As fund finance has evolved beyond classic subscription lines into asset-backed facilities, NAV lines and warehouses, and the rise of private credit has seen practitioners expand into back-leverage, pass-through notes, TRSs and capital relief trades, Cayman bankruptcy remote 'drop-down' SPVs have become ubiquitous across on-balance sheet structures.
The legal architecture for bankruptcy remoteness in a fund finance context varies by entity type - exempted companies, exempted limited partnerships (ELPs) and limited liability companies (LLCs) – and the mitigation measures employed are reflective of, and seek to address, the ways in which such a vehicle can be wound up in the Cayman Islands. Focusing the discussion below on voluntary winding up risks, we conclude that the optimal mix of protections should be calibrated to the deal’s risk profile and the parties’ commercial objectives.
Exempted companies: Special voting share and ascribing the right to wind up
For Cayman Islands exempted companies, the shareholders by special resolution (or by ordinary resolution where such exempted company is unable to pay its debts) hold the power to initiate a voluntary winding up, which creates a clear vulnerability for the finance parties if the SPV holds financed assets or is a borrower or co-obligor. To address this, it is necessary to deploy mitigation measures reflecting the agreed approach between the parties. Such approach can range from an irrevocable proxy or contractual undertakings in favour of the agent on the lighter end, but in most instances involves the implementation of a special voting share alongside a carefully drafted amended and restated memorandum and articles of association (A&R M&A). The A&R M&A should distinguish the rights attaching to ordinary shares from the rights attaching to the special voting share and, critically, require the affirmative vote or written consent of the special voting shareholder for any step in furtherance of a winding up. An experienced professional services provider, such as Walkers Fiduciary Limited, would typically be engaged to hold this special voting share pursuant to a customary declaration of trust which contractually constrains the exercise of those rights for the benefit of the finance parties. Coupled with restricting the directors from initiating a voluntary winding up absent shareholder sanction, these measures substantially neutralise the risk of a voluntary liquidation while facility obligations remain outstanding.
LLCs: Contractual flexibility with independent manager and special member
Cayman Islands LLCs, like their Delaware counterparts, offer greater flexibility with Cayman statute providing that the LLC agreement can expressly disapply a member-initiated voluntary winding up and provide for an alternative vote or written consent to be required. The practice with LLCs therefore involves drafting the LLC agreement to embed an independent manager consent right as a contractual precondition to the initiation of a voluntary liquidation. Some lenders additionally require a 'special member' (the special voting shareholder equivalent) concept to be built into the LLC agreement which may provide additional comfort, including by reducing vulnerability in the structure stemming from the independent manager's ability to resign during the life of the deal, albeit in limited circumstances (a mechanism most service providers appointed to this role require) without a replacement having been appointed. A further advantage of the LLC form is fiduciary architecture: unless otherwise provided for in the LLC agreement, managers of an LLC owe only a duty to act in good faith rather than in the best interests of the LLC (being the default position for exempted companies). This provides the further benefit of allowing the independent manager’s role and liability to be tightly scoped to winding up actions, avoiding the tensions that can arise when attempting to ring-fence or reduce fiduciary duties of an independent director of a company.
ELPs: Focus on the general partner
For Cayman Islands ELPs, bankruptcy remoteness in many ways hinges on the general partner. As a matter of structure, the ELP’s winding up will necessarily follow as a consequence of the winding up of the general partner (GP), unless the GP can be replaced. Accordingly, true structural bankruptcy remoteness for an ELP will almost always require a newly formed and dedicated GP (conducting no other business than acting as GP of the ELP) which is itself bankruptcy remote. Further, as the power to initiate a voluntary liquidation of the ELP usually resides with that GP and is exercised by the GP's governing body, an independent director or manager appointed at the GP level, whose affirmative vote is a condition to any winding-up step, is typically seen as a necessary part of the prevailing solution. In practice, this independent sign-off at GP management level operates in tandem with the special voting share or special member concept within the SPV structure, adapted to the ELP/GP context, to guard against the risk of liquidation.
What best practice looks like
There is no one-size-fits-all to achieving bankruptcy remoteness from a Cayman Islands law perspective. The mechanisms deployed to mitigate against voluntary winding up risk on relevant transactions should ultimately reflect what the finance parties require in light of their credit risk parameters, without unnecessarily depriving the sponsor of flexibility to structure, manage and extract value from the SPV. Over-engineering can add friction and cost without materially improving creditor outcomes; under-engineering can expose finance parties to the risk of corporate actions at inopportune moments and threaten the structure's resilience. Documentation should align constitutional rights and restrictions, contractual covenants and consent rights with the facility’s features and requirements, while ensuring that fiduciary roles are well defined and reliably staffed by experienced service providers.
What is essential when acting lender or borrower side on a transaction involving Cayman bankruptcy remote structuring is to engage with Cayman counsel who understand the fundamental corporate and finance principles that underpin the various mechanisms discussed above. The best counsel will also have extensive experience working for both lenders and sponsors on transactions of this nature, a pragmatic and commercial approach to tailoring these for the deal in question and an affiliated full service and world-class professional services offering that can fulfil the required functions, delivering the efficiency and comfort that finance parties require while preserving the commercial terms struck between the parties.
Walkers has a global team of dedicated finance lawyers with extensive experience advising on bankruptcy remote structures. Please reach out if you have any questions.
