Regulatory framework and authorities

How is fund management regulated in your jurisdiction? Which authorities have primary responsibility for regulating funds, fund managers and those marketing funds?

The main regulatory body in the Cayman Islands that regulates open-ended investment funds, closed-ended investment funds, fund managers and parties marketing investment funds is the Cayman Islands Monetary Authority (CIMA). The main statutes from which CIMA derives its supervisory powers and duties in respect of investment funds are the Mutual Funds Act and the Private Funds Act, and in respect of fund managers, is the Securities Investment Business Act (the SIB Act).

Law stated – 22 April 2022

Fund administration

Is fund administration regulated in your jurisdiction?

A Cayman Islands-domiciled entity that carries on business as a mutual fund administrator is required to have a valid license for doing so and is required to be regulated by CIMA. There is more than one type of mutual fund administrator license and CIMA will assess, among other things, whether the applicant has sufficient expertise to administer regulated investment funds (both open-ended and closed-ended) and whether the business as a mutual fund administrator will be administered by persons who are fit and proper to be directors or, as the case may be, managers or officers in their respective positions.

Mutual fund administration is defined in the Mutual Funds Act as the management or administration of a mutual fund to provide the principal office of the mutual fund in the Cayman Islands or the provision of an operator to the mutual fund. An overseas fund administrator that is not established in the Cayman Islands is not regulated by CIMA and may be the administrator of a Cayman Islands investment fund if the administrator is authorised or otherwise permitted to carry out administration activities to investment funds in any non-high-risk jurisdiction.

Law stated – 22 April 2022

Authorisation

What is the authorisation or licensing process for funds? What are the key requirements that apply to managers and operators of investment funds in your jurisdiction?

The vast majority of open-ended funds will qualify as mutual funds under the Mutual Funds Act (as amended), which requires mutual funds to be licensed or regulated as such. Closed-ended funds (ie, funds that issue investment interests that are not redeemable at the option of the investor of record), which fall within the scope of the Private Funds Act, are required to register with, and consequently become regulated by, CIMA.

The authorisation process for an open-ended fund will depend on the regulatory category it chooses to register under (eg, a licensed fund under section 4(1)(a) of the Mutual Funds Act, an administered fund under section 4(1)(b) of the Mutual Funds Act, a registered fund under section 4(3) of the Mutual Funds Act, or a limited investor fund under section 4(4) of the Mutual Funds Act). For closed-ended funds, the authorisation process requires the private fund to:

submit an application for registration to CIMA within 21 days of its acceptance of capital commitments from investors for the purposes of investments;

file prescribed details in respect of the private fund with CIMA;

pay a prescribed annual registration fee to CIMA in respect of the private fund; comply with any conditions of its registration imposed by CIMA; and

comply with the provisions of the Private Funds Act.

A Cayman Islands-domiciled fund manager will have to either apply to CIMA for a license to undertake business as such under the Securities Investment Business Act (as revised) or apply to CIMA to be registered under a less regulatory onerous regime as a Registered Person. An overseas fund manager can provide services to a Cayman Islands investment fund and there is no requirement for the overseas fund manager to be licensed by or registered with CIMA unless that fund manager establishes itself in the Cayman Islands. Operators of mutual funds, such as directors, are subject to registration or licensing requirements under the Director Registration and Licensing Act (DRLA) and are required to register with CIMA.

Law stated – 22 April 2022

Territorial scope of regulation

What is the territorial scope of fund regulation? Can an overseas manager perform management activities or provide services to clients in your jurisdiction without authorisation?

The laws in the Cayman Islands (e.g., Mutual Funds Act, Private Funds Act and SIB Act) are not extraterritorial in scope and effect. An overseas fund manager can provide services to a Cayman Islands investment fund and there is no legal requirement for the overseas fund manager to be licensed by or registered with CIMA unless that fund manager establishes operations in the Cayman Islands.

Law stated – 22 April 2022

Acquisitions

Is the acquisition of a controlling or non-controlling stake in a fund manager in your jurisdiction subject to prior authorisation by the regulator?

There is no requirement for an overseas fund manager to be licensed by or be registered with CIMA unless that fund manager establishes itself in the Cayman Islands. Accordingly, there would be no need for any prior notification to, or authorisation by, CIMA of a change in controlling or non-controlling stake in a fund manager established overseas. A fund manager regulated in the Cayman Islands (ie, whether as a CIMA licensee or a registered person) under the SIB Act is prohibited from issuing, voluntarily transferring or disposing of any shares or partnership interests (as applicable) without the prior approval of CIMA, but CIMA may grant an exemption from this prior approval requirement where the fund manager’s securities are publicly traded on a recognised securities exchange.

Law stated – 22 April 2022

Restrictions on compensation and profit sharing

Are there any regulatory restrictions on the structuring of the fund manager’s compensation and profit-sharing arrangements?

There are no regulatory restrictions on the structuring of the fund manager’s compensation and profit-sharing arrangements.

Authorisation

Does the marketing of investment funds in your jurisdiction require authorisation?

Investment funds (whether structured as an exempted company or a limited liability company (LLC)) are restricted from making an offer of shares of the company or interests of the LLC to the public in the Cayman Islands to subscribe for such securities unless those securities are listed on the Cayman Islands Stock Exchange. This restriction on the public offer of securities is contained in the Companies Act and the Limited Liability Companies Act, but there are no similar restrictions in the laws governing limited partnerships or unit trusts. The term ‘public in the Islands’ excludes certain entities and residents, including other Cayman Islands exempted companies, LLCs, exempted limited partnerships, any exempted or ordinary non-resident companies, foreign companies registered in the Cayman Islands and foreign limited partnerships. The Private Funds Act separately states that the term ‘public in the Islands’ does not include sophisticated persons and high net worth persons (as defined under the SIB Act), which means that making an offer of securities to ‘private funds’ (as defined in the Private Funds Act) in the Cayman Islands is not restricted. Private funds would most likely qualify as sophisticated persons or high net worth persons, or both.

An overseas investment fund that wishes to make an offering of its securities to the public in the Cayman Islands will need to either (1) register with the Cayman Islands Monetary Authority (CIMA) as a mutual fund under the Mutual Funds Act or a private fund under the Private Funds Act or (2) market its securities through a person who is appropriately licensed or authorised by CIMA under the terms of the SIB Act (provided that the securities being offered to the public in the Cayman Islands are listed on a stock exchange approved by CIMA or the investment fund is regulated by a recognised overseas regulatory authority approved by CIMA).

Law stated – 22 April 2022

What marketing activities require authorisation?

Arranging deals in securities with a view to another person dealing in securities, or participating in the arrangements for dealing in securities are regulated under the SIB Act and, therefore, would require prior authorisation from CIMA.

Law stated – 22 April 2022

Territorial scope and restrictions

What is the territorial scope of your regulation? May an overseas entity perform fund marketing activities in your jurisdiction without authorisation?

An entity that is performing marketing activities for an investment fund from within the Cayman Islands is required by the terms of the SIB Act to obtain a license from, or otherwise register with, CIMA, prior to engaging in such activities.

Law stated – 22 April 2022

If a local entity must be involved in the fund marketing process, how is this rule satisfied in practice?

There is no legal requirement for a local entity to be involved in the fund marketing process.

Law stated – 22 April 2022

Commission payments

What restrictions are there on intermediaries earning commission payments in relation to their marketing activities in your jurisdiction?

There are no legal restrictions on intermediaries earning commission payments in relation to their marketing activities in the Cayman Islands.

Law stated – 22 April 2022

Available vehicles

What are the main legal vehicles used to set up a retail fund? How are they formed?

The statutory and regulatory frameworks that apply to investment funds in the Cayman Islands do not distinguish between retail funds and non-retail funds as the Cayman Islands is not primarily known as a retail fund jurisdiction. Its laws and regulations applicable to investment funds are geared mainly towards attracting institutional investors. Accordingly, the legal vehicle used for an investment fund is typically based on whether the fund’s strategy will be open- ended or closed-ended. The exempted company (which includes the segregated portfolio company) is the most commonly used legal vehicle for open-ended funds and the exempted limited partnership is the most commonly used legal vehicle for closed-ended funds. Both types of legal vehicles are formed by filing formation documents with the Companies Registry and paying the requisite government fee. There are no special requirements that apply to managers or operators of retail funds (which for present purposes are taken to mean funds that permit an investor to invest an initial minimum amount of less than US$100,000).

