Another blow for Italian regional authorities in Italian Swaps saga judgment

Shortly before Christmas, the Commercial Court handed down judgment in another one of the long line of 'Italian Swaps Cases', Dexia SA v Regione Emilia Romagna.¹ These cases concern the validity of derivative transactions between Italian regional authorities and the counterparty banks. Various Italian regions have, since the 2020 Italian Supreme Court decision in Banca Nazionale del Lavoro SpA v Comune di Cattolica (8770/2020) (Cattolica), sought to set aside derivative transactions on the basis that the regions did not have capacity under Italian law to enter into these swaps. The English High Court and Court of Appeal, in numerous recent decisions, have consistently affirmed their jurisdiction over the derivative transactions, rejected the regions' Italian law arguments and granted declaratory relief to counterparty banks – we have previously covered this topic here, here, here and here.

In the present case, Mr Justice Bryan held that the derivative transaction (the Transaction) between the claimant bank (Dexia) and Regione Emilia Romagna (Emilia Romagna) was valid and enforceable, with no applicable Italian law restrictions on Emilia Romagna. He therefore ordered the various heads of declaratory relief sought by Dexia.

This decision adds to the body of robust judgments comprehensively rejecting the Italian regional authorities' arguments. The High Court has held a firm line against attempts to repudiate contracts entered into and performed for decades on various unmeritorious technical grounds. It remains to be seen whether these issues will continue to be pursued in the Italian courts. If so, claims for declaratory relief by counterparty banks will continue.

The Transaction and Emilia Romagna's objections

In essence, the Transaction was entered into in 2004 (somewhat earlier than most Italian Swaps Cases) in order to hedge Emilia Romagna's exposure to a floating rate loan of over half a billion euros.² The Transaction was a straightforward interest rate swap, being a collar for the first five years and a swap of fixed for variable interest for the remainder. Evidence suggested that the Transaction was on the best terms available and was financially beneficial to Emilia Romagna (by comparison with an unhedged position). Emilia Romagna had performed its obligations under the Transaction without complaint in the intervening period. Emilia Romagna is also a territorial (rather than local) authority and so has more autonomy than the local authorities which have brought previous Italian Swaps Cases.

Despite this, Emilia Romagna argued, based on Cattolica, that the Transaction was invalid. There were three broad objections: (i) that Emilia Romagna lacked capacity to enter the Transaction because it was "speculative" and involved a resort to "indebtedness" otherwise than for the purpose of financing, both falling foul of Italian laws governing the capacity of regional authorities; (ii) Emilia Romagna lacked authority to enter the Transaction under Italian law, chiefly because of an alleged failure to obtain Regional Council approval; and (iii) the Transaction itself failed to comply with mandatory Italian laws governing financial transactions.

Proceeding in the absence of a party

Although it was Emilia Romagna which sought to avoid the Transaction, Dexia brought these English proceedings. Emilia Romagna challenged the validity of the Transaction by issuing proceedings in the Italian courts in 2021, seeking declarations that it was null and void for Emilia Romagna's alleged want of capacity and authority, and the Transaction's alleged want of validity under Italian law. In response, Dexia issued these proceedings against Emilia Romagna in the English High Court seeking declarations along the lines of those sought and ordered in the other Italian Swaps Cases to uphold the Transaction and recover Dexia's costs of the proceedings.

A notable feature in this case, although not unique even among Italian Swaps Cases, is that neither Emilia Romagna nor its solicitors were present at trial. Although Emilia Romagna had solicitors on the record, had filed an Acknowledgment of Service, had signed consent orders and continued to instruct its solicitors to remain on the record up to the point of trial, it did not participate substantively in the proceedings and was not present at trial. Bryan J therefore analysed the factors relevant to his decision to proceed with the trial notwithstanding Emilia Romagna's absence.

In particular, Bryan J considered Mrs Justice Cockerill's decision in Banca Nazionale del Lavoro v Provincia di Catanzaro [2023] EWHC 2706, which dealt with very similar circumstances. The court had the power to proceed with the trial in the absence of a party under CPR 39.3 and Bryan J was satisfied that in the present case Emilia Romagna had voluntarily absented itself from the trial and an adjournment would not remedy matters. He therefore exercised his discretion to proceed, as well as setting out the requirements on Dexia in these circumstances. Chief among these was ""an obligation of fair presentation which is less extensive than the duty of full and frank disclosure on a without notice application" such that they must draw to the attention of the court "points, factual or legal, that might be to the benefit of [the unrepresented defendant]"". Dexia was therefore required to adduce factual and expert evidence on the Transaction, questions of Italian law and derivative analysis, albeit these witnesses were not cross-examined.

