Cayman Islands | Loeb Smith

What impact has the introduction of the new Cayman LLC had since it was introduced in 2016?

The Limited Liability Companies Law, 2016 (the LLC Law) introduced a new Cayman Islands limited liability company (the Cayman LLC) in June 2016. Since then, there has been an increasing number of Cayman LLCs formed and also some that have transferred to the Cayman Islands by way of continuation from other jurisdictions. According to records held by the Cayman Islands Registrar of Companies, between the period 1 July 2016 to 19 May 2017 there were 391 Cayman LLCs formed and another 16 transferred by way of continuation from other jurisdictions. The Cayman LLC has so far been proven attractive for general partner entities and other carried interest distribution vehicles. The Cayman LLC has the benefit of being (like a Cayman Islands exempt company) a separate corporate entity with limited liability but does not have the maintenance of capital restrictions applicable to exempt companies, and therefore has more flexibility to make distributions of income and capital through the terms of the LLC agreement. For the same reason, Cayman LLCs are also proving attractive for management company entities.

What are the key features of a Cayman LLC?

The key features are:

An LLC formed under the LLC Law is similar in structure to the Delaware LLC as the LLC Law is broadly based on the Limited Liability Company Act in the State of Delaware. However, the LLC Law has also preserved the broad legal principles applicable to Cayman Islands companies and the rules of equity and common law.

A Cayman LLC is a corporate entity which has legal personality separate from that of its members.

Formation of a Cayman LLC is straightforward. It requires the filing of a registration statement with the Companies Registry and payment of the requisite government fee. A Cayman LLC must have at least one member. 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 Cayman LLC.

Profits and losses of a Cayman LLC are allocated among its members, and among classes of LLC interests or groups of members, in accordance with the terms of the LLC agreement.

Distributions of cash or in kind are made or paid among the members, and among classes of LLC interests or groups of members, in accordance with the terms of the LLC agreement.

The liability of an LLC’s members is limited. Members can have capital accounts and can agree among themselves (in the LLC agreement) how the profits and losses of the Cayman LLC are to be allocated and how and when distributions are to be made (similar to a Cayman Islands exempt limited partnership).

A Cayman 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.

Access to and the confidentiality of information and records of the Cayman LLC can be governed by the terms of the LLC agreement.

An LLC agreement may, among other things:

provide for classes or groups of managers having such relative rights, powers and duties as the LLC agreement may provide, and may make provision for the future creation of additional classes or groups of managers having such relative rights, powers and duties as may from time to time be established;

provide for the taking of an action, including the amendment of the LLC agreement, without the vote or approval of any manager or class or group of managers, including an action to create under the provisions of the LLC agreement a class or group of LLC interests that were not previously outstanding;

may grant to all or certain identified managers or a specified class or group of the managers the right to vote, separately or with all or any class or group of managers or members, on any matter.

The following statutory registers are required to be maintained for a Cayman LLC but, similarly to the requirement for a Cayman Islands exempted company, only an LLC’s register of managers is required to be filed with the Companies Registry:

a register of members;

a register of managers; and

a register of mortgages and charges.

The register of managers and register of mortgages and charges are required to be maintained in a manner similar to the register of directors and register of mortgages and charges for a Cayman Islands exempt company.

Subject to any express provisions of an LLC agreement to the contrary, a manager of the LLC will not owe any duty (fiduciary or otherwise) to the LLC or any member or other person in respect of the LLC other than a duty to act in good faith in respect of the rights, authorities or obligations which are exercised or performed or to which such manager is subject in connection with the management of the LLC provided that such duty of good faith may be expanded or restricted by the express provisions of the LLC agreement.

How, if at all, will Delaware law influence the development of the law governing the Cayman LLC?

While the Cayman LLC is loosely based on the Delaware LLC, it is worth noting that the legal traditions in both jurisdictions are different. Section 3 of the LLC law states that: “The rules of equity and of common law applicable to companies registered in the islands, as modified by the Companies Law and any other laws in force in the islands applicable to such companies, shall apply to a limited liability company, except in so far as such rules and law or modifications thereto are inconsistent with the express provisions of this law or the nature of a limited liability company…”

The development of the jurisprudence for Cayman LLCs is likely to be different in a number of respects from Delaware law because the rules of equity and of English common law, as is applicable in the Cayman Islands will be applied rather than Delaware law. By way of example, section 26(4) of the LLC law states that:

“Subject to any express provisions of an LLC agreement to the contrary, a manager shall not owe any duty (fiduciary or otherwise) to the limited liability company or any member or other person in respect of the limited liability company other than a duty to act in good faith in respect of the rights, authorities or obligations which are exercised or performed or to which such manager is subject in connection with the management of the limited liability company provided that such duty of good faith may be expanded or restricted by the express provisions of the LLC agreement.”

The duty to act in “good faith” in section 26(4) of the LLC law is a new statutory duty rather than an existing common law duty. The concept of “good faith and fair dealing” in Delaware law is an implied contractual duty. Delaware law allows for an LLC agreement to restrict, limit or exclude liabilities for breach of contract and breach of duties to the extent such breach does not constitute a bad faith violation of the implied contractual covenant of good faith and fair dealing. However, English common law applicable in the Cayman Islands does not recognise a general implied duty of good faith in contracts, and therefore the concept of “good faith” under section 26(4) is likely to be construed differently by the Cayman courts.

We expect that over the next few years Cayman LLCs might also prove attractive as a structure for offshore investment funds – especially private equity funds and real estate fund.

What are the possible uses of a Cayman LLC?

Owing to the additional flexibility that clients will have in using Cayman LLCs, going forward we see it being used for holding companies, joint venture entities and other special purpose vehicle (SPV) entities.

Investment feeder fund: The Cayman LLC has a number of features which lends itself to being a good fit for offshore investment funds. It is a corporate entity which has separate legal personality from that of its members, it has capacity to sue and to be sued in its own name, and it has the power and ability to acquire, hold and dispose of assets in its own right (as contrasted with a Cayman LP). The LLC Law has created a framework for Cayman LLCs to maximise the flexibility of operating through the terms of the LLC agreement. For example, pass-through treatment of profits and losses for tax purposes; and more flexibility to make distributions of income and capital through the terms of the LLC agreement by removing the maintenance of capital restrictions applicable to exempt companies. By way of contrast with LLCs formed in Delaware, which have traditionally been used as a general partner for Delaware limited partnerships, for carried interest distribution vehicles, and as management companies, but not as investment funds, we expect that over the next few years Cayman LLCs might also prove attractive as a structure for offshore investment funds (especially private equity funds and real estate funds, where we have already advised clients on funds structured as Cayman LLCs). There are a number of reasons for this: (i) using the Cayman LLC means having one entity rather than two entities when a limited partnership with its GP is used; (ii) using a Cayman LLC will be just as flexible as a limited partnership structure and therefore allow clients to align the rights of investors between onshore and offshore investment funds in master/feeder structures.

General Partners and Management Companies: the Cayman LLCs that have been formed to date have been predominantly general partners of limited partnerships and management companies and we expect this trend to continue for the reasons outlined above.

Gary Smith is a partner in the Corporate and Investment Funds Group at Loeb Smith Attorneys. He is an expert on Cayman Islands Investment Funds law and has given expert evidence in the US Federal Bankruptcy court relating to Cayman investment funds. He is also author of many legal articles including US Court and Cayman Islands Court: Sharing Jurisdiction in the Interests of Comity, published in International Corporate Rescue Vol. 12 (2015) Issue 1; and Fiduciary duties of a general partner of a Cayman exempted limited partnership published in Practical Law Global Guide 2015/16 – Private Equity and Venture Capital.

Gary Smith

Partner

E gary.smith@loebsmith.com

W www.loebsmith.com

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Gary Smith

Introduction

In the third issue of our series of legal insights on owning intellectual property (IP) through a Cayman Islands corporate structure, we discussed the new Cayman Islands Trade Marks Law published on 19th December 2016, pursuant to which a stand-alone comprehensive trademark protection regime was created in the Cayman Islands (the “New Trade Marks Regime”) to replace the current system of extension of existing UK/EU IP rights. After a few months of waiting, the Trade Marks Regulations, 2017 (the “Regulations”) were finally published on 26th May 2017, and the new regime is now scheduled to become effective 1st August 2017. In this new issue, we include a brief overview of the new trademark registration process.

