Fund finance: taking security over a limited partnership interest

Although subscription line facilities have long dominated the Cayman Islands fund financing landscape, NAV facilities continue to grow in prominence. 

The fundamental distinction between these two forms of financing lies in the security provided: subscription line facilities are typically secured against unfunded investor commitments and the accounts into which commitments are deposited, whereas NAV facilities are underpinned by the fund's assets, often including security over equity interests in Cayman vehicles that hold (directly or indirectly) investments of the fund.

In a Cayman context, the security package for a NAV facility may involve security over a limited partnership interest in a Cayman exempted limited partnership (an ELP). Likewise, where the structure includes entities such as a limited liability company (LLC) or an exempted company, an equitable charge over membership interests or shares in those entities may also form part of the security package. 

This briefing address the issues involved when security is granted over limited partnership interests in an ELP.

Register of limited partnership interests

Limited partnership interests in an ELP are recorded in a register of limited partners which the general partner (GP) of the ELP is required to maintain. The register of limited partners may be inspected by any person, with the consent of the GP, during usual business hours. The limited partnership interest of each limited partner encompasses a combination of the rights and obligations provided for under the partnership agreement, as well as those prescribed by the Exempted Limited Partnership Act (Revised) (ELP Act).

Security

It is standard practice for lenders to take security over limited partnership interests by way of an equitable charge. This structure does not automatically transfer legal ownership of the limited partnership interest and instead gives the lender, on enforcement, the right to request the transfer of ownership of the limited partnership interest to itself (or its nominee, if preferred). This structure affords a lender flexibility and practical enforceability.

General partner consent

In accordance with the ELP Act, and subject to the terms of the partnership agreement, a limited partner must obtain written consent from the GP in order to grant any security interest in, or transfer, the whole or any part of its limited partnership interest. Such consent is vital to avoid breaches of the partnership agreement and to ensure that any exercise of remedies by the lender in an enforcement scenario is not impeded.

It is advisable for the lender to require, as a condition precedent to financing, that the GP provides prior written consent both to the grant of security over the limited partnership interests and to any potential transfer of those interests on enforcement.

Serving notice and priority of security 

The priority of any security interest is established by serving notice of the security interest at the ELP’s registered office. Either the secured party or the limited partner granting the security may serve this notice. However, if it is given by the limited partner, it is best practice to ensure the secured party receives a copy for their records. 

The ELP Act sets out strict requirements as to the content of any notice of security interest. Specifically, the notice must include:

• the agreement pursuant to which the security interest is granted

• the date of the agreement

• the parties to the agreement

• the grantor and grantee of the security interest

• the partnership interest or part thereof that is subject to that security interest

It is customary for a secured party to require that the GP formally acknowledge receipt of the notice of the security interest. In practice, this acknowledgement is typically obtained at completion and retained with the transaction documentation as evidence of proper notification.

Register of security interests

The ELP Act requires the GP to maintain a register of security interests in respect of all security interests granted over the limited partnership interests in an ELP. This register, like the register of limited partners, may be inspected by any person during usual business hours. The secured party will typically require an updated copy of the register of security interests to be provided post-closing evidencing its security interest.

Ancillary documents 

To facilitate enforcement, the limited partner is required to execute (but not date) transfer documents such as a limited partner assignment agreement in favour of the secured party. These documents are retained and only completed in the event of enforcement. It is equally important to ascertain whether the partnership agreement requires additional approvals from other partners or parties (such as an investment manager) for such transfers or security arrangements.

Although security agreements (which may include security interests granted over limited partnership interests in an ELP) are often governed by US law, particularly when the lender is a US-based financial institution, it remains essential that such agreements incorporate or refer to the specific requirements of Cayman Islands law described above. 

LPA considerations 

The GP plays a pivotal role in an ELP, having responsibility for day-to-day management and decision-making on behalf of the ELP. When security is being granted over limited partnership interests, the mechanics and implications of enforcement require careful consideration. 

If the GP remains in place during enforcement, potential conflicts may arise due to the GP’s duty to the partnership and its investors, particularly if enforcement is initiated by a secured party whose interests diverge from those of other partners. Since the GP’s co-operation and consent is often essential to effect a transfer of partnership interests, any reluctance or refusal by a GP to assist can hinder enforcement. 

Provisions in the LPA governing the removal or replacement of the GP by the limited partners, as well as the process for admitting transferees as substitute limited partners, must be examined closely to ensure that the secured party's enforcement rights are not unduly restricted.  Even if the secured party or its nominee is admitted as a limited partner, the partnership agreement may give the GP wide discretion to decide on making distributions to limited partners which could potentially restrict the ability of the secured party to realise value from its security. Addressing these issues proactively by negotiating appropriate LPA terms at the outset of a transaction will enhance the practical enforceability of security over limited partnership interests.

How Ogier can help

Whether you're a lender or a borrower in the fund finance space, Ogier has the knowledge and experience to support you with all Cayman Islands aspects of your transaction. 

We advise leading global financial institutions, private equity sponsors, hedge funds, and alternative investment vehicles on a range of financing structures, including subscription and capital call credit facilities, NAV and hybrid facilities, GP and management lines of credit and fund of fund facilities.

Our team has a deep, technical understanding of both Cayman Islands law and the fund finance market, which allows us to anticipate potential issues and craft innovative, commercially viable solutions.

Contact the team to find out more. 

About Ogier

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Disclaimer

This client briefing has been prepared for clients and professional associates of Ogier. The information and expressions of opinion which it contains are not intended to be a comprehensive study or to provide legal advice and should not be treated as a substitute for specific advice concerning individual situations.

Regulatory information can be found under Legal Notice