A New York court, in its lengthy, if not well-reasoned opinion, in Graham v. Dunkley, has put the Graves Act in play. Courts throughout the U.S. now can take a whack at vehicle lessors based on their local vicarious liability statutes and Graham’s reasoning.

What the Graham case really suggests is that vicarious liability never really went away; it has just laid in repose, waiting for a court to wake it up. The Graham case has been appealed and decided by Justice Carolyn Geller in the Supreme Court, Queens County, New York, denying the motion to re-argue and dismissing the case (2006 NYSlipOp 26358). A further appeal is expected. Only the ultimate outcome of the case will tell us whether vicarious liability exposure is, once again, here to stay or the case was just a passing assault on the Commerce and Supremacy Clauses of the U.S. Constitution.

Thanks to Teresa Davidson, General Counsel, Volvo Financial Services North America, for providing information and insights for this article.

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3. Case & Comment: True Lessor Aviation Liability - Coleman v. Windham Aviation, Inc.

The decision in Coleman v. Windham Aviation, Inc., C.A. No. K.C. 2004-0985, 2005 WL 1793907 (Rhode Island Superior Court) potentially subjects true lessors of aircraft to tort liability from aircraft accidents or injury. This case poses this risk by its interpretation of protections supposedly afforded by 49 U.S.C. §44112, which Congress designed to encourage aircraft financing, but may, instead, fail its mission for true lessors. See Coleman Immunity Ruling (Oct. 2006).

BACKGROUND: The Coleman case involved a collision in 2003 of a Piper aircraft piloted by Kay. Kay rented the aircraft from Windham Aviation. In a tragic landing accident, the Piper collided with a Cessna 180 operated by Coleman and Lebel. Coleman and Lebel were killed; Kay survived. Coleman's wife sued Windham, alleging vicarious liability for Kay's negligence. Windham argued that as owner and lessor, it is not liable because Section 44112 exempts owners, lessors of 30 days or more, and security interest holders from such liability.

Windham won, right? Wrong. The language of this limitation of liability section was changed as part of the 1994 recodification of the Federal Aviation Act. The court correctly looked behind the recodified language in Section 44112 to the language in the original Section 1404, because Congress did not intend the recodification to have any substantive effect.

ISSUE: Is a true lessor protected by Section 44112 from liability arising out of the rental or lease of an aircraft?

OUTCOME: No. The court read the previous version of Section 44112 to cover only those owners and lessors who hold interests through security instruments. Unfortunately in this case, Windham constituted a true owner and lessor, and by definition and structure, did not hold a security interest contemplated by Section 44112 as construed by the court.

*Term to Know: A “true lease” generally refers to a lease transaction under Article 2A of the Uniform Commercial Code (UCC). It is a lease transaction that is not a disguised “security interest” under Section 1-201(37) of the UCC. Section 2A-103(1)(j) defines a lease as a transfer of the right to possession and use of goods for a term in return for consideration, but a sale, including a sale on approval or a sale or return, or retention or creation of a security interest is not a lease. See True Leases Under Attack: Lessors Face Persistent Challenges to True Lease Transactions, By David G. Mayer, Journal of Equipment Lease Financing (Oct. 2005). It is important to realize that the definitions used by state and federal law vary and may impact a court’s judgment in a case like Coleman. In Coleman, federal law controlled, not Article 2A.

LAW OF THE CASE: The court noted that the purpose of Section 44112 was to encourage the financing of private aircraft. But Congress only intended to facilitate the financing of private aircraft by exempting owners and lessors holding a security interest in an aircraft from liability for negligent operation of that aircraft.

Here are the versions of the statute:

Section 44112. Limitation of liability. (a) DEFINITIONS. – In this section – (1) "lessor" means a person leasing for at least 30 days a civil aircraft, aircraft engine, or propeller. (2) "owner" means a person that owns a civil aircraft, aircraft engine, or propeller. (3) "secured party" means a person having a security interest in, or security title to, a civil aircraft, aircraft engine, or propeller under a conditional sales contract, equipment trust contract, chattel or corporate mortgage, or similar instrument. (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 and 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.

