Expanding the Belt and Road through the Cayman Islands and the BVI

With reportedly over US$3.87 trillion in projects underway, the footprint of the Belt and Road Initiative ("B&R") not surprisingly includes structuring projects using offshore jurisdictions such as the British Virgin Islands ("BVI"), the Cayman Islands ("Cayman"), Ireland, Luxembourg and Jersey, all of which are leading offshore and midshore jurisdictions, respectively.

The role, in particular, that Cayman and the BVI has played in the B&R is simply an extension of the dominant role that Cayman and BVI structures presently play in the China growth story.

In Asia, at the forefront of B&R activity have been projects in the Greater Bay area - Guangdong-Hong Kong-Macau Bay Area - Hong Kong SAR, the Macau SAR, Guangzhou, Shenzhen, Huizhou, Zhongshan, Dongguan, Zhuhai, Foshan, Jiangmen and Zhaoqing. There have been many projects in the Greater Bay area delivering significant outcomes for policymakers and Chinese society such as:

  1. focusing on promoting infrastructure connectivity;
  2. enhancing the level of market integration;
  3. building technology and expanding innovation;
  4. generally adding to an enhanced quality lifestyle for residents of the Greater Bay area including for day-to-day living, working and travelling;
  5. cultivating international cooperation; and
  6. supporting the establishment of major cooperation platforms.

Whether through the establishment of investment vehicles such as private equity or hedge funds, holding company structures or downstream investment portfolio companies, structuring through a Cayman, BVI or other offshore or midshore entities is a well-trodden path.

Why Cayman and the BVI?

Over 91,000 exempted companies; approximately 10,000 funds; 130 trust companies; and 300 active banks are established, registered or, respectively, licensed in Cayman. In the BVI there are over 400,000 business companies; over 900 mutual funds; and more than 1,000 private trust companies.

In order for Cayman and the BVI to assist China and for China to take advantage of the opportunities available in the evolving global economy, it is essential that the Chinese business community understands the beneficial role played by Cayman and the BVI in the global financial services sector.

The many reasons Chinese banks and financial institutions, State-Owned Enterprises ("SOEs"), private companies, government agencies and high net worth individuals make use of Cayman and the BVI, include:

  1. the speed and simplicity of establishing entities and relatively low cost which is essential to keep pace with the need of the Chinese business community to set up investment and holding vehicles for new, fast-moving business transactions. In January 2019, both Cayman and the BVI introduced local substance requirements for nine specific business activities (to comply with the recommendations by the OECD's Harmful Tax Practices Group), however, both Cayman and the BVI do not generally impose a high degree of 'local content' on their overseas clients. For example, general speaking, neither exempted Cayman nor BVI companies, need to hold a physical meeting of their directors or shareholders in Cayman or the BVI and they do not need to file audited financial statements in Cayman or the BVI;
  2. an English-based legal system and established judiciary (with final appeal to the Privy Council in the UK). The legal systems of Cayman and the BVI are ideally suited to undertaking finance and banking transactions due to their business and creditor-friendly legislation;
  3. low country risk. Cayman and the BVI are politically and economically stable jurisdictions. Cayman has a sovereign debt rating of Aa3 from Moody's;
  4. appropriate standards of regulation by the Cayman Islands Monetary Authority ("CIMA") and BVI Financial Services Commission ("FSC") which have been assessed by the International Monetary Fund and other international organisations, as being in compliance with international prudential regulatory, transparency, cooperation and anti-money laundering and combatting of terrorist financing ("AML/CFT") standards. CIMA and FSC regulate investment funds, fund management companies, banks and trust companies, insurance business, fund administration and company management in Cayman and BVI, respectively;
  5. professional infrastructure and reputation. Cayman and the BVI are both well known for their established and experienced financial services sector and their substantial capacity - including in China's case, a substantial Cayman and BVI legal community based in several cities in China including Beijing, Shanghai and Shenzhen;
  6. recognition of corporate personality and integrity. The ability of Chinese clients to use separate group subsidiaries or, to operate through a segregated portfolio company, to maintain separate businesses and assets, often with their own ring-fenced financing, can be a major contributor to the successful management of business and jurisdictional risks in cross-border transactions;
  7. Cayman insolvency law is simple and effective, enabling speed and certainty in relation to the enforcement of creditors' and contractual rights both pre and post insolvency;
  8. tax neutrality means that a Cayman or BVI entity provides a tax-neutral platform so that investors from multiple jurisdictions are not subject to more taxation over and above that payable in each investor's home country. Cayman and the BVI each offer the opportunity to do this without foreign exchange controls and without significant restrictions on the payment of interest or dividends, the repayment of capital or the ability to repurchase shares or redeem or repurchase debt;
  9. transparency and beyond - Cayman and the BVI meet or exceed all globally-accepted standards for transparency and cross-border cooperation with law enforcement agencies in the world's major economies - including, of course, China. This firm commitment to global transparency makes Cayman and the BVI an attractive and reliable partner for Chinese regulators and tax authorities. Cayman and the BVI were each an early adopter of automatic exchange of tax information with overseas authorities, including FATCA and the OECD's Common Reporting Standard. The Cayman Islands Tax Information Authority and the BVI International Tax Authority proactively collects tax information from a wide variety of Cayman and BVI entities and shares such information with over 100 other governments providing a level of transparency which assists them in the collection of their own taxes.

Internationally accepted legal systems

Cayman and BVI structures are well placed to support B&R projects. Just one example of such projects are investment funds investing in venture capital transactions.

China's financial institutions and entrepreneurs are familiar with Cayman and BVI structures, which are based on common law and modelled on English company law principles. Such structures have a simple corporate management system, with internationally recognised shareholders' and creditors' rights such as shareholder limited liability, and creditor priority.

Project entities are able to raise financing in traditional forms of debt instruments including listed or rated notes, warrants or via securitisations - all widely recognised in the international capital markets. Lenders can provide secured or unsecured credit with the comfort of knowing that such concepts as statutory and contractual ring fencing, preferred creditors and shareholders' liquidation preferences, are recognised and well understood by Cayman and BVI courts, which routinely hear complex international disputes. As Cayman and the BVI are British Overseas Territories, the final court of appeal in both jurisdictions is to the Privy Council in the UK, ensuring international investors' rights will be independently recognised and enforced.

Investment Funds

Cayman investment funds, and in particular private equity funds structured as exempted limited partnerships or limited liability companies, are likely to be the investment vehicle of choice for raising capital from investors for a B&R project. Cayman is the leading jurisdiction for such structures with a market share of over 40%, enabling investors to structure:

  1. clear project investment objectives;
  2. drawdown mechanics for capital contributions;
  3. provisions for limited partner or limited company member representation on investment committees;
  4. market practice management fees;
  5. waterfall distribution;
  6. orderly winding up of the project through liquidation of the fund;
  7. a general partner's or project manager's exclusive right to manage the fund project; and
  8. a recognition of standard concepts such as carried interest or related performance and management fees for fund managers.

In short, a structure that meets and delivers on the commercial expectations of all participants.

One thing to note about B&R focused funds is the fund size - given the types of likely projects (from infrastructure to innovation) they are typically investing in, it is not surprising that fund sizes are significant - in the RMB billion plus range. Again, given a likely project focus of infrastructure to innovation, such funds would be managed, by, say, the People's Republic of China ("PRC") or related entities including the PRC banks and SOEs, through the ownership by those principals of management shares and day-to-day management of the board of directors at the general partner level of a private equity fund.

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