English courts' willingness to uphold parties' choice of law provides certainty in Brexit world, says expert

Stuart McNeill of Pinsent Masons, the law firm behind Out-Law.com, said that global users of derivative products and the lawyers that advise them would welcome the decision - even though it was "almost inevitable" that the Court of Appeal would have followed recent decisions and upheld the effectiveness of the English law clause in the ISDA master agreement used by Italian lender Dexia Crediop SPA in its agreement with local authority Comune di Prato.

"We cannot escape these days hearing about the negative effect Brexit will have on London's dominance as a financial services centre," he said. "The willingness of the English courts – in this case and others – to enforce the parties' choice of English law and the English courts' jurisdiction in critically important master agreements provides some relief to the stories of banks and financial institutions making plans to relocate to Europe, people leaving or the potential relocation of critical services such as euro clearing to the continent."

"The Court of Appeal recognised the potential chaos that could be caused by any other finding; with parties to swap contracts being free to elect which law to apply, not having to undertake an extensive factual investigation of both counterparties' situation to try and determine whether 'all elements' of the swap contract 'situation' pointed to another country's law," he said.

Dexia and Prato signed an ISDA master agreement in 2002, which incorporated an English law and jurisdiction clause. They then entered into a number of interest rate swap contracts incorporating the terms of the master agreement, the last of which was dated June 2006. In June 2009, as a result of the 2008 financial crisis, Prato was required to begin making payments to Dexia. When it defaulted on these payments, Dexia began proceedings in the English courts for the money owed under the 2006 swap.

Prato resisted the claim for repayment on a number of grounds, including that it did not have the capacity to enter into the swap agreements under Italian law. In 2015, High Court judge Mr Justice Walker ruled that Prato did in fact have capacity to enter into the swaps, but that the local authority had a valid defence under Italian law to Dexia's claim for repayment. The judgment gave each party a claim against the other, with a balance of €327,680 due to Prato from Dexia.

The Court of Appeal overturned the High Court judge's findings. In a unanimous judgment, the appeal court dismissed Prato's capacity claims. It found that the fact that the parties had opted to use the ISDA master agreement meant that there was "at once an international element rather than a domestic element associated with any particular country". There was also an expectation that Prato would enter into back-to-back swap arrangements with banks outside of Italy, the appeal court found.

"It seems to us that each of these two factors is enough on its own to demonstrate an international and relevant element in the situation such that it is impossible to day that 'all elements (other than the choice of law) relevant to the situation' [under the Rome Convention on choice of governing law] are located in a country other than England such as (in this case) Italy," the court said in its judgment.

"The international dimension precludes any such assertion. The use of the ISDA Master Agreement is self-evidently not connected with any particular country and is used precisely because it is not intended to be associated exclusively with any such country. We also consider that the presence of back-to-back contracts is highly significant. If the mandatory local laws of a party are to be applied to any individual swap contract, there is a real risk that the back-to-back security will quickly become illusory," the court said.

Prato will now be required to pay Draxia the €12 million due to it under the swap contract, plus costs.