Former Section 1404. Limitation of security owners' liability. No person having a security interest in, or security title to, any civil aircraft, aircraft engine, or propeller under a contract of conditional sale, equipment trust, chattel or corporate mortgage, or other instrument of similar nature, and no lessor of any such aircraft, aircraft engine, or propeller under a bona fide lease of thirty days or more, shall be liable by reason of such interest or title, or by reason of his interest as lessor or owner of the aircraft, aircraft engine, or propeller so leased, for any injury to or death of persons, or damage to or loss of property, on the surface of the earth (whether on land or water) caused by such aircraft, aircraft engine, or propeller or by the dropping or falling of an object therefrom, unless such aircraft, aircraft engine, or propeller is in the actual possession or control of such person at the time of such injury, death, damage, or loss.

*Comment: Was this case decided correctly? It depends on whether the phrase “any such aircraft” refers to “civil aircraft” or “aircraft subject to a security interest.” The Coleman court opted for the latter construction. Was it fair to the lessor, Windham? Could Windham have prevented the accident? Given the language of Section 44112, Windham would not have had any idea that Section 44112 would not protect its interests. There is no indication that Kay was not qualified or certificated, nor that Windham failed to check Kay's qualifications. A lessor cannot determine how a lessee will handle each flight operation. A true rentor or lessor purchases assets, as a passive investor, and allows other people to use them in exchange for consideration for a period of time. This decision discourages true leasing and, as construed, Section 44112 fails its objective of encouraging financing of aircraft. It spells potential trouble for unsuspecting true lessors who rely on Section 44112. It may require cautious lessors to structure their leases as financing leases (disguised security agreements or loans) even though lessors typically negotiate acceptable risk mitigation through indemnification, maintenance and insurance provisions in their lease documents.

Fortunately, Coleman is not the first or last word on the meaning of Section 44112. At least nine other reported decisions exist, beginning in 1969. The most recent decision, Mangini v. Cessna Aircraft, 2005 WL 3624483 (Conn. Superior Ct.), issued December 7, 2005 (unpublished, however), allows owners without a security interest the protection of the statute. The court assumes lessors are covered. The court found that the original section 1404 was ambiguous as to whether owners were protected, and held that Section 44112 “clarified” the law to protect owners. Three decisions hold or assume that true lessors (without a security interest) are protected: Rosdail v. Western Aviation, Inc. 297 F. Supp. 681 (D. Colo. 1969); Matei v. Cessna Aircraft Co., 35 F.3d 1142 (7^th Circuit 1994); In re Lawrence W. Inlow Accident Litigation, 2001 WL 331625 (S. D. Ind.). Coleman is joined by five other decisions assuming (without deciding) that only a security interest holder is protected by the statute. What should be an additional concern for true lessors is that several of these decisions held that this provision of the Federal Aviation Act did not preempt state tort or bailment law: Storie v. Southfield Leasing, Inc., 90 Mich. App. 612 (Mich. Ct. App. 1979) (held also that section 1404 did not preempt state tort claim for injuries that occurred inside the aircraft and not “upon the surface of the earth”); Retzler v. Pratt and Whitney Company, 309 Ill. App. 3d 906 (Ill Ct. App. 1999); Rogers v. Ray Gardner Flying Service, Inc., 435 F.2d 1389 (5^th Cir. 1970).

*Warning: As a true lessor you should not expect that Section 44112 guarantees you protection from liability for aircraft accidents and other liability-causing events.

Lessors should include contractual provisions to protect their interests. Litigation over accidents can be lengthy and expensive, as the litigation parties found in a suit still continuing in this case against the airport authority, which could not assert immunity from liability.

