US Court refuses recognition to two Cayman Hedge Funds under Chapter 15
The decision by Judge Lifland in the US Bankruptcy Court in New York to refuse recognition under Chapter 15 (which enacts the UNCITRAL model law in the US) in the case of two Bear Sterns hedge funds has attracted much interest and some criticism. We consider the decision to be correct.
A debtor is entitled to recognition under Chapter 15 if it can establish that the foreign proceeding (i.e. the insolvency proceeding of the debtor outside the US which is seeking recognition in the US) is a main proceeding or a foreign non-main proceeding. It is a foreign main proceeding if the insolvency proceeding is in the state where the centre of main interests (COMI) is situate. It is a foreign non-main proceeding if it is in a state where there is an establishment. If the foreign proceeding is in a state other than where the COMI is situate, and there is no establishment in that state, the foreign proceeding is not entitled to recognition under Chapter 15.
The two hedge funds were incorporated in the Cayman Islands and had gone into provisional liquidation there. A claim for recognition cannot be based on the mere fact that the insolvency proceedings are taking place in the country where the company is incorporated. This may be relevant to establishing where the COMI is but on its own it is not a basis for recognition.
In his review of the evidence the judge noted that the provisional liquidators’ own pleadings had established that the COMI of the two companies was in the US not the Cayman Islands. The judge noted that the only connection with the Cayman Islands was the fact that the two companies were registered or incorporated there. Under Chapter 15 there is a presumption that the COMI is the place of the debtor’s registered office in the “absence of evidence to the contrary”. In this case all the evidence was to the contrary.
Nor was there any basis for arguing that there was an establishment in the Cayman Islands. The whole basis on which these companies were set up was that there would be no operations in the Cayman Islands. Establishment is defined (as in the EC Insolvency Regulation) as a place where the debtor carries on non-transitory economic activity with human means and goods (or services). These two companies were exempted companies and therefore subject to the statutory prohibition against engaging in business in the Cayman Islands except in furtherance of their business otherwise carried on outside the Cayman Islands. The only activities conducted locally were those necessary to their offshore business.
In the circumstances it is hard to see how the judge could have come to any different conclusion, and in our opinion an English Court would have come to the same conclusion.
This does not in practice leave companies set up in a similar manner in the Cayman Islands without any means of seeking protection in the US. They would be eligible for relief under Chapter 11, and there is a history of Bermudian telecommunications companies conducting successful reorganisations by entering into provisional liquidation in their home jurisdiction with a co-ordinated Chapter 11 proceeding in the US.
Note: those who wish to see the full judgment may find it via www.chapter15.com and following the links.