New Trademark Registration Process:

Preliminary Verifications: After receiving the completed application for the registration of a new trade mark, the Registrar will search the record of registered marks and pending applications, to determine if, in respect of the goods or services for which registration has been requested, there are any marks which are identical with, or nearly resembling the mark applied for, which are likely to deceive or cause confusion1. If any such marks are identified, they may constitute relative grounds for refusal of registration2 and the Registrar will notify the agents of both the applicant and of the holder of the earlier mark. Under the New Trade Marks Regime, identical or similar trade marks cannot be registered for similar goods or services, while similar trade marks may be registered subject to the consent of the holder of the earlier mark3 or upon the applicant showing honest concurrent use of the mark for which registration is sought4 . In addition, the Registrar will not accept marks which take unfair advantage of, or are detrimental to, the character or the repute of an earlier similar mark registered or otherwise protected in the Cayman Islands5.

Substantive Trade Mark Review: The Registrar will refuse a trade mark6 which lacks distinctive character, which is customary in the current language or the established practices of the trade, or which designates characteristics of goods or services (kind, quality, quantity, purpose, value, geographical origin, time of production, etc.). A mark will also not be registered if it may deceive the public as to the nature, quality, geographical origin or other characteristics of the goods or services. Finally, the Registrar is prohibited7 from registering the words “Cayman”, “Cayman Islands”, “Grand Cayman”, “Cayman Brac”, “Brac” or “Little Cayman”, or marks contrary to public policy or accepted principles of morality in the Cayman Islands. After the preliminary verifications and the substantive review, the Registrar may:

accept the application;

object to the application; or accept the application subject to certain conditions or limitations.

If an applicant is informed by the Registrar in writing of any objections, conditions, amendments, disclaimer, modifications or limitations, then the applicant will have sixty days (60) from receiving the notification from the Registrar to either apply for a hearing or to make a reply in writing to the Registrar. In case of a conditional acceptance, if the applicant does not object to the conditions, amendments, disclaimer, modifications or limitations requested by the Registrar, the applicant is also required to notify the Registrar in writing, and alter the application accordingly, within the same sixty (60) days period. In both cases, in the absence of a response within the sixty (60) days period, the applicant is deemed to have withdrawn its application. Overall, the registration of a trademark must be completed within six (6) months from the date of application or the Registrar may treat the application as abandoned.

Dealing with Oppositions:

Opposition Period: Once the application is accepted (or, if conditionally accepted, once the application is amended accordingly), the mark will be published in the Intellectual Property Edition of the Cayman Islands Gazette, under the heading “Applications for Registrations”, which triggers a sixty (60) day period for oppositions to be filed.

Opposition Procedure: The Registrar is required to send a notice of any opposition to the applicant, who is then allowed sixty (60 days) to send a counter-statement setting out the grounds supporting its trademark application. A lack of response at this stage will be deemed as the application being withdrawn in respect of the goods and services in respect of which the opposition was filed12. Upon receipt of the applicant’s counter-statement, the Registrar is required to immediately send a copy of the counter-statement to the opponent, who has ninety (90) days to submit evidence (by way of witness statement and any accompanying exhibits) in support of the opposition. The applicant is communicated such evidence (or notified that the opponent failed to present evidence, as the case may be) and allowed to present its own, with any submission triggering another ninety (90) days period for the opponent to submit evidence15 before the Registrar will set a hearing date. In all cases, the parties may waive their right to be heard and request that the Registrar make a determination from the submissions. The Registrar may also, if a settlement agreement is being negotiated, suspend the proceedings for up to twelve months upon a joint application of the parties supported by a statement explaining the nature of the actions taken towards a settlement, the progress made, if the remaining issues are minor or significant, as well as when the parties expect the negotiations to be completed.

Overall, the opposition proceedings could last more than twelve (12) months from the filing of an opposition until the matter is heard by the Registrar, without taking account of any suspension of proceedings for amicable settlement or any appeals of the Registrar’s decision.

Security Undertakings: If one or both of the parties part of the opposition proceedings are non-resident or do not carry on business in the Cayman Islands, the Registrar may require from the agent(s) to give a written undertaking that such party(parties) will bear the costs of opposition proceedings and/or further security to be given19. Failing to provide such security will lead to the party in default to be deemed as having withdrawn their opposition or counter-statement.

First Impressions:

Both the registration rules and the opposition process as they are set out in the Regulations are actually streamlined “user-friendly” versions of the UK/EU models. Accordingly, IP agents and other interested parties will be looking forward to receiving further guidance from the Cayman Islands Intellectual Property Office (CIIPO) during the second half of 2017.

This is not intended to be a substitute for specific legal advice or a legal opinion.

For specific advice, please contact:

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New Developments Regarding Dissenters’ Rights under Cayman Merger Law

In our recent publication Cayman Merger Take-Privates from NYSE and NASDAQ in 2016 – Year in Review, we discussed some developing trends and lessons that can be learned from merger take-private acquisitions from U.S. stock exchanges completed1 in 2016 using the Cayman Islands statutory merger regime2 (the “Cayman Merger Law”), including our Top 5 Lessons for the Buyout Group and for the Minority Shareholders. In this first issue of our legal insights series regarding the Cayman Merger Law, we take a closer look at the first decision delivered by the Grand Court of the Cayman Islands regarding one of the 2016 merger take-privates.

Ability of Dissenting Shareholders to Seek Interim Payments

In an interim judgement issued on 26th January 2017 in the matter of Blackwell Partners LLC et al v. Qihoo 360 Technology Co Ltd., in a lengthy well-reasoned decision, Hon. Mr. Justice Charles Quin Q.C. decided that interim payments pursuant to the Grand Court Rules (G.C.R.)4 could be requested by dissenting shareholders and granted by the Court during the judicial proceedings initiated to determine the “fair value” of the dissenters’ shares under Section 238 of the Cayman Merger Law5. This decision brings a new and significant development for minority shareholders in their quest to obtain the “fair value” for their shares in the context of a merger take-private.

Overview of Typical Minority Shareholder Strategies:

Diligent minority shareholders typically learn of a merger take-private offer within days of the first press release by the company (“Target”) which announces the receipt of an offer by the Board of Directors and the formation of a special committee of independent directors (the “Special Committee”) to review the offer and negotiate on behalf of the Target. At this point several strategies become available:

Activism & Raising Concerns: Minority shareholders may look towards activist shareholders or take a more active role themselves, either writing to the Board of Target, or communicating to the other shareholders through public media. Any concerns that the minority shareholders may have about the proposed merger should be raised at this stage, such as the merger not being in the best interest of Target, the consideration being below Target’s intrinsic value taking account of the Target’s market share, market position, specialist technologies, accumulated cash position, holding of trading licences relating to certain specialist areas or assets, etc. Ideally, these concerns should be raised sufficiently early before any determination by the Board of Target as to whether or not to approve the offer and recommend it to Target’s shareholders and the execution of the Merger Agreement. The aim of this approach is to ensure that the Special Committee will properly review the offer and in so doing request:

in-depth information about the valuation of Target and the proposed financing and structuring of the merger, which may lead to an increase of the merger consideration negotiated by the Special Committee for the benefit of all shareholders; and/or

additional protections to benefit minority shareholders, such as “majority of minority” provisions in the Merger Agreement6 in order to secure a better bargaining position for minority shareholders leading to the shareholders’ meeting convened to approve the merger and the terms of the Merger Agreement.

Looking for Alternatives: If Target received an offer from the management group or a group composed of the management and certain private equity sponsors (the “Buyout Group”), activist shareholders may try to look for an alternative buyer, generally inviting third party interest, or associate with other sponsors to initiate a counter-offer. This strategy is based on the assumption that the Special Committee will be bound by its fiduciary duties to take into consideration any additional offers received, which may place upward pressures on the initial merger consideration proposed by the Buyout Group. However, the effectiveness of this strategy is generally limited by two factors:

if the Buyout Group, including management of Target (generally in control of a significant number of votes), in the initial offer, clearly states that they do not intend to sell their shares in any alternative transaction, the interest of any third party buyer is greatly diminished (an alternative offer may be deemed “hostile” by the management of Target, and the third party purchaser may invest significant time and money in the proposal with very limited chances of success); and

the Special Committee will not be able to pursue an alternative offer which lacks substance (i.e. merger terms, financing, legal documentation, etc.) otherwise than as a simple manifestation of interest.

Blocking Completion: Minority shareholders may seek to file for an injunction to stay or stop the progress of the merger on the basis that the directors of Target are acting in breach of their fiduciary duties. This strategy is based on the fact that most merger agreements include, as one of the conditions to the closing of the merger, that no final order by a court or other governmental entity shall be in effect that prohibits the consummation of the merger or that makes the consummation of the merger illegal. As such, if minority shareholders are successful in obtaining an injunction and such injunction has not been reversed and is non-appealable, then the merger cannot become effective. In some cases, however, the aim of this strategy is not to block the merger but to engage in settlement discussions with the Target.

