After much anticipation, The Exempted Limited Partnership Law, 2014 of the Cayman Islands (the New ELP Law) took effect in July 2014. Cayman Islands private equity funds are typically formed as exempted limited partnerships (ELPs) and, as such, are subject to the New ELP Law. The New ELP Law substantially modernizes the law applicable to ELPs and, importantly, substantially harmonizes Cayman Islands law with the current equivalent Delaware statute on which the previous ELP Law was originally based.
Among other things, the New ELP Law: provides greater protections for advisory committee members; clarifies that limited partners of an ELP owe no fiduciary duty to the other parties; permits the parties to modify the fiduciary duty of the general partner of an ELP; clarifies that forfeiture provisions with respect to the default of a limited partner are enforceable; limits the statutory right of the ELP to claw back distributions previously made to the limited partners; and simplifies signing and other mechanics for closing a Cayman fund and for maintaining its register.
The New ELP Law is the product of several years of consultation among practitioners in the Cayman Islands, the Cayman Islands Government and U.S. and other onshore practitioners. A key goal of the New ELP Law was to present the market with a cutting edge piece of legislation responsive to both current market needs and market practice. The key changes introduced by the New ELP Law are described below.
Extension of Limited Liability Safe Harbors
The New ELP Law extends the existing Cayman safe harbor provisions to confirm that acting as a member of an advisory committee will not compromise the limited liability of the appointing limited partner.
Advisory Committee Members
The New ELP Law clarifies that, subject to the provisions of the partnership agreement, advisory committee members do not owe fiduciary duties to the ELP or any partner.
In addition, the New ELP Law provides a statutory basis for advisory committee members to enforce any indemnification and exculpation provisions intended for their benefit in the partnership agreement for the ELP, even though they are not parties to the partnership agreement. This provision was intended to address the lack, until recently, of third-party beneficiary rights under Cayman Islands Law. It should be noted that the Contracts (Rights of Third Parties) Law, 2014 was enacted in the Cayman Islands in May 2014. This new third-party beneficiary legislation gives contracting parties that wish to opt in the ability to grant to persons who are not a party to a contract the ability to enforce rights that have been conferred on them under the terms of the contract.
The ability to confer third-party rights on members of advisory committees eliminates the need for separate indemnity agreements or deed polls. One less piece of paper to sign on closing is always embraced.
Fiduciary Duties of Limited Partners
The New ELP Law confirms that, subject to any express terms of an ELP’s partnership agreement to the contrary, a limited partner does not owe any fiduciary duty to the ELP or any other partner.
General Partner's Fiduciary Duty
Previously, a general partner of a Cayman Islands private equity fund structured as an ELP had to act at all times in good faith in the interests of the ELP. Under the New ELP Law, in line with Delaware law, the general partner of an ELP may act in the interests of (or take into account the interests of) a party other than the ELP, including its own interests, provided that (1) the partnership agreement expressly permits the general partner to take into account such other interests and (2) the general partner acts in good faith. This provision reflects the reality that there will be circumstances, such as managing conflicts of interest, where it may be appropriate for a general partner to take into account interests other than those of the ELP.
The New ELP Law simplifies borrowing at the fund level by, among other things, confirming that the property of an ELP includes the right to make capital calls and receive the proceeds thereof. In addition, the procedure to be followed by a secured creditor to establish the priority of its security interest when taking security over the interest of a limited partner in the ELP has been simplified. These changes should assist in the smooth execution of financing transactions for Cayman Islands private equity funds.
Similar to the Delaware statute, the New ELP Law now includes an "actual knowledge" qualifier to the previous statutory clawback and makes other changes favorable to investors. Before the New ELP Law, for example, a limited partner was required to repay to the ELP amounts received from the ELP representing a return of any part of the limited partner’s capital contributions within six months before an insolvency of the ELP.
Under the New ELP Law, by comparison, a limited partner must have actual knowledge that it received a distribution from an ELP when the ELP was insolvent (or that the distribution resulted in the ELP being insolvent) to be subject to the statutory clawback. In such a situation (and in certain other enumerated situations), the limited partner will, for a period of six months starting on the date of such distribution, be liable to return the payment to the extent necessary to discharge a debt or obligation of the ELP incurred during the period that the contribution was an asset of the ELP.
Defaulting Limited Partners
The enforceability of partnership agreement provisions providing that a limited partner may, among other consequences, forfeit all or a portion of its interest in an ELP if it is found to be in default under the ELP’s partnership agreement (e.g., if the limited partner fails to make capital contributions) was a topic that caused much consternation after the 2008 financial crisis. The New ELP Law confirms that such provisions will not be treated as penalty provisions and will be enforceable.