*Action Point: In 2007, Congress needs to reauthorize several programs of the Federal Aviation Administration. It is an opportune time to make revisions to the Federal Aviation Act. True lessors in banks and independent leasing companies, and perhaps the Equipment Leasing and Finance Association, should consider asking Congress to amend Section 44112 to correct this gap in protecting the interests of lessors who use true leases as an important financial product, as well as clarifying that this provision preempts state tort law. True leases can lower the cost of aircraft financing, which means that lessees with significant lease potential should also support an effort to correct the statutory deficiency.

Thanks to Greg Walden for contributing this article. Greg is a member of the Patton Boggs Aviation Team and of the firm’s Transportation and Infrastructure Group. He is also a co-author of a new case book titled, Aviation Law: Cases and Materials, published by the Carolina Academic Press in 2006. The Coleman case is featured in Chapter 3 at page 240.

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4. Finance 101: What Is “Managed Services”?

The term “Managed Services” has been used to describe a variety of IT services and related technology of a third party service provider in support of a customer’s technology infrastructure. The scope of services may include hardware and software maintenance, security management, remote monitoring and administration, performance and capacity management and related services. Managed services often include remote or on-site system support and management under a services agreement and a service level agreement (SLA). An SLA is a technical contract document that sets forth the agreed quality of the services that an MSP furnishes to a customer, as measured by specified key performance indicators. An SLA may take different names depending on the objectives, strategies or policies of the MSP, but the fundamental purpose is the same – to specify those criteria which the customer and service provider agree are necessary to demonstrate the successful deployment of the service.

The company that provides managed services is called the “managed services provider” or “MSP,” as defined earlier. The MSP works with the customer to furnish the agreed services levels under the SLA and the services agreement. Given the complex IT environment existing in most large corporate data centers, MSPs which engage with corporate customers usually work closely with other IT providers selected by the customer. See Managed Services and Outsourcing White Paper, Motorola (May 2004). See Article 1 above – Five Critical Components of Financing Managed Services.

Dr. Gerard Macioce defines managed services as the practice of transferring day-to-day related management responsibility as a strategic method for improved effective and efficient operations. The person or organization that owns or has direct oversight of the organization or system being managed is referred to as the offeror, client or customer. Typically, the offeror remains accountable for determining the systems and the functionality used in the managed service and does not relinquish the overall management responsibility of the organization or system. In contrast, “outsourcing” typically involves wholesale transfer of the entire IT environment to the service provider. See Wikipedia on Managed Services.

In its Managed Services and Outsourcing White Paper, (May 2004) at page 6, Motorola further differentiates services in this image depicting trends in outsourcing and related areas:

Item 1, “out-tasking,” provides services that enhance a customer’s retained internal computing or storage functions, including its people, equipment and software. In “out-tasking,” customers may choose their operations model and dictate operations, equipment, software and services. MSPs offer services priced on an “as-used” or “pay as you go” basis, with fixed and/or variable fee payments to the MSP. For a detailed discussion of out-tasking and managed services in networking functions, see Cisco Guide to Purchasing Managed Network Services.

Item 2, “outsourcing,” generally means replacing inside staff, equipment and software in favor of using an outside service to perform an entire function for an organization. Traditional outsourcing typically involves long-term (5-7-year) agreements requiring the customer to relinquish control over the selection, location and means of the service infrastructure. Early termination requires payment of a fee to the service provider to offset the service provider’s investment in capital and resources. Because of the perceived inflexibility of outsourcing, MSPs prefer not to refer to themselves as outsourcers. IT providers such as Hewlett Packard Services (HP) suggest that outsourcing simplifies management of IT and facilitates the customer’s overall business strategy.

Item 3, “hosted services,” refers to a type of services that provide computing and storage capacity in a separate physical location from a customer, which the customer accesses online. A hosted facility replaces or supplements a customer’s “infrastructure.” A hosted customer does not choose the hosted operations model, location or type of equipment. It pays for services on replacement or outside cost basis, a “pay as you go” approach. The pricing model is more likely to have a substantial fixed price component and will likely have variable costs payments too.