Exercising Dissenters’ Rights: Minority shareholders may choose to dissent to the merger under Section 238 of the Companies Law, knowing that Target is required first to negotiate and, in the absence of an agreement with the dissenting shareholders as to the “fair value” of the shares, to file a petition with the Court for judicial determination of the “fair value” amount to be paid. In some cases, the Merger Agreement may include, as one of the conditions to the closing of the merger, that dissenting shareholders do not own more than a certain percentage (which may be in the range of 1% or 5%) of the shares of Target. When coupled with activism by dissenting shareholders, these clauses may put significant pressure on the Buyout Group and the management of Target.

Significance of the ruling in Blackwell Partners LLC et al v. Qihoo 360 Technology Co Ltd:

It is in the context of minority shareholders deciding whether to exercise their dissenting rights under Section 238 of the Companies Law that the interim judgement issued in Blackwell Partners LLC et al v. Qihoo 360 Technology Co Ltd. becomes most significant.

Qihoo 360 Technology is a leading Internet company in China, that was listed on the New York Stock Exchange (NYSE) and that was taken private using the Cayman Merger Law in 2016 for an aggregate merger offer price in excess of US$9billion. As part of the merger take-private transaction, a fairness opinion on the merger offer price of US$51.33 per share was issued by JP Morgan Asia and the merger was approved the Board of Directors in December 2015 and then by the shareholders in March 2016. However, a number of minority shareholders disagreed with the merger offer price and dissented under Section 238 of the Cayman Merger Law.

Without prejudice to the final determination of “fair value” for their shares, the dissenting shareholders immediately requested payment of an amount of US$16,892,549.01 representing the portion of the merger consideration they were entitled to, based on the US$51.33 merger offer price per share. They also requested security for their claims. They were refused on both counts and, failing agreement, the company had to apply to the Cayman Court to seek a “fair value” determination.

The dissenting shareholders presented as evidence two valuation reports indicating a value per share ranging between approximately US$124.4 and US$290.49 per share (well in excess of the merger offer of US$51.33 per share). While the fair value determination proceedings are still ongoing before the Court, the company agreed to pay into court a security deposit amounting to US$92 million, well in excess of the total value of their shareholdings of approximately US$16,892,549.01. The dissenting shareholders requested an interim payment in respect of their merger consideration because, they argued, whatever the outcome of the fair value determination, they would still be paid a substantial sum in respect of their shares. In an interim judgement issued on 26th January 2017, the Court decided in favour of the dissenting shareholders and ordered an interim payment of US$16,892,549.01, representing the portion of the merger consideration they were offered, based on the US$51.33 merger offer price per share.

New Interim Payment Relief: The judgment in this case has opened the door to petitions for interim payment being filed systematically by dissenting shareholders as part of the Section 238 proceedings, at least in the amount of the merger consideration which is offered generally to the shareholders. This will slightly change the balance of power in the negotiations between the Target and the dissenting shareholders, possibly encouraging settlement earlier in the process or for higher amounts.

Agreement on Security Deposit: The security payment made into court by the Target in this case had been more than five times the amount previously offered to the dissenting shareholders as “fair value”, and likely contributed to the decision of the Court to grant an interim payment to the dissenting shareholders. However, in our view, the absence of an agreement as to a security deposit paid into Court should not prevent the Court from granting interim payments. Further guidance on this matter is expected as dissenting shareholders in other pending cases will likely request interim payments on account of the “fair value” of their shares being at least equal to the offered merger consideration. As a reminder, O. 29, r. 12 of Grand Court Rules (G.C.R.) clearly state that the Court retains full discretion with respect to such interim payments:

“the Court may, if it thinks fit, and without prejudice to any contentions of the parties as to the nature or character of the sum to be paid by the defendant, order the defendant to make an interim payment of such amount as it thinks just, after taking into account any set-off, cross-claim or counterclaim on which the defendant may be entitled to rely.”

Amount of Interim Payments: At this early stage, it seems unlikely that any interim payments ordered as part of Section 238 proceedings will exceed the merger consideration as approved as part of the Merger Agreement. However, Blackwell Partners LLC et al v. Qihoo 360 Technology Co Ltd. does not expressly preclude the possibility of relying on expert evidence in order to determine that the “just” amount for an interim payment should exceed the merger consideration. As stated by Hon. Mr. Justice Charles Quin Q.C. in the interim judgement:

“75. (…) because of the limited nature of the Dissenters’ expert evidence and the absence of expert evidence on behalf of the Petitioner, I do not wish to stray into the jurisdiction of the judge who will be making such a determination.

It is for the Judge hearing the Petition to come to a determination of the fair value of the shares of all Dissenters after hearing expert evidence from both the petitioner and the Dissenters.”

Also, an argument can be made that if the Target itself, during negotiations with dissenting shareholders, offered an amount in excess of the original merger consideration (and if this fact is not disputed by the parties), the Court may take into account this higher figure.

Overall, even if it is quite early to tell, Blackwell Partners LLC et al v. Qihoo 360 Technology Co Ltd. will certainly impact dissenting shareholder strategies in the context of merger take-privates, and possibly contribute to the rising number of Section 238 petitions in the Cayman Islands.

This is not intended to be a substitute for specific legal advice or a legal opinion.

For specific advice, please contact:

Gary Smith

E gary.smith@loebsmith.com

Ramona Tudorancea

E ramona.tudorancea@loebsmith.com

1. The word “complete” is used in this article to designate EGM shareholder approval of the merger and is not referring to the effective date of the merger (which is dependent upon filing) or the effective de-listing of the company.

2. Part XVI (sections 232 to 239A) of the Cayman Islands Companies Law

3. Three other cases are pending (China Ming Yang Wind Power Group Limited, E-House (China) Holdings Limited, and E-Commerce China Dangdang Inc.)

4. Order for interim payment in respect of sums other than damages (O.29, r.12).

5. Under the Cayman Merger Law, shareholders who elect to dissent from the merger have the right to receive payment of the “fair value” of their shares if the merger is consummated, but only if they deliver to the company, before the shareholders’ vote which approves the merger, a written objection (and then comply with all procedures and require-ments of Section 238 of the Cayman Islands Companies Law)

6. A “majority of minority” provision is a condition precedent to the closing of the merger, that the merger be approved by a majority of the shareholders that are unaffiliated with the Buyout Group.

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Gary Smith

Transactions

1. What have been the largest or most noteworthy public M&A transactions in the past 12 months?

In 2016 public M&A activity in the Cayman Islands continued to be marked by an increasing volume of take-private transactions involving Chinese companies previously listed on NASDAQ or NYSE. In this context, “Chinese companies” mean Cayman Islands-domicilled entities within a corporate structure (for example, as part of a VIE structure) where the ultimate operating entity is based in the People’s Republic of China.

Among the most noteworthy transactions completed in 2016 and involving Chinese companies, were the take-privates of the following companies:

China Ming Yang Wind Power Group (NYSE: MY), a wind turbine manufacturer.

China Nepstar Chain Drugstore (NYSE: NPD), a retail drugstore chain.

E-Commerce China Dangdang (NYSE: DANG), a business-to-consumer e-commerce company.

E-House (China) Holdings (NYSE: EJ), a real estate services company.

iDreamSky Technology (NASDAQ: DSKY), an independent mobile game publishing platform.

Ku6 Media Co (NASDAQ: KUTV), an internet video company focused on user-generated content.

Qihoo 360 Technology Co (NYSE: QIHU), an internet company.

Mecox Lane (NASDAQ: MCOX), a multi-brand and multi-channel retailer specialising in health, beauty and lifestyle products.

Sky-mobi (NASDAQ: MOBI) a mobile application platform and game publisher.

Youku Tudou (NYSE: YOKU), a multi-screen entertainment and media company.

Several other similar transactions are in the process of being completed.

2016 public M&A transactions focused on new technology/innovative companies, often in the internet or internet-related sectors. Over half of the take-privates completed in 2016 related to companies with an estimated market value in excess of US$300 million.

Deal Structures

2. What have been the major trends in the structuring of public M&A transactions?

Methods of structuring public M&A transactions

The Cayman Islands laws principally relevant to the conduct of public M&A are:

The Companies Law (2016 Revision) (Companies Law).

The Limited Liability Companies Law 2016 (LLC Law).

Common law

Equitable principles.

Part XVI of the Companies Law (sections 232 to 239A) establishes a streamlined statutory merger regime (Merger Regime) which facilitates mergers and consolidations between one or more companies provided:

At least one constituent company is incorporated under the Companies Law.

All of the following are applicable:

the directors and shareholders of each company participating in the merger approve the merger;

the shareholder vote is passed by special resolution at an extraordinary general meeting (EGM);

the shareholder voting threshold for approving a merger is at least two-thirds of the votes cast (provided no specific provisions in the company’s articles of association (articles) stipulate a higher threshold, and provided the votes cast meet the requirement for a quorum).

The LLC Law also includes a similar framework for Cayman Islands limited liability companies.