The application of such default provisions by a general partner to a limited partner will remain subject to the general partner's fiduciary duty under the New ELP Law to act at all times in good faith and, subject to any express provisions to the contrary in the ELP's partnership agreement, in the interests of the ELP. Provided that a general partner adheres to its fiduciary duties, this confirmation of the enforceability of default provisions should reduce potential fiduciary and litigation risk for a general partner when applying the default provisions specified in an ELP’s partnership agreement. The New ELP Law specifies that, provided that a general partner has complied with its fiduciary duties, a general partner shall not be liable for its decision to impose or for imposing any default remedies or consequences upon any partner (or indeed its decision not to do so).
Admission of Limited Partners
The New ELP Law clarifies the circumstances in which a limited partner will have been duly admitted as a partner. The motivation behind the change is to ensure that, provided the admission procedures in the applicable partnership agreement have been complied with, a person will be deemed to have adhered to and agreed to be bound by the partnership agreement, even if there is a technical defect in the manner in which admission has been effected. This change, which simplifies the formalities associated with the admission of limited partners, is retrospective.
Register of Limited Partnership Interests; Inspection Rights
Following the implementation of the New ELP Law, the register of limited partnership interests no longer needs to contain details of capital contributions, which must be maintained by the general partner as a separate record. The register of limited partnership interests may now contain less information: the name and address of each limited partner; the date on which a person became a limited partner; and the date on which they ceased to be a limited partner.
A general partner may now expressly exclude in the partnership agreement of an ELP the ability of limited partners to inspect the register of limited partnership interests. In addition, the record of contributions is only available for inspection by limited partners (and any other person) with the consent of the general partner.
The changes to the maintenance of an ELP’s register of limited partnership interests have simplified prior requirements. Whilst the ability to prescribe the extent of rights of access to the register of partnership interests may be welcomed by general partners, implementing this change as a matter of practice may not be a commercial reality for established sponsors whose limited partner base has an expectation of such access rights based on existing investments.
Execution of Deeds
The English Mercury case (R (on the application of (1) Mercury Tax Group Limited and (2) Darren Neil Masters) v HMRC and others  EWHC 2721 (Admin)), which stipulated strict requirements for the valid execution of deeds, was expressly disapplied in the Cayman Islands by amendments to the Companies Law (as amended) of the Cayman Islands in 2011 (the Companies Law Amendments). The ramifications of the Mercury case were not perceived as practical or reflective of market practice in an increasingly global corporate environment where virtual signings and closings are usually held. However, there were differing views among practitioners in the Cayman Islands as to whether the Companies Law Amendments extend to the execution of deeds on behalf of an ELP or in respect of an ELP (such as an ELP's partnership agreement).
The New ELP Law confirms the disapplication of the Mercury case to ELPs. As is the case under the Companies Law Amendments, the relevant provision has retrospective application. This important amendment removes the need for additional formalities from the signing and closing of Cayman Islands private equity funds, restoring “business as usual” and enabling a streamlined process with the signing and closing mechanics for Delaware vehicles.
Powers of Attorney
Prior to the implementation of the New ELP Law, the partnership agreement for an ELP was required to be executed as a deed where it contained a power of attorney. The New ELP Law provides that a power of attorney contained in the partnership agreement of an ELP will be valid even if the ELP's partnership agreement has not been validly executed as a deed in compliance with the usual formalities under Cayman Islands law to grant a power of attorney. This is significant because, prior to the implementation of the New ELP Law, there have been instances where a partnership agreement for an ELP that needed to be executed as a deed (owing to the inclusion of a power of attorney) was not validly executed as a deed, thereby calling into question the validity of the power of attorney granted under the partnership agreement. In essence, the partnership agreement containing the power of attorney will be deemed, regardless of how executed or adhered to, to have been validly executed as a deed for the purposes of the Powers of Attorney Law of the Cayman Islands. This provision has retrospective effect.
It should be noted that this amendment is not applicable to subscription agreements containing a power of attorney and executed by limited partners in respect of their investment in a Cayman Islands private equity fund. Accordingly, it is still essential to ensure that a subscription agreement containing a power of attorney has been validly executed as a deed. Furthermore, please note that as a matter of best practice, we recommend that a partnership agreement containing a power of attorney still be executed as a deed, notwithstanding the provisions of the New ELP Law.
Registration of Foreign Partnerships
A welcome change under the New ELP Law is the ability to register a foreign partnership, such as a Delaware limited partnership, to act as the sole general partner of an ELP. This is frequently desired from a structuring perspective. The new enabling provision has eliminated the need to appoint an additional general partner to meet specific legal requirements as to who may serve as a sole general partner of an ELP, where it is desirable that a foreign partnership act as sole general partner of an ELP.
In addition to the foregoing, the New ELP Law allows for an alternative simplified procedure for dissolving ELPs that have ceased to be active and adds a new mechanism to enable the transfer of an ELP from the Cayman Islands to Delaware or other jurisdictions.
The implementation of the changes outlined above will assist in making the formation and operation of Cayman Islands private equity funds more efficient and more consistent with market practice, and will facilitate the harmonizing of the partnership agreement for an ELP with the partnership agreement for any Delaware parallel or feeder fund.