Privy Council determines scope of Cayman liquidator's power to rectify share registers (Pearson v Primeo Fund)

What are the practical implications of this case?

The scope of a liquidator's power to rectify a share register is an important issue to the Cayman Islands funds industry, particularly where open-ended investments funds are common in the jurisdiction and are recognised as important investment vehicles globally. In particular, it is important in the context of solvent liquidations as a liquidator is required by section 140(1) of the Cayman Islands Companies Law to distribute any surplus rateably among shareholders based upon their shareholding as at the commencement of the liquidation.

The Privy Council’s decision confirms that a Cayman Islands' liquidator must adhere to the contractual and proprietary rights of shareholders in a Cayman Islands liquidation process. It ensures that the legal rights which an investor enjoys prior to the commencement of the liquidation process will be respected and that the Cayman Courts will ensure that such rights will be recognised and enforced in the liquidation.

In turn, this will mean that an investor who is participating in the solvent liquidation of a Cayman Islands fund will be able to do so on the basis of his shareholding as determined by reference to the fund's constitutional documents. The Privy Council’s decision is welcome as it provides yet another example that the Cayman Islands as a jurisdiction is keen to protect investor's interests and provide certainty to investors that their interests in a liquidation will be determined in accordance with the bargain they entered into with the fund and not by any subjective view of fairness.

What was the background?

Primeo was an open-ended investment fund which, from about May 2007, invested substantially all of its assets into Herald which in turn was 100% invested in Bernard L Madoff Investment Securities (BLMIS). On 11 December 2008, Bernard Madoff confessed to the US authorities that BLMIS was a Ponzi scheme and, as a result, Primeo suffered significant losses of its assets. Primeo was placed into voluntary liquidation in January 2009 and, in turn, it placed Herald into liquidation in February 2013.

Cayman Islands' law requires distributions in solvent liquidations to be based upon investors' shareholdings as at the commencement of the liquidation. As is typical for hedge funds, the number of shares issued to an investor subscribing in Herald was—pursuant to Herald's constitutional documents—to be calculated by reference to Herald’s net asset value (NAV) at the time of the relevant subscription. Likewise, redemptions of shares were treated similarly.

The additional liquidator considered this to be unfair as it would, he argued, perpetuate the effect of the Madoff fraud as the NAVs were wrong given that they were based on fictitious information provided to the fund by Madoff. The additional liquidator sought to use section 112(2) of the Cayman Islands Companies Law to rectify Herald’s register to adjust investor shareholdings to mirror their net cash position so as to eliminate the effect of the fraud and ensure that Herald's investors were subject to the same distribution methodology which applied in the BLMIS bankruptcy. Primeo—as the representative of an investor class—argued that a liquidator’s power to rectify can only be exercised in limited circumstances and only in order to reflect an investor’s correct shareholding thereby giving effect to their legal rights. As the additional liquidator's proposed rectification would override those rights, it was impermissible.

What did the court decide?

The Privy Council considered that the issue before it was not what was fair but whether section 112(2) of the Cayman Islands Companies Law—read in its proper context—permitted the additional liquidator to ignore a shareholder’s contractual and proprietary rights, and distribute on a basis other than that provided for by those rights. The Privy Council unanimously held that it did not.

If the additional liquidator was correct, it would involve ‘a large and unprecedented change in the law’ (para [53]) which was contrary to the fundamental principle applicable to all liquidations in the Cayman Islands that the assets of the company must be distributed in accordance with shareholders’ legal rights. The Privy Council undertook a detailed analysis of the historical antecedents of section 112(2) in the Cayman Islands Companies Law and the analogous provisions in other common law jurisdictions. Set against that background—and by reference to the statutory regime provided for by the Cayman Islands Companies Law, the Companies Winding Up Rules and supporting legislative materials—the Privy Council determined that the additional liquidator's purported construction of section 112(2) of the Cayman Islands Companies Law was incorrect.

It agreed with Primeo's alternative construction and held that the power of rectification in section 112(2) of the Cayman Islands Companies Law was not a previously unknown power to ignore legal rights but instead an example of the well-understood, conventional power of rectification. Accordingly, section 112(2) of the Cayman Islands Companies Law provided a means by which a liquidator could only amend a share register so as to ensure that an investor's correct shareholding was recorded as determined by its legal rights.

Case details

• Court: Privy Council  

• Judge: Lord Kerr, Lord Carnwath, Lady Black, Lord Briggs and Lady Arden  

• Date of judgment: 27 January 2020

Peter Hayden is a partner and Christopher Levers is counsel at Mourant Ozannes (Cayman Islands). If you have any questions about membership of LexisPSL’s Case Analysis Expert Panels, please contact caseanalysis@lexisnexis.co.uk.

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