Italian law is no way out of swap liability for Prato

The Court of Appeal’s recent decision is another blow for litigants who hope that foreign law will allow them to escape from liability under English law contracts.  This case, Dexia Crediop SpA v Comune di Prato [2017] EWCA Civ 428 (15 June 2017) arose from a claim by Dexia (the Bank) for some EUR 6.5 million due under an interest rate swap.[1]  The contract was subject to English law and jurisdiction.

The defendant, an Italian local authority (Prato), sought to rely on various Italian law arguments.  Not one arrow in Prato’s “capacious quiver” [2] of defences struck home, however.  The result of Walker J’s judgments[3] was basically reversed.

The case demonstrates how hard it is to show that “mandatory” rules of foreign law should apply (due to Article 3(3) of the Rome Convention) where parties have expressly chosen English law.  The 2016 Banco Santander case[4] (discussed in my post on Blair J’s March judgment and the Court of Appeal’s December decision) covered similar ground but this case is more extreme.  In Dexia, the use of a generic international agreement (the ISDA Master Agreement) and the general working of the international swaps market was held to be sufficient to give the situation a dimension outside Italy and thus prevent “mandatory” Italian laws from applying.  Certainty in international transactions clearly remains an important factor for the English courts.  I cover the “mandatory” law issue in more detail below.

The case is also of some interest because of Prato’s counterclaim (again, addressed in more detail below).  This had no parallel in the Santander case.  The counterclaim was an attempt to rely on the same “mandatory” Italian law that would have made the swap invalid.  Prato said that breach of this law had caused it damage. The damage was quantified as having equivalent effect to avoiding the swap.  The counterclaim failed on causation grounds but, in principle, was not ruled out.

Although not the focus for this post, note that the Court of Appeal rejected Prato’s other arguments.  These were first, a denial of capacity to contract (pursuant to Italian laws) and, second, a claim that making payment to Dexia would have been illegal.

In reaching its decision, the Court of Appeal had to make various findings as a matter of Italian law – having reviewed the English law approach to foreign law, it emphasised that appellate courts should be slow to substitute their opinion for that of the trial judge.

“Mandatory” Italian Law – Article 3(3) Rome Convention

The principles of Italian Law and Article 3(3)

Prato cited three principles of Italian law which would, it said, invalidate the swap transaction.   Firstly, the swap was invalid because it resulted from an “offsite offer” and did not contain a 7 day right of withdrawal (Article 30 Testo Unico della Finanza (TUF)).  Secondly, the swap was invalid because it was made by “distance marketing techniques” and contained no 7 day right of withdrawal (Article 32, TUF).  Thirdly, formal requirements as to content for a contract with a financial service provider were not met (Article 23.1 TUF and Article 30 Consob Regs).

These principles could only help Prato if Article 3(3) of the Rome Convention applied.  That provides:

““The fact that the parties have chosen a foreign law, whether or not accompanied by the choice of a foreign tribunal, shall not, where all the other elements relevant to the situation at the time of the choice are connected with one country only, prejudice the application of rules of the law of that country which cannot be derogated from by contract, hereinafter called ‘mandatory rules’.”

The court thus had to decide whether all the elements relevant to the situation were connected with one country (Italy) only.

The elements said by the parties to be relevant to the situation

In favour of a connection with only Italy (which Walker J had found) were the facts that: both contracting companies were Italian, the communications between them took place in Italy, the swap (and earlier, superseded swaps) were agreed in Italy and Italy was the place of performance.

The Bank countered relying on the fact that the swaps used the ISDA Master Agreement, an international form for use in international markets, and that it had entered into back-to-back hedging swaps with banks outside Italy but using the same international documentation.

The court’s approach to the elements relevant to the situation

At first instance, the judge had held these points relied on by the Bank to be misconceived.  They were not, he said, “elements in the situation” connected to a country other than Italy.  The Court of Appeal found that this was wrong.  It was, the court said, contrary to its decision in the Santander case (and that decision was now binding).  “Elements relevant to the situation” was a wider concept than “elements relevant to the contract”.

The Court of Appeal went on to find that each of the two factors relied on by the Bank was “enough on its own to demonstrate an international and relevant element in the situation such that it is impossible to say that “all elements …relevant to the situation” are located in … Italy.”

It did not matter to the court that there had been no finding that Prato foresaw any back-to-back hedging with banks outside (or inside) Italy.  It was sufficient that they “were (objectively) foreseeable because they were routine.”

Further, the Court of Appeal added its own factor to support the Bank.  Prato’s transaction had originated from a tender process in which non-Italian banks participated.   This, the court said, was the “icing on the cake”.

At a basic level, the Court of Appeal’s judgment can be read as saying that because Prato knew it was playing in an international market, when the going got tough, it was not entitled to rely on domestic law to protect it (or evade its contractual obligations).

Prato’s counterclaim

Prato’s counterclaim rested on the same breaches that would have made the contract void under Italian law.  The Court of Appeal in fact found that Prato was correct about Article 30 TUF (the requirement for a contract following an “offsite offer” to contain a 7 day right of withdrawal) – under Italian law, the swap would have be void.  Accordingly, under Italian law, there was a statutory tort.

Prato’s claim for damages was rejected, however.

Prato first argued that the loss caused to it was “entering into swaps that should never have been entered into”.  That is, Prato wanted damages with the same effect as avoiding the swap (having failed to achieve this by the application of “mandatory” Italian law).  When looked at this way, it is not surprising that Court of Appeal rejected the claim.

The claim was rejected on the basis of causation. There was no evidence to show that Prato even considered withdrawing from the transactions within a few days of agreement.  Accordingly, Prato could not show any loss caused by the breach.  The fact that there was no 7 day right of withdrawal had made no difference to Prato.

Prato’s second argument was that English law should fashion a remedy for breach of Article 30 TUF which replicated the effect of nullity.  This point had not been pleaded or argued below – this attracted criticism from the Court of Appeal.  Nevertheless, the court considered the argument and rejected it.

The second argument was rejected because it depended on replicating nullity under Italian law.  However, the law governing the validity and enforceability of the swaps was English law (Article 3(1) Rome Convention).  Accordingly, the court held, it could not fashion a remedy equivalent to nullity – under English law, there was no nullity.

The moral of the story?

Parties who participate in English law contracts with even a hint of international flavour need to be prepared to accept the rigours of English contract law.  The chances of using domestic legislation to escape liability (which is otherwise apparently unassailable) are very slight.


[1] There is no need to consider the facts in any detail although it is worth bearing in mind that the swap sued upon was one in a series of six (earlier contracts having been replaced so that one relevant swap contract remained).

[2] As the Court of Appeal described it at [173].

[3] [2015] EWHC 1746 (Comm) and [2016] EWHC 2824 (Comm).

[4] Banco Santander Totta SA v Companhia de Carris de Ferro de Lisboa SA [2016] EWHC 465 (Comm) and [2016] EWCA Civ 1267.