The validity of the Transaction

Proceeding on this basis, Dexia persuaded Bryan J that it should be granted the declarations sought and that the arguments raised by Emilia Romagna in the Italian Proceedings should be rejected.

(i) Capacity

Emilia Romagna firstly argued that the Transaction was speculative as opposed to hedging and involved indebtedness that was not for the purpose of funding investments. Italian local authorities arguably lack capacity under Italian law to enter into contracts of these kinds (Dexia's Italian law expert suggested that this was wrong, but this was not pursued at the trial). Aside from these points, it is accepted that Italian public authorities have general civil law capacity.

A transaction is not speculative under Italian law where (1) it is entered into expressly to reduce the riskiness of other positions held; and (2) there is a high degree of correlation between the exposure being hedged and the hedging instrument regarding factors such as maturity and interest rate. The Transaction was plainly not speculative. It was explicitly entered into by Emilia Romagna to hedge against its interest rate exposure under its existing debt. There was also a perfect correlation in financial and technical characteristics between the exposure and the hedge (i.e. the Transaction).

Bryan J was not persuaded by the technical arguments that Emilia Romagna raised in the Italian Proceedings under this heading, which focused on the Transaction's initial negative mark-to-market value (MTM) of €1.6m, without a corresponding upfront payment. This and the other technical arguments were irrelevant to the issue at hand. The Transaction was not speculative.

Nor did the initial negative MTM, or any other feature of this unremarkable interest rate swap, cause the Transaction to be categorised as "indebtedness", as Emilia Romagna contended for. Emilia Romagna's actual underlying indebtedness (the pre-existing floating rate loan of over half a billion euros) was not modified or extinguished by the Transaction and so the second limb of Emilia Romagna's capacity argument failed.

(ii) Authority

Emilia Romagna argued that the Transaction was not approved by the Regional Council as required. The Transaction being governed by English law under standard ISDA terms, issues of authority (as distinct from the issues of capacity above), are governed by English law. This follows other High Court decisions in Italian Swaps Cases. Bryan J was amply satisfied that Emilia Romagna held out the employee who signed the resolution entering into the Transaction on its behalf as having been properly authorised, including in legal opinions provided to Dexia, and he therefore had ostensible authority under English law to bind Emilia Romagna to the Transaction. Further, Emilia Romagna had ratified the Transaction by performing their obligations under it without complaint for almost 20 years. For completeness, Bryan J also addressed the position under Italian law (which did not apply) and found that Emilia Romagna's arguments were wrong as a matter of Italian law in any event. 

(iii) Invalidity

Emilia Romagna's final line of argument was that certain mandatory rules of Italian law were not complied with. This was fundamentally misconceived: the Transaction was governed by English law, none of these points went to Emilia Romagna's capacity (which was the only aspect of the Transaction to which Italian law applied), and so these Italian law principles did not apply. This was well-supported by a variety of previous decisions in Italian Swaps Cases. Even under Italian law, Emilia Romagna's contentions were found to be without merit.

Declarations

Dexia put before the Court a table setting out the declarations it sought.³ They are a synthesis of the declarations ordered in other Italian Swaps Cases, seeking confirmations of Emilia Romagna's capacity and authority to enter the Transaction and the Transaction's own validity. The declarations go beyond those strictly required under English law to determine the validity of the Transactions to include points of Italian law for Dexia to employ in the Italian proceedings if required. Dexia was also awarded indemnity costs, leading to an interim payment of approx. £476,000 being ordered in a separate judgment, Dexia SA v Regione Emilia Romagna (Re Costs) [2024] EWHC 3238 (Comm).

Conclusion

This case is perhaps one of the more straightforward of the Italian Swaps Cases. It is, however, a useful summary of the state of play and a successful model for claimant banks to adopt when faced with an Italian regional authority looking to repudiate a transaction. It remains to be seen how the Italian courts will dispose of the proceedings before them, in which Emilia Romagna is the claimant, so there remains the possibility of inconsistent judgments.

The case is also of more general application for parties faced with an opponent who fails to participate in proceedings, given its helpful summary of factors which may be taken into account when deciding whether or not a trial or hearing should go ahead and the procedure required of the attending party in such circumstances.