Structure of SPCs and their significance to investors
SPCs are a type of exempted company established under the Cayman Companies Act. SPCs are unique because they allow for the assets and liabilities of the company to be legally separated among one or more segregated portfolios (SPs), whilst remaining under a single legal entity. The assets and liabilities held within or on behalf of each SP are ring-fenced from the company’s ordinary account and the assets and liabilities attributed to other SPs.
As each SP within an SPC is kept separate, the assets in one SP are shielded from the debts of another. A creditor entering into contractual dealings with a particular SP will have restricted recourse; it will only be entitled to pursue recovery against assets attributed to the specified SP to which the contract is also attributed. This arrangement is beneficial for investors, especially in high-risk ventures, as it provides a strong layer of security to protect their investments, whilst being less expensive and more efficient than forming numerous subsidiary companies.
The SPC regime and its advantages are discussed in detail in Appleby’s earlier publication Segregated portfolio companies in the Cayman Islands.
The Hong Kong judgment
In Oakwise Value Fund, the Plaintiffs were investors in an SP within the Defendant SPC. The Defendant SPC maintained various bank accounts to hold the assets of the SPs, with such accounts named with abbreviations indicating the specific SP in respect of which the funds were held.
The Plaintiffs sought to redeem their redeemable participating shares in the SP. However, the Defendant SPC purported to suspend redemption and/or payments of redemption proceeds on the basis that the particular SP was facing liquidity issues (having invested into various notes issued by real estate companies in Mainland PRC). The funds in the accounts of the SP were insufficient to cover the Plaintiffs’ claims, whereas the balances in the accounts held in the names of the other SPs were adequate to meet those claims. The Plaintiffs argued that upon submitting their redemption notice, they were to be considered general creditors of the SPC, with a right of recourse to all of its assets, including those in other SPs.
At first instance, the Plaintiffs obtained default judgment against the Defendant SPC in respect of the redemption amount and a garnishee order over the Defendant SPC’s accounts, including those held in respect of the other SPs. The Defendant SPC sought to set aside the default judgment and garnishee order.
In considering both aspects of the application, the High Court examined the segregation of assets within Cayman SPCs. The Plaintiffs contended that the contractual documents stipulated that upon redemption of their shares they were to be “treated as a creditor of the Company” and that this did not confine redeeming investors to the status of “Portfolio Creditors” (where the liability of the Defendant SPC was limited to be “in respect of or attributable to a particular Portfolio”).
In rejecting the Plaintiffs’ arguments, the High Court’s reasoning centered on the asset segregation framework in the Cayman Companies Act and the constituent documents of the Defendant SPC. Based on an analysis of that material, the High Court found that “segregation is the very foundational structure” of the Defendant SPC.
As such, the High Court did not accept that redemption transformed the Plaintiffs from investors with interests in the assets of a particular SP into general creditors with recourse of all the Defendant SPC’s assets. The High Court rejected the argument that redemption proceeds for one SP’s shares could come from other SPs’ assets, on the basis that: (i) such a conclusion would require “very clear language in the Constituent Documents”, which was absent in this case; (ii) in fact, asset segregation is “evidently provided by and runs through all the Constituent Documents”; and (iii) the Cayman Companies Act presumes against such violation of the principle of segregation in SPCs. The High Court further noted that the SP’s legal status under Hong Kong law is irrelevant, as “it is the contractual right of [the Plaintiffs] that is limiting”.
The High Court emphasised that allowing the Plaintiffs’ claims against other SPs’ assets would undermine the purpose of the SPC structure, which is designed to protect the integrity of each portfolio’s assets from liabilities of others.
The Australian judgment
In Coinful Capital Fund, joint official liquidators appointed in respect of two Cayman SPCs sought recognition in Australia to facilitate investigations into the companies’ affairs, including potential claims against entities in Australia. The application was made ex parte under Australia’s Cross-Border Insolvency Act 2008, which incorporates the UNCITRAL Model Law on Cross-Border Insolvency (the Model Law).
One of the issues closely scrutinised by the Federal Court was whether the Cayman liquidations of the SPCs fell within the scope of “foreign proceeding” under the Model law, in the context of an SP structure which departed from the usual equal sharing of assets among creditors. This issue focused on the definition of “foreign proceeding” in Article 2(a) of the Model Law, being “a collective judicial or administrative proceeding… pursuant to a law relating to insolvency in which proceeding the assets and affairs of the debtor are subject to control or supervision by a foreign court, for the purpose of the reorganization or liquidation” (emphasis added). That is, the Federal Court considered whether the liquidation of an SPC took the proceeding outside the notion of a winding up affecting creditors “collectively”.
The Federal Court held that the SPC structure did not do so and made orders recognising the Cayman proceedings for the purposes of the Model Law. The Federal Court observed that while the pari passu principle is modified by the SPC regime (in that creditors can only claim against the assets of specific SPs), the liquidations remained “collective judicial proceedings” under the Model Law’s broad definition, as they were concerned with the liquidation of each of the SPCs, rather than the constituent SPs within each SPC. The Federal Court noted that the Cayman Companies Act did not appear to provide for the winding up of SPs, and that winding up was limited to an SPC itself. This was to be contrasted with, for example, the power to appoint receivers to the assets of an individual SP under the Cayman Companies Act. The respective winding up proceedings “affect creditors collectively because their debts are transformed into rights to participate in the distribution from the assets of the companies, albeit the manner in which the assets will be distributed will be informed by the statutory segregation applicable to SPCs”.
Significance of the Judgments
These judgments, both delivered in reputable common law jurisdictions, represent positive international recognition of asset and liability segregation which is a fundamental feature of Cayman SPCs. The judgments should offer a degree of comfort to both investors and creditors of SPCs by demonstrating that overseas jurisdictions are prepared to recognise the principle of segregation underpinning the SPC structure and preserving the structural integrity of SPCs.
The Hong Kong High Court expressly confirmed the validity of ring-fencing of assets in different SPs in an SPC structure. This provides reassurance to those with interests in Cayman SPCs, by demonstrating that their foundational principles will be followed in other jurisdictions and gives investors greater confidence in making investments through that Cayman structure. The judgment sets a precedent for how SPCs may be treated in future proceedings in Hong Kong and may be persuasive in other onshore common law jurisdictions.
On the other hand, the Australian Federal Court confirmed that liquidation proceedings in relation to Cayman SPCs, despite involving a modification of the pari passu principle, remain eligible for recognition as foreign proceedings under the Model Law. This judgment confirms the willingness of overseas courts to engage in cross-border cooperation in the context of SPC structure, enhancing the tools available to liquidators to investigate and recover assets in relation to insolvent SPCs around the world.
The full Hong Kong judgment is available here. The full Australian judgment is available here.
