The Cayman Islands has taken a large step toward a progressive new restructuring regime with the recent amendments to the Companies Act (the Act). The gateway test for the new appointment regime is based on the pre-amendment provisions (the company must be or be likely to be unable to pay its debts, and intend to present a compromise or arrangement to its creditors) but the new provisions expressly state that the compromise or arrangement can be pursuant to the Act, the law of a foreign jurisdiction or a consensual restructuring. Under the new regime, however, Cayman Islands corporate rescues no longer occur within winding up proceedings.
Further, the draftsman’s pen has swept away the ‘Emmardart’ principle, so allowing companies’ boards of directors (BOD) to initiate a formal restructuring process without prior approval of the company’s shareholders, or an express power in the articles of association permitting them to do so. In addition to removing this pre-requisite to a company filing its own petition, the new Restructuring Officer (RO) regime has accelerated the commencement and widened the protection of the automatic stay. The stay now arises upon filing of the RO petition [1] and the Act provides that the stay is extraterritorial. The changes also open the possibility of recognition of Cayman schemes pursuant to section 426 of the Insolvency Act 1986, and increase the prospects of Cayman schemes being able to compromise English debt.
There is no doubt that these changes are good news for distressed Cayman debtors. The amendments grant BODs of insolvent companies the power to make timely applications for appointment of office holders and thereby obtain immediate relief from creditor pressure with a view to avoiding a value destructive liquidation.
It is a practical reality of this area of jurisprudence, however, that not all filings for restructuring office holders are driven by bona fide restructuring objectives. There have been numerous cases in the Cayman Islands in recent years in which creditors have sought to appoint joint provisional liquidators (JPLs) pursuant to section 104 (2) of the Act (on one or more of the grounds of risk of dissipation or misuse of assets, oppression of shareholders or director misconduct or mismanagement) and the subject company has countered with a defensive application, pursuant to section 104 (3) of the Act, for appointment of restructuring JPLs with a view of buying time and avoiding investigation into wrongdoings. Companies’ applications have at times been last ditch, unsupported by credible evidence and, in some instances, bogus attempts to defeat creditor interests. One recent example of the latter saw a company with a judgment debt against it in the tens of millions of dollars replace its accountants, recharacterize its equity for debt and thereby create hundreds of millions of dollars of new debt (all to company insiders) in the books of the company. The BOD sought a debt restructuring on the basis of the converted equity being bona fide debt in an attempt to drastically reduce the sum paid to the judgment creditor [2].
So why does the new regime make any difference in such (dubious restructuring) cases?
Firstly, the amendments to the Act make a material change to the positioning of the parties in terms of their initial respective rights and the conduct of the hearing for the appointment of restructuring professionals:
- the filing of a RO petition can occur without any consultation with shareholders or creditors;
- previously, in a contest between applications for a ‘dissipation JPL’ [3] and a restructuring JPL (the latter being pursuant to the pre-RO regime), no stay was in place until that contest was resolved. In contrast, under the new regime, the company can secure a tactical advantage as a first mover and it is then for the creditor to dislodge the company from that position through an application that the stay should be lifted to allow the filing of the creditor’s winding up petition and dissipation JPL;
- creditors are required to be given 21 days’ notice of the hearing of the RO petition;
- at the hearing of the RO petition, the company’s attorneys frame the hearing. They present the case for appointment of ROs on behalf of the company as applicant – as a result, they are the first and last to address the Court.
Although creditors opposing the appointment of the ROs will be entitled to present their evidence and arguments in opposition, the hearing’s dynamic is quite different from the previous orthodoxy, within winding up proceedings, of a creditor as applicant for dissipation JPLs, with a counter-application in those proceedings for restructuring provisional liquidation. In these circumstances, the creditor may face an uphill battle persuading the Court of the need for dissipation JPLs, particularly given the inevitable information asymmetry between the parties.
Moreover, the 21-day notice period is not a long period of time to prepare an effective response to a dubious restructuring petition or make the case for dissipation JPLs rather than a RO appointment. Accordingly, where creditors – including judgment/arbitral award creditors – are aware that their debt is likely to be resisted by a recalcitrant debtor, they should take advice at the earliest opportunity in order to be in the best position to prevent a dubious restructuring application gaining traction with the court.
