Company directors must remain diligent in changing times
June 2016 | SPOTLIGHT | CORPORATE GOVERNANCE
Financier Worldwide Magazine
Company director roles and responsibilities have been enhanced over the years. This is especially the case in offshore jurisdictions like the Cayman Islands. Such changes were necessary, not because of faults in the system, but because Cayman Islands legislators, service providers and professionals share the common objective of continually strengthening the offshore infrastructure and encouraging transparency, good governance and accountability. Some of the current laws, policies and regulations describing these requirements are set out below.
The Companies Law
Under the Companies Law of the Cayman Islands, company directors are ultimately liable (and may be penalised) in the case of a default by a company that a director either knowingly or wilfully authorised or permitted. There are also instances where a director may be committing an offence (leading to imprisonment) if he makes certain declarations without reasonable grounds, or he knowingly makes a false declaration. In more complex structures, such as segregated portfolio companies, directors have a duty to establish and maintain (or cause to be established and maintained) procedures to: (i) segregate, and keep segregated, portfolio assets separate and separately identifiable from general assets; (ii) segregate, and keep segregated, portfolio assets of each segregated portfolio separate and separately identifiable from segregated portfolio assets of any other segregated portfolio; and (iii) ensure that assets and liabilities are not transferred between segregated portfolios or between a segregated portfolio and the general assets otherwise than at full value. A failure at any one of these gates could lead to a breach.
Mutual Funds Law
Turning to the Mutual Funds Law, it contains similar provisions that require operators of a mutual fund (operators are directors in the case of corporate entities, the general partner in the case of a partnership and a trustee in the case of a unit trust) to ensure that the mutual fund does not carry on or attempt to carry on business in or from the Cayman Islands contrary to relevant sections of the Mutual Funds Law. While the reference is subtle, the impact is felt by a director who contravenes the relevant provision as he will have committed an offence. In some cases, a director could be liable on conviction to fines in the region of $100,000.
Regarding the Mutual Funds Law, the Cayman Islands Monetary Authority (CIMA) also possesses unprecedented powers. For example, in the case of a regulated mutual fund, CIMA may: (i) cancel any mutual fund licence or any mutual fund registration; (i) impose conditions or further conditions on any mutual fund licence that the mutual fund holds and to amend or revoke those conditions; (iii) require the substitution of any promoter or operator of the mutual fund; (iv) appoint a person to advise the fund on the proper conduct of its affairs; and (v) appoint a person to assume control of the affairs of the mutual fund.
CIMA’s next logical step after taking any of the above actions would be to apply to the courts of the Cayman Islands for an order to take such other action as it considers necessary to protect the interests of investors in, and creditors of, the mutual fund.
Statements of guidance on corporate governance
Regarding how company directors are expected to act, CIMA issued a statement of guidance (SOG) in 2013 for regulated mutual funds (i.e., entities registered with CIMA as mutual funds). The SOG is important since it lays down the regulator’s minimum expectations for the sound and prudent governance of a regulated mutual fund. Directors’ attention should be drawn to this in the following respects: (i) oversight responsibility – directors have ultimate responsibility for effectively overseeing and supervising the activities and affairs of a regulated fund; (ii) monitoring – directors should monitor and regularly take steps to satisfy itself that the regulated fund is conducting its affairs in accordance with all applicable laws and satisfy themselves that the service providers of the regulated fund are monitoring compliance with applicable laws (especially, anti-money laundering and anti-terrorist financing); (iii) conflicts of interest – directors are expected to identify, disclose, document, monitor and manage all conflicts of interest; (iv) board meetings – boards of directors of regulated funds should meet at least twice a year and more frequently if the circumstances or size, nature and complexity of the regulated fund necessitates this (the presence of service providers should be requested at relevant meetings); (v) independent judgment – in carrying out their duties, directors of regulated funds are required to exercise independent judgment, always acting in the best interests of the regulated fund; (vi) communication with investors – directors should communicate adequate information to investors where it is properly able to disclose; and (vii) capacity – each director of a regulated fund must ensure that he has sufficient capacity to apply his mind to overseeing and supervising each regulated fund on whose board he acts as a director (this requires that, before taking on any additional director positions, the relevant director should always ensure that he is able to perform the functions and duties of a director in a responsible and effective manner in accordance with relevant laws, regulations, rules, statements of principles and the provisions of the SOG).
Directors with a legal background or many years of financial services experience will have a sense of familiarity with the items listed in the SOG, since many are addressed under common law applicable to funds domiciled in the Cayman Islands. Notwithstanding this, a director cannot afford to be too confident that he will not inadvertently slip into an SOG breach.
The Directors Registration and Licensing Law
As a further measure to regulate company directors, the Cayman Islands passed the Directors Registration and Licensing Law, 2014 (the Directors Law), applicable to natural or legal persons who wish to act as directors of entities registered as funds with CIMA and certain investment management companies, together referred to as ‘covered entities’, as more particularly defined in the Directors Law. Such persons must either be licensed or registered with CIMA. This is the case before they are allowed to initially act or continue to act as a director of a covered entity. Non-compliance with the Directors Law can lead to an offence under the Directors Law and fines of around $100,000 in the case of a summary conviction.
During the course of acting as a director, directors should also be aware that CIMA may continue to examine the capacity of directors (licensed or registered) to carry out their duties and responsibilities as directors of a covered entity. In this regard, CIMA may give directions where necessary. Where action is required by CIMA, some of the powers available to it under the Directors Law include cancellation or suspension of a director’s registration with CIMA or suspension or revocation of a licence. CIMA may also impose any conditions it deems necessary on any director licensed or registered with it.
FATCA and common reporting standard
In terms of international tax reporting obligations under US FATCA and UK FATCA, directors of certain Cayman entities must understand how their entity may be caught within the definition of a reporting Cayman Islands financial institution (and in the case of US FATCA, whether registration with the US Internal Revenue Service is required). The common reporting standard adopted by the Cayman Islands also means that company directors must understand what matters fall within the definition of financial account information and reportable accounts. Directors must understand this so that their entity is properly classified and complies with the relevant notification and reporting requirements.
In addition to FATCA and the common reporting standard, the Alternative Investment Fund Managers Directive (AIFMD) in Europe is important for directors of Cayman funds. In particular, directors should understand the implications under the AIFMD of marketing by the fund’s investment manager to European investors and whether this may be done via the private placement regime of the relevant member state of the European Union or by way of a passporting mechanism (not yet granted in respect of the Cayman Islands) aimed at facilitating marketing of Cayman funds to European investors across Europe.
As illustrated by the above legislation, guidance and regulations, the role of a director of a Cayman Islands based company is a serious one; failure to appreciate a role or effectively discharge duties may result in fines or imprisonment. Ultimately, jurisdictional and reputational damage are also possible.
It follows from the foregoing that, in discharging their duties, company directors must ensure they take the proper interests into account (the relevant interests being those of all investors while a fund is solvent and creditors, where the fund is doubtfully solvent or insolvent). Directors must also have a thorough understanding of the relationship between a fund and its service providers, review service agreements and detailed fund documentation and must be able to identify complex issues and offer practical solutions.
Alric Lindsay is a senior associate at Higgs & Johnson. He can be contacted on +1 (345) 914 4619 or by email: email@example.com.
© Financier Worldwide
Higgs & Johnson