In addition to the Merger Regime, public M&A transactions can also be structured as:

Mergers, amalgamations and reconstructions by way of a scheme of arrangement under sections 86 and 87 of the Companies Law and sections 42 and 43 of the LLC Law.

Takeover offer (tender offer) and minority squeeze-outs under section 88 of the Companies Law and section 44 of the LLC Law

Take-private transactions are typically structured as mergers to be carried out under the Merger Regime, with the acquisition group using a Cayman Islands-exempted company as the acquiring corporate vehicle (see below, Take-private transaction).

The Merger Regime is attractive for both companies and investors, due to the process being relatively straightforward and simpler than either a:

Takeover offer (tender offer) under section 88 of the Companies Law.

Court-approved scheme of arrangement under section 86 and 87 of the Companies Law.

Take-private transaction

The most straightforward structure used for a merger take-private is for a new company Merger Co. to be formed in the Cayman Islands by the investors adhering to the takeover group (often involving the founders/managers of the listed company, its parent and/or several private equity investors acting as sponsors for the purposes of the take-private transaction) (Buyout Group) and to then take on finance and to be ultimately merged with the company that is the target of the take-private (Target)

Take-private offer

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

Negotiations

The Special Committee reviews and negotiates the offer with the help of its own independent legal and financial advice, which may lengthen the process. The typical mission of the Special Committee is to:

Investigate and evaluate the Initial Take-Private Offer.

Discuss and negotiate any terms of the merger agreement.

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

Negotiate definitive agreements with respect to the take-private or any other transaction.

Report to the board the recommendations and conclusions of the Special Committee with respect to the Initial Take-Private Offer.

Board approval

The directors of each company participating in a merger (Merger Co. and Target) must approve the terms and conditions of the proposed merger (Plan of Merger), including, among other things:

How the shares in each participating company will convert into shares in the surviving company or other property (for example, cash payable to shareholders).

What rights and restrictions will attach to the shares in the surviving company.

How the memorandum and articles of the surviving company will be amended.

What the amounts or benefits paid or payable to any director consequent upon the merger will be.

Shareholder approval

For each constituent company (the Merger Co. and the Target), the Plan of Merger must be authorised by a special resolution of the shareholders who have the right to receive notice of, attend and vote at the general shareholders’ meeting, voting as one class with at least a two-thirds majority.

Consents

Each participating company must also obtain the consent of:

Each creditor holding a fixed or floating security interest.

Any other relevant consents or filings with relevant regulatory authorities (such as the Cayman Islands Monetary Authority or authorities in the overseas jurisdiction where the Target is registered and/or operates).

Filing and registration

After obtaining all necessary authorizations and consents, the Plan of Merger must be signed by a director on behalf of each participating company and filed with the Cayman Islands Registrar of Companies, who will register the Plan of Merger and issue a certificate of merger.

Effective date

The merger will be effective on the date the Plan of Merger is registered by the Registrar of Companies (unless the Plan of Merger provides for a later specified date or event). On the effective date:

All right and assets of each of the participating companies will immediately vest in the surviving company.

Subject to any specific arrangements, the surviving company will inherit all assets and liabilities of each of the participating companies (Merger Co. and Target).

Subject to the constitutional documents of each company, there are no restrictions under the Cayman Islands law on the type of consideration offered as part of a merger (which can be cash, securities, other property or a combination of assets). Different treatment between different classes of shares or among different shareholders within the same class is possible.

Merger take-privates are generally characterised by a cash consideration being offered to shareholders other than persons affiliated with the Buyout Group. Any dissenting shareholders are granted special appraisal rights under the Companies Law, ensuring they obtain “fair value” for their shares under section 238 of the Companies Law.

Private equity

3. What has been the level/extent of private equity-backed bids in the past 12 months?

About half of the 2016 merger take-privates included private-equity firms among the sponsors in the original non-binding proposals. In one case, a private equity firm launched a competing bid at a higher price and managed to convince several other investors to join in.

Finance

4. How were the largest or most noteworthy public M&A transactions financed?

In about 50% of the reported merger take-privates of Chinese companies, completed in 2016 using the Merger Regime, the founders/managers of the listed company, its parent and/or several private equity investors acting as sponsors for the purposes of the take-private transaction (Buyout Group) paid for the merger consideration with either:

Available cash of the Target.

Equity financing provided by the Buyout Group.

For smaller deals (less than US$50 million), which were mostly 100% equity-financed or financed using available cash of the Target or its parent, the merger process from the Initial Take-Private Offer and up to the extraordinary general meeting (EGM) approval typically lasted between six and nine months. However, larger deals (more than US$300 million), which were financed by a combination of cash, equity and debt financing, required about 11 to 20 months to complete.

Regulatory clearances and other authorisations

5. Please briefly outline the approach of the competition regulator(s) in the past 12 months. Were any public M&A transactions blocked by a regulator, or cleared subject to specific remedies, conditions or restrictions?

There is no anti-trust legislation in the Cayman Islands. However, there are change-of-control rules for companies operating in regulated sectors (such as those regulated by the Cayman Islands Monetary Authority under the Banks and Trust Companies Law (2013 Revision), the Insurance Law 2010 (as amended) or the Mutual Funds Law (2105 Revision)).

In addition, ownership and control restrictions apply to entities regulated by the Information & Communications Technology Authority Law (2016 Revision).

Blocked transactions?

Not applicable.

Cleared subject to remedies, conditions or restrictions?

Not applicable.

Future developments

6. What will be the main factors affecting the public M&A market over the next 12 months, and how do you expect the market to develop?

In 2015 the Cayman Islands Grand Court (Grand Court) for the first time issued guidance on the determination of “fair value” in the context of a claim by dissenting shareholders under the Cayman Merger Law in Re: Integra Group [FSD 92 of 2014].

First, when a dissenting shareholder triggers the court process for determining “fair value” under the Cayman Merger Law (under section 238 of the Companies Law), the Court can make such award as is just and equitable in relation to the parties’ legal costs. In Integra Group, the Grand Court provided guidance on how such discretion might be exercised in the context of fair value assessments under the Cayman statutory merger regime.

Secondly, the Grand Court took into account fair value cases from Delaware and Canada to reach its conclusions on the determination of “fair value” in Integra Group and established the following principles:

Fair value is the value to the shareholder of his proportionate share of the business as a going concern: it is a value that is “just and equitable” and provides adequate compensation consistent with the requirements of justice and equity.

Fair value does not include any premium for forcible taking of shares and it does not include a minority discount for being a minority shareholder. In determining fair value neither the upside nor downside of the transaction being dissented from should be taken into account (such as any costs or savings obtained by a company going private).

Assessing fair value is a fact-based exercise, which requires an important element of judgment by the court.

Where a company’s shares are listed on a major stock exchange, this does not mean that a valuation methodology based upon its public traded prices is necessarily the most reliable. Whether this valuation methodology is appropriate will depend on whether there is a well informed and liquid market with a large, widely held, free float.

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Author

Gary Smith

Introduction

The Cayman Islands (Cayman) has been the leading offshore jurisdiction for merger and acquisition (M&A) activity over the last two (2) years. In 2015, Cayman-incorporated companies were the target of 863 transactions worth a combined value of USD116.41bn. The value was more than twice the amount of the British Virgin Islands with USD49.62bn (with 387 M&A transactions) and well in excess of Bermuda with 498 M&A transactions with a combined value of USD67.57bn.

In 2016, Cayman-incorporated companies again led the way in terms of offshore M&A activity and were the target of transactions worth a combined USD68.85bn followed by the British Virgin Islands with USD41.65bn and Bermuda with USD41.25bn. By way of comparison, Hong Kong incorporated companies were the target of transactions worth a combined USD33.19bn in 2016.

With Cayman-incorporated companies becoming the target for such a large proportion of offshore M&A activity, our Year in Review of the Cayman Merger Take-Privates that completed successfully in 2016 aims to showcase some recent trends resulting from M&A activity in the specific area of merger take-privates involving Cayman-incorporated companies listed on U.S. stock exchanges, and to discuss some related lessons which are useful for shareholders, directors and their onshore legal advisors. While our main focus is on those transactions which actually completed in 2016, in providing our analysis on recent trends we also cover some M&A transactions that were either aborted or are still ongoing.

Development of the trend for using Cayman companies for IPOs and merger take-privates

Starting with the 1990’s, many Chinese companies chose to list on the New York Stock Exchange (NYSE) or the Nasdaq Stock Market (NASDAQ) to gain, among other things, access to capital from U.S. investors and stature and credibility in an increasing global world. In or around 2011 and 2012, this trend changed. While U.S. listings remained attractive for Chinese companies, the cost of complying with reporting standards continued to increase. Additionally, a lack of comprehension by U.S. investors of the corporate structures being utilised 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 the NYSE or NASDAQ but which had a stock market value lower than its intrinsic value would be taken private and de-listed with help from private equity (PE) 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 Hong Kong Stock Exchange or the Singapore Stock Exchange for a better

Since 2010, the Cayman Islands statutory merger regime (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 when in 2011 the shareholder voting threshold for approving a merger was reduced to a special shareholder resolution requiring only two-thirds of the votes cast.