Law stated – 22 April 2022

Laws and regulations

What are the key laws and other sets of rules that govern retail funds?

The statutory and regulatory frameworks that apply to investment funds in the Cayman Islands do not distinguish between retail funds and non-retail funds. Under section 4(1)(b) of the Mutual Funds Act, a mutual fund can register with the Cayman Islands Monetary Authority (CIMA) and permit its investors to each invest an initial minimum amount of less than US$100,000. This type of fund is often referred to as a ‘retail’ fund. However, the regulatory framework that applies to this category of mutual fund (referred to as an administered fund) is pretty much the same as is applicable to other mutual funds registered with CIMA. Closed-ended funds that fall within the scope of the Private Funds Act and are, therefore, registered with, and regulated by, CIMA do not have a minimum initial investment threshold set by law and, therefore, investors will simply have to comply with the investment limits and restrictions set by the manager or operator of the fund.

The Retail Mutual Funds (Japan) Regulations are an exception to the above in that they effectively make a distinction between retail funds and non-retail funds by providing a compliance framework for certain licensed funds under section 4(1)(a) of the Mutual Funds Act that will market to retail investors in Japan, enabling these funds to automatically comply with the applicable securities laws and regulations in Japan. However, these funds are merely a sub-set of licensed funds, which themselves only comprise approximately 1 per cent of Cayman Islands’ mutual funds.

Law stated – 22 April 2022

Authorisation

Must retail funds be authorised or licensed to be established or marketed in your jurisdiction?

All mutual funds which fall within the scope of the Mutual Funds Act and all closed-ended funds that fall within the scope of the Private Funds Act are required to be registered with, and be regulated by, CIMA.

Law stated – 22 April 2022

Marketing

Who can market retail funds? To whom can they be marketed?

Investment funds (whether structured as an exempted company or a limited liability company (LLC)) are restricted from making an offer of shares of the company or interests of the LLC to the public in the Cayman Islands to subscribe for such securities unless those securities are listed on the Cayman Islands Stock Exchange. There are no similar restrictions in the laws governing limited partnerships or unit trusts. The term ‘public in the Islands’ excludes certain entities and residents, including other Cayman Islands exempted companies, LLCs, exempted limited partnerships, any exempted or ordinary non-resident companies, foreign companies registered in the Cayman Islands and foreign limited partnerships. It also excludes sophisticated persons and high net worth persons (as defined under the Securities Investment Business Act (SIB Act)), which means that making an offer of securities to ‘private funds’ (as defined in the Private Funds Act) in the Cayman Islands is not restricted. Private funds would most likely qualify as sophisticated persons or high net worth persons, or both. An overseas investment fund that wishes to make an offering of its securities to the public in the Cayman Islands will need to either (1) register with CIMA as a mutual fund under the Mutual Funds Act or a private fund under the Private Funds Act or (2) market its securities through a person who is appropriately licensed or authorised by CIMA under the terms of the SIB Act (provided that the securities being offered to the public in the Cayman Islands are listed on a stock exchange approved by CIMA or the investment fund is regulated by a recognised overseas regulatory authority approved by CIMA). However, there is no legal requirement for a local entity to be involved in the fund marketing process.

Law stated – 22 April 2022

Managers and operators

Are there any special requirements that apply to managers or operators of retail funds?

The statutory and regulatory framework that apply to investment funds in the Cayman Islands do not distinguish between retail funds and non-retail funds. There are no special requirements that apply to managers or operators of retail funds.

Law stated – 22 April 2022

Investment and borrowing restrictions

What are the investment and borrowing restrictions on retail funds?

There are no specific legal investment and borrowing restrictions on retail funds under Cayman Islands laws.

Tax treatment

What is the tax treatment of retail funds? Are exemptions available?

The tax treatments and exemptions available to non-retail funds apply equally to retail funds.

Law stated – 22 April 2022

Asset protection

Must the portfolio of assets of a retail fund be held by a separate local custodian? What regulations are in place to protect the fund’s assets?

There are no legal requirements in the Cayman Islands for assets of a mutual fund to be held by a separate custodian located in the Cayman Islands. Closed-ended funds that fall within the scope of the Private Funds Act are required to appoint a custodian:

to hold in custody, in segregated accounts opened in the name or for the account, of the private fund, the private fund’s assets that are capable of physical delivery or capable of registration except where the private fund has notified CIMA and it is neither practical nor proportionate given the nature of the private fund and the type of assets held to do so; and

to verify title to, and maintain records of, fund assets. However, there is no legal requirement for the custodian to be located in the Cayman Islands.

Where a private fund notifies CIMA of its intention not to appoint a custodian, the private fund is required to appoint one of the following persons to carry out the title verification:

an administrator or another independent third party; or

the manager or operator, or a person with a control relationship with the manager of the private fund, provided that:

the title verification function is independent from the portfolio management function; or

potential conflicts of interest are properly identified, managed, monitored and disclosed to the investors of the private fund.

Law stated – 22 April 2022

Governance

What are the main governance requirements for a retail fund formed in your jurisdiction?

Mutual funds regulated by CIMA must, as long as there is a continuing offering, update their offering documents and prescribed particulars within 21 days of any material change, and are required to file the updated offering document or the prescribed particulars with CIMA within this 21-day period.

A private fund is required under the Private Funds Act to notify CIMA of any change that materially affects any information submitted to CIMA and of any change of its registered office or the location of its principal office.

The private fund will have 21 days after making the change or becoming aware of the change to file details of the change with CIMA.

All funds regulated by CIMA (mutual funds and private funds) are required to have their accounts audited annually and such audited financial statements must be filed with CIMA within six months of the year end of the fund, along with a financial annual return form including prescribed details, signed by a director. These audited financial statements must be signed off by a CIMA approved Cayman Islands-based audit firm.

Law stated – 22 April 2022

Reporting

What are the periodic reporting requirements for retail funds?

Mutual funds regulated by CIMA must, as long as there is a continuing offering, update their offering documents and prescribed particulars within 21 days of any material change, and are required to file the updated offering document or the prescribed particulars with CIMA within this 21-day period.

A private fund is required under the Private Funds Act to notify CIMA of any change that materially affects any information submitted to CIMA and of any change of its registered office or the location of its principal office.

The Private Fund will have 21 days after making the change or becoming aware of the change to file details of the change with CIMA.

All funds regulated by CIMA (mutual funds and private funds) are required to have their accounts audited annually and such audited financial statements must be filed with CIMA within six months of the year end of the fund, along with a financial annual return form including prescribed details, signed by a director. These audited financial statements must be signed off by a CIMA approved Cayman Islands-based audit firm.

Law stated – 22 April 2022

Issue, transfer and redemption of interests

Can the manager or operator place any restrictions on the issue, transfer and redemption of interests in retail funds?

Restrictions can be contained in the constitutive documents of a fund or otherwise in the terms of issue of the relevant equity interests or investment interests of the fund.

Law stated – 22 April 2022

Available vehicles

What are the main legal vehicles used to set up a non-retail fund? How are they formed? Open-ended funds

Exempt companies

Exempt companies are the most common legal vehicle for open-ended funds. The exempted company limited by shares and the exempted segregated portfolio companies (SPCs) make up the overwhelming majority of open-ended funds and accounted for over 90 per cent of total open-ended funds registered with the Cayman Islands Monetary Authority (CIMA) as at 31 March 2022.

It is possible to incorporate an exempted company limited by shares (including an SPC) on either a standard basis (which takes four to five business days after submission of formation documents to the Registrar of Companies) or on an express (same day) basis subject to paying an additional express fee. Incorporation is effected by filing the company’s memorandum and articles of association and an affidavit sworn by the subscriber to the memorandum of association with the Registrar of Companies. Unless the company proposes to use a restricted word in its name (eg, ‘bank’ or ‘insurance’) no prior consent or approval is required from CIMA or any other government agency. The use of the word ‘fund’ in the name is not restricted. The memorandum of association must contain certain basic information about the company, including its registered office address, its authorised share capital and the objects for which it is incorporated. Shares can be denominated in any currency and denomination. There is no minimum or maximum amount prescribed for authorised, issued or paid-up share capital (although at least one share must be in issue at the time of incorporation).

