In order to detect State aid in a state guarantee, it is necessary to carry out a search to identify the market rate, if it exists.
There is no general presumption that an undertaking in difficulty cannot obtain a guarantee from the market. It is necessary to consider the risk of default.
The calculation of the amount of aid must follow a “hierarchy” of methods.
It is fair to say that the Commission has, as a matter of standard practice, considered loans and guarantees to undertakings in difficulty to constitute State aid, more or less automatically, on the grounds that no rational investor would lend to or guarantee any borrowings by an undertaking that is likely to go bankrupt. It is also fair to say that such practice is pretty reasonable.
However, what is reasonable and what is legally correct are two different things. On 10 November 2022, the Court of Justice ruled, in case C211/20 P, European Commission v Valencia Club de Fútbol, that this practice was wrong. Although most rational investors would be reluctant to provide funds to undertakings in difficulty, there cannot be a general presumption that they would not be able to obtain any funds at all from the market. It all depends on the likelihood of their default and the rate of premium or interest that they could afford to pay.
The European Commission had appealed against the judgment of the General Court of 12 March 2020, in case T-732/16, Valencia Club de Fútbol v European Commission, by which that court annulled Commission decision 2017/365 concerning State aid granted by Spain to Valencia Club de Fútbol, Hércules Club de Fútbol and Elche Club de Fútbol.
Valencia CF is a professional football club in Spain. The Fundación Valencia [FV] is a non-profit foundation whose primary aim is to “preserve, disseminate and promote the sporting, cultural and social aspects” of Valencia CF.
In November 2009, the Instituto Valenciano de Finanzas [IVF] (Valencian Institute for Finance) of the regional government of Valencia provided FV with a guarantee for a six-year bank loan of EUR 75 million from bank Bancaja. FV used the loan to acquire 71% of the shares in Valencia CF. This was classified as measure 1 in the Commission decision.
The guarantee covered 100% of the principal of the loan, plus interest and the costs of the guaranteed transaction. FV paid to IVF an annual guarantee premium of 0.5%. The latter received, as a counter-guarantee, a second-rank pledge on the shares in Valencia CF acquired by FV.
The interest rate of the underlying loan was 6% for the first year, and subsequently the euribor 1-year plus a risk margin of 3.5% with a 6% minimum rate. In addition, there was a 1% commitment fee. The payment of interest was to start in August 2010. The repayment of the principal was to be carried out in two tranches of EUR 37.5 million in August 2014 and August 2015, respectively. It was envisaged that FV would repay the guaranteed loan (principal and interest) by selling its shares in Valencia CF.
In November 2010, IVF increased its guarantee in favour of FV by EUR 6 million to cover an equivalent increase in the sum that was lent by Bancaja to FV to enable it to pay overdue interest and costs arising from non-payment of interest on the guaranteed loan in August 2010. This was measure 4 in the Commission decision.
In December 2013, the Commission opened a formal investigation of the state guarantees that had been granted to Valencia, and also to football clubs Hercules and Elche.
The Commission found, inter alia, that measures 1 and 4 constituted unlawful aid incompatible with the internal market, in the amount of EUR 19.1 million and EUR 1.2 million, respectively, and ordered its recovery.
Valencia CF appealed against the Commission decision. The General Court upheld the appeal and annulled Commission decision 2017/365 with respect to measures 1 and 4. It was then the Commission’s decision to appeal, this time to the Court of Justice.
How to calculate the GGE of aid in a guarantee
In order to understand the reasoning of the Court of Justice it is first necessary to recall the four-step approach that is normally used by the Commission to establish both the existence of State aid in a guarantee that covers a loan and the amount of the gross grant equivalent [GGE] of the aid. As the Court of Justice explained in its judgment, there is a “hierarchy” of steps in the approach:
- If there is a market premium for a similar guarantee, then the GGE of the aid [i.e. the aid element embedded in the guarantee] is the difference between the market rate and the premium that is actually charged [if any], multiplied by the guaranteed amount. For multi-year loans and guarantees, this calculation has to be carried out for every year that the loan is outstanding and the sum of annual GGEs must be discounted at the rate of discount [base rate + 1%] to derive the net present value [NPV] of the aid.