Our Year in Review of the Cayman Merger Take-Privates that completed successfully in 2016 which (i) provides legal insights into developing trends and lessons that can be learned from merger take-private acquisitions from U.S. stock exchanges using the Cayman Merger Law, and (ii) deals with the issues that acquirers and minority shareholders should bear in mind. In addition to the above, the publication covers the following areas:

The Nuts and Bolts of the Cayman Merger Law Regime

Data Analysis of Merger Take-Private Transactions which completed successfully, including the following topics:

Financing

Cash, Equity or Debt

Length of the Merger Process

Negotiating with the Special Committee

What Value?

Valuation Methods

Top 5 Lessons for the Buyout Group from the 2016 Take-Privates

Top 5 Lessons for the Minority Shareholders from the 2016 Take-Privates

The Special Trusts (Alternative Regime) Law, 1997, now incorporated into Part VIII of the Trusts Law (2011 Revision) (the “Law”) provides the legal basis on which private purpose trusts can be established in the Cayman Islands, without affecting the previously existing laws governing the creation and administration of traditional trusts.

Since their introduction in 1997, STAR trusts (as they are commonly referred to) have gained a strong reputation for being flexible estate planning tools where special purpose vehicles are too inflexible or otherwise inappropriate. Unlike traditional English common law trust principles, under which a trust is not valid unless it is for the benefit of an identified person or class of persons or for charitable purposes, the STAR trusts can be (i) for the benefit of an identified person or any number of persons or (ii) solely for the benefit of charitable or non-charitable purposes or objectives provided that the purposes are lawful and not contrary to public policy.

What was the rationale for creating STAR Trusts

Before the Law was enacted, it was not possible to create trusts for a purpose other than a charitable purpose. The Law also permits perpetual trusts; that is, trusts without a perpetuity or expiry period. Cayman Islands trusts which are not subject to the STAR trusts regime are currently limited to a maximum duration of 150 years.

STAR trusts can be (i) for the benefit of an identified person or any number of persons or (ii) solely for the benefit of charitable or non-charitable purposes or objectives provided that the purposes are lawful and not contrary to public policy. This is a unique feature of STAR trusts and highlights the flexibility offered by the STAR trust structure. It is a requirement of the STAR trust regime that at least one trustee of a STAR trust is a trust company licensed in the Cayman Islands or a private trust company registered as such in the Cayman Islands.

What are STAR Trusts used for?

STAR trusts are commonly used for, among other things, the following.

To create dynasty-style trusts for multiple generations primarily for holding treasured family assets, investments, and preserving shares in family businesses.
To create trusts for philanthropic purposes which are outside of the scope of what would be considered charitable as a matter of Cayman Islands law.
To create trusts which restrict the rights of troublesome beneficiaries who may be tempted to challenge the trust, to seek to obtain information in relation to the trust, among other things.
To create trusts which are unrestricted by a perpetuity period.
To create trusts which benefit persons while at the same time achieving alternative objectives such as the continuation of family businesses.
To form “Special Purpose Vehicles” for a wide range of commercial transactions in a safe, flexible, and bankruptcy remote manner.
To act as a vehicle to hold shares in a private company, thus allowing a family member (or members) to retain a degree of control over the administration of the underlying trusts and influence decisions which may affect the underlying trusts and the assets they hold (most typically, shares in a family business).
For clubs and associations whereby their members can enforce terms of contracts without actually being a party to the contract. Also, upon the dissolution of the club or association, the contributed assets may be returned to members in portions specified in the trust deed, rather than in an ad-hoc manner.

Regulation and registration

The Trustee of a STAR trust must be or must include a trust company licensed to conduct trust business in the Cayman Islands. This adds a level of oversight and regulation above and beyond other jurisdictions.

The Trustee of a STAR trust is also required to keep, in its Cayman Islands office, a documentary record of:

(i) the terms of the STAR trust,

(ii) the identity of the Trustee and the enforcer(s),

(iii) all settlements of the property upon trust and the identity of the settlor(s),

(iv) the property subject to the STAR trust at the end of each of its accounting years, and

(v) all distributions or applications of the trust property.

These additional obligations clarify any uncertainty in the common law regarding the retention of trust records and other vital information. These requirements therefore

standardize and clarify important administrative expectations specifically imposed on STAR trust Trustees.

Registration

There is no requirement to register a STAR trust with the regulatory authorities in the Cayman Islands, hence confidentiality is preserved. In fact, all trust deeds (except “exempted trusts”) are exempt from registration. Therefore, the details of a STAR trust will remain confidential, subject only to disclosure as may be required by an order of the Cayman Islands Courts.

Conclusion

With sound professional advice, the STAR trust provides a flexible and valuable tool for structured financing arrangements, as well as for the estate and financial planning of private parties seeking a safe and reliable trust mechanism to satisfy their specific needs and purposes.

This publication is not intended to be a substitute for specific legal advice or a legal opinion. It deals in broad terms only and is intended to merely provide a brief overview and general guidance only. For more specific advice on STAR Trusts in the Cayman Islands, please refer to your usual contact or:

Gary Smith
Partner
T +1 (345) 749 7590
M +1 (345) 525 0900
E gary.smith@loebsmith.com
www.loebsmith.com

In the first two issues of our series of legal insights on owning intellectual property (IP) through a Cayman Islands structure, we discussed how the Cayman Islands aim to become an important offshore hub for the development and commercial exploitation of IP, some of the key benefits of being in the Special Economic Zone (SEZ) and certain advantages of incorporating an exempted company in the Cayman Islands (Incorporate Your Idea. How to Develop Your Intellectual Property in the Cayman Islands) and also how the Cayman Islands legal framework has been modernized to cover IP rights in the digital age and how trade secrets are protected in equity, with a special focus on FinTech companies (Financial Technology Intellectual Property (FinTech IP) Welcome in the Cayman Islands). In this third issue, we take a closer look at the “brand new” Cayman Islands Trade Marks Law, published on 19th December 2016 and which is expected to come into force early 2017, pursuant to which a stand-alone comprehensive trademark protection regime is created in the Cayman Islands (the “New Trade Marks Regime”) to replace the current system of extension of UK/EU IP rights.

Basic Concepts of the New Trade Marks Regime:

A Classic Trade Mark Definition. The concept of “trademark” is defined, in line with the harmonized definition, which is currently applied throughout the European Union countries¹, as any sign capable of being represented graphically which is capable of distinguishing goods or services of one undertaking from those of other undertakings. It may consist of words (including personal names) designs, numerals, letters or the shape of goods or their packaging². However, upon a closer look, the Cayman Islands have not followed the most recent dematerialization trends in Europe, where, starting from September 2017, signs will be registered as trademarks if they are represented in any appropriate form (i.e., not only a graphic form) using generally available technology³.
Cayman Register. A Register of Trade Marks will be maintained by a Registrar of Trade Marks (the “Registrar”) and will include details of applications for registration (including graphic representations of trade marks), filing dates and dates of priority, names of proprietors of registered trademarks, and any transactions or events affecting registered trademarks (such as an assignment, the grant of a licence, or the grant of any security interest, whether fixed or floating), which are filed with the Registrar in order to protect the rights in the registered trade mark against third parties⁴.
Traditional Annual Registration Fees. One of the main features of the current system for trademark protection in the Cayman Islands, the annual registration fee, will remain in place under the New Trade Marks Regime. The proprietor of a registered trademark must, through its registered agent, pay a prescribed annual fee by January 1 of each year. If the annual fee remains unpaid at March 31, the rights shall be deemed to be in abeyance from April 1 until the annual fee and the prescribed penalty have been paid.

Transitioning to the New Trade Marks Regime and Practical Issues:-

While Regulations detailing the New Trade Marks Regime have not yet been published, the following questions and answers may give companies owning trademarks which are registered or which are planning to be registered shortly in the Cayman Islands, and their IP agents, some useful insight with respect to a few practical issues:

1. What information should be provided with an application for trademark registration and what will be the registration process under the New Trade Marks Regime?

An application to register a trademark in the Cayman Islands will include⁶, under the New Trade Marks Regime:

(a) a request for registration of a trademark;

(b) the name and address of the applicant;

(d) a statement of the goods or services in relation to which it is sought to register the trademark;

(e) the classification of the goods or services; and

(f) a representation of the trademark.

After the application is complete, the Registrar will review the documentation provided, carry out a search of earlier trademarks in the Register of Trade Marks, and examine if requirements for registration are met⁷.