LLCs

A limited liability company (LLC) is a corporate entity that has separate legal personality to its members. Formation of an LLC requires the filing of a registration statement with the Registrar of Companies and payment of the requisite government fee. The LLC must have at least one member and it can be member managed (by some or all of its members) or the LLC agreement can provide for the appointment of persons (who need not be members) to manage and operate the LLC. The liability of an LLC’s members is limited and members can have capital accounts and can agree among themselves (in the LLC agreement) how the profits and losses of the LLC are to be allocated and how and when distributions are to be made (similar to a Cayman Islands exempted limited partnership). An LLC may be formed for any lawful business, purpose or activity and it has full power to carry on its business or affairs unless its LLC agreement provides otherwise. An LLC may (but is not required to) use one of the following suffixes in its name: Limited Liability Company, LLC or L.L.C.

The LLC structure is an attractive option for certain Cayman closed-ended investment funds (eg, they facilitate aligning the rights of investors in onshore and offshore investment funds in a main fund and sub-fund structures) as well as for general partner entities and other carried interest distribution vehicles.

Limited partnerships

Exempted limited partnerships (ELPs) are most commonly used for closed-ended funds and, to the extent that they fall within the scope of the Private Funds Act, are required to be registered with CIMA.

Unit trusts

Unit trusts are based on English trust law, but are modified by the Trusts Act of the Cayman Islands for suitability as investment fund vehicles. Under a unit trust arrangement, investors contribute funds to a trustee that holds those funds on trust for the investors and each investor is directly entitled to share pro rata in the trust’s assets. An advantage of the unit trust is that it may be structured as an ‘umbrella’ unit trust so that different investments may be allocated to different ‘sub-trusts’ with investors subscribing for units in a particular sub-trust. Unlike SPCs, however, there is no statutory segregation of assets and liabilities of each sub-trust.

A unit trust is formed through a declaration of trust by the trustee alone or by a trust deed executed by both the trustee and the investment manager.

Closed-ended funds

The legal vehicles that can be used for closed-ended funds are the same as for open-ended funds. The most popular vehicle used for closed-ended funds is the ELP. Cayman ELPs are governed by a combination of equitable and common law rules (based on English common law) and also statutory provisions, pursuant to the Exempted Limited Partnership Act (as revised). An ELP may be formed for any lawful purpose to be carried out and undertaken either in or from within the Cayman Islands or elsewhere upon the terms, with the rights and powers, and subject to the conditions, limitations, restrictions and liabilities set forth in the Exempted Limited Partnership Act.

An ELP is a legal arrangement and does not have separate corporate personality. The terms of the ELP are set out in a limited partnership agreement and registered in the Cayman Islands by filing a registration statement with the Registrar of Exempted Limited Partnerships containing the following details:

the name of the partnership;

the general nature of the business and term of the partnership;

the address of the registered office of the partnership;

the name and address of its general partner; and

a declaration that the partnership shall not undertake business with the public in the Cayman Islands other than so far as may be necessary to conduct business outside the Cayman Islands.

Law stated – 22 April 2022

Laws and regulations

What are the key laws and other sets of rules that govern non-retail funds?

Open-ended funds

The Mutual Funds Act (for open-ended funds) and the Private Funds Act (for closed-ended funds) are the two main statutes relevant to the regulation of investment funds in the Cayman Islands. CIMA is the regulatory body responsible for compliance with these laws and related regulations and has broad powers of enforcement.

The Mutual Funds Act defines a mutual fund as ‘a company, unit trust or partnership that issues equity interests, the purpose or effect of which is the pooling of investor funds with the aim of spreading investment risks and enabling investors in the mutual fund to receive profits or gains from the acquisition, holding, management or disposal of investments…’ The reference to ‘equity interests’ means that debt instruments (including warrants, convertibles and sukuk instruments) are excluded and funds issuing such instruments will not be required to register with CIMA as a mutual fund. The scope of regulation extends to Cayman incorporated or established master funds that have one or more CIMA-regulated feeder funds and hold investments and conduct trading activities. Changes to the Mutual Funds Act introduced in 2020 means that certain mutual funds, which were previously exempted from registration with CIMA under section 4(4) of the Mutual Funds Act because they had 15 investors or less, the majority of whom have the power to appoint or remove the operators of the investment fund (the operator being the directors, the general partner or the trustee, as is relevant given the legal vehicle used for the fund), are no longer exempt from registration with CIMA. These limited investor funds are now required to be registered with, and are regulated by, CIMA and as at 31 March 2022 there were 667 limited investors funds registered with CIMA. As at that same date, there were 8,554 registered funds and 3,224 master funds registered with CIMA.

Each CIMA-registered mutual fund is required to have its accounts audited annually by a firm of auditors on the CIMA- approved list of auditors and file such audited accounts with CIMA within six months of the end of each financial year of the mutual fund (along with a financial annual return in CIMA’s prescribed form).

Mutual funds that are established for a sole investor and do not involve the pooling of investor funds fall outside the regulatory framework of the Mutual Funds Act. Nonetheless, a mutual fund with a single investor can apply for voluntary registration to, among other things, benefit from the status of being a regulated fund.

Cayman Islands laws and regulations do not impose restrictions on, or prescribe rules for investment strategies of open-ended funds, or their use of leverage, shorting or other techniques.

Closed-ended funds

The Private Funds Act requires the registration of closed-ended funds (typically, investment funds that do not grant investors with a right or entitlement to withdraw or redeem their shares or interests from the fund upon notice) with CIMA. The Private Funds Act applies to private equity funds, real estate funds, and other types of closed-ended funds set up as Cayman Islands limited partnerships, companies (including SPCs), unit trusts and limited liability companies. The Private Funds Act also applies to non-Cayman Islands private funds carrying on business or attempting to carry on business in or from the Cayman Islands.

In addition to registration with CIMA, the Private Funds Act also imposes the following regulatory requirements to be met by private funds.

Audit

Each private fund is required to have its accounts audited annually by a firm of auditors on the CIMA-approved list of auditors and file such audited accounts with CIMA within six months of the end of each financial year of the private fund (along with a financial annual return in CIMA’s prescribed form).

Valuation of assets

A private fund must have appropriate and consistent procedures for the purposes of proper valuations of its assets, which ensures that valuations are conducted in accordance with the requirements in the Private Funds Act. Valuations of the assets of a private fund are required to be carried out at a frequency that is appropriate to the assets held by the private fund and, in any case, on at least an annual basis.

Safekeeping of fund assets

The Private Funds Act requires a custodian: (1) to hold the private fund’s assets that are capable of physical delivery or capable of registration in a custodial account except where that is neither practical nor proportionate given the nature of the private fund and the type of assets held; and (2) to verify title to, and maintain records of, fund assets.

Cash monitoring

The Private Funds Act requires a private fund to appoint an administrator, custodian or another independent third party (or the manager or operator of the private fund):

to monitor the cash flows of the private fund;

to ensure that all cash has been booked in cash accounts opened in the name, or for the account, of the private fund; and

to ensure that all payments made by investors in respect of investment interests have been received.

Identification of securities

A private fund that regularly trades securities or holds them on a consistent basis must maintain a record of the identification codes of the securities that it trades and holds and make this available to CIMA upon request.

Directors of mutual funds structured as exempted companies, managers of investment funds structured as LLCs and directors of general partners of investment funds structured as an exempted limited partnership (in each case, wherever in the world these persons are located, not just to Cayman Islands-based directors) regulated by CIMA are required to register with CIMA under the Directors Registration and Licensing Act (DRLA). The DRLA enables CIMA to verify certain information in respect of directors or managers of CIMA-registered funds. There is currently no requirement for registration of directors with CIMA under the DRLA who are directors of closed-ended funds that fall within the scope of the Private Funds Act. However, this may change in the future.

All investment funds are required to comply with Cayman Islands anti-money laundering legislation and regulations, including appointing an anti-money laundering compliance officer, a money laundering reporting officer, and a deputy money laundering reporting officer. The Cayman Islands government and CIMA actively work with the European Union, the Organisation for Economic Co-operation and Development, the Financial Action Task Force and regulators in numerous jurisdictions to observe and maintain international standards on transparency and good corporate governance.

Law stated – 22 April 2022

Authorisation

Must non-retail funds be authorised or licensed to be established or marketed in your jurisdiction?

