Why Grant a Loan to an Undertaking in Difficulty?

When a market operator invests in an undertaking in difficulty it also considers the possibility of restructuring, sale or closure.


The answer to the question posed in the title of this article is “because the loan enables the undertaking to become viable again and repay the loan with interest”.

It is now well established in the case law that a private investor could, under certain conditions, grant a loan or inject capital in an undertaking that is in difficulty. But for a private investor to do so, there must be a realistic prospect for the undertaking not only to become viable again through appropriate restructuring but also to be in a position to pay back the loan with a sufficiently high rate of interest or remunerate the capital with a rate of return that fully reflects the risk assumed by the investor.

But when an undertaking is in difficulty, the rate of interest or rate of return is not the only relevant factor that the investor needs to take into account. There is also the probability of closure or the possibility of the sale of the undertaking as a whole or of some or all its assets.

The complexity of the assessment of what a rational market operator would do in such a situation is illustrated well in Commission Decision 2022/795 concerning two loans that were granted by Italy to Alitalia just before it folded. The amount of the first loan was EUR 600 million and EUR 300 of the second. When the loans were granted, Alitalia was under “extraordinary administration” that legally protected it from its creditors.

The central question in this case was whether the loans conformed with the market economy operator test [MEOT]. The Commission concluded in Decision 2022/795 that they didn’t.[1]

Applicability of the MEOT

First, the Commission examined the applicability of the MEOT. Accordingly, “(142) should the Commission determine that the MEO test is not applicable to the two State loans, it need not apply that test. The Commission may then simply conclude that Alitalia obtained an economic benefit which it could not have obtained under market conditions, and thus an advantage within the meaning of Article 107(1) TFEU.”

In order to determine the applicability of the MEOT, the Commission examined

  1. whether Italy acted as a public authority that pursued a public policy objective, or
  2. whether it had acted as an economic operator who evaluated all relevant information on an ex ante basis.

The Commission considered the two loans to be a single intervention rather than two separate interventions that had to be assessed separately. “(144) A series of State interventions which take place in relation to the same undertaking in a relatively short period of time, are linked to each other, or were all planned or foreseeable at the time of the first intervention, may be assessed as one intervention. On the other hand, when the later intervention was a result of unforeseen events at the time of the earlier intervention the two measures should normally be assessed separately.” [At this point the Commission cited its decision on the Berlin-Brandenburg airport.]

Acting as a public authority

The Commission concluded that the MEOT was inapplicable because Italy acted as a public authority to save Alitalia from bankruptcy, rather than as a shareholder. The Commission reached that conclusion on the basis of information concerning “(159) not only the form of those loans but also

(i) their nature and subject matter,

(ii) the context in which they are taken,

(iii) the objective pursued, and

(iv) the rules to which the two State loans are subject.”

The reasoning of the Commission was as follows:

The nature and subject matter of the measure of the intervention: The measure in question consisted of the two loans.

The context of the measure: Italy acted consistently and clearly in its capacity as public authority to save Alitalia from being liquidated. Alitalia was continuously and heavily loss-making. When the two loans were granted, Alitalia was an undertaking in difficulty within the meaning of the Rescue and Restructuring Guidelines [RRG] and had little prospect of becoming profitable in the near to medium term.

The objective pursued: Since Alitalia was under administration, it had no access to the market to finance its operations. The purpose of the loans was to provide the necessary liquidity to Alitalia to ensure the continuity of its air transport services.

The rules to which the measure is subject: The loans were ad hoc and later were merged into a single measure.

Acting as a private investor in conformity with the MEOT

The Commission concluded that Italy had not carried out any ex ante evaluation of the profitability of the two loans taking into account only the costs and benefits as a shareholder.

Although Italy submitted several contemporaneous reports to the Commission concerning the financial state of Alitalia, “(189) those reports and information do not even demonstrate the mere likelihood of repayment, nor meet the standard laid down by the Union Courts of acceptable evidence of an ex-ante evaluation of the profitability of the two State loans.” “(187) Furthermore, the Italian authorities were not able to prove the existence of a document, drawn up before or contemporaneously to the decision to grant either loan, which would constitute a business plan, a profitability assessment consisting notably of an economic assessment covering likelihood of repayment and appropriateness of pricing of the two State loans.”

The Commission also rebutted several arguments put forth by Italy as follows:

“(197) Italy claims that it acted as a market investor in providing the two State loans since, had it not intervened, the State would have been liable for EUR 1,3 billion due to (i) costs linked to unemployment; (ii) costs linked to Alitalia’s liquidation including the public order costs linked to emergency management at airports and the compensation owed to passengers; and (iii) negative spill-over effects on suppliers. Moreover, the State would have suffered losses because of unpaid taxes.”

