Big is back – The increased global momentum in private equity activity has been reflected in the Cayman Islands, highlighting its importance as a centre for fund formation, secured fund financing and downstream transactions. But whilst the big players have been raising, and looking to spend, eye-catching amounts there remains space at the table for the mid-market houses and ambitious start-ups.
The number of Cayman Islands exempted limited partnerships, the primary Cayman Islands vehicle through which private equity funds and investments are structured, has been rising steadily. There were 2,861 such partnerships registered in 2014, a 20% increase from 2013, whilst the first quarter of 2015 alone has shown a 22% increase from the corresponding period in the previous year.
The increased formation activity is indicative of the work which we have been doing for our institutional clients recently, from which a few key points have stood out:
- The power players are flexing their muscles: The last few months have seen the closing of a number of multi-billion dollar mega funds by the major private equity houses. Investors are comfortable in continuing to allocate capital to private equity but, sensitive to memories of the trauma of the crash, feel more comfortable investing with the established global managers. This has led to some big launches and the prospect of significant dry powder to be expended as investment periods start to kick in.
- But there is still some space at the table: Mid-market firms have also been active in the market, having some success in raising capital, and even one or two start-up managers have successfully closed initial funds with the backing of cornerstone investors. There is still some appetite for less established managers that are able to provide a compelling story, but the perceived risk is typically required to be mitigated by pressure on both management and performance fees, as well as exposure to removal rights. We are also seeing the reemergence of managers who had shelved plans to raise funds back in 2008/2009.
- Investors remain comfortable with Cayman: The status of the Cayman Islands as a well-established, stable jurisdiction from which to conduct private equity activity continues to attract managers and investors alike. The Exempted Limited Partnership Law, revised in 2010 and replaced in its entirety in 2014, specifically addresses a number of the issues for which we have previously needed to provide legal workarounds when advising on private equity matters. The private sector worked closely with government to make the exempted limited partnership an even more user-friendly vehicle specifically tailored to the needs and concerns of the private equity industry, with a statutory footing behind such focus. The ability of service providers in the Cayman Islands to communicate the concerns and issues faced by the private equity industry to the lawmakers and the willingness of the Cayman Islands government to carefully consider and enact legislation to address certain of those issues has highlighted the flexibility of the Cayman Islands as a jurisdiction, a flexibility that has continued to be rewarded by ongoing and increased activity in the private equity space.
- Even more so than before...: Most funds have historically had onshore (typically through Delaware) and Cayman access points for investors. Whilst, in general, successor funds have sought to retain the structure of their predecessors we have seen a couple of large successor funds move their primary fund vehicles from Delaware to the Cayman Islands, highlighting further the increased confidence in the jurisdiction amongst managers and investors alike.
- Multi vehicle structures are OK: For larger funds with material numbers of limited partners, and significant capital to deploy, managers and investors are often looking to segregate categories of investors into various side-by-side silos, with investors able to access such funds through a choice of fund partnerships. Cross-voting and cross-collateralisation are common features in these structures. The additional costs and administrative burden in maintaining a larger number of Cayman Islands exempted limited partnerships are not proving to be material, highlighting once more the efficacy of the exempted limited partnership as a private equity vehicle.
- I would rather play on my own: Leading on from above, we have seen an increase in the number of funds-of-one whereby large investors have asked to be split out into a separate Cayman Islands exempted limited partnership in which they are the sole limited partner, and this partnership broadly participates in the same investment program as the main fund.
- Side letters have not been put aside: Whilst the prevalence of "most favoured nation" provisions and the administrative issues in tracking terms agreed with multiple investors in separate agreements had led to a feeling that the majority of commercial terms would end up being reflected in exempted limited partnership agreements going forward, a number of closings have continued to be accompanied by the negotiation and entry into detailed side letter provisions with multiple limited partners covering, as expected, both fee terms and any esoteric regulatory issues but also more general commercial terms which managers have felt obliged to concede but uncomfortable including in the constitutional documents of their funds.
- We want more: Whilst exempted limited partnership agreements have historically contained a general ability to co-invest, more and more limited partners are notifying managers of their interest in coinvestment opportunities, often formally recording such interest in side letters. For funds which have moved into their investment periods we have seen, from initial investments onwards, the establishment of further Cayman Islands co-investment vehicles through which select limited partners have sought to access a further slice of the relevant investment through the Cayman Islands (often for lower fees).
- Subscription line financings are going strong: We have seen a large number of financing deals secured over, among other things, the unfunded capital commitments of limited partners. As the rights to call and receive capital are set out in the Cayman Islands law governed exempted limited partnership agreements the situs of the asset is the Cayman Islands, and lenders are requiring comfort from Cayman Islands counsel that their security will be enforceable. The procedures required to ensure that security over capital commitments is valid and will have priority are well understood in the jurisdiction, and they are becoming familiar to lenders and their onshore advisors.
With so much capital raised and dry powder still to be spent for existing funds, downstream M&A and IPO activity has continued to be busy with a large proportion of such activity continuing to be structured through the Cayman Islands. The nature of the deals being undertaken has been varied, reflecting the wide number of asset classes in which private equity now deals and is comfortable taking through the Cayman Islands. We have seen a wide range of investments, from acquisitions of infrastructure to highly regulated financial services providers, real estate to heavy industry, all of which have been structured with a Cayman Islands component.
As such, the Cayman Islands are continuing to consolidate their position as a jurisdiction ideally suited to accommodating the entire range of matters arising throughout the lifecycle of a private equity fund structure. As more funds close and more capital is subsequently deployed the Cayman Islands will continue to cater to and service the needs of the private equity industry and provide a range of innovative solutions to satisfy its requirements.
About the Author
Jason Allison is a partner in the Walkers Global Investment Funds Group. He advises on Cayman Islands corporate and investment funds law, with particular expertise advising institutional clients on all aspects of structuring and establishment of private equity funds and hedge funds, and the related downstream M&A and corporate finance aspects.
About the Author
Bicrom Das is an associate in the Walkers Global Investment Funds Group who advises on private equity fund formation and downstream transactional work. Bicrom has extensive experience advising a broad range of investment managers, private equity houses and other institutuional clients in respect of various Cayman legal issues.
Originally published in Cayman Finance Magazine, 2015-2016, Issue 2
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