Secondly and relatedly, there is scope in the new regime for companies to accelerate the appointment of restructuring professionals which did not exist under the prior regime. Section 91C of the Act (as amended) gives the Company the right to make an ex parte application for appointment of interim RO’s pending the hearing of the RO petition, ‘where it is in the interests of the company to do so’. This is a curious provision as it introduces an office holder earlier than in the previous regime, despite the protection of the stay already being in place by reason of the RO petition filing. Previously, restructuring JPLs were provisional (in advance of/alternative to) the appointment of official liquidators. Interim ROs are preliminary to a determination of whether ROs should be appointed. ROs are, effectively, provisional to, or preliminary to, an official liquidator appointment (because if the restructuring of an insolvent company fails, the company will almost inevitably go into liquidation).
Under the pre-amendment regime, restructuring JPLs (to which ROs are equivalent, outside of a winding up context) could only be appointed at an ex parte hearing in ‘exceptional circumstances’. This was because the Cayman court expects that the views of creditors will be ascertained prior to an appointment of restructuring JPLs (and presumably ROs) is made [4]. The wish for creditor involvement in the RO regime is abundantly clear, in that creditors are, ordinarily, required to be given 21 days’ notice of the RO petition hearing. In a regime which causes the stay to arise immediately upon the filing of a RO petition, the scenarios in which an interim RO appointment is justified would presumably be narrow and the default position would be the norm – the question of whether ROs should go in is determined at a hearing of which the creditors have ample notice and the opportunity to respond. [5] Irrespective of the existence of a narrow seam of cases in which an interim appointment is beneficial to the company (which in an insolvency, means beneficial to the company’s creditors), it is the possible exploitation of such a provision that causes some concern, notwithstanding the burden of full and frank disclosure that falls upon ex parte applicants. [6]
There may be risk (perhaps in less extreme cases) that where the stay is in place due to the RO petition filing and interim ROs have been appointed with powers of oversight of the affairs of the company, there could be some appreciable risk of blunting the counter application of dissipation JPLs. That is, because experienced insolvency professionals are already appointed, the arguments for dissipation JPLs may thereby be dulled or carry less weight with the Court. If this scenario were to play out, the difference in the mandate and powers of ROs as opposed to dissipation JPLs will be significant and matters that might warrant investigation could potentially not come to light if cases are proceeding on a restructuring footing when they might more appropriately be in the hands of dissipation JPLs.
Overall, the amendments to the Act are progressive and bring Cayman more in line with modern international restructuring practice. Creditors can be assured that the judges of the Cayman Islands Court will administer the new laws with sensitivity to the balance of considerations of keeping alive prospects of rescue while protecting creditors and being alive to abuse. The challenge for the judiciary and for practitioners representing creditors, particularly in the ‘dubious restructuring’ cases, however, is that the forms that abusive conduct may take are likely to be novel given the wholesale changes that have been introduced to the practice of restructuring in the Cayman Islands. For creditors in situations where debtors are likely to employ such tactics to resist payment, they should engage with their legal advisers at the earliest opportunity so that they can put in place all available counter-strategies.
[1] Prior to the amendments, the stay only arose upon the Court’s appointment of provisional liquidators.
[2] This ploy ultimately failed as the award creditor successfully obtained the appointment of provisional liquidators for the purpose of preventing misconduct/dissipation rather than the restructuring path.
[3] A convenient term for a JPL application based on one of the grounds referenced in section 104(2) of the Act.
[4] In the Matter of Midway Resources International, Unreported, Justice Segal, 30 March 2021.
[5] They would presumably be limited to circumstances where there was evidence that the intervention of seasoned insolvency practitioners was required on an emergency basis.
[6] It is difficult to see an argument for ex parte applications for interim RO not being on notice to creditors: Cathay Capital Holdings III, LP v Osiris International Cayman Ltd, unreported, 30 August 2021; FSD Guide section B1.2(a).
For further information, please contact:
Tony Heaver-Wren, partner, Appleby
theaverwren@applebyglobal.com