“(198) However, those considerations prove precisely the opposite of Italy’s claim, namely that Italy’s objective was to maintain Alitalia’s operation, regardless of the cost, taking primarily into consideration elements that a market economy operator would not take into account.”

“(199) In order to assess whether the same measure would have been adopted in normal market conditions by a private operator in a situation as close as possible to that of the State, only the benefits and obligations linked to the situation of the State as a private operator, to the exclusion of those linked to its situation as a public authority, are to be taken into account.”

“(200) In respect of costs linked to unemployment, […], the costs incurred by the State as a result of redundancies, unemployment benefits and aid for the restructuring of the industrial infrastructure should not be considered as relevant for a market economy operator.”

“(201) As regards the unpaid taxes, the same principle applies: the State in levying taxes is exercising a public prerogative. In that regard, in order to determine whether measures taken by the State represent the exercise of State authority or whether they are the consequence of obligations that the State must assume as shareholder, it is important not to look at the form of those measures, but at their nature, their subject-matter and the rules to which they are subject, while taking into account the objective pursued. In the present case, unpaid taxes would constitute losses that, in the normal circumstances, Italy would incur in its capacity as a State and not those of a shareholder of Alitalia. Preventing unpaid taxes was, therefore, not a consideration which the State could make as Alitalia’s creditor or shareholder.”

“(202) As regards the costs linked to Alitalia’s liquidation including the public order costs linked to emergency management at airports and the compensation owed to passengers that Italy claims would be borne by the State, these are costs which Italy would assume in its capacity as public authority and, […], cannot be taken into consideration when assessing the applicability of the MEO test.”

“(203) Lastly, no private investor or creditor would take account of the negative spill overs effects on an undertaking’s third party suppliers when deciding to provide financing to that undertaking.”

Application of the MEOT

Although the Commission had already stated that if the MEOT was found to be inapplicable there was no need to assess its application to the case at hand, it, nonetheless, proceeded to examine, as a subsidiary line of reasoning, whether the two loans satisfied the MEOT.

The criteria for the application of the MEOT: “(209) To assess whether the two State loans provided an economic advantage to Alitalia the Commission has to check whether a hypothetical MEO (in this case a ‘private lender’) in the same situation would have granted those two loans at the same conditions. That assessment entails the following steps.

First, there must be an assessment of the creditworthiness of Alitalia, that is, an assessment of Alitalia’s capacity to repay that debt obligation.

Second, if Alitalia is deemed to be creditworthy, the assessment has to check if the conditions of the two State loans are in line with the conditions of comparable transactions in the market. That assessment would compare the conditions of the two State loans (interest rates, collateral, seniority, maturity, repayment schedule) with the conditions that a private lender would have granted for comparable loans.”

“(210) Furthermore, the economic considerations of the MEO could differ depending whether it has any existing exposure to the borrowing company. The Commission will assess the prior exposure of the Italian State to Alitalia. As it will be shown […] that prior exposure was not relevant for the MEO assessment of the two State loans. The Commission therefore considers that a standalone assessment of the two State loans is the one that a market economy operator, namely a lender, would have pursued in the position of the Italian State.”

The Commission assessed the MEOT in three different scenarios:

  1. a restructuring scenario with continued operation of Alitalia;
  2. a sales scenario in which Alitalia or its operating assets are sold in operation to a third party;
  3. a liquidation scenario, when the assets are sold under liquidation.

The first loan: EUR 600 million

With respect to the first loan, “(213) a market economy lender, at the time of granting the initial loan, would have compared the following two amounts:

(1) The EUR 630 million debt repayment at the six-month maturity, which is the sum of the amount of the principal (EUR 600 million) and the amount equivalent to 10% interest for a six-month period; and

(2) the expected cash available to Alitalia at the six-month maturity of the loan.”

The rate of interest of 10% was what Italy had charged for the loan.

“(214) A necessary condition for the initial loan to be in line with market conditions is that the latter amount (under point 2 above) is greater than the former amount (under point 1 above). In other words, it should be assessed whether a market economy lender would expect Alitalia to generate enough cash to repay the loan plus interest at the 6 months maturity.”

“(215) In addition, a market economy lender would have also assessed the riskiness of the initial loan, which depends on characteristics, such as seniority, maturity and collateralization, as well as the financial situation of Alitalia. Based on that assessment, a market economy lender would have decided on the interest rate of the loan reflecting the riskiness of the loan. Therefore, another necessary condition for the loan to be in line with market conditions is that the 10% interest rate should reflect the riskiness of the loan.”

“(216) Furthermore, at the time of granting the initial loan on 2 May 2017, a market economy lender would have considered that the options available to the extraordinary commissioners were the following: 1) to restructure Alitalia; or 2) to sell Alitalia either as a going concern or as an asset sale. A market economy lender would have also assessed the following elements regarding the financial situation of Alitalia: its past financial performance, its assets and liabilities and its expected future cash flows.”