The statutory and regulatory frameworks that apply to investment funds in the Cayman Islands do not distinguish between retail funds and non-retail funds. All mutual funds (except for those that are single investor funds) are required to be registered with CIMA and fall within its regulatory framework. Closed-ended funds that fall within the scope of the Private Funds Act are required to be registered with, and regulated by, CIMA.

Law stated – 22 April 2022

Marketing

Who can market non-retail funds? To whom can they be marketed?

Investment funds (whether structured as an exempted company or a LLC) are restricted from making an offer of shares of the company or interests of the LLC to the public in the Cayman Islands to subscribe for such securities unless those securities are listed on the Cayman Islands Stock Exchange. There are no similar restrictions in the laws governing limited partnerships or unit trusts. The term ‘public in the Islands’ excludes certain entities and residents, including other Cayman Islands exempted companies, LLCs, exempted limited partnerships, any exempted or ordinary non-resident companies, foreign companies registered in the Cayman Islands and foreign limited partnerships. It also excludes sophisticated persons and high net worth persons (as defined under the Securities Investment Business Act (the SIB Act)), which means that making an offer of securities to ‘private funds’ (as defined in the Private Funds Act) in the Cayman Islands is not restricted. Private funds would most likely qualify as sophisticated persons or high net worth persons, or both. An overseas investment fund that wishes to make an offering of its securities to the public in the Cayman Islands will need to either (1) register with CIMA as a mutual fund under the Mutual Funds Act or a private fund under the Private Funds Act or (2) market its securities through a person who is appropriately licensed or authorised by CIMA under the terms of the SIB Act (provided that the securities being offered to the public in the Cayman Islands are listed on a stock exchange approved by CIMA or the investment fund is regulated by a recognised overseas regulatory authority approved by CIMA). However, there is no legal requirement for a local entity to be involved in the fund marketing process.

Law stated – 22 April 2022

Ownership restrictions

Do investor-protection rules restrict ownership in non-retail funds to certain classes of investor?

The legal requirement to be an eligible investor in a registered mutual fund with more than 15 investors is a minimum initial investment of US$100,000 (or its equivalent in any other currency); otherwise no other investor-qualification criteria apply to such funds. This minimum initial investment requirement does not apply to registered mutual funds with 15 or fewer investors and also does not apply to closed-ended funds falling within the scope of the Private Funds Act.

Law stated – 22 April 2022

Managers and operators

Are there any special requirements that apply to managers or operators of non-retail funds?

There is no requirement for the manager of a Cayman Islands fund to be resident or domiciled in the Cayman Islands. There are no Cayman Islands laws that seek to regulate overseas managers of Cayman investment funds. Fund managers established in the Cayman Islands need to comply with the provisions of the Securities Investment Business Act and such fund managers must either be licensed or registered with the CIMA. There are also economic substance requirements which must be complied with.

Directors of mutual funds structured as exempted companies, managers of investment funds structured as LLCs and directors of general partners of investment funds structured as exempted limited partnerships (in each case, wherever in the world these persons are located, not just to Cayman Islands-based directors) regulated by CIMA are required to register with CIMA under the DRLL. The DRLL enables CIMA to verify certain information in respect of directors or managers of CIMA-registered funds. There is currently no requirement for registration of directors with CIMA under the DRLL who are directors of closed-ended funds that fall within the scope of the Private Funds Act. However, this may change in the future.

Law stated – 22 April 2022

Tax treatment

What is the tax treatment of non-retail funds? Are any exemptions available?

Cayman Islands tax treatment is the same for both retail funds and non-retail funds. The Cayman Islands has no direct taxation of any kind. There are no income, corporation, capital gains or withholding taxes or death duties. It is possible for all types of Cayman legal structures (exempted company, LLC, unit trust and ELP) to apply to the Cayman Islands government for a tax undertaking that the legal structure will not be subject to direct taxation, for a minimum period, which in the case of a company is 20 years, and in the case of an LLC, unit trust and an ELP is 50 years.

Law stated – 22 April 2022

Asset protection

Must the portfolio of assets of a non-retail fund be held by a separate local custodian? What regulations are in place to protect the fund’s assets?

There are no legal requirements in the Cayman Islands for assets of a mutual fund to be held by a separate custodian located in the Cayman Islands. Closed-ended funds that fall within the scope of the Private Funds Act are required to appoint a custodian (1) to hold the private fund’s assets that are capable of physical delivery or capable of registration in a custodial account except where that is neither practical nor proportionate given the nature of the private fund and the type of assets held; and (2) to verify title to, and maintain records of, fund assets. However, there is no legal requirement for the custodian to be located in the Cayman Islands.

Law stated – 22 April 2022

Governance

What are the main governance requirements for a non-retail fund formed in your jurisdiction?

The Mutual Funds Act (for open-ended funds) and the Private Funds Act (for closed-ended funds) are the two main statutes relevant to the regulation of investment funds in the Cayman Islands. CIMA is the regulatory body responsible for compliance with these laws and related regulations and has broad powers of enforcement. Depending on the legal structure of the investment fund, there are also various continuing filing obligations and annual registration fees to be paid.

Law stated – 22 April 2022

Reporting

What are the periodic reporting requirements for non-retail funds?

Mutual funds regulated by CIMA must, as long as there is a continuing offering, update their offering documents and prescribed particulars within 21 days of any material change, and are required to file the updated offering document or the prescribed particulars with CIMA within this 21-day period.

A private fund is required under the Private Funds Act to notify CIMA of any change that materially affects any information submitted to CIMA and any change of its registered office or the location of its principal office.

The Private Fund will have 21 days after making the change or becoming aware of the change to file details of the change with CIMA.

All funds regulated by CIMA (mutual funds and private funds) are required to have their accounts audited annually, and these audited financial statements must be filed with CIMA within six months of the year end of the fund, along with a financial annual return form including prescribed details, signed by a director. These audited financial statements must be signed off by a CIMA-approved Cayman Islands-based audit firm.

Law stated – 22 April 2022

Structure

How are separately managed accounts typically structured in your jurisdiction?

Separately managed accounts are not typically structured using Cayman entities. The investment manager entity that provides managed account services may itself be a Cayman-domiciled entity and be regulated by the Cayman Islands Monetary Authority.

Law stated – 22 April 2022

Key legal issues

What are the key legal issues to be determined when structuring a separately managed account?

There are no specific Cayman Islands legal requirements to be determined when structuring a separately managed account unless the managed account is structured using a Cayman legal vehicle, in which case the same issues applicable to a mutual fund or a private fund may apply.

Law stated – 22 April 2022

Regulation

Is the management or marketing of separately managed accounts regulated in your jurisdiction?

The manager or entity marketing the separately managed account is regulated in the same manner as fund management.

Law stated – 22 April 2022

Proposed reforms

Are there proposals for further regulation of funds, fund managers or marketers of funds in your jurisdiction?

The requirement to register with the Cayman Islands Monetary Authority (CIMA), mutual funds that were previously exempted from registration, and (2) the registration of private funds with CIMA under the terms of the Private Funds Act have expanded the regulatory landscape for Cayman investment funds considerably. There will continue to be new laws and regulations introduced, for example, with respect to imposition of penalties and fines for non-compliance, in order to facilitate the enforcement of the regulatory laws.

Public listing

Outline any specific requirements for stock-exchange listing of retail and non-retail funds.

The listing of investment funds on the Cayman Islands stock exchange covers all types of legal vehicles (eg, exempted company (including segregated portfolio companies), limited liability company, unit trust or limited partnership) and every type of strategy (closed-ended funds, open-ended funds, stand-alone and master-feeder funds, real estate funds or umbrella funds) can apply to be listed. Funds based in both the Cayman Islands and in other jurisdictions are permitted under the Cayman Islands stock exchange listing rules to apply.

Law stated – 22 April 2022

Overseas vehicles

Is it possible to redomicile an overseas vehicle in your jurisdiction?

Yes.

Law stated – 22 April 2022

Foreign investment

Are there any special rules relating to the ability of foreign investors to invest in funds established or managed in your jurisdiction or domestic investors to invest in funds established or managed abroad?

There are no special rules.

Law stated – 22 April 2022

Funds investing in derivatives

Are there any special requirements in your jurisdiction relating to funds investing in derivatives?

There are no specific derivatives legislation in the Cayman Islands and no specific funds related legislation dealing with funds investing in derivatives.