- If there is no market premium, then the GGE is the difference between the market rate of interest for the loan without the guarantee and the interest rate actually charged for the loan with the guarantee, multiplied by the principal of the loan minus the guarantee premium, if any, that is paid by the borrower.
- If there is no market rate of interest for that loan, then it is necessary to calculate a proxy for the market rate on the basis of the methodology in the 2008 Commission communication on the reference and discount rates of interest.
- If it is impossible to establish a reference rate because, for example, the borrower is in financial difficulty, then the GGE of the aid can be the whole guaranteed amount.
Therefore, comparisons between market rates and actual rates of premium or interest are indispensable elements of the process of detecting the presence and establishing the amount of State aid.
Absence of comparable market transactions
The first Commission plea was that the General Court misinterpreted the facts concerning the impossibility of establishing comparable market transactions.
The Court of Justice responded that it was for the Commission to show what evidence had been distorted or misunderstood. It went on to point out that “(56) although the Commission states that it also based its findings relating to the absence of a similar transaction on the market on the relevant information produced by the beneficiary, it does not substantiate that assertion with any specific reference, in the decision at issue, to such a consideration.”
“(57) In any event, as the Commission also submits, the FV merely stated that it did not know whether there were similar guarantees on the market”. “(58) In those circumstances, it cannot be held that […] the judgment under appeal reveals a distortion which is obvious from the documents in the file.”
“(60) It is unequivocally apparent from the General Court’s reasoning […] that the statement, […], that the Commission found ‘that there was no market price for a similar non-guaranteed loan’ refers exclusively to the Commission’s finding, […], that the ‘limited number of observations of similar transactions on the market […] will not provide a meaningful comparison’ ‘between, on the one hand, the interest rate of the loan actually applied thanks to the State guarantee plus the guarantee fee and, on the other hand, the interest rate that would have been applied to a loan without the State guarantee’ and not on the subsequent reasoning […] where ‘the Commission will use the relevant reference rate’ in order to determine the market price for the guarantee premium at issue.”
“(62) The General Court did […] point out that the Commission had presumed, disregarding the Guarantee Notice, that no financial institution would act as guarantor for a firm in difficulty.”
The Court of Justice seems to agree with the General Court on two important points of interpretation of the 2008 Commission Notice on guarantees:
First, in order to establish the market rate, it is necessary to carry out a search to identify the market rate, if it exists.
Second, the 2008 Commission Notice does not explicitly state that there can be no market rate for undertakings in difficulty. Therefore, there can be no general presumption that an undertaking in difficulty cannot obtain a guarantee from the market. [See also the judgment of the General Court in paragraphs 132-134].
The Court of Justice also stressed that “(64) contrary to what the Commission claims, the Guarantee Notice does in fact provide for a hierarchy between the methods to be used to establish and quantify the aid element of a measure.”
“(65) First of all, […], the first paragraph of point 3.2(d) of that notice provides that it is for the Commission to verify whether ‘risk carrying’ is ‘remunerated by an appropriate premium on the guaranteed or counter-guaranteed amount’, given that, where ‘the price paid for the guarantee is at least as high as the corresponding guarantee premium benchmark that can be found on the financial markets, the guarantee does not contain aid’.”
“(66) Next, in accordance with the second paragraph of point 3.2(d), it is only ‘if no corresponding guarantee premium benchmark can be found on the financial markets’ that ‘the total financial cost of the guaranteed loan, including the interest rate of the loan and the guarantee premium, has to be compared to the market price of a similar non-guaranteed loan’.”