Restructuring scenario: The Commission outlined the financial problems of Alitalia over a long period of time and confirmed that Italy had prior exposure of a mere 1% as an indirect shareholder via other shareholdings. This minuscule exposure did not justify the risk Italy assumed through the loan. Moreover, the act placing Alitalia under extraordinary administration meant that shareholders could not exercise their rights. According to the Commission, a market operator would have disregarded its indirect exposure to Alitalia.

When the loan was provided to Alitalia, the company was projecting negative cash flows. Therefore, “(249) under a restructuring scenario, an MEO in the situation of the Italian State would have considered in its assessment the past and expected cash flow positions of Alitalia available in May 2017. On the basis of that information, it would have concluded that the expected cash flows of Alitalia between May and October 2017 could not be sufficient to reimburse the principal of the initial loan and the possible interests. Therefore, an MEO would not have granted such a loan to Alitalia.”

Sale scenario: The Commission, first, defined the relevant factors: “(251) In a sale scenario, a market economy lender would expect the amount of cash available at the maturity of the initial loan to depend on the following factors:

(1) the cash that Alitalia generates or loses from the time it receives the initial loan until when it is sold, i.e. the change in cash balance;

(2) the timing of completion of the sale process; and

(3) the sale proceeds.”

The Commission examined all three factors and found that the cash balance would be negative, the poor performance and deep indebtedness of Alitalia made it unlikely that its sale could be completed within six months and that, because of its substantial liabilities, the net proceeds from a sale would be less than the amount of the loan plus interest.

The Commission concluded that “(331) the initial loan is not in line with market conditions as the expected sales proceeds at the time of granting the initial loan, together with the expected available cash, were lower than EUR 630 million, the sum of the principal and interest. For that reason, the Commission also considers that it is not necessary to assess whether the 10% interest rate is in line with market conditions, as a market economy lender would have not granted the initial loan at all. Therefore, the Commission concludes that the whole amount of the initial loan provided an advantage to Alitalia.”

“(332) Finally, the Commission observes that the conclusions in the sale scenario are consistent with those in the restructuring scenario and provide further support to them. More specifically, there are negative cash flows to the company in the first year of the business plans […] Hence, even if the extraordinary commissioners were able to restructure Alitalia in line with those business plans, the initial loan would have covered the expected losses in the first year of the planning period. Consequently, at the maturity date of the initial loan (i.e. 5 November 2017), Alitalia would not have had enough cash to repay the initial loan plus interest.”

Liquidation scenario: If Alitalia were liquidated “(333) the estimated value of assets would have been of EUR [less than 2] billion while that of liabilities would have been EUR [more than 3] billion, resulting in a net value of roughly EUR minus [1-2] billion. Furthermore, the management estimated that adding contingent liabilities related to leasing contracts and to the dismissal of workers would have brought the winding up cost of Alitalia to EUR [more than 4] billion.”

“(335) The Commission considers that an MEO would have not granted the initial loan relying on the value of assets in a liquidation scenario.”

With respect to the assessment of the second loan of EUR 300 million, the Commission, first, explained that it could not be assessed on its own because without the first loan Alitalia would have gone bankrupt. Therefore, no private investor would have granted a loan to a bankrupt company. Although it is true that private investors do not grant loans to companies that are already dead, the reasoning of the Commission is not convincing. The second loan should not have been granted because it was already clear at the time that Alitalia did not have enough cash to repay the first loan. Consequently, it could not have enough disposable cash to repay the second loan unless the second loan could help Alitalia to restructure so as to be able to generate sufficient revenue to repay both loans.

The Commission considered that the two loans belonged to the same measure. Given that the first loan was not profitable, it concluded that the second loan was not profitable either, without any further analysis. This approach is correct if both loans are considered in the same time frame so that the assessment of the prospective profitability of Alitalia in relation to the first loan is applicable to the second loan too.

Compatibility and recovery

The Commission found that the two loans were not in conformity with the RRG. Since that finding meant that the aid was not compatible with the internal market, the Commission ordered their recovery.

[1] The full text of the Decision is published in Official Journal L 141, 20 May 2022. It can be accessed at:

Publications Office (europa.eu)



Phedon Nicolaides

Dr. Nicolaides was educated in the United States, the Netherlands and the United Kingdom. He has a PhD in Economics and a PhD in Law. He is professor at the University of Maastricht and the University of Nicosia. He has published extensively on European integration, competition policy and State aid. He is also on the editorial boards of several journals. Dr. Nicolaides has organised seminars and workshops in many different Member States, and has acted as consultant to several public authorities.

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