Law stated – 22 April 2022

Recent developments

Are there any other current developments or emerging trends in your jurisdiction that should be noted? Please include reference to world-wide regulatory concerns, such as restrictions on foreign ownership in strategic industries, high-frequency trading, commodity position limits, capital adequacy for investment firms and ‘shadow banking’.

There are no updates at this time.

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Law stated – 22 April 2022

Jurisdictions

Cayman Islands Loeb Smith Attorneys

Germany POELLATH

Greece Souriadakis Tsibris

Ireland Dillon Eustace LLP

Italy Legance – Avvocati Associati

Japan TMI Associates

Luxembourg Loyens & Loeff

Malta Ganado Advocates

Monaco Gordon S. Blair Law Offices

Portugal VdA

Spain Alter Legal

Sweden Vinge

Switzerland Walder Wyss Ltd

Taiwan LCS & Partners

United Kingdom Morgan, Lewis & Bockius LLP

USA Morgan, Lewis & Bockius LLP

The information contained in this report is indicative only. Law Business Research is not responsible for any actions (or lack thereof) taken as a result of relying on or in any way using information contained in this report and in no event shall be liable for any damages resulting from reliance on or use of this information. © Copyright 2006 – 2022 Law Business Research

We will first consider the Foundation Company which was introduced by its own legislation – the Foundation Companies Act, 2017 and is a structure which has grown in popularity since 2017, particularly for use in the digital asset space (e.g. as a decentralized autonomous organization (“DAO”), service provider to DAO, treasury for fungible tokens, NFTs, and network for building digital asset ecosystems). As the name implies, a Foundation Company is a company and it therefore bears some similarities with more conventional types of company that are available in the Cayman Islands. A Foundation Company is registered with the Registrar of Companies, it has separate legal personality, it is incorporated with a memorandum and articles of association and it has a Board of Directors who are responsible for the day to day conduct of its affairs.

However, this is where the similarities with more conventional companies end as whilst Foundation Companies have some characteristics of a conventional company, practically they operate in a manner that is more akin to a trust. They therefore provide the functionality and flexibility of a trust but without any of the complexities associated with trust administration. Further, as they are a company with separate legal personality, this aids their recognition in civil law jurisdictions whose principles of ‘ownership’ mean that common law trusts often are not recognized.

Whilst Foundation Companies can (but don’t necessarily in practice) have shareholders, the shareholders in their capacity as shareholders are not entitled to receive dividends or other distributions. This can be contrasted with conventional companies whose shareholders participate in the profits simply by virtue of being a shareholder. Instead, Foundation Companies have a class of interested parties known as the “beneficiaries” and it is these beneficiaries who (depending on the applicable terms) are entitled to participate in any profits generated by the Foundation Company.

Further, whereas shareholders in more conventional companies have some ability to control the affairs of a company (e.g. by appointing or removing Directors or by passing (or refusing to pass) shareholder resolutions) and they have the right to access certain company records, the beneficiaries of a Foundation Company have no such rights. Beneficiaries’ rights, if any (including in relation to their right to distributions) must be expressly provided for in the Foundation Company’s constitution. Therefore, those who choose to establish a Foundation Company have considerable flexibility in determining what the rights of the beneficiaries will be and when they will arise and therefore careful thought needs to be given to drafting the constitutional documents to ensure that proper effect is given to the founder’s intentions.

Whilst the ownership structure of Foundation Companies described above undoubtedly has its benefits, the lack of shareholder oversight removes one of the important checks and balances from the corporate governance of a Foundation Company. It is for this reason that Foundation Companies are required to have a “Supervisor” whose role is to oversee, and hold to account, the Board of Directors. A Supervisor’s role can be greater, to the extent provided for in the constitutional documents and it is common for the constitution to provide for a number of ‘reserved matters’ in favour of the Supervisor, which can range from the right to appoint and remove the Supervisor, Directors and/or beneficiaries to the right to alter the constitution of the Foundation Company.

A Foundation Company is also required to have a secretary who is either licensed or permitted by the Companies Management Act (2021 Revision) to provide “company management services”. The Secretary must also provide the Foundation Company’s registered office in the Cayman Islands.

Foundation Companies can also implement a set of by-laws which can extend, modify or supplement the constitutional documents. By-laws can assist with the administration of the Foundation Company but since they don’t form part of the constitution, they are a document that remains entirely private.

As will be apparent from the above, those who choose to use a Foundation Company as their corporate vehicle have considerable flexibility in how the Foundation Company will be established, governed and what the rights of each person associated with it will be. It will therefore come as no surprise that the uses of Foundation Companies are just as varied.

Foundation Companies have proven to be popular with Family Offices and they have also been successfully deployed for philanthropic purposes and with estate planning more generally given the relevance of “beneficiaries” to the structure and the fact that such beneficiaries’ involvement in the Foundation Company beyond their financial entitlement is restricted. Foundation Companies have also been used to establish charitable / non-profit foundations whilst they have also been successfully deployed for purely commercial projects, particularly in the digital assets space (e.g. as DAOs, treasury for fungible tokens, NFTs, and network for building digital asset ecosystems).

STAR Trusts (meaning “Special Trusts – Alternative Regime”) are created pursuant to Part VIII of the Trusts Act (2021 Revision). STAR Trusts are typically discretionary trusts but crucially they can exist for either charitable or non-charitable purposes, provided that the purposes are “lawful and not contrary to public policy”. The ability to mix charitable and non-charitable purposes is a feature that is unique to the STAR Trust structure and underlines its inherent flexibility.

Further, unlike other trusts, the lifespan of a STAR Trust is not limited by the rule against perpetuities and so the usual position which limits their lifespan to not more than 150 years, does not apply – i.e. a STAR Trust can be of an unlimited duration.

The settlor of a STAR Trust has considerable flexibility when defining who, or what general purpose, will benefit from the STAR Trust and on what basis. Any beneficiary’s participation in the STAR Trust is strictly limited to the financial benefits that the terms of the trust grant to them. Indeed, similar to Foundation Companies, a beneficiary of a STAR Trust has no right to enforce the terms of the STAR Trust, whether by way of actions against the Trustee or by having access to information about the activities and current financial position of the STAR Trust.

As with Foundation Companies and because the beneficiaries of the STAR Trust have no rights of enforcement, the checks and balances on the administration of the STAR Trust are provided in a different way. The two key positions to be held in relation to a STAR Trust are (1) the Trustee; and (2) the Enforcer.

The Trustee performs the usual role of a trustee in an ordinary trust by holding the legal title to the assets of the STAR Trust on behalf of the beneficiaries. Unless a court order to the contrary is obtained, it is a requirement of a STAR Trust that the Trustee must be (or must include if there is more than one) a trust corporation, which is an entity that is licensed to conduct “trust business” within the Cayman Islands.

A STAR Trust is also required to have an “Enforcer”, who is the only person who has the capacity and power to enforce the terms of the STAR Trust and to hold the Trustees to account. The Enforcer can, but need not, also be a beneficiary. If they are also a beneficiary, they can only enforce the terms of the STAR Trust in their capacity as Enforcer on behalf of all beneficiaries and not in their capacity as an individual beneficiary.

As with Foundation Companies, the inherent flexibility of the STAR Trust structure means that it has been applied in many different ways since their inception in 1997. For example, they have been used (i) in ensuring an orderly succession of interests in family run businesses (with the limited rights of beneficiaries to enforce the terms of the Trust again being particularly useful), (ii) for philanthropic purposes, (iii) in substitution for an ‘ordinary trust’ in order to obtain the benefit of the unlimited duration of a STAR Trust and to restrict or limit the level of information to which beneficiaries would otherwise have an entitlement to access under an ordinary trust, (iv) in finance and investment transactions to facilitate “off balance sheet” or bankruptcy remoteness in holding assets, (v) in as a holding vehicle for valuable chattels such as artwork, jewelry and vehicles and as an alternative to a charitable trust (especially where the objects of the Trust might be a combination of charitable and non-charitable).

However, one limitation on this structure is that no land in the Cayman Islands (or any interest therein) can be held by a STAR Trust. It would, however, be permissible for a STAR Trust to have an interest in another entity which owns land in the Cayman Islands (or an interest therein) but only for the purposes of carrying on its business.

As will be apparent from the above, the two structures we have considered offer great flexibility for many different types of application. Whilst there is a considerable degree of overlap between the two, the purpose of the venture and/or the preference of those behind the project will dictate the use of one over the other.

