J.P. Morgan Markets Ltd (formerly known as Bear, Stearns International Ltd) Applicant v Finter Bank Zurich Ltd Representative Respondent
| Jurisdiction | Cayman Islands |
| Judge | The Honourable Justice Andrew J. Jones |
| Judgment Date | 11 July 2012 |
| Court | Grand Court (Cayman Islands) |
| Docket Number | Cause No. FSD 15 of 2009 (AJJ) |
| Date | 11 July 2012 |
In the Matter of Section 92 of the Companies Law (2011 Revision)
And In the Matter of Belmont Asset Based Lending Ltd (In Official Liquidation)
The Honourable Justice Andrew J. Jones QC
In Open Court
Mr. Richard Handyside QC instructed by Mr. Andrew Bolton of Appleby (Cayman) Ltd on behalf of J.P Morgan Markets Limited
Mr. Fraser Hughes of Conyers Dill & Pearman on behalf of Finter Bank Zurich Ltd as representative respondent on behalf of the participating shareholders of the Fund
Mr. Simon Dickson of Mourant Ozannes on behalf of the Joint Official Liquidators of the Fund
On 5 August 2011, the Joint Official Liquidators (‘the JOLs’) of Belmont Asset Based Lending Limited (‘the Fund’) issued a summons seeking directions that they may admit to proof a claim of Bear Stearns Alternative Assets International Limited (‘BSAAIL’) in the amount of US$59,947,747,00 plus interest in respect of the Strike under an option agreement entered into between J.P. Morgan Markets Limited (formerly known as Bear, Stearns International Limited) (‘BSIL’) and the Fund dated 27 April 2007 (‘the Option Agreement’). On 24 November 2011 I directed that the summons be treated as an application by BSAAIL, as applicant, against Finter Bank Zurich Ltd (‘Finter’), as representative respondent to determine whether, upon the true construction of the Option Agreement, BSAAIL is a creditor for that amount. 1
At the time the JOLs” summons was issued, neither BSIL nor its affiliate BSAAIL had actually submitted any proof of debt. However, the JOLs had taken legal advice from specialist London counsel, Mr. Iain Milligan QC, as to the interpretation of the Option Agreement. In his written opinion, which has since been disclosed to the parties, 2 Mr. Milligan advised, on the assumption that Cayman Islands law is the same as English law in the relevant respects, that the Fund was obliged to treat Bear Stearns as a creditor.
BSIL has now submitted a proof of debt dated 7 March 2012 by which it claims the sum of US$61,208,180.21, being the amount of the Strike allegedly due and owing under the terms of the Option Agreement as at that date. It was agreed that I should make an order for substitution to reflect that the claimant is BSIL (rather than BSAAIL) and that the claim is for US$61,208,180.21 (rather than USD$59,947,747.00), thus bringing the application into line with the proof of debt. It follows that the issue to be decided is whether, upon a true construction of the Option Agreement, BSIL is a creditor for the amount of its proof of debt. Having determined this issue, I shall direct the JOLs to admit or reject the proof of debt as the case may be. These amendments have no bearing upon the substance of the matter in issue which is a pure point of law to be determined upon the basis of an Agreed Statement of Facts filed with the Court on 16 January 2012 (and agreed on 13 February 2012).
The Fund was incorporated and registered under the Companies Law as an exempted company on 24 October 2003. It carried on business as an open ended investment fund and was registered with the Cayman Islands Monetary Authority pursuant to section 4(3)(c) of the Mutual Funds Law. Upon its incorporation the Fund's authorised share capital was the aggregate of US$29,000 and €20,000 comprising 100 Voting Shares of US$100 each (held by the Fund's management) and four classes of Redeemable Non-Voting Participating Shares. The Class A and Class B shares are denominated in US dollars and the Class C and Class D shares are denominated in Euros. At this stage the only other distinction between the classes is that no management and performance fees were charged to the Class A shares which could only be issued to funds of hedge funds under the same management as the Fund. 3
The Fund was established as a fund of hedge funds. The investment objective described in the Confidential Information Memorandum dated 10 July 2006 4 (at page 13) was as follows —
‘The investment objective of the [Fund] in each of its Classes is to maximise long-term returns to shareholders by investing in a diversified portfolio of fixed income related hedge fund strategies. The [Fund] will allocate its assets to various Fund Managers employing various fixed income strategies, including relative value hedge fund strategies such as fixed income arbitrage, mortgage-backed securities arbitrage and capital structure arbitrage, as well as directional hedge fund strategies such as distressed securities, long/short high yield, and emerging markets debt,’
The use of leverage, both for liquidity purposes and investment purposes, was described in the following way
‘The [Fund] may use leverage in each of its Classes to meet redemptions or to enhance investments, but such leverage shall be subject to a maximum of one hundred and fifty per cent (150%) of the aggregate net asset value of the [Fund].’
