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19 May 2020
To help Cayman hedge funds navigate the myriad of issues brought about by COVID-19, this article offers a high-level checklist for fund directors and investment managers to consider.
The checklist is arranged under three main topics:
Each of these topics is considered in turn in relation to a typical standalone corporate open-ended Cayman fund. That said, most of the following checks can be applied, with modifications, to other open-ended structures, using a variety of Cayman vehicles.
Clearly, the first step for all directors and their managers is to get a firm handle on the key operational issues affecting the fund. This will have been underway for some weeks, ensuring that directors have a full understanding of:
Managers should by now have conducted a detailed analysis of the fund's brokerage and trading agreements, including margin arrangements and events of default, as well as valuation policies, including considering whether additional pricing sources or other valuation methodologies are necessary to support and corroborate the fund's existing procedures.
Consult fund's articles of association
When considering a fund's legal options, it is worth remembering that if the fund's powers under its offering document exceed or are inconsistent with those in its articles of association, the articles prevail. Additional powers under the offering document will be of no legal effect as against the fund's shareholders to the extent that they are inconsistent with the articles of association.(1) Similarly, side letters may be unenforceable to the extent that they purport to alter class rights prescribed by the articles (eg, redemption rights).(2)
Does a fund need the investors' consent for the proposed strategy?
The structuring options available to a fund will vary greatly depending on its particular circumstances, as illustrated by this range of possible questions:
Whatever strategy the directors decide (ideally in consultation with the investment manager), the fund should consider whether the shareholders' consent is necessary to implement that strategy.
What are the options for managing liquidity?
There are two primary considerations in this respect:
For example, where certain assets in the fund's portfolio have become difficult to value, does reliance on the NAV for the purpose of accepting further subscriptions constitute a material risk to new or existing investors?
The tools at the investment manager's disposal and the way in which they can be used will depend on the wording of the fund's articles. Possible tools include:
Since effective deployment of such tools can be complex, funds should take advice in a timely fashion.
What are the options for managing an orderly termination?
If it is not viable or appropriate for a fund to continue in its present form, the directors should make this call early and develop a termination plan as soon as possible.
Termination of solvent funds
If a fund is solvent, the following termination options are available:
Under options one and two, the directors may use the above structuring tools to manage the process. Under option three, the process is instead managed by the voluntary liquidator (although there is no requirement for this to be a licensed insolvency practitioner).
Termination of insolvent funds
If a fund is insolvent, it may be terminated on:
All of these options give the fund the benefit of a statutory moratorium, meaning that no claims may be commenced or proceeded with against the fund after the petition has been presented.
Directors and investment managers should also review the fund's articles and subscription agreements to ascertain whether they include protective non-petition language, as this will be relevant to assessing the risk of shareholders presenting a winding-up petition.
As the service provider at the coalface of a fund's day-to-day operations, the investment manager is initially responsible for handling communications and filing official reports. However, ultimate responsibility rests with the directors. It is essential that the directors and the investment manager handle communications and reports in a collaborative manner, having regard to the material facts and the scope of their authority in the articles and offering documents. If an investment manager makes representations outside its actual or ostensible authority, there is a risk that the representations will be invalid.(3)
Investment managers should constantly update the directors, even if they are third-party directors. The directors owe stringent duties to the fund and depriving them of critical information will expose the investment manager to additional risks. The same duties apply to all directors (including non-executive directors).
It is critical that investors are given relevant information often, and without discrimination between them. This is the best way to maintain trust and goodwill. The more significant the information, the greater the imperative for the fund to communicate in a timely and comprehensive manner.
The Cayman Islands Monetary Authority must be notified in a timely fashion of any suspension and termination.
In addition, where the fund continues to offer its shares, its offering document must be updated.
For many funds, navigating through March 2020 has already been an impressive achievement. However, uncertainty continues and it is essential for both directors and managers to have a clear understanding of available levers to manage liquidity and the options available where a fund's viability is threatened.
For further information on this topic please contact James Bergstrom or Gemma Lardner at Ogier by telephone (+1 345 949 9876) or email (firstname.lastname@example.org or email@example.com). The Ogier website can be accessed at www.ogier.com.
The materials contained on this website are for general information purposes only and are subject to the disclaimer.
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