“(67) It follows that the first method, referred to in paragraph 65 above, must be verified in the first place and, in the absence of a corresponding guarantee premium on the financial markets, the second method, referred to in the preceding paragraph of that judgment, will have to be used. That hierarchy of methods for establishing the aid element of a measure is corroborated by point 4.2 of the Guarantee Notice, which reaffirms in its first paragraph that, ‘for an individual guarantee the cash grant equivalent of a guarantee should be calculated as the difference between the market price of the guarantee and the price actually paid’ and states in its second paragraph that it is only in cases where the market does not provide guarantees for the type of transaction concerned, and therefore no market price for the guarantee is available, that it is appropriate to use the second method for quantifying the aid element.”
“(68) That method uses as a basis for comparison, under the second paragraph of point 3.2(d) of that notice, ‘the market price of a similar non-guaranteed loan’ and, in the equivalent words of the second paragraph of point 4.2 of that notice, ‘the specific market interest rate this company would have borne without the guarantee’.”
“(69) Finally, it is apparent from the second paragraph of point 4.2 of the Guarantee Notice that it is only ‘if there is no market interest rate and if the Member State wishes to use the reference rate as a proxy’ that the Commission may use the latter method, based on the ‘reference rate’. In particular, the use of the imperative ‘should be calculated’, in the second sentence of the second paragraph of that point, indicates that the Commission circumscribed its discretion in the choice of the method used to determine and quantify the aid element of a measure, so that, where it is impossible to apply the first method, it must use the second method if there is a market interest rate, and that, therefore, it may use the reference rate only if there is no market interest rate.”
“(71) It is unequivocally clear […] that the General Court’s conclusion that the Commission had failed to fulfil that obligation derives exclusively from the General Court’s finding, […], that ‘the Commission, in presuming that no financial establishment would act as a guarantor for a firm in difficulty and therefore that no corresponding guarantee premium benchmark could be found on the market, disregarded the Guarantee Notice by which it is bound’. There is nothing in that paragraph to suggest that, by that statement, the General Court considered that the use of the reference rate, as such, entails a failure to comply with that obligation.”
The Market Economy Operator Principle: Burden of proof
Then the Court of Justice examined whether the Commission had applied correctly the MEOP and recalled established case law as to who bears the burden of proof. The Commission is obliged to examine the applicability of the MEOP and confirm whether it has not been complied with. The Member State concerned is obliged to prove that it has actually complied with that principle by submitting relevant and credible evidence to the Commission. On its part, the Commission has to seek any information that is aware of, but does not have to carry out an exhaustive search to verify the absence of any relevant information.
“(74) When the private operator principle applies, it is one of the factors that the Commission is required to take into account for the purposes of establishing the existence of aid and is not, therefore, an exception that applies only if a Member State so requests, when it has been found that the constituent elements of ‘State aid’, as laid down in Article 107(1) TFEU, exist”.
“(75) In that case, it is therefore the Commission that has the burden of proving, taking into account, inter alia, the information provided by the Member State concerned, that the conditions for the application of the private operator principle have not been satisfied”.
“(76) In that context, it is for the Commission to carry out an overall assessment, taking into account all relevant evidence in the case enabling it to determine whether the recipient company would manifestly not have obtained comparable facilities from such a private operator”.
“(77) In that regard, all information liable to have a significant influence on the decision-making process of a normally prudent and diligent private operator, in a situation as close as possible to that of the public operator, must be regarded as being relevant”.
“(78) In addition, the Commission is required, in the interests of sound administration of the fundamental rules of the TFEU relating to State aid, to conduct a diligent and impartial examination of the contested measures, so that it has at its disposal, when adopting the final decision, the most complete and reliable information possible for that purpose”.
“(79) The Commission cannot assume that an undertaking has benefited from an advantage constituting State aid solely on the basis of a negative presumption, based on a lack of information enabling the contrary to be found, if there is no other evidence capable of positively establishing the actual existence of such an advantage”.