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This publication is not intended to be a substitute for specific legal advice or a legal opinion. For specific advice on STAR Trusts and/or Foundation Companies, please contact your usual Loeb Smith attorney or:

E: gary.smith@loebsmith.com
E: robert.farrell@loebsmith.com

The IIF reported that there was an almost four-fold increase to USD160 billion in bonds issuance with a sustainability-linked pricing ratchet in the first six months of 2021 compared against the prevous year. Market participants almost certainly drove this increase because they recognised that implementing a sound ESG strategy facilitates access to new pools of capital and opportunities to lock-in favourable pricing.

For example, SSAB, a Swedish company that aims to be the first fossil fuel-free steel producer, has issued a USD230 million equivalent five-year senior unsecured sustainability-linked bond with a maturity date of 2026. Under the terms of the relevant bond instruments, a redemption premium will be payable at maturity if SSAB fails to meet specific sustainability performance targets linked to greenhouse gas emissions. We expect the volume of sustainability-linked bonds to continue to grow in 2022.

The IIF has also reported that about 85% of all ESG-linked debt issuances occur in Europe and North America. However, there is evidence that ESG-linked debt is gaining traction in other regions. For example, Chinese real estate company Minmetals Land, Japanese real estate group Mori Hills, and India’s Adani Electricity Mumbai have brought, or are reportedly planning to bring, various sustainable and green bonds to market.

In contrast to green bonds, where proceeds are used in certain green projects, general sustainability-linked financings have also been used for various corporate purposes and are based on specific ESG targets, rather than a limited set of green projects. This has further opened the market to a broader spread of issuers, a trend that we expect to continue in 2022.

With a growing focus on ESG-linked products, standards have intensified. While there are now a raft of regulations and proposals in the market, such as the Green Loan Principles, the European Green Bond Standard and the Sustainable Finance Disclosure Regulation, there are concerns that greenwashing may cloud the distinction between genuine ESG-linked debt issuance and opportunism.

Therefore, lenders and other finance parties committed to monitoring compliance with ESG targets must agree on reporting standards with the relevant obligor group, and must ensure appropriate external review mechanisms are implemented.

Companies in the British Virgin Islands (BVI) and the Cayman Islands are widely used in cross-border finance transactions, including those with ESG-linked investing elements. These jurisdictions have various features that make them attractive to lenders and other finance parties, as well as borrowers and other obligors for ESG-linked financings. Some reasons for this are:

• The BVI and the Cayman Islands are widely recognised as creditor-friendly jurisdictions due to the range of self-help remedies available to secured creditors in an enforcement. The BVI also has a straightforward system of registering security interests that protects the priority of security interests.
• BVI and Cayman Islands companies may have unlimited objects and purposes, including in relation to ESG initiatives, and there is significant flexibility in how such companies are structured in terms of capital structure, management roles and shareholder involvement.
• BVI and Cayman Islands companies are subject to low ongoing maintenance costs. Financial statements do not need to be prepared in relation to companies that are not regulated by the BVI Financial Services Commission or the Cayman Islands Monetary Authority.
• Except for the payment of nominal filing fees in connection with the optional filing of a security interest that is granted by a BVI chargor, there are no income, corporate or capital gain taxes, withholdings, levies, registration taxes, or other similar taxes or charges imposed on companies in the BVI or the Cayman Islands in connection with the execution, delivery or performance of finance documents by a BVI or a Cayman Islands company, or the finance parties.

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PETER VAS is a partner at Loeb Smith Attorneys in Hong Kong
Contact details:
T: +852 5225 4920
E: peter.vas@loebsmith.com

In The Matter of Padma Fund L.P. [FSD 201 of 2021] (RJP), the Cayman Grand Court held that the Cayman Court does not have jurisdiction to order the winding up of a Cayman exempted limited partnership (“ELP”) on the basis of a creditor’s petition for the winding up of the ELP. The Court ruled that the correct procedure for a creditor to follow is to commence proceedings against the general partner of the ELP for an unpaid debt. This case has clarified the process for creditors’ claims against ELPs but has also in the process added some interesting scenarios to consider for a general partner. This is particular interesting in light of the fact that ELPs are commonly used for private equity, venture capital and other investment funds and therefore the ruling provides guidance for not only general partners but also investors and creditors.

In the Padma case, the petitioners presented the petition in July 2021 seeking orders from the Court for the winding up of Padma Fund L.P. (the “Partnership”) on the basis that the Partnership is unable to pay its debts and therefore should be wound up pursuant to section 92(d) of the Companies Act (2021 Revision), as applied by section 36(3) of the Exempted Limited Partnership Act (2021 Revision).

If, as the Court ruled, the remedy of any creditor of an ELP is to commence proceedings against the general partner, how will this impact on the use of foreign companies which are sometimes registered in Cayman in order to become the qualifying general partner of the ELP? How easy will it be to successfully bring a winding up petition in Cayman against a U.S. domiciled company registered in Cayman as general partner of an ELP which can apply for Chapter 11 debtor in possession protection in the U.S.?

Will the Court’s decision, perhaps over time, change the often seen practice of having one general partner in respect of several ELPs in order to, among other things, consolidate and maintain control of several ELP investment funds? The general partner holds the assets of each ELP on statutory trust. If a winding up order is made against the general partner of an ELP, and there is a shortfall in the ELP’s assets available for distribution to creditors, the liquidator appointed has a claim against the separate assets (if any) of the general partner and such claim would constitute an unsecured claim in any liquidation of the general partner. The use of one general partner to manage and control large numbers of ELP investment funds brings the solvency of such general partner more into focus.

This blogpost is not intended to be a substitute for specific legal advice or a legal opinion on the laws governing limited partnerships in the Cayman Islands. For specific advice, please contact your usual Loeb Smith attorney or any of:

E: gary.smith@loebsmith.com
E: elizabeth.kenny@loebsmith.com
E: robert.farrell@loebsmith.com

A Cayman Islands merger take-private is the process whereby two “constituent companies” – namely, a Cayman Islands company (“MergerCo.”) and a listed Cayman Islands company (the “Target”) – merge pursuant to Part XVI (the “Cayman Merger Law”) of the Cayman Companies Act (2021 Revision) (the “Cayman Islands Companies Act”). Upon the merger becoming effective (the “Effective Time”):

(a)  MergerCo. is struck-off the register of companies;

(b)  the rights and property of the constituent companies vest in the Target as the surviving company; and

(c)  subject to any specific arrangements entered into by the relevant parties, the Target is liable for and subject to all mortgages, charges and security interests, and all other liabilities of the constituent companies.

The following is a summary of the key steps that need to be taken from a Cayman Islands law perspective in order to consummate a statutory merger:

1. Forming MergerCo. In a typical take-private transaction, MergerCo. is incorporated in the Cayman Islands by the investors adhering to the takeover group (often involving the founders/managers of the listed company, its parent company and/or several private equity investors acting as sponsors for the purposes of the take-private transaction) (the “Buyout Group”) in order to obtain finance and ultimately merge with the Target.

2. Take-Private Offer. After obtaining legal and financial advice, the Buyout Group agrees on the terms of the proposed merger take-private, including the consideration which will be offered to the shareholders of the Target, and makes an offer to the board of directors (the “Board”) of the Target (the “Initial Take-Private Offer”). As a matter of best practice, since most take-private transactions are initiated by, or with the involvement of, the management or certain shareholders represented at Board level, the merger process requires that a special committee formed of independent directors of the Target (the “Special Committee”) be designated to review the take-private offer and negotiate on behalf of the Target with the Buyout Group. This is both to ensure that the Board is in compliance with the fiduciary duties it owes the Target, and to avoid any accusation of self-dealing.

3. Negotiations. The Special Committee reviews and negotiates the offer with the help of its own independent legal and financial advice. Overall, the typical mission of the Special Committee is to:

(a) investigate and evaluate the Initial Take-Private Offer;

(b) discuss and negotiate the terms of the merger agreement (the “Merger Agreement”);

(c) explore and pursue any alternatives to the Initial Take-Private Offer as the Special Committee deems appropriate, including maintaining the public listing of the Target or finding an alternative buyer;

(d) negotiate definitive agreements with respect to the take-private or any other transaction; and

(e) report the recommendations and conclusions of the Special Committee to the Board with respect to the Initial Take-Private Offer.