It went on to say that the Fund might establish a credit facility for any of its Classes of Participating Shares, the maximum of which would depend upon the liquidity of the investments of each Class. I was told that the Fund's assets (which comprised shares in other hedge funds) were in fact treated as a single portfolio and not allocated in any way to particular share classes. The risk factor associated with the use of leverage was described (at pages 19–20) as follows —
‘The [Fund] may, in the sole discretion of the Investment Manager, leverage its investment positions by borrowing funds, which will typically be secured by the [Fund's] securities and other assets, from securities broker-dealers, banks or others. Such leverage will be subject to a maximum of one hundred and fifty per cent (150%) of the aggregate net asset value of the Fund.’
‘Borrowing money to purchase securities may provide the Investment Manager with the opportunity for greater capital appreciation but, at the same time, will increase the [Fund's] exposure to capital risk and higher current expenses. Moreover, if assets under management are not sufficient to pay the principal of, and interest on, the debt when due, the [Fund] could sustain a total loss of its investment.’
Finally (at page 23), it stated that —
‘If losses or liabilities are sustained by a Class of Shares in excess of the assets attributable to such class, such excess may be apportioned to the other Class of Shares. It is not possible to isolate or protect the assets attributable to one Class of Shares from the liabilities attributable to the other Class of Shares are insufficient to satisfy the liabilities attributable to such Class of Shares. While efforts will be made to contract with parties on a ‘limited recourse’ basis, there is no guarantee that the Company will be able to attain such result.’
Whether or not the Fund actually employed leverage at this point in its trading history is not addressed in the evidence.
In April 2007 the Fund's memorandum and articles of association were amended to provide for the issue of leveraged and non-leveraged classes of Participating Shares (or leveraged classes with different levels of leverage). 5 Four additional classes of Participating shares were created and described as Class A+, Class B+, Class C+ and Class D+. Thus, an investor wishing to make a Euro denominated investment could
choose between an unleveraged exposure to the Fund's investment performance by subscribing for Class B shares or a leveraged exposure by subscribing for the Class B+ shares. In addition, the amendment provided for the creation of a new class of participating shares, the Class F Shares, which could be issued only to a credit provider. For reasons which will become apparent when I describe the terms of the Option Agreement, it is reasonable to infer that the creation of the Class F shares must have been done with the Option Agreement specifically in mind. Thereafter, this structure remained unchanged. Nothing turns on the fact that the aggregate amount of the authorised share capital and the number of classes of participating shares was increased on two subsequent occasions. Henceforth, I use the expression ‘Memorandum and Articles of Association’ to mean the Fund's memorandum and articles of association as amended and re-stated on 19 April 2007. It is this version of the document which forms part of the factual matrix relevant to the construction of the Option Agreement.
At the same time as amending the Memorandum and Articles of Association, the Fund's directors re-wrote its offering document. Henceforth, I use the expression ‘Confidential Information Memorandum’ to mean the version dated April 2007. Three subsequent versions were issued but it is the April 2007 version which is relevant for present purposes. The description of the way in which the Fund will employ leverage and provide some, but not all, of its investors with a leveraged exposure to its performance was changed and re-stated in Section 3 of the Confidential Information Memorandum as follows:-
‘The Fund may use leverage in each of its Share Classes to meet redemptions, to bridge- finance new investments for FX margin purposes, or to enhance investments. Such leverage shall be subject to a maximum of 50% of the aggregate Net Asset Value of the relevant Share Classes (or 1.5 times leverage) In the case of Classes A, B, BB, C, CC, D, DD and F and 150% of the aggregate Net Asset Value of the relevant Share Classes (or 2.5 times leverage) in the case of Classes A+, B+, C+, D+. Notwithstanding the...
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