Having worked as a funds lawyer through the 2008 financial crisis and advised various Cayman funds on the meltdowns that followed, it’s easy to agree with the opening remark in the Privy Council’s recent judgment in the Primeo case1 that “the path to redemption is not always smooth.” The Privy Council has provided helpful confirmation of the earlier decisions in the Cayman Islands Grand Court and the Court of Appeal that under Cayman Islands law “redemption” of shares means redemption in accordance with the terms set out in a fund’s articles of association. Once the redemption process in the articles has been complied with, the investor is taken to have redeemed its shares and become a creditor in respect of its redemption proceeds. Payment by the Company of the redemption proceeds is not an inherent part of redemption.
What was the Primeo case about and why does it matter for offshore funds today?
Since the financial crisis, there’s been plenty of litigation involving offshore funds, often arguing over exactly when a shareholder has redeemed its shares under Cayman Islands or BVI law. This matters as it will determine whether a redeeming investor is still officially a shareholder of a fund or if it has become a creditor for payment of its redemption proceeds by the time a fund suspends redemptions or goes into liquidation. In this case, Primeo had invested into another fund (Herald Fund SPC) which in turn had invested in Bernard Madoff’s fund, which as we all now know turned out to be a huge Ponzi scheme. That revelation led to Herald suspending calculation of its NAV and all further payments to investors who’d invested in its redeemable shares, including suspending payments to Primeo.
The Primeo case held that investors who have redeemed their shares but not been paid their redemption proceeds rank in a liquidation after “ordinary” creditors who were not formerly shareholders, but before other shareholders who are due money in their capacity as shareholders. As the Privy Council is also the ultimate court of appeal for the BVI, this decision is also expected to shape the BVI courts’ rulings on redemptions of shares.
Nearly 9 years after the Madoff Ponzi scheme was uncovered, the Primeo decision reinforces the importance in practice of getting the redemption mechanics in a fund’s articles of association and private placement memorandum right. The judgment confirmed that the Cayman Companies Law clearly indicates the freedom that shareholders and a company have to shape their relationship as regards redemption of the fund’s shares, via the articles, and held that the essence of redemption is the surrender of the status of shareholder.
So, the articles and PPM need to be very clear when redemption happens and so when an investor stops being a shareholder of the fund and becomes a creditor for their redemption proceeds. Since the financial crisis there’s been increased focus on these mechanics, which now typically explicitly set out the effect of redemption, and that from eg the relevant redemption day, the redeeming investor stops being entitled to any rights in respect of those shares except the right to receive the redemption proceeds and any dividend already declared, in respect of which the investor will be treated as a creditor of the fund.
The Privy Council didn’t go further to set out whether investors who had submitted their redemption requests but the redemption date fell after the fund went into liquidation would rank after investors who had submitted a redemption request before the date of the winding up but for whatever reason the fund had not taken the steps they should (eg updating the register of members) before the winding up started. Still, it gives our litigators more to argue about next time they’re in court and if you want to know more about what they’re up to, take a look at our litigation blog.