A recent fund finance case involving the Abraaj Group has highlighted the need for notice of security on a capital call facility to be given to the underlying investors of a fund, says Matthew Gilley, Group Partner, Jersey, at Collas Crill
Fund finance is an understated and often unrecognised part of the financial services business carried on across the Channel Islands. That is quite surprising, considering how well established both the fund and banking industries are here.
Given the physical proximity to trust company administrators, local banks have found a ready supply of customers and as a result fund finance can, and in some cases does, form a large part of a local bank’s loan books. So how does fund finance work and why talk about it now?
What is fund finance?
A capital call facility or a subscription facility is a fund financing tool that bridges the gap between the time a fund is required to fulfil its obligations to complete an investment and when a call is made on the investors of the fund.
The term of that loan is a relatively short period of time and typically for no longer than a 12-month period. A lender can take security for a loan to protect against the borrower failing to make a loan repayment. A common example of security is a mortgage over a house. Lenders making a capital call facility available are no different. They may take security over the fund’s right to call for monies from investors.
Why talk about fund finance?
A recent fund finance case involving the Abraaj Group highlighted the challenges for all stakeholders, including investors (into a fund) and lenders. In that case, a lender had taken security over the right to call for monies from a fund’s investors.
However, the lender found itself fighting to enforce that right because: (a) no notice had been given of that security to the fund’s investors and (b) the fund had released each investor of its obligation to pay those monies.
The case identified the risks of a fund becoming insolvent, alongside the need to be clear on the adequacy of investors, the documentation around a deal, and pricing for all parties involved.
Jersey security
As a matter of Jersey law, security over the contractual right to call for monies from investors into the fund is perfected by way of registration on the Jersey Security Interests Register – a public register maintained in Jersey on which security over, among other things, Jersey contract rights may be registered.
The Abraaj case, however, demonstrates why many legal practitioners in Jersey believe that notice of this security should also be given to the underlying investors.
In the scenario where a fund releases its investors from their obligations to make good on calls to initiate payments to the fund, notice of that security can make it easier for any claimant bank to utilise the Jersey customary law principle, known as a Pauline Action.
That action can be brought before the Royal Court by the claimant bank and, if successful, would mean that the fund’s investors would be required to pay any monies should calls be made on them.
Any claimant bank would then be able to enforce its security, which would now have value and enable it to satisfy any loan payments that were in default.
While Jersey has a robust and modern security interests law, the origins of Jersey law may continue to play an important role in the developing finance industry in the island into the 21st century.
It is vital in an ever increasing and competitive environment that Jersey looks to its origins to supplement decisions handed down by our judges and the laws made by the Government of Jersey, which may be sufficiently flexible to address modern day complexities.
Financial professionals across the spectrum in Jersey (trust company practitioners, legal professionals and bankers) must continue to address challenges to Jersey’s finance industry with a collective determination and with an eye on identifying opportunities to distinguish ourselves from competitive jurisdictions. A Pauline Action may be one such distinguishing feature.