Any of these forms of services may be delivered and paid for on a “utility computing” basis. Utility computing offers a customer onsite or offsite computing power or storage on a “pay as you go” basis. In the utility computing environment, the MSP generally owns the assets that store or compute data for the customer, thus allowing the customer to avoid capital investment costs, to scale dynamically to meet seasonal increases in demand, and to pass costs of maintaining backup systems to the service provider. See: Leasing 101: “What is Utility Computing”? Business Leasing News (Sept. 2004).

*Technical Point: As defined by IBM Global Services, “Utility computing is the on demand delivery of infrastructure, applications, and business processes in a security-rich, shared, scaleable, and standards-based environment over the Internet for a fee.” See: The utility business model and the future of computing services, IBM Systems Journal, Vol. 43, No. 1, at page 38 (2004).

Sun Microsystems is developing a substantial utility computing program aimed at both individuals and large enterprises. Sun’s consumer and small business program is based on a form of highly networked systems accessible for $1.00 per computer processor per hour. See Sun Network. Sun continues to expand its utility computing offerings for large enterprises as part of a comprehensive managed services program. See Managed Services by Sun At a Glance and Sun Grid Overview.

Although terminology and managed services arrangements may seem confusing or complex, the fundamental idea is simple. Managed services allow customers and MSPs to profit at what they each do best. As Jack Welch put it: “You shouldn’t have something in your back office that exists in someone else’s front office.” See Motorola White Paper at page 7.

Thanks to , Director of Sun Microsystems Global Financial Services, and to , Vice President of National City Commercial Capital, for their insights, editing and contributions to this article.

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About Patton Boggs LLP

Patton Boggs LLP is a law firm of more than 500 professionals located throughout the United States and internationally in Doha, Qatar.

Patton Boggs has major practice areas in Business Transactions, Intellectual Property, Public Policy, and Litigation. These areas are composed of many practice groups designed specifically to meet client needs and the trends in developing legal markets. David G. Mayer often focuses on aviation, power, transportation, infrastructure and technology matters.

The firm provides a broad array of skills in domestic and international business transactions, including equipment finance and leasing, corporate finance, secured transactions, syndications, mezzanine finance, federal leasing, project finance, real estate, health care, pharmaceuticals and technology transactions, and public policy work.

Publications

The following are a sample of recent articles by David G. Mayer:

The USA PATRIOT Act Renewed: Reassessing Money Laundering Risk in Finance Transactions, By Stephen J. McHale and David G. Mayer, LNJ Leasing Newsletter (Two Parts: Nov. & Dec. 2006).

Unique Pad Gas Lease Supports Project Financing and Development of Gas Storage Facility in U.S., By David G. Mayer (with Fortis Capital Corp.), Asset-Based Lending Review, Financier Worldwide (Nov. 2006).

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Thanks to BLFN’s Team

I would like to thank BLFN’s team at Patton Boggs LLP. The team includes J. Atwood Jeter, a senior associate in the firm’s business transactions, real estate, and wind energy groups; the Patton Boggs staff editors, Paul Dumansky and Adrian Nicole McCoy; our Project Manager, Melissa Green; Claire Campbell; and our designer, Winston Jackson. Thanks also to Douglas C. Boggs, a Business Group/Securities partner and web site reviewer for BLFN, and our Marketing Chief, Mary Kimber, for assisting BLFN through our firm’s editing, design, and posting process.

All the best,

David

David G. Mayer
Founder: Business Leasing and Finance News
(formerly Business Leasing News)
Partner: Patton Boggs LLP
2001 Ross Avenue
Suite 3000
Dallas, Texas 75201
(214) 758-1545 (phone)
(214) 758-1550 (fax)

E-Mail: dmayer@pattonboggs.com

© David G. Mayer 2007

The “For Dummies” part of my book, Business Leasing For Dummies (BLFD)®, is a registered trademark of Wiley Publishing, Inc.