CAYMAN ISLANDS: An Introduction to Dispute Resolution

Chambers Global 2022: Cayman Islands: Dispute Resolution

As a British Overseas Territory with tax-neutral status and a sophisticated legal system rooted in English common law, the Cayman Islands’ status as an integral part of the international finance system is well established. Investors from many countries and sectors choose to invest with and through entities incorporated in the Cayman Islands, and to enter into contractual agreements governed by the laws of the Cayman Islands with Cayman jurisdiction clauses, in the knowledge that any disputes which arise will be resolved by the Cayman courts with the Judicial Committee of the Privy Council in London as the final court of appeal. Investors in cross-border transactions take comfort from the presence of an independent and impartial judiciary which will determine the rights and obligations of parties based on due process and established principles of law. Only a small percentage of the transactions which involve Cayman entities or Cayman law-governed agreements will give rise to a dispute, but when they do arise such disputes tend to be high value, involving complex cross-border issues with sophisticated and well-resourced parties on either side. Two sectors which give rise to a significant number of disputes, and are therefore worthy of further mention, are investment fund disputes and disputes involving operational business in Asia which structure through Cayman to access foreign money markets.

As a result of Cayman’s status as the leading jurisdiction for alternative investment funds (which includes hedge funds as well as private equity, venture capital and hybrid funds), there is a steady stream of investment fund-related disputes. As at 31 December 2021, there were over 12,000 mutual funds, 14,500 private funds and 672 funds structured as exempted limited partnerships registered in the Cayman Islands. To put these numbers into some perspective, it is estimated that over 75% of the world’s offshore hedge funds are domiciled in the Cayman Islands. Each dispute will be specific to the facts of the case but common issues include disputes between investors and the fund and/or the fund’s advisors relating to contractual rights, performance issues relating to investments, the payment of management fees and other forms of remuneration and the ability of an investor to exit the fund by redeeming its position. Funds domiciled in the Cayman Islands invest in a wide variety of sectors and regions which increases risk, reward and the potential for cross-border issues. Fraudulent investment schemes such as Ponzi schemes are rare but do occur from time to time. What is more common is disputes arising from fund governance issues, with investors concerned about the manner in which the fund and its assets are being managed. Where grounds to do so exist, investors may seek a winding-up order against the fund and the appointment of independent court-appointed liquidators to wind down the fund’s affairs and distribute the surplus profit to investors in accordance with the fund’s constitutional documents. The court has jurisdiction to make such an order either where the fund is insolvent on a commercial cash-flow test or where it is just and equitable to do so. The court’s just and equitable jurisdiction is broad and unfettered, albeit the court’s discretion is to be exercised in accordance with established principles of law. We have seen an increasing number of such cases over the past 12-24 months with the court showing a willingness to intervene and protect the rights of investors where grounds to do so exist.

Another fertile area for disputes is the use of Cayman holding companies as investment vehicles for investments into the PRC and Asia. For example, approximately 58% of all companies listed on the Hong Kong Stock Exchange are incorporated in the Cayman Islands, with a majority of those companies having their primary operations in the PRC. The use of Cayman-incorporated vehicles for investments into Asia is not confined to listed companies and extends equally to private companies. As these vehicles are used to raise debt, we see a number of creditor-related disputes. In 2021, 68% of the creditor winding-up petitions filed in the Cayman Islands concerned companies or funds with their primary operations in Asia, predominantly in the PRC. Shareholder and investor disputes are also prevalent in respect of these companies in much the same way as they are for investment funds.

The use of Cayman entities as listing vehicles for PRC businesses has also resulted in a significant number of fair-value appraisal litigation cases in the Cayman Islands. The phrase “China orphan” companies was coined in around 2009 to describe the PRC companies which had been lured to float overseas, typically on the NYSE or Nasdaq in the early 2000s, but felt underappreciated and undervalued by US investors following the Great Recession of 2007-2009, an event which also resulted in increased regulatory oversight and costs for listed companies. The orphan companies de-list by way of take-private transactions with a view to re-listing in Hong Kong, Shanghai or Shenzhen where investors have greater familiarity with their underlying business, resulting in a higher market capitalization which in turn increases its ability to raise further capital. A company’s ability to de-list typically requires the consent of a majority of the company’s shareholders and, similar to jurisdictions such as Delaware, minority shareholders have a right to dissent to the transaction and be paid fair value for their shares in an amount determined by the court. This has given rise to an industry of professional dissenters who acquire shares in companies who have announced an intention to de-list for the sole purpose of dissenting and demanding fair value, which is some cases can be multiples of the price they acquired the shares for. This trend looks set to continue with increasing US regulation specifically aimed at listed PRC operational companies and pressure from the PRC state on companies listed abroad.

Litigation remains the prevalent form of dispute resolution in the Cayman Islands. The use of arbitration clauses in agreements governed by Cayman Islands law remains relatively low but is gaining traction in certain sectors. It used to be said that arbitration was a more flexible and cheaper alternative to litigation but, in our experience, the cost and duration of the process is broadly the same. The primary advantage to arbitration is the ability to keep the proceedings confidential, which is in stark contrast to litigation where open justice is a fundamental principle in Cayman Islands legislation (as it is in almost all developed jurisdictions).

The pandemic has had little impact on the ability of the Cayman courts to administer justice and determine disputes. The restrictions placed on travel by the Cayman Islands and other countries has accelerated the use of technology by the courts with the introduction of an e-filing system, the increased use of electronic-hearing bundles and hearings and lengthy trials being conducted remotely via video conference, including the cross-examination of witnesses based outside of the Cayman Islands. We expect this trend to continue into 2022 and beyond, with the effect that litigation becomes more accessible and disputes can be resolved by the courts in a more time- and cost-efficient manner.