⇒ If requirements for registration are not met, the Registrar will inform and give the applicant an opportunity for representations or amendments.

⇒ If requirements for registration are met, applications will be published for opposition by third parties, with the opposition period being 60 (sixty) days following publication⁸.

The registration process is expected to last an average of three (3) months, and the registration of a trademark must be completed within six (6) months from the date of application, or the Registrar may treat the application as abandoned.

2. When is the trade mark protected?

Under the New Trade Marks Regime, the proprietor has exclusive rights in the registered trademark, preventing any use of the trademark in the Cayman Islands without the proprietor’s consent, starting with the date of filing of the application for registration¹⁰, which is the day on which the complete application is filed with the Registrar. (If the initial application is incomplete, the date of filing is the final day on which a relevant document was submitted¹¹.)

Registration of a trademark will not be, however, enforceable against an unregistered earlier trademark which has been in constant use in the Cayman Islands¹².

3. When will the registration of a trade mark be refused in the Cayman Islands?

As is customary for any trademark registration systems, the Registrar will refuse the registration of a trade mark¹³ which is devoid of any distinctive character, or which designates the kind, quality, quantity, purpose, value, geographical origin, time of production, or other characteristics of goods or services, or which is customary in the current language or the established practices of the trade. A trademark will also not be registered if it may deceive the public as to the nature, quality, geographical origin of the goods or services or any other characteristic of the goods or services.

Identical or similar trademarks will not be registered for similar goods or services because of the risk of confusion on the part of the public. Similar trademarks may be registered, however, subject to the consent of the proprietor of the earlier trade mark¹⁴ or upon the applicant showing honest concurrent use of the trademark for which registration is sought ¹⁵.

In addition to the grounds for refusal referred to above, the New Trade Marks Regime protects existing Cayman Islands’ businesses by restricting registration of trademarks which may take unfair advantage of, or be detrimental to, the distinctive character or the repute of an earlier similar trademark already registered or otherwise protected in the Cayman Islands and which has a reputation in the Cayman Islands¹⁶.

Also, the Registrar is prohibited by law¹⁷ from registering a trademark which consists exclusively of the word “Cayman”, “Cayman Islands”, “Grand Cayman”, “Cayman Brac”, “Brac” or “Little Cayman”. A trademark will also not be registered if it is contrary to public policy or to accepted principles of morality in the Cayman Islands. Furthermore, the Registrar may publish from time¹⁸ to time by notice in the Cayman Islands Gazette, a list of words, letters or devices which are restricted or prohibited to be used in connection with a trademark registration.

4. If the applicant receives a letter of objections, can a trade mark still be registered?

Depending on the objections of the Registrar, to avoid grounds for refusal or to resolve conflicts with existing trademarks, an applicant for registration of a trademark, or the proprietor of a registered trademark, may disclaim any right to the exclusive use of any specified element of the trademark or agree that the rights conferred by the registration shall be subject to a specified territorial or other limitation. This may also be required by the Registrar or the Cayman Court as a condition of the trademark being registered on the Register of Trade Marks¹⁹.

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Article 2 of the Directive 2008/95/EC of the European Parliament and of the Council
Article 2(1) of the Trade Marks Law, 2016.
The Amending Regulation (EU) No 2015/2424 removes the graphical representation requirement.
Unless such transactions are registered in the Register of Trade Marks, assignees are not entitled to damages or an account of profits in respect of any infringement of the registered trade mark occurring after the date of the transaction. See Article 39 of the Trade Marks Law, 2016.
Article 21 of the Trade Marks Law, 2016
Article 13(2) of the Trade Marks Law, 2016
Article 15 of the Trade Marks Law, 2016
Article 16(2) of the Trade Marks Law, 2016
Article 15(6) of the Trade Marks Law, 2016
However, under Article 29(3) of the Trade Marks Law, 2016, no infringement proceedings may be begun before the date on which the trade mark is in fact registered.
Article 14(2) of the Trade Marks Law, 2016
Article 31(3) of the Trade Marks Law, 2016
Article 23(1) of the Trade Marks Law, 2016
Article 25(6) of the Trade Marks Law, 2016
Article 26 of the Trade Marks Law, 2016; “honest concurrent use” means such use in the Islands by the applicant or use with the applicant’s consent, at the same time that use is made by the proprietor of the earlier trade mark.
Article 25(3) of the Trade Marks Law, 2016
Article 23(2) of the Trade Marks Law, 2016
Article 23(5)(c) of the Trade Marks Law, 2016
Article 33(4) of the Trade Marks Law, 2016

This is not intended to be a substitute for specific legal advice or a legal opinion.

Ramona Tudorancea

Corporate / M&A Specialist
Suite 329 | 10 Market Street | Camana Bay |
Grand Cayman KY1-9006 | Cayman Islands
E ramona.tudorancea@loebsmith.com
www.loebsmith.com

Introduction

What changes have been introduced recently in Cayman Islands law that you believe will enhance the jurisdiction’s offering in the investment funds industry?

In June 2016 the Cayman Islands brought into effect The Limited Liability Companies Law, 2016 (the “LLC Law”) which introduces a new Cayman Islands limited liability company (an “LLC”). Since July 2016 there has been an increasing number of LLCs formed and also a large number that have transferred to the Cayman Islands by way of continuation from other jurisdictions. The Cayman Islands LLC structure will be attractive for general partner entities and other carried interest distribution vehicles because while the LLC has the benefit of being (like a Cayman Islands exempted company) a separate corporate entity with limited liability, it does not have the maintenance of capital restrictions applicable to exempted companies and therefore has more flexibility to make distributions of income and capital through the terms of the LLC Agreement. For the same reason, LLCs are also proving attractive for management company entities. We expect that over the next few years LLCs might also prove attractive as a structure for offshore funds in order to align the rights of investors between onshore and offshore investment funds in master/feeder structures.

What are the key features of a Cayman LLC?

The key features are:

An LLC formed under the LLC Law is similar in structure to the Delaware LLC as the LLC Law is broadly based on the Limited Liability Company Act in the State of Delaware. However the LLC Law has also preserved the broad legal principles applicable to Cayman Islands companies and the rules of equity and common law.

An LLC is a corporate entity which has separate legal personality to its members.

Formation of an LLC is straightforward. It requires the filing of a registration statement with the Companies Registry and payment of the requisite Government fee.

An LLC must have at least one member. 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. Members can have capital accounts and can agree amongst 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.

The following statutory registers are required to be maintained for an LLC but, similarly to the requirement for a Cayman Islands exempted company, only an LLC’s register of managers is required to be filed with the Companies Registry:

a register of members;

a register of managers; and

a register of mortgages and charges.

The Segregated Portfolio Company (“SPC”) is increasingly being used as a structure for investment funds, what do think explains this increasing popularity?

Under the Cayman Islands Companies Law (the “Companies Law”), an SPC is an exempted company which has been registered as a segregated portfolio company. It has full capacity to undertake any object or purpose subject to any restrictions imposed on the SPC in its Memorandum of Association. The Memorandum of Association of an SPC usually gives the SPC full capacity to pursue very broad objects. Once registered under the Companies Law, an SPC can operate segregated portfolios (“SPs”) with the benefit of statutory segregation of assets and liabilities between portfolios.

The appeal of SPCs extends beyond investment funds and the structure is often used in capital markets and securitisation transactions. In the investment funds context, SPCs greatly enhance the versatility and efficiency of Cayman Islands fund structures. It allows investors to access different trading strategies or investments, different markets or different managers through a single corporate vehicle whilst simultaneously providing the segregation of assets and liabilities through each SP (unlike, for example, a ‘multi class’ fund where there is typically a single legal entity offering various classes of shares designated according to the designated portfolio investment) and avoiding cross class liability issues which could arise with ‘multi class’ funds.

The Companies Law permits an SPC to create one or more SPs in order to segregate the assets and liabilities of the SPC held within one SP from the assets and liabilities of the SPC held within another SP of the SPC. The general assets and general liabilities of the SPC (i.e. assets and liabilities which cannot be properly attributed to a particular SP) are held within a separate general account rather than in any of the SP accounts. Each SP should have, as appropriate, its own bank account, brokerage account, and other accounts to hold its assets to avoid co-mingling with the assets of other SPs.

Figure 1. An unlimited number of SPs can be created by the SPC to hold various assets, employ different investment strategies or have varying sector focus.

The Companies Law requires that segregated portfolio assets must only be available and used to meet liabilities to the creditors of the SPC who are creditors in respect of that SP and who are thereby entitled to have recourse to the segregated portfolio assets attributable to that SP for such purposes. Segregated portfolio assets should not be available or used to meet liabilities to, and must be absolutely protected from, the creditors of the SPC who are not creditors in respect of that SP, and who accordingly are not entitled to have recourse to the segregated portfolio assets attributable to that SP.

