The red flag missed by the board was that the counterparty to that trade was an entity controlled by the fund’s manager. The Fund subsequently initiated proceedings against its former independent directors in the Grand Court of the Cayman Islands for breach of their duties to exercise independent judgment, to exercise reasonable care and skill and to act in its best interests.
At first instance, the Court found the Fund’s independent directors guilty of wilful neglect and default in the discharge of their duties, and ordered them to pay damages to the Fund’s liquidators in the sum of US$111 million, representing the losses suffered by the fund which were caused by their default.
In a seminal decision, the trial judge made a series of stern statements of principle about the duties of hedge fund directors which generated considerable comment and reaction across the hedge fund industry. The Court took long-standing principles concerning the duties of non-executive directors in a conventional company structure and adapted them for the unique structure of a hedge fund, with its array of professionals independently performing various critical functions in support of the fund’s management.
However, in a decision published on 12 February 2015, the Cayman Islands Court of Appeal (CICA) has taken a different view of the evidence which was presented to the Grand Court and has allowed the directors’ appeal against the findings of the Grand Court.
The CICA upheld the finding of the Grand Court below that the directors were, indeed, in breach of the duties which they owed to the Fund, which included a “high-level” supervisory duty in relation to the performance of the Fund’s service providers of their delegated functions. In doing so, the CICA relied on the evidence of the directors that they had “missed”, “not picked up” or failed to read in its entirety a quarterly report which would have put the board on enquiry of the facts which led to the Fund’s demise.