“(81) Since the Commission does not have direct knowledge of the circumstances in which an investment decision was taken, it must rely, for the purposes of applying that principle, to a large extent, on the objective and verifiable evidence produced by the Member State at issue”.
“(82) Even where that institution is faced with a Member State which does not fulfil its duty to cooperate and has not provided the Commission with the information requested, it must base its decisions on reliable and coherent evidence which provides a sufficient basis for concluding that an undertaking has benefited from an advantage amounting to State aid and which, therefore, supports the conclusions which it arrives at”.
“(83) It follows that, when the existence and legality of State aid is being examined, it may be necessary for the Commission, where appropriate, to go beyond a mere examination of the facts and points of law brought to its notice”.
“(84) On the other hand, it cannot be inferred from that case-law that it is for the Commission, on its own initiative and in the absence of any evidence to that effect, to seek all information which might be connected with the case before it, even where such information is in the public domain”.
“(85) Consequently, the lawfulness of a decision concerning State aid falls to be assessed by the EU judicature in the light of the information available to the Commission on the date when the decision was adopted, which includes information that seemed relevant to the assessment to be carried out […] and which could have been obtained, upon request by the Commission, during the administrative procedure”.
Absence of a market rate
Then the Court of Justice went on to examine case how the Commission had structured its analysis in order to arrive at the conclusion that the FV would not have been able to obtain a similar guarantee on the market.
“(86) In the present case, […] the General Court, first, considered that the Commission had imposed on itself, by adopting the Guarantee Notice, the obligation to verify whether there was a ‘corresponding guarantee premium benchmark that can be found on the financial markets’ or ‘a market price for a similar non-guaranteed loan’ before resorting to the reference rate. Secondly, it considered that the Commission failed to fulfil that obligation, in that the finding that no corresponding guarantee premium benchmark could be found on the financial markets is the result of a failure to comply with that notice and that the finding that there was no market price for a similar non-guaranteed loan is not substantiated to the requisite legal standard.”
“(87) In that regard, first, it follows from the findings made in paragraphs 64 to 68 above that the General Court was right to hold that, by adopting that notice, the Commission imposed on itself the obligation to verify whether ‘there is’ a corresponding guarantee premium benchmark available on the financial markets and, failing that, whether ‘there is’ a market price for a similar non-guaranteed loan, before resorting to the reference rate.”
“(88) Secondly, as the General Court stated […], there is nothing in the decision at issue to suggest that the Commission verified whether there was a corresponding guarantee premium benchmark available on the financial markets. It merely stated, […], that ‘the annual guarantee premiums of 0.5%-1% charged for the guarantees in question cannot be considered as reflecting the risk of default for the guaranteed loans, given the difficulties of Valencia CF’. In addition, […] the Commission commenced its examination […] directly with the second stage, consisting of verifying whether there is a market price for a similar non-guaranteed loan.”
“(89) The only explanation which emerges from the decision at issue regarding that approach is that the Commission considered that, for a firm in difficulty, there is no corresponding guarantee premium benchmark available on the financial markets.”
“(90) However, as the General Court stated, […], such logic runs counter to the Guarantee Notice which drew a distinction, in point 4.1(a), ‘for companies in difficulty’, between cases where ‘a market guarantor, if any, would […] charge a high premium given the expected rate of default’ and those where, if ‘the likelihood that the borrower will not be able to repay the loan becomes particularly high, this market rate may not exist’.”
“(91) It follows that, in accordance with that notice, the assessment that Valencia CF was in difficulty at the time measure 1 was granted is not in itself sufficient to establish that there is no corresponding guarantee premium benchmark available on the financial markets, since such a finding requires, at the very least, an additional analysis of the expected risk of default.”
“(92) In that regard, the General Court also noted, […], that the Commission drew a distinction, […], between different types of difficulties and considered that, although Valencia CF was, at the time that measure was granted, in difficulty, within the meaning of the 2004 Rescue and Restructuring Guidelines, it was not ‘in a situation of severe crisis’ for the purposes of point 4.1(a) of the Guarantee Notice. It follows that the General Court was entitled to find that the Commission had not established in the decision at issue that the likelihood that Valencia CF could not repay the loan was ‘particularly high’ within the meaning of point 4.1(a) of that notice.”
