The Cayman Islands LLC at ten: what fund finance has learned

When the limited liability company legislation came into force in the Cayman Islands in July 2016, the jurisdiction acquired a body corporate vehicle combining much of the contractual flexibility familiar to users of Delaware LLCs with a Cayman Islands statutory framework. A decade later, the LLC is firmly established, but its place in financed structures has developed in more measured ways than some early commentary suggested. Having acted on leading fund finance transactions since the market’s inception, and more recently on the increasing use of Cayman Islands LLCs within financed structures, we have seen how the LLC is being used in practice, and the diligence, security and enforcement questions that most often arise.

For lenders, sponsors and their counsel, vehicle selection should align the vehicle’s constitutional mechanics with the investor base, economics, financing product and proposed collateral package.

Where the LLC has found its place

The LLC is commonly selected for structures designed by or for US managers, particularly where the parties want the economics and governance of a Cayman Islands vehicle to align closely with a Delaware counterpart. For US manager parallel and blocker structures in particular, the LLC is now the vehicle lenders should expect to see as the counterparty on new facilities.

Feeder funds, co-investment vehicles, parallel and blocker vehicles. Contractual treatment of capital accounts, allocations, distributions and economic rights allows a Cayman Islands LLC to mirror a Delaware sister vehicle more readily than a conventional share based company. In feeder, co-investment and parallel fund structures this reduces the drafting friction between the US and Cayman Islands documents, and in blocker structures it supports the tax and reporting characterisation the sponsor is looking to achieve.

Aggregators, continuation structures and private credit vehicles. Cayman Islands LLCs are also used where parties require tailored economic, governance, consent, transfer and distribution mechanics. Bespoke waterfalls and provisions governing the admission or withdrawal of members, reclassification of interests and transfer restrictions can all sit within a single governing agreement. This can be particularly useful for structures whose composition, economics and decision making arrangements evolve during their life.

What lenders have learned

The clearest lessons appear in diligence and security. Documents prepared for an exempted company cannot be adapted by substituting membership interests for shares.

Start with the LLC agreement. The LLC agreement is the central source of the members’ economic and governance rights. Diligence begins by identifying how an interest is created or reclassified, what restrictions apply to transfer or assignment, whose consent is required and how a transferee obtains the relevant rights.

Trace authority and control. The documents must make clear who may cause the LLC to borrow, guarantee and grant security. Where authority is delegated, the lender should establish whether it survives a change of manager or an enforcement event.

Design the security package around the transfer mechanics. The security documents should address the LLC agreement’s transfer and admission provisions, supported where appropriate by consents, acknowledgements, register notations and manager undertakings. The drafting must cover both the creation of security and the steps required for an enforcement transferee to be recognised and exercise the rights attaching to the interest.

Build the statutory mechanics into closing. Under section 11 of the Limited Liability Companies Act, priority between security interests over an LLC interest is determined by the time at which a compliant written notice, signed by the secured party and the relevant member, is validly served at the LLC’s registered office. The LLC must update its register of security interests within 21 days of receipt. Evidence of valid service should therefore be a closing deliverable, with evidence of the corresponding register entry to follow once updated.

Use vehicle-specific defined terms. Share based change of control, transfer and cascading pledge provisions do not always translate cleanly to membership interests. Facilities involving both exempted company and LLC obligors require defined terms that distinguish between the two forms. Investor and consent documents must likewise reflect the actual manager consents, assignment restrictions and consequences of enforcement.

Plan the enforcement route at the outset. A common error is retrofitting a share based security package onto an LLC structure late in diligence. At the outset, the question is what the secured party or purchaser obtains on enforcement, how it is admitted or recognised, and when it may exercise the economic and governance rights. Those issues should be resolved before closing, not tested after default.

Why the exempted company remains relevant

The exempted company has proved more resilient than predictions of some degree of displacement suggested. Investor familiarity, established documentation and the relative simplicity of a share based structure continue to support its use.

Investor familiarity. Some non-US investors and their counsel remain more accustomed to memorandum and articles of association, share classes and register based ownership, particularly during fundraising and secondary transfers.

Listed and quasi-listed products. Where a structure interacts with an exchange, a securities regulatory framework or established share register conventions, an exempted company may be the more natural vehicle.

Orphan and structured finance vehicles. Exempted companies remain common in bankruptcy remote structures where established ownership, governance and security conventions matter to transaction parties.

Lender-facing borrower and holding vehicles. Where financing relies on equity interest security, an exempted company can offer a familiar diligence and enforcement pathway built around shares. Security over an LLC interest is entirely workable, but requires closer attention to the LLC agreement, transfer restrictions and recognition of an enforcement transferee.

The distinction is practical. An LLC offers greater contractual flexibility; an exempted company may provide a more familiar and streamlined financing process.

A practical vehicle selection framework

For a financed structure, the choice is best approached through practical questions:

• Who are the investors, and which form will be most familiar to them and their advisers?
• What economics and governance arrangements need to be reflected in the constitutional documents?
• What borrowing, guarantee and security powers will the financing require?
• What asset or interest will form the lender’s collateral, and whose cooperation will be required?
• What must happen on enforcement for a transferee to obtain and exercise the relevant rights?
• Do listing, regulatory, tax or investor considerations favour one form?

Addressing those questions at formation avoids discovering during financing diligence that the constitutional mechanics do not support the proposed collateral package.

A decade’s verdict

The Cayman Islands LLC has not displaced the exempted company. It has expanded the toolkit. The Cayman Islands now has two mature body corporate forms: one built around contractual flexibility and the other around established share based conventions. The right choice is the vehicle whose constitutional mechanics best support the structure, its investors and its anticipated financing.

What comes next

As fund financing extends beyond traditional subscription facilities, vehicle selection will become more significant. NAV, hybrid and GP financings increasingly require lenders to analyse interests and assets further down the fund structure. Where a Cayman Islands LLC forms part of that structure, its governing agreement, transfer mechanics and enforcement pathway need to be considered at an early stage. The LLC is not inherently difficult to finance; the answers are simply best set at formation, not when financing is sought.

This article was first published by Cayman Finance: The Cayman Islands LLC at ten: what fund finance has learned.