Accordingly, a creditor will only have recourse to assets from SPs with which it has contracted and creditors will have no recourse to the assets of other SPs of the SPC which are protected under the Companies Law. This statutory protection afforded under the Companies Law to the assets of each SP is one of the key feature and benefit of the SPC structure.

Why is the SPC being used increasingly as a fund structure?

The Cayman Islands continue to be one of the leading offshore jurisdictions for the establishment of hedge funds, private equity funds, real estate funds, and other asset classes. The versatility and efficiency of the SPC structure in terms of the ability to effectively ‘ring fence’ certain assets and liabilities under the same investment portfolio and benefit from statutory recognition of that ring-fencing have made the SPC increasingly attractive in this environment. Like other exempted companies, there are no residency restrictions on Directors or Shareholders of an SPC and there are no Cayman Islands taxes on the SPC or its shareholders.

The SPC corporate structure allows a fund manager to employ different trading strategies, and/or establish different investment platforms, and/or provide access to different markets, and/or different trading advisers through a single corporate vehicle whilst simultaneously providing the segregation of assets and liabilities through each SP. Fund managers are able to market an SPC fund as being able to provide the ability to set up a statutory “ring-fence” to protect against cross liability issues relating to the assets and liabilities of the various SPs within the SPC. The SPC structure is being used as an investment platform on which investors can form different SPs to hold varying asset classes (e.g. real estate, intellectual property, stocks and shares, and distressed assets) and have their investments managed separately from other investments held by other SPs on the same SPC platform.

The SPC will have a Board of Directors. In addition, each SP can have its own segregated portfolio directorate or investment or management committee which effectively controls and manages the operations of the relevant SP. The segregated portfolio directorate, investment or management committee obtains its powers through powers delegated to it by the Board of Directors of the SPC.

This Article first appeared in Asian Legal Business December 2016 Issue – Guide to BVI and Cayman

Gary Smith

E gary.smith@loebsmith.com

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The Nuts and Bolts of the Cayman Islands Merger Regime

The Cayman Islands (Cayman) has been the leading offshore jurisdiction for merger and acquisition (M&A) activity over the last three (3) years. In 2015, Cayman-incorporated companies were the target of 863 transactions worth a combined value of USD116.41bn. The value was more than twice the amount of the British Virgin Islands with USD49.62bn (with 387 M&A transactions) and well in excess of Bermuda with 498 M&A transactions with a combined value of USD67.57bni. In 2016, Cayman-incorporated companies again led the way in terms of offshore M&A activity and were the target of transactions worth a combined USD68.85bn followed by the British Virgin Islands with USD41.65bn and Bermuda with USD41.25bnii. By way of comparison, Hong Kong incorporated companies were the target of transactions worth a combined USD33.19bn in 2016iii. Cayman-incorporated companies were the target of transactions worth a total USD80bn in 2017 and USD60bn in the first half of 2018.

The Cayman Merger Law regime is attractive for both companies and investors, due to the process being relatively straightforward and simpler than either a takeover offer (tender offer) under section 88 of the Cayman Islands Companies Law or a court-approved scheme of arrangement under section 86 or 87 of the Cayman Islands Companies Law. Set out below are the basic steps in the process of effecting a merger under Part XVI of the Cayman Islands Companies Law (As Revised).

1. s of the take-private transaction) (the “Buyout Group”) to take on finance and to be ultimately merged with the company which is the target of the take-private (“Target”). Forming MergerCo. The most straightforward structure used for a merger take-private is that a new company (“MergerCo”) is formed in the Cayman Islands by the investors adhering to the takeover group (often involving the founders/managers of the listed company, its parent and/or several private equity (PE) investors acting as sponsors for the purpose

2. Take-Private Offer. After obtaining legal and financial advice, the Buyout Group agrees on the terms of the proposed merger take-private and the consideration which would be offered to the shareholders of the Target and makes an offer to the Board of the Target (the “Initial Take-Private Offer”). Since most of the take-private transactions are initiated by or with involvement of the management or certain shareholders represented at Board level, the merger process requires that a special committee formed of independent directors (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, which may lengthen the process. Overall, the typical mission of the Special Committee is to: (i) investigate and evaluate the Initial Take-Private Offer, (ii) discuss and negotiate any terms of the merger agreement (the “Merger Agreement”), (iii) explore and pursue any alternatives to the Initial Take-Private Offer as the Special Committee deems appropriate, including maintaining the public listing of Target or finding an alternative buyer, (iv) negotiate definitive agreements with respect to the take-private or any other transaction, and (v) report to the Board the recommendations and conclusions of the Special Committee with respect to the Initial Take-Private Offer.

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

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

ii. what rights and restrictions will attach to the shares in the surviving company;

iv. how the Memorandum and Articles of Association of the surviving company are amended; and

v. what are the amounts or benefits paid or payable to any director consequent upon the merger.

5. Shareholder Approval. For each constituent company (MergerCo and Target), the Plan of Merger is required to be authorized by a special resolution of the shareholders who have the right to receive notice of, attend and vote at the general shareholders’ meeting (“EGM”), voting as one class with at least two-thirds majority.

6. Consents. Each participating company must also obtain the consent of (i) each creditor holding a fixed or floating security interests, and (ii) any other relevant consents or filings with relevant regulatory authorities, such as the Cayman Islands Monetary Authority or authorities in the overseas jurisdiction where the Target is registered and/or operates.

7. 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 participating company and filed with the Cayman Islands Registrar of Companies, who will register the Plan of Merger and issue a certificate of merger.

8. Effective Date. The merger will be effective on the date that the Plan of Merger is registered by the Registrar of Companies unless the Plan of Merger provides for a later specified date or event. Upon the effective date, all rights and assets of each of the participating companies shall immediately vest in the surviving company and, subject to any specific arrangements, the surviving company shall inherit all assets and liabilities of each of the participating companies (MergerCo and Target).

9. Shareholder Dissent. Any shareholder of a company participating in the merger is entitled to payment of fair value of its shares upon dissenting from the merger under Section 238 of the Cayman Islands Companies Law. Fair value can either be agreed between the parties or determined by the Cayman Court.

i Figures from the M&A Latin America and Global Review published by Bureau van Dijk (Zephyr) for the year 2016.
ii Ibid.
iii Figures from the M&A Greater China Review published by Bureau van Dijk (Zephyr) for the year 2016.
iv Or such higher threshold as may be specified in the Memorandum and Articles of Association.
v Or, if the secured creditor fails to grant such consent, the company may apply to the court for a waiver.
vi If date or event is not more than 90 days after the Plan of Merger is registered by the Registrar of Companies.

In the prevailing economic conditions, investors in offshore companies registered in the Cayman Islands or the British Virgin Islands (“BVI”) are increasingly being forced to consider their rights against directors who may have been responsible for mismanagement of the company’s affairs. Minority shareholders, in particular, are keen to understand the availability of remedies which allow them to overcome “wrongdoer control”. That is to say, the common situation where the composition and direction of the board is controlled by majority shareholders. We have set out below a brief summary of the duties owed by directors and the remedies available to shareholders in each of these jurisdictions.

What is scope of director’s duties?

Cayman Islands

The duties of a director of a Cayman Company are found in the common law and include the duty to act bona fide in the best interests of the company, a duty not to exercise his or her powers for purposes for which they were not conferred and not to make secret profits.

British Virgin Islands

The law governing the “duties of directors and conflicts” is set out in Division 3 of Part VI of the BVI Business Companies Act, 2004 (as amended) (the “Act”). These largely mirror the position at common law and include, for example, (a) the duty to “act honestly and in good faith and in what the director believes to be in the best interests of the company”(s.120); (b) the duty to exercise powers “for a proper purpose” and a requirement that a director “shall not act, or agree to the company acting, in a manner which contravenes this Act or the memorandum or articles of the company (s.121)”; and a requirement that “a director of a company shall forthwith after becoming aware of the fact that he is interested in a transaction entered into or to be entered into by the company, disclose the interest to the board of the company (s.124). It is interesting to note that subsections 120 (2)-(4) of the Act provide that a director of a company that is a wholly-owned subsidiary, subsidiary or joint venture company may, subject to certain requirements, act in the best interests of the relevant parent, or in the case of the joint venture company, the relevant shareholders even though such act may not be in the best interests of the company of which he is a director.

What are the standard director’s duties?