4. Board Approval. The directors of each constituent company in a merger are required to approve the terms and conditions of the proposed merger in a written plan of merger (the “Plan of Merger”), including, among other things:

(a) how shares in each constituent company will convert into shares in the surviving company or other property (e.g. cash payable to shareholders);

(b) what rights and restrictions will attach to the shares in the surviving company;

(c) whether the memorandum of association and articles of association of the surviving company will be amended and, if so, then how; and

(d) any amounts or benefits paid or payable to any director of either constituent company or the surviving company consequent upon the merger.

5. Shareholder Approval. The Plan of Merger is required to be authorized by a special resolution of the shareholders of each constituent company who have the right to receive notice of, attend and vote at the relevant shareholders’ meeting, voting as one class with at least a two-thirds majority. The resolutions of the MergerCo are often passed by its shareholder(s) unanimously in writing. 


6. Consents. Each constituent company must obtain the consent of any creditor(s) holding a fixed or floating security interest in the relevant company. To the extent that debt finance is being provided in the context of a privatization, the consent of any relevant secured creditor(s) are typically included in the intercreditor agreement if there is one, or in the relevant facility agreement if there is not. Any other relevant authorizations and consents, such as under the articles of association of a constituent company or pursuant to any regulatory laws, must also be obtained prior to consummation of the merger. 


7. Declarations, Undertaking and Certificate of Good Standing. A director of each constituent company must provide a written declaration which confirms:

(a) that the relevant constituent company is, and the surviving company will be, immediately after the merger, able to pay its debts as they fall due;

(b)that the merger is bona fide and not intended to defraud unsecured creditors of the constituent companies;

(c) that no petition or other similar proceeding has been filed and remains outstanding and that no order has been made or resolution adopted to wind-up the relevant constituent company in any jurisdiction;

(d)that no receiver, trustee, administrator or other similar person has been appointed in any jurisdiction and is acting in respect of the relevant constituent company, its affairs, or its property or any part thereof;

(e)that no scheme, order, compromise or other similar arrangement has been entered into or made in any jurisdiction whereby the rights of creditors of the constituent company are, and continue to be, suspended or restricted;

(f ) the assets and liabilities of the relevant constituent company made up to the latest practicable date before the making of the declaration;

(g) in the case of a constituent company that is not the surviving company, that the relevant constituent company has retired from any fiduciary office held or will do so immediately prior to the merger; and

(h) that the relevant constituent company has complied with any applicable requirements under any relevant regulatory laws.

A director of each constituent company must also undertake to give a copy of the certificate of merger to all of its members and creditors, and to publish a notification of the merger in the Cayman Islands Gazette.

A certificate of good standing must also be obtained by each constituent company.

8. Filing and Registration. After obtaining all necessary authorizations and consents, the Plan of Merger is required to be signed by a director on behalf of each constituent company and filed with the Cayman Islands Registrar of Companies (the “Cayman Islands Registrar”) along with the other merger documents detailed above. The Cayman Islands Registrar registers the Plan of Merger and issues a certificate of merger so long as all of the requirements of the Cayman Merger Law have been complied with. A certificate of merger is prima facie evidence that all such requirements have been complied with. It is market practice to pre-vet unsigned copies of all of the merger documents with the Cayman Islands Registrar prior to filing them to ensure that all of the requirements of the Cayman Merger Law will be complied with upon submission.

Unless the Plan of Merger provides for a later specified date or event , the merger will be effective on the date that the Plan of Merger is registered by the Registrar of Companies. At the Effective Time, all of the rights and assets of each of the constituent companies immediately vests in the surviving company and, subject to any specific arrangements, the surviving company assumes all of the assets and liabilities of each of the constituent companies.

Each shareholder of a constituent company is entitled to payment of the fair value of its shares upon dissenting from the merger under section 238 of the Cayman Islands Companies Act. Fair value can either be agreed between the parties or determined by the Cayman Court. There is considerable case law with respect to the meaning of “fair value” and that is outside the scope of this article.

Many take-private transactions are financed by a combination of cash, equity and debt in our experience.

With respect to equity commitments, the investors adhering to the Buyout Group typically execute an equity commitment letter undertaking to finance the transaction, subject to completion of the merger and any regulatory approvals. They typically also provide guarantees for any costs and expenses and termination fees in case the merger is not completed. Within the Buyout Group, relations between the various parties are governed by an interim investors’ agreement or a consortium agreement, which is negotiated prior to finalizing the merger terms.

A portion of the financing that is needed for a merger is typically provided by one or several banks, through a bilateral or a syndicated lending facility, or in the form of a bridge loan that is to be repaid shortly after the completion of the merger. As there is no prohibition on financial assistance under Cayman Islands law, a company may fund or guarantee the acquisition of its own shares, as long as the transaction taken as a whole is deemed by its board of directors as being in the best interests of the relevant company.

The security package that is put in place will ultimately depend on the creditworthiness of the borrower group and other commercial considerations, but as a general rule will include:

(a) an equitable share mortgage over the shares of MergerCo. prior to the Effective Time (the “Merger Sub Share Security”);

(b) an equitable share mortgage over the shares of the Target from the Effective Time;

(c) security over the assets of MergerCo. prior to the Effective Time (the “Merger Sub Asset Security”); and

(d) security over the assets of the Target from the Effective Time (the “Target Asset Security”).

It is worth noting that:

(a) the Merger Sub Share Security sometimes contains an automatic discharge provision from the Effective Time, but certain lenders resist this in case the merger is subsequently unwound;

(b) many lenders are happy to rely on a debenture that is entered into as part of the Merger Sub Asset Security package for the purposes of the Target Asset Security, though the security is typically drafted to make clear that it will attach to the Target’s assets from the Effective Time; and

(c) the register of mortgages and charges of the Target at the Effective Time should include details of the security interests granted by MergerCo. prior to the Effective Time as the Target is, subject to any specific arrangements, liable to all such security interests.

Copies of the following merger specific conditions precedent typically need to be delivered to the lender(s):

(a) the executed merger documents (other than the Plan of Merger), which usually include the acquisition agreement, the company disclosure schedule and any other document designated as a “merger document”;

(b) the agreed form Plan of Merger, which is typically expressed to be subject to any amendments recommended by the Cayman Islands Registrar;

(c) the form of constitutional documents and statutory registers to be issued by the registered office service provider of the Target at the Effective Time;

(d) a merger costs certificate, which is usually satisfied by providing a funds flow statement;

(e) a merger conditions certificate with respect to the satisfaction of conditions under the Merger Agreement, as well as certain solvency conditions;

(f) the corporate authorizations, which include board and shareholder resolutions of the constituent companies and resolutions of the Target’s special committee;

(g) the “section 233(9) documents”, which include the declarations and undertaking referenced above, as well as a certificate of good standing in relation to each constituent company; and

(h) the secured creditor consent.

In our experience, closing of the merger typically occurs within 2 business days of the utilization date. Copies of the following merger specific conditions subsequent typically need to be delivered to the lender(s):

(a) the application letter to register the Plan of Merger stamped by the Cayman Islands Registrar;

(b) a certified copy of the Plan of Merger;

(c) the certificate of merger;

(d) a certificate of good standing of the Target as the surviving company issued after the Effective Time;

(e) certified copies of the Target’s updated constitutional documents and statutory registers; and

(f) a Cayman Islands law legal opinion with respect to the effectiveness of the merger.

In the 1990s, many Chinese companies chose to list on NASDAQ or the NYSE to gain credibility and access to capital from US investors. In or around 2011 and 2012, this trend changed . While US listings remained attractive for Chinese companies, the cost of complying with reporting standards continued to increase. Additionally, a lack of comprehension by US investors of the corporate structures being utilized by these companies and of the underlying business environment in China led to lower market valuations for these Chinese companies.

This opened the door for arbitrage opportunities. A Chinese company which was listed on NASDAQ or the NYSE but which had a stock market value lower than its intrinsic value would be taken private and de-listed with help from private equity sponsors and either: (i) continue to be privately held and later sold to a strategic or a financial buyer, or (ii) re-listed on the Shanghai Stock Exchange, the Shenzhen Stock Exchange or the Hong Kong Stock Exchange for better pricing. A wave of merger take-private transactions followed and this trend has resurfaced throughout the Covid-19 pandemic.

