“Other options are to place the
assets in a liquidating account
or trust until they are realised.”
fails to satisfy a call on a private equity fund and the class is unable
to meet its liabilities, investors could then look to the liquid classes.
Managers may prefer that one class of shares is issued to investors
with the flexibility to invest a portion of the NAV in illiquid assets; this
allows the manager to allocate between illiquid and liquid assets without
redeeming existing investors or converting the shares to different classes.
Segregated portfolio companies
A second option is to form a segregated portfolio company (SPC)
which will create both illiquid and liquid portfolios with statutory
segregation of assets and liabilities between the portfolios.
However, there are certain drawbacks to this approach: SPCs are
generally not popular with institutional investors, and the segregation
of assets and liabilities has not been tested by courts outside the
Cayman Islands and operationally can be burdensome, with the
directors having the obligation to maintain the statutory segregation
of assets and liabilities, and any contracts need to state clearly that
they are being entered into by the relevant portfolio.
There will be similar issues in respect of the appropriate allocation
of expenses and the inability to easily switch between illiquid and
Another option is to provide for the creation of side pockets. The
benefits of a side pocket are that: (i) only one class of shares will
need to be issued; (ii) the assets held in the side pocket may not
be valued; (iii) the shares issued in respect of the side pocket will
not be redeemable at the option of the shareholder; and (iv) once
these assets are realised, the redemption payments less the relevant
fees will either be paid by the fund or investors will be issued with
additional shares of the original class.
Only investors at the time the asset is declared illiquid will
participate in the side pocket. Other options are to place the assets in
a liquidating account or trust until they are realised, but the treatment
of these assets is often difficult from an accounting perspective.
These vehicles can be used to hold a portion of the portfolio or a
As managers of liquid strategies have been placed under increasing
competitive pressure to deliver returns, the move to less liquid strategies
has continued and managers should consider whether the fund terms
and structure permit the flexibility to invest in these type of assets.
Daniella Skotnicki is a partner at
Harneys. She can be contacted at:
CAYMAN FUNDS | 2019 67
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create complexities and will increase costs. For instance, the manager
needs to consider how investments will be allocated between the
funds and if investing in the same assets, whether the vehicles will
enter and exit at the same time.
Managers will need to consider the tax implications when
determining whether a separate vehicle will be more appropriate.
Structuring funds to allow for illiquid
The alternative is to establish a fund which will have the flexibility to
invest in both liquid and illiquid investments. If the fund is to allow
redemptions, the fund terms will need to incorporate mechanisms to
manage the illiquid portion.
The articles of association of Cayman funds are generally drafted
to allow for new classes to be offered by the directors on different
terms, which may include more limited or no redemption rights.
There are several issues with this approach: the manager will also
need to ensure the appropriate allocation of expenses between the
classes as the liquid class expenses and the illiquid classes could vary
dramatically. There is also potential cross-class liability if an investor