Cayman Islands

The common law applies to the Cayman Islands such that a director is under a duty to act with reasonable care, skill and diligence in the performance of his or her duties. In the English authority of Re City Equitable Fire Insurance Co [1925] Ch. 407 it was held that “a director need not exhibit in the performance of his duties a greater degree of skill than may reasonably be expected from a person of his knowledge and experience. This highly subjective test, however, has been met with increasing criticism in more recent years and there is further English authority to suggest that directors are nevertheless subject to an objective duty to “take such care as an ordinary man might be expected to take on his own behalf” (Dorchester Finance Co v Stebbing [1989] BCLC 498 (decided in 1977)). As such, a distinction appears to be drawn between the duty of skill on the one hand and the duty to take care on the other. However, in Re City Equitable Fire Insurance Co it was further held that “in respect of all duties that, having regard to the exigencies of business, and the articles of association, may be properly left to some other official, a director is, in the absence of grounds for suspicion, justified in trusting to that official to perform such duties honestly.”

British Virgin Islands

Section 122 of the Act provides that “A director of a company, when exercising powers or performing duties as a director shall exercise the care, diligence and skill that a reasonable director would exercise in the same circumstances taking into account, but without limitation:

(a) the nature of the company;

(b) the nature of the decision; and

This duty is qualified by s. 123 to the extent that the director of a company is entitled to rely upon the books of the company in question and/or employees and professional advisers provided that in doing so he or she acts in good faith, undertakes a proper inquiry where this is warranted and has no knowledge of a reason for not placing reliance on the said books and records.

What are the key remedies available to a member or shareholder?

Cayman Islands

The following remedies are available to a member of a Cayman Company:

(a) A personal action against the company (where the company has breached a duty which is owed to the member personally);

(b) A representative action (similar to a personal action such a claim would lie for breach of a duty owed to a group of shareholders)

A petition to wind up the company on just and equitable grounds. (This is seen as a last resort because it risks placing the company into liquidation although s.95(3) of the Companies Law (2013 Revision) (the “Law”) provides the Court with the option of making an alternative order. See below).

British Virgin Islands

The members of a BVI company may pursue the following remedies:

(a) A personal action pursuant to section 184G of the Act (on the same grounds as at common law in the Cayman Islands)

(b) A representative action pursuant to section 184H which provides that the Court may appoint a member “to represent all or some of the members having the same interest and may, for that purpose, make such order as it thinks fit, including an order (a) as to the control and conduct of the proceedings; (b) as to the costs of the proceedings; and (c) directing the distribution of any amount ordered to be paid by a defendant in the proceedings among the members represented.

(d) An unfair prejudice claim pursuant to section 184I.

What are derivative claims and what is their legal basis?

Cayman Islands

A derivative action is a claim commenced by one or more minority shareholders on behalf of a company of which they are a member in respect of loss or damage which that company has suffered. Such a claim can only be brought in certain circumstances and amounts to an exception to the rule that a company, as a separate legal person, should sue and be sued in its own name (often referred to as the rule in the English authority of Foss v Harbottle (1843) 2 Hare 461; 67 E.R 189). In the Cayman Islands the law governing derivative actions is drawn from the common law rather than statute.

British Virgin Islands

While the English common law applies in the British Virgin Islands “members remedies” have been given a statutory footing in Part XA of the Act (see below).

What is the procedure for commencing a derivative action?

Cayman Islands

As with the majority of actions commenced in the Cayman Islands, derivative claims are normally begun by serving a writ and statement of claim on the relevant defendant or defendants. Grand Court Rules O.15, r. 12A provides that where the defendant gives notice of an intention to defend the claim then the plaintiff must apply to the Court for leave to continue the action. Such an application should be supported by affidavit evidence verifying the facts on which the claim and entitlement to sue on behalf of the company are based. Pursuant to Grand Court Rules O.15 r.12A(8) on the hearing of the application, the Court may grant leave to continue the action for such period and upon such terms as it thinks fit, dismiss the action, or adjourn the application and give such direction as to joinder of parties, the filing of further evidence, discovery, cross-examination of deponents and otherwise as it considers expedient. In Renova Resources Private Equity Limited v Gilbertson and Others [2009] CILR 268, Foster., J affirmed the application in the Cayman Islands of the test to be applied in determining whether to grant leave to continue the action put forward by the English Court of Appeal in Prudential Assurance Co Ltd v Newman Industries Ltd (No.2) [1981] Ch 257. Foster, J., held that: “(…) there are two elements to this: first the plaintiff [is] required to show prima facie that there [is] a viable cause of action vested in the company and, secondly, that the alleged wrongdoers [have] control of the company (or could block any resolution of the company or the board) and thereby prevent the company bringing an action against themselves.”

British Virgin Islands

Section 184C (1) of the Act provides that subject to certain exceptions “the Court may, on the application of a member of a company, grant leave to that member to (a) bring proceedings in the name and on behalf of that company; or (b) intervene in the proceedings to which the company is a party for the purpose of continuing, defending or discontinuing the proceedings on behalf of the company.” Section 184C(2) provides that “without limiting subsection (1), in determining whether to grant leave under that subsection, the Court must take the following matters into account: (a) whether the member is acting in good faith; (b) whether the derivative action is in the interests of the company taking account of the views of the company’s director’s on commercial matters; (c) whether the proceedings are likely to succeed; (d) the costs of the proceedings in relation to the relief likely to be obtained; and (e) whether an alternative remedy to the derivative claim is available.” Pursuant to subsection (3) leave to bring or intervene in proceedings may be granted “only if the Court is satisfied that: (a) the company does not intend to bring, diligently continue or defend or discontinue the proceedings as the case may be; or it is in the interests of the company that the conduct of the proceedings should not be left to the directors or to the determination of the shareholders or members as a whole. Such an application for leave should be made to the Court supported by affidavit evidence.

Is it possible to bring multiple derivative claims (“MDCs”)?

Cayman Islands

In Renova the Grand Court held that in appropriate circumstances MDCs would be permitted. In that case, the plaintiff had brought an action in respect of loss incurred by a wholly-owned subsidiary of the company in which it was a shareholder and therefore loss to the subsidiary caused indirect loss to its parent company and shareholders. However, the rule against the recovery of reflexive loss applied such that a shareholder or parent company would not be permitted to claim for indirect losses which mirrored those losses suffered directly by the relevant subsidiary or indeed sub-subsidiary on who behalf action was being brought.

British Virgin Islands

In Microsoft Corporation v Vandem Ltd BVIHCVAP2013/0007 the Eastern Caribbean Court of Appeal held that BVI law which has been codified in this area “does not permit double derivative actions.” That said, recent English authority such as Universal Project Management Services Ltd v Fort Gilkicker Ltd [2013] 3 WLR concerning the interpretation of s.260 the English Companies Act, 2006 may open up arguments that such actions are nevertheless available in the jurisdiction at common law.

What remedies are available for unfair prejudice and what is their legal basis?

Cayman Islands

Pursuant to section 92 of the Companies Law (2013 Revision) the Court may wind up a company if it is of the opinion that it would be just and equitable for it to do so. Section 95(3) provides that where such a petition “is presented by members of the company as contributories on the ground that it is just and equitable that the company should be wound up, the Court shall have jurisdiction to make the following orders, as an alternative to a winding-up order, namely –

(a) an order regulating the conduct of the company’s affairs in the future;

(b) an order requiring the company to refrain from doing or continuing an act complained of by the petitioner or to do an act which the petitioner has complained it has omitted to do;

(c) an order authorising civil proceedings to be brought in the name of and on behalf of the company by the petitioner on such terms as the Court may direct; or

an order providing for the purchase of the shares of any members of the company by other members or by the company itself and, in the case of a purchase by the company itself, a reduction of the company’s capital accordingly.

British Virgin Islands

Section 184I of the Act provides that “a member of a company who considers that the affairs of the company have been, are being or are likely to be, conducted in a manner that is, or any act or acts of the company have been, or are, likely to be oppressive, unfairly discriminatory, or unfairly prejudicial to him in that capacity, may apply to the Court for an order under this section.” Section 184I(2) provides that “if on an application under this section, the Court considers it just and equitable to do so, it may make such order as it thinks fit, including, without limiting the generality of this subsection, one or more of the following orders:

(a) in the case of a shareholder, requiring the company or any other person to acquire the shareholder’s shares;

(b) requiring the company or any other person to pay compensation to the member;

(d) amending the memorandum and articles of the company;

(e) appointing a receiver of the company;

(f) appointing a liquidator of the company under section 159(1) of the Insolvency Act on the grounds specified in section 162(1)(b) of that Act;

(g) directing the rectification of the records of the company;

setting aside any decision made or action taken by the company or its directors in breach of this Act or the memorandum or articles of the company.

This Briefing Note is not intended to be a substitute for specific legal advice or a legal opinion. It deals in broad terms only and is intended to merely provide a brief overview and general guidance only. For more specific advice on the laws in the Cayman Islands, please contact:

E gary.smith@loebsmith.com

E ramona.tudorancea@loebsmith.com

E yun.sheng@loebsmith.com