On Friday 1 April, the Court of Appeal handed down its much awaited written judgment in Westford Special Situations Fund Limited v Barfield Nominees et al. The decision has far reaching consequences, not only for BVI funds, but also for all types of BVI corporate vehicles. The case directly and indirectly dealt with four major issues:-
- Who is a creditor for the purposes of winding up a BVI company?
- In what circumstances can a fund elect to satisfy redemption requests by transferring assets other than cash to an investor?; and, can in specie payments protect a fund from being wound up?
- What is the priority of distributions in the eventual liquidation of a company?
- Who is liable for the liquidators’ fees whose appointment is ultimately set aside on appeal?
Brief factual matrix
The Respondents (the “Investors”) had invested substantial sums in the Appellant (the “Fund”), a feeder fund which in turn was wholly invested in a related master fund (the “Master Fund”) which held the substantive assets on its behalf. In September and October 2007, the Investors submitted redemption requests to the Fund. The Fund subsequently suspended redemption payments but in the meantime made partial cash payments to the Investors. In 2009, the Investors lost patience with the Fund and the apparent protracted nature of the payments and served statutory demands on the Fund for the balance of their redemption requests.
The Investors refused to accept in specie redemption payments pursuant to the attempted transfer of the only type of asset the Fund held, partnership interests in the Master Fund, and successfully petitioned to wind up the Fund in December 2009. On appeal the decision to wind up the Fund was reversed.
- Who can apply to appoint liquidators over a fund?
The principal argument in Westford was whether a shareholder with a claim based on unpaid redemption proceeds could be said to be a “creditor” for the purpose of applying for the appointment of a liquidator over the entity into which it had subscribed. Previous case law in the BVI had broadly accepted that a shareholder in these circumstances would be a creditor with the necessary locus standi to apply for a winding up petition. In the Court of Appeal, the Fund argued that because redemption proceeds were due to investors “in their character as a member”, s. 197 of the BVI Insolvency Act 2003 (“IA”) precluded such claims from forming the basis of a winding up petition. As such, an investor with such a claim, could not fall under the definition of “creditor” in the IA and therefore lacked the necessary standing to apply to wind up a company. The Court of Appeal agreed and the order appointing the liquidators was set aside.
Note: A member or former member with a claim for dividends, profits, redemption proceeds or any other sums by reason of their shareholding may not apply to appoint a liquidator over a BVI company.
- Can a redemption payment in specie be sufficient to defeat an application for the appointment of a liquidator?
The Fund elected to use its right under its constitutional documents, the Memorandum and Articles of Association (the “M&As”), to pay redemptions to investors in specie in satisfaction of the outstanding redemption proceeds due to the Investors prior to the application to wind up the Fund. This was rejected by the Investors (and indeed, the High Court) on the basis that the in specie offer gave nothing more than an interest in the Master Fund and therefore was not a true asset since it was encumbered with liabilities. The Court of Appeal concluded that there was nothing in the M&As to suggest that the in specie redemption need be accepted by the Investors to be effective.
Further, upon a review of the limited partnership agreement of the Master Fund, it was clear that any liabilities attaching to the interests in the Master Fund did so on a limited liability basis. The distribution appeared effective and therefore passed the threshold of establishing that the debt was disputed on a “substantial or reasonable ground.”As such the application to wind-up the Fund should have been dismissed.
Note: The ability to redeem in specie will be specific to the governing documents of a fund or company and it is therefore vital that care be given to drafting such redemption provisions and the mechanics of proceeding with a redemption in specie. Further care should also be taken to ensure that any such provisions are also carefully reflected in the offering document of the relevant fund.
- What is the priority of distributions in the eventual liquidation of a BVI company?
S.197 of the IA also deals with how a claim may be brought for debts due to an investor “in his character as a member” and provides that “Such sum is to be taken into account for the purposes of the final adjustment of the rights of members and, if appropriate, past members between themselves”. This is confirmation that theBVI applies traditional insolvency principles so that the claims of members and redeemed members are subordinated to the claims of creditors, and to the claims of members which are not based on sums due to them in their character as member.
Note: Investment fund liquidations are atypical compared to corporate insolvencies because, by their very nature, funds will have very few genuine third party creditors. This decision affirms that any outstanding redemption claims will be dealt with as part of the “final adjustment” between members from the residual assets of the estate, once all creditors have been paid out. This may redress the priority expectations of redeemed investors who by this mechanism should still be paid out in priority to ordinary members. However, careful consideration must be given by liquidators when making distributions, especially across share classes which may be linked to different assets.
- Who is responsible for liquidators’ fees if their appointment is set aside on appeal?
A further skirmish within the Westford case was who, if anyone, should be responsible for the payment of the liquidators’ fees upon the setting aside of a liquidation order. The liquidators had been in office for some 10 months before the Court of Appeal set aside their appointment and they were owed substantial fees. The Investors argued that whatever the outcome of the appeal, the expenses of the liquidation were payable from the assets of the Fund. This approach has had support in English case law and, albeit obiter, also in the BVI at Commercial Court level.
The Fund argued that any such outcome would be inherently unjust and that there was jurisdiction available to the Court to order the Investors to pay the liquidators’ fees, either directly or indirectly (by making the Fund primarily liable, but with a recovery from the Investors).
The Court of Appeal agreed with the Fund and ordered that any costs and expenses paid by the Fund to the liquidators would be recoverable from the failed applicant Investors.
Note: It is essential that liquidators ensure that they are properly indemnified by applicants and/or creditors when consenting to an appointment or incurring substantial fees in a liquidation.
This decision clarifies the position of redeemed investors not only with respect to their ability to seek the appointment of a liquidator but also as to how their claim will ultimately be treated in a liquidation. The certainty will be welcomed by the industry and, along with the decision in Aris Multi-Strategy Lending Fund Ltd v Quantek Opportunity Fund Ltd has set out the parameters of investors' rights in illiquid funds. A more detailed discussion of the position in both BVI and Cayman may be found in this recent Legal Week article.