Since 2010 , the Cayman Merger Law has offered a more streamlined and efficient offshore alternative to the onshore merger law regimes (e.g. in New York and Delaware). The popularity of the Cayman Islands for merger take-privates further increased in 2011 when the shareholder voting threshold for approving a merger was reduced to a special shareholder resolution requiring only two-thirds of the votes cast.

The Cayman Merger Law is attractive for both companies and investors due to the process being relatively straightforward and simpler than either a tender offer under section 88 of the Cayman Islands Companies Act or a court-approved scheme of arrangement under sections 86 or 87 of the Cayman Islands Companies Act. Cayman Islands merger take-privates are also well tried and tested in practice.

Despite tensions between the US and China, Chinese companies raised a total of US$17.55 billion in US IPOs by the end of the first quarter of 2021, which is more than four times the amount raised during the previous 12-month period . However, the tides are arguably turning and we foresee that a large number of Chinese companies that are currently listed on NASDAQ or the NYSE will be de-listed in the short to medium term for a variety of reasons.

Firstly, the Holding Foreign Companies Accountable Act (the “HFCA Act”) now requires companies that are listed in the US to declare whether they are owned or controlled by a foreign government. In addition, in response to the fraud perpetrated in connection with Luckin Coffee, which culminated in trading of the company’s shares being halted on 6 April 2020 and de-listing by NASDAQ on 29 June 2020, the HFCA Act also authorizes the de-listing of foreign companies from US stock exchanges if they fail to provide the US Public Company Accounting Oversight Board with access to auditing records covering a three consecutive year period. We anticipate that these requirements will prove unappealing to certain businesses.

Secondly, US-listed Chinese companies are facing enhanced levels of scrutiny from both US and Chinese regulators. For example, the US Securities and Exchange Commission is scrutinizing variable interest entities (“VIE”) and requiring enhanced disclosures to be provided to investors regarding the key risks of investing in VIE structures. This is in addition to the blacklisting of over 130 Chinese companies by the Trump and Biden administrations, as a result of which new investors are unable to purchase stocks in these entities on the US stock market. The Cyberspace Administration of China has also imposed additional conditions on Chinese businesses that want to list of overseas and the crackdown has wiped hundreds of billions of US dollars off the market capitalizations of certain listed companies, particularly in the education and technology sectors.

Thirdly, the prospect of listing in Hong Kong or China is understandably appealing to US-listed Chinese companies that wish to avoid blacklisting and onerous auditing regulations and achieve better valuation levels. For example, US-listed DQ, a leading player in the solar energy supply chain with significant operations in Xinjiang, recently listed its key operating subsidiary in Shanghai’s STAR Market at a valuation level 3 times higher than in the US. We predict that other companies are likely to follow this path given the trends which have been identified in this article.

This publication is not intended to be a substitute for specific legal advice or a legal opinion. For specific advice, please contact:

Peter Vas
Partner
Loeb Smith Attorneys
Hong Kong
www.loebsmith.com
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An SPC is a single legal entity, which can create an unlimited number of separate segregated portfolios. The assets and liabilities of a segregated portfolio benefit from a statutory “ring-fence” from the assets and liabilities of (i) any other segregated portfolios of the SPC and (ii) from the general assets and liabilities of the SPC, under section 216 of the Companies Act. Given the flexibility of the corporate structure, ability to prevent cross-liability issues between different segregated portfolios and to pursue a different investment strategy for each segregated portfolio, the SPC is a very popular Cayman Islands investment vehicle for multi-class and/or multi-strategy investment funds. Please see our Briefing Note Benefits of Segregated Portfolio Companies for investment purposes for further details.

The Fund is registered with the Cayman Islands Monetary Authority as a mutual fund. Obelisk Capital Management Ltd. (in official liquidation) (“Investment Manager”) is the Cayman Islands investment manager which provided (i) investment management services to segregated portfolios of the Fund, (including SP1) and (ii) operated the sourcing and pre-financing of gold doré from mines in East and West Africa. The Investment Manager was placed into official liquidation on 26 June 2020.

The Fund on account of SP1 is indebted to the Investment Manager in the sum of approximately US$55,000 pursuant to a loan transferred by the Fund to SP1 on 6 May 2019 (“Debt”).

The joint official liquidators of the Investment Manager demanded payment of the Debt and issued a statutory demand on SP1 on 10 February 2021 in respect of the Debt, which was acknowledged but not paid by SP1. The Investment Manager sought a receivership order from the Grand Court in respect of SP1, on the basis of SP1’s insolvency.

The winding-up procedures set out in Part V of the Companies Act apply in respect of a “company”, therefore as a segregated portfolio does not have a separate legal personality to the SPC, the statutory modes of winding-up which are available to a company, cannot apply to a segregated portfolio on its own. However, receivership allows a specific segregated portfolio to be closed down without the overall SPC structure having to be wound-up.

Section 224 of the Companies Act sets out the grounds for the appointment of a receiver over a segregated portfolio of an SPC. The key provisions are summarized as follows:

a.  Section 224(1) of the Companies Act provides that the Court may make a receivership order in respect of a segregated portfolio if the Court is satisfied:

1. 1. “that the segregated portfolio assets attributable to a particular segregated portfolio of the company (when account is taken of the company’s general assets, unless there are no creditors in respect of that segregated portfolio entitled to have recourse to the company’s general assets) are or are likely to be insufficient to discharge the claims of creditors in respect of that segregated portfolio”; and
   2. the making of a receivership order would achieve the purposes of “the orderly closing down of the business of or attributable to the segregated portfolio” and “the distribution of the segregated portfolio assets attributable to the segregated portfolio to those entitled to have recourse thereto.”

b.  Section 224(2) of the Companies Act states that a receivership order may be made in respect of one or more segregated portfolios.

SP1 did not dispute the fact that the Debt is owed by SP1, the quantum of the Debt or that the sum of the Debt is above the statutory minimum for a statutory demand pursuant to section 93(a) of the Companies Act.

However, counsel for SP1 opposed the receivership application in respect of SP1, on a number of grounds, including that it had not been shown that SP1 “has or is likely to have insufficient assets to meet the claims of its creditors”. It was also argued that if SP1 is deemed to be “balance sheet solvent” in the long term, the Court may not make an order for the appointment of a receiver.

Counsel for the Investment Manager argued that the relevant test for insolvency must either be by reference to a “cash flow test” or “balance sheet test” and submitted to the Court that a cash flow test should be used.

1. Cash flow test: a company is deemed to be insolvent under the cash flow test if it cannot pay the debts that are due at present, or if on the balance of probabilities, it does not or will not have the resources to discharge those debts that will fall due in the reasonably near future.
2. Balance sheet test: a company is insolvent under the balance sheet test if its assets do not exceed its liabilities, taking into account contingent and prospective liabilities.

Counsel for the Investment Manager argued before the Court that there is no case in the Cayman Islands Court of a petitioner having to prove that an entity is balance sheet insolvent. Furthermore, it was argued that a balance sheet test would bring up evidentiary issues for a petitioner (i) as a creditor would not usually have access to the books and accounts of the applicable company (especially in respect of a Cayman Islands company, for which there is no legal requirement to make accounts publicly available) and (ii) the valuation of assets is not an easy matter, even if a creditor has access to the relevant information.

As the Debt was settled before the judgment in this case was delivered, the judgment only covered the jurisdictional aspects of the application for receivership of the Segregated Portfolio by the Investment Manager.

The Judge in the case, Justice Raj Parker, did not accept that the wording in section 224(1) of the Companies Act equates to a cash flow test of insolvency – in particular, it was noted that no language as to debt and timing of payment is included within this sub-section.

The Court ruled that on a plain reading of section 224 of the Companies Act:

1. the test as to whether the Court has jurisdiction to make a receivership order in respect of a segregated portfolio is whether the assets of a company are or are likely to be sufficient to discharge the claims of creditors, which can be regarded as its liabilities i.e. a balance sheet test, rather than a cash flow test; and
2. this involves a determination on the available evidence of whether the assets are sufficient at present or are likely to be in the reasonably near future when assessed against its liabilities (including prospective and contingent liabilities) and are held in a form where they may be used to pay the claims of creditors.

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This publication is not intended to be a substitute for specific legal advice or a legal opinion. For specific advice on Segregated Portfolio Companies, please contact your usual Loeb Smith attorney or:

Elizabeth Kenny
Senior Associate
Tel: +1 (345) 749 7594
E: elizabeth.kenny@loebsmith.com