“(93) Thus, the General Court did not err in law in holding that the Commission failed to fulfil its obligation to take into account all relevant evidence in the case and that, contrary to what the Commission claims, the General Court did not extend the duty of care incumbent on that institution beyond the limits of what it imposed on itself when it adopted the Guarantee Notice.”
“(94) Thirdly, as the General Court found, […], there is nothing in the decision at issue and nothing produced before the General Court which supports the Commission’s assertion […] that it is ‘due to the limited number of observations of similar transactions on the market’ that the reference value of the market price for a similar non-guaranteed loan ‘will not provide a meaningful comparison’.”
“(95) In that regard, […], the Commission inferred from its own finding that Valencia CF was in difficulty when measure 1 was granted, not only that no financial institution would have provided that club with a guarantee, but also that no similar non-guaranteed loan could exist.”
“(96) Since the existence of both a corresponding guarantee premium benchmark available on the financial markets and a market price for a similar non-guaranteed loan which may be decisive, in accordance with the Guarantee Notice, for the purpose of establishing the existence of State aid and for its quantification, those are factors that are eminently relevant to the assessment to be carried out by the Commission”.
“(97) Although the Commission, by expressing, […], its doubts as to the willingness of financial institutions to grant a similar loan to Valencia CF without a State guarantee, has satisfied its obligation referred to in paragraph 80 above to ask the Member State concerned for the relevant information in that regard, it is common ground that it received no reply from the Spanish authorities nor did it refer, before the General Court, to any other information which it might have had at its disposal when the decision at issue was adopted.”
“(98) In those circumstances, it appears that the Commission has not established […] that it had evidence of a certain reliability and consistency, […], which would have enabled it to state that there was only a ‘limited number of observations of similar transactions on the market’ which do ‘not provide a meaningful comparison’ with the reference value of the market price for a similar non-guaranteed loan.”
“(99) The Commission itself considers that it may be required to use its specific powers of investigation, in particular where it does not have sufficient evidence to demonstrate the existence of aid or where it is reasonable to suppose that the information at its disposal is incomplete.”
“(100) Since the Commission, by adopting the Guarantee Notice, committed itself to verifying whether there was a market price for a similar non-guaranteed loan, the General Court was entitled to take the view, without erring in law, that that institution was required, […], to go beyond a mere examination of the matters of fact and of law brought to its attention, […], in response to the decision to initiate the formal investigation procedure.”
“(101) Contrary to what the Commission claims, the General Court did not, in that way, impose on it an excessive duty of care and an excessive burden of proof, but merely found that the Commission had not satisfied the requirements which it had imposed on itself by adopting that notice. It did not require the Commission to provide evidence that transactions of a similar nature could not be found on the market, but merely pointed out that the Commission had not substantiated its finding or availed itself of its power, […], to make a specific request to the Spanish authorities or the interested parties during the administrative procedure to obtain the production of relevant evidence for the purposes of the assessment to be carried out. In particular, the General Court did not rule out the possibility that it could have been sufficient for the Commission, in order to fulfil its duty of care and satisfy its burden of proof, to make such a specific request in the context of the exchanges” with the Spanish authorities.
For the reasons explained above, the Court of Justice dismissed the appeal of the Commission.
This legal defeat of the Commission will have significant repercussions for the way the Commission assesses the presence or absence of advantage in financial transactions between public institutions and undertakings. It certainly raises the standard of proof and consequently the workload of the Commission which cannot rely anymore solely on the information provided by Member States or the apparent state of the market. It will have to actively determine whether there are investors that may be willing to grant loans or guarantees even when the beneficiaries are in a difficult financial situation.
The full text of the judgment can be accessed at: