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Shula Sbarro
Senior Associate, Cayman Islands
Shula is a Senior Associate at Baker & Partners (Cayman) Limited.
Shula Sbarro, Senior Associate, at Baker & Partners participated in The Burford Quarterly roundtable discussing offshore insolvency trends.
The article explores key trends in the offshore markets, how insolvency practitioners are leveraging technology to enhance recoveries, challenges for creditors in offshore markets and the role of legal finance, the use of experts as well as Cayman and BVI specific trends and developments.
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Nicola Cowan: One of the biggest developments is the growing global real estate crisis, especially in China. The ordering by the Hong Kong court of the liquidation of the China Evergrande group demonstrates the uncertainty of Chinese real estate recovery. This real estate crisis has also led to an increase in the use of Cayman schemes of arrangements with parallel schemes in other jurisdictions such as Hong Kong and the British Virgin Islands.
We have also seen crypto-related claims and insolvencies have been prominent in the BVI, giving rise to a need for practitioners to rely on crypto tracing software and analysis as part of their asset recovery analysis. While Atom Holdings was the first liquidation of a crypto entity in Cayman, we are starting to see more insolvencies and claims with a crypto-related element.
Lastly, we have seen a rise in cross border insolvency/other contentious fiduciary matters with a Middle East connection. For example, we have taken fiduciary appointments involving litigation arising from the fall out of the Abraaj Group in 2018.
Shula Sbarro: While geopolitical tensions and economic pressures have been rising globally, the Cayman Islands and other jurisdictions have made concerted efforts to tackle certain perceptions regarding their jurisdictions. The Cayman Islands have been removed from the Financial Action Task Force’s “grey list”, which is a positive result for the Cayman Islands on many fronts. Further, the Beneficial Ownership Transparency Act 2023 lays the path for greater transparency.
We have seen an increase in insolvency actions relating to digital assets, the first being Atom Holdings in which our firm represented the Petitioners in the liquidation of a cryptocurrency exchange, and we anticipate this trend to continue. There are various untested areas of the law which will no doubt present legal challenges in the future, including disputes and insolvency proceedings related to decentralized autonomous organizations.
Brian Lacy: While we are not yet seeing a corresponding increase in winding up petitions or official liquidation appointments offshore, we are seeing an increase in voluntary liquidations and receiverships. Companies are also taking pre-emptive measures with restructurings (through schemes and provisional liquidations), mergers and capital reductions to continue as a going concern. In the BVI, since QGOG Constellation, in which our firm acted for the applicant company and the provisional liquidators, it has been possible to have a provisional liquidator appointed in aid of restructuring and route to recovery is growing in popularity.
Additionally, the Hong Kong court’s change in focus from a place of incorporation to a “center of main interest” analysis when considering cross border insolvencies is a notable development. Its impact on the levels of work coming out of Hong Kong and into the Cayman (and BVI) courts remains unclear, as insolvency practitioners consider making internal structural changes to accommodate the now differing approaches between the jurisdictions.
We anticipate more work flowing from the Gulf region, in part due to an ongoing shift towards a more restructuring friendly environment both in terms of business culture and the recent legislative changes in a number of jurisdictions.
Another area where we anticipate growth is failing SPACs that have not consummated a merger transaction within the required period. Under the usual terms of Cayman Islands SPAC constitutional documents, those SPACs are now required to return the funds held on trust to investors (with interest), and then liquidate and dissolve.
Shula Sbarro: In the evolving world of technology, some keys areas that are being explored or implemented include the use of AI in data analysis, decision making, detection of fraud, asset tracing and more. The use of AI and blockchain is enhancing the ability to analyze mass data sets to flag assets which may be hidden or identify transactions which may be fraudulent. Across the board, most insolvency practitioners appear to be hesitant in fully adopting and using developing technology. A sense of caution is not necessarily ill-founded considering the ethical and regulatory aspects regarding the use of certain technology.
Technology Assisted Review, for example, can review large data sets and documents by grouping them by subject or concept, significantly speeding up the review process relating to books and other company records. An increased use of these technologies in the future is inevitable and will lead to increases in recoveries and potentially more fraudulent activities being identified.
Brian Lacy: Existing technology is being leveraged by IPs to make insolvency processes more efficient, thereby maximizing creditor returns. For example, systems such as Microsoft Forms are often being used for the proof of debt process to collate and maintain information. This can save significant time in engagements which involve thousands of creditors, and remove the room for human error, as the information no longer needs to be transposed from thousands of emails into a database. Many insolvency practitioners are also developing new internal systems and software applications to manage claims on a stage-by-stage basis, allowing them to track each claim individually, while also allowing creditors to upload documents and monitor their submissions in real time.
E-discovery software, which has historically been used for litigation, is also being repurposed and leveraged as such software can be customized and allows for the rapid processing of information using machine learning and AI. Tools which help with subject matter mapping, identifying internal communication networks and decluttering a database are also finding their way into an insolvency practitioners’ modern toolbox. These tools can also be used to easily gather and group all the relevant company’s financial information, allowing for the quicker evaluation of a company’s financial health and as well as assisting with the detailed forensic analysis. This may assist in uncovering hidden assets or bank accounts that might otherwise be unidentified, which may in turn lead to asset recovery.
Nicola Cowan: We have seen an increase in the resources needed to service appointments both due to the increasing regulatory requirements and due to the volumes of information that must be independently investigated; often there are millions of documents involved.
FFP has developed its forensic, litigation and eDiscovery service lines to directly support its complex litigious appointments because it is a requirement that our office holders independently assess the factual situation and form an unbiased view. In addition, bad actors are becoming increasingly sophisticated in relation to fraud and dissipation of assets so new and developing areas of technology is needed to stay one step ahead of them. These tools can help practitioners be more effective in finding information about assets, which means they are in a better position to assess potential claims, ultimately leading to recoveries being made.
Shula Sbarro: Some of the main challenges we are seeing include: The mixture of onshore and offshore corporate structures which adds complexity to the dispute and recovery process, the high costs of litigating and pursuing recovery in offshore jurisdictions, inconsistency of the law across multiple jurisdictions and the lack of harmonization of laws globally creates difficulties for creditors as well as other parties and geographical and legal impediments which can impact the ability for creditors to realize and recover their investments in offshore insolvency litigation.
The increased use of legal finance by creditors and other parties involved in offshore litigation (including court appointed officers such as liquidators and receivers) improves access to justice and allows parties to pursue options that were otherwise unavailable.
Nicola Cowan: Funding of claims and delays in recovery are two of the biggest issues we are seeing. In an offshore context, especially where the structures are complex and involve multiple jurisdictions, assets can be in numerous jurisdictions, leading to complicated legal proceedings. A successful judgment is often a huge success point in an insolvency, but then commences a further phase of enforcement actions.
Third party funding can be a pivotal point for an unfunded insolvency, but a liquidator must balance the interests of stakeholders, particularly where a material uplift or success fee is being paid to funders. It is advisable to consult with stakeholders, creditor or investor committees and obtain sanction of the court—to ensure uplifts to the funding parties are approved, with the overarching principle of whether the agreement is fair, reasonable and proportionate.
Brian Lacy: Many liquidations, particularly where there has been fraud, are faced with an empty vessel. For creditors, the prospect of providing significant funding that such a liquidation requires (with investigation and potentially multi-year, multi-jurisdiction litigation) is unappealing at best.
In the past, too many liquidations foundered through a lack of funding, leaving meritorious claims unpursued. There are now many legal financing options available to liquidators, other than the creditors themselves, whether by borrowing against illiquid assets or more traditional legal finance, such that sufficiently high value good claims are unlikely not to be pursued.
Brian Lacy: While insolvency practitioners can be experienced in multiple areas, they often find that engaging with specialists and experts leads to a more robust process and a happier result for creditors. Engaged experts and specialists can then focus on their specific mandate, identifying issues and addressing these, while the insolvency practitioners can focus on the broader picture.
Most firms have separate expert teams within their broader structure or in different jurisdictions, otherwise they will have a go-to-list. Such expertise can vary, and it is assessed on a case-by-case basis, but typically insolvency practitioners may engage experts/specialists such as tech experts, forensic accountants, investigators, M&A experts, valuers and even teams dedicated to cryptocurrency asset tracing.
Shula Sbarro: Insolvency practitioners in larger practices may have access to forensic accountants and other experts within their own practice groups. Regardless of whether they do, collaboration with external experts will likely become necessary where fraud has been identified or suspected misconduct of some other form, or where assets are suspected of being hidden. Given the complexity of many frauds, forensic accountants are often called on to analyze financial documents relating to complex company structures. Asset tracing is an area in which forensic accountants are invaluable.
Other experts may also be used to carry out business valuations as well as provide expert witness services in the areas of banking, investment funds and structures and compliance, which may facilitate the pursuit of claims both in onshore and offshore jurisdictions. The use of experts by insolvency practitioners in offshore insolvency cases, often spanning multiple jurisdictions, are more the norm than the exception given the sophisticated corporate structures involved in often multi-million- and billion-dollar insolvency matters.
Nicola Cowan: Practitioners at FFP can call upon their own multidisciplinary team of forensic accountants and practitioners who are experienced in using eDiscovery, AI, analytics and accounting tracing software to build effective strategies. The team will set up a process using these tools for forensic investigations and asset tracing from the outset of FFP’s appointments initially to assess potential claims and recoveries, but this ultimately makes the team well placed to support any litigation and the recovery process that follows.
Brian Lacy: In recent years, the Cayman Islands has facilitated a number of high-value, complex corporate restructurings but, prior to the Amendment Act, was forced to do so through the use of the provisional liquidation process. Whilst workable, this was not ideal: The company that wanted to restructure had to first petition to the court to wind up, which gave the impression that the company was going out of business and this stigma tended to limit its use as a restructuring process.
The new provisions provide for a restructuring regime outside the formal winding up procedures. They also provide a number of enhancements, including that the new provisions empower the company’s directors to present the petition for the appointment of a restructuring officer without first requiring a shareholder resolution or express authorization in the company’s articles; they provide for an immediate global moratorium on claims (similar to that afforded under a US Chapter 11 or UK administration); earlier foreign recognition of the restructuring proceedings, and various safeguards afforded in the legislation and through the restructuring officer.
In terms of the restructuring process itself, the Amendment Act now permits an application to be made in the restructuring proceedings to sanction a compromise or arrangement with the creditors or members of a company, without the need to commence separate proceedings to sanction the scheme of arrangement. This will remove a significant financial and administrative burden. It has also abolished the statutory “headcount test” which a Cayman Islands members’ scheme of arrangement was previously required to satisfy.
The new provisions will enable the Cayman Islands to continue to facilitate high value, complex corporate restructurings, but now through a bespoke, modern, flexible restructuring process, and we anticipate that this will attract more restructuring work into the Cayman Islands in the coming years.
Shula Sbarro: The restructuring officer regime brought in by the Companies (Amendment) Act 2021 introduced the ability for a debtor to apply for the appointment of a restructuring officer. This new regime which displaced the existing “light-touch” provisional liquidation process that had been used prior to the introduction of the RO regime, was met with great enthusiasm and optimism for the increase in restructuring work. An automatic worldwide moratorium upon filing of a RO petition was also introduced allowing breathing space for the engagement with stakeholders and development of a restructuring plan and scheme of arrangement. The first case under the new regime was Re Oriente Group Limited. In the latter part of 2023, the Cayman Court held in Re Aubit International that a RO should not be appointed even though the company was insolvent, as one part of the requirements had not been satisfied and the debtor was inappropriately seeking the appointment of a RO to investigate and recover corporate documents before being able to present a restructuring plan.
Nicola Cowan: The new restructuring officer regime allows a distressed company to appoint a restructuring officer without a winding up petition. The regime provides a more straightforward legal route to appoint independent office holders. Some of the observations from the court to come out of these judgments include that the jurisdiction to appoint a restructuring officer is broad and discretionary and the court will scrutinize whether there is a genuine and realistic intention to present a credible restructuring plan. The court also provided useful guidance in Re Holt Fund SPC by clarifying that the Restructuring Officer of a segregated portfolio company had power to deal with the distressed portfolios of that company since each portfolio is not a separate legal entity.
Nicola Cowan: This is the first case where the BVI Court handed down a written, reasoned judgment, approving litigation funding agreements in an insolvency context. Prior to this, the court had approved such arrangements which are increasingly common and critical in many insolvency cases. Insolvencies of Ponzi schemes or those involving fraud, the companies are often asset stripped; therefore, access to litigation funding has shown to be an effective and necessary tool for liquidators to pursue assets for victims. The written judgment of Justice Adrian Jack in Crumpler v. Exential Investments Inc. was welcomed by practitioners in the BVI.
Shula Sbarro: In the absence of a legal regime dealing with litigation funding in the BVI, it was assumed that rules against maintenance and champerty generally prevented the ability to source funding for litigation from third parties. Following the judgment in Crumpler v. Exential Investments Inc. in September 2020, the BVI Court confirmed the availability and enforceability of third-party litigation funding. However, the BVI Court still appears to have the ability to prevent third party funding if such funding is considered irresponsible; and where a funder is considered to have control of the litigation. Further, the BVI Insolvency Law Reform Committee, post-Crumpler, recommended that new legislation be brought in approving third party litigation funding, however, this has not yet been progressed.
The BVI funding market is likely to see growth following the approval of third-party funding in Crumpler, notwithstanding that there is limited case law surrounding this aspect of litigation.
Brian Lacy: Historically, litigation finance has played a lesser role in the BVI than it has onshore in the US and UK. The judicial support (such as in Crumpler v Existential) for litigation finance, particularly in the context of liquidations, has helped to drive a growth in the use of third-party funding. Although many offshore firms still take a traditional approach to fees, conditional fee agreements are permitted in the BVI and we expect to see an increase in the frequency of their use alongside a growth in all forms of legal finance and associated insurance.
Article copyright of The Burford Quarterly, Issue 2, April 2024 as published here.
Nicola Cowan is a Director at FFP in the Cayman Islands specializing in providing independent fiduciary services and insolvency and restructuring advice to offshore registered funds and companies.
Brian Lacy is the Head of BVI Dispute Resolution at Ogier and a commercial litigation barrister with considerable experience of civil fraud, insolvency and trust disputes.
Shula Sbarro is a Senior Associate at Baker & Partners in Cayman with 10 years’ experience in litigation. Her primary focus is insolvency, fraud, restructuring, asset recovery and general commercial litigation.
Shula is a Senior Associate at Baker & Partners (Cayman) Limited.