Given the Cayman Islands' status as a leading offshore financial centre and home to a very significant number of corporate investment vehicles, as with all other financial centres (both on and offshore), it is perhaps inevitable that there will be some cases, from time to time, where investors in a Cayman company have been the victims of a fraud. And in some of those cases, the picture painted on the basis of the (then undiscovered) fraud is likely to have been what persuaded investors to subscribe.
In such a case, once the fraud has been discovered, it is unlikely to be very long before the company is put into liquidation. But the issue for shareholders who were led to invest in the company on that basis has been whether, once it is put into liquidation, they continue to have a viable claim against it for misrepresentation.
That issue had remained undecided in the Cayman Islands until the recent decision of the Grand Court in Re HQP Corporation Ltd (in Official Liquidation) 1. In that case, Doyle J was required to decide whether the "Rule in Houldsworth" – laid down by the English House of Lords almost 150 years ago in Houldsworth v City of Glasgow Bank 2, to the effect that a shareholder could not sue the company on such a claim once the winding up order had been made – should be applied in the Cayman Islands.
Although the Cayman courts have long-recognised that English common law was received into these Islands no later than 1865, such that Houldsworth cannot possibly have formed part of Cayman Islands common law, it is nonetheless common for English decisions since 1865, particularly at an appellate level, to be treated as persuasive and be followed by the Cayman courts, at least where there are no clear reasons to do otherwise. Doyle J thus considered in detail the judicial and academic treatment which the Rule in Houldsworth has received over time in England and various Commonwealth jurisdictions.
Doyle J observed inter alia that the Rule in Houldsworth has been overridden by statute in the UK, other courts across the Commonwealth have declined to follow it, and it has attracted criticism from various quarters. Moreover, the Judge considered that to apply the Rule in Houldsworth would be to introduce an inappropriate restriction on the breadth of section 139(1) of the Companies Act, which prescribes what debts will be admissible to proof against the company in liquidation. He thus firmly declined to do so.
The secondary issue which the Court then had to decide was how such claims would rank in the liquidation, and Doyle J concluded that they would rank as unsecured debts of the company.
Re HQP thus represents a very significant development under Cayman Islands law for unredeemed investor shareholders who have been the victims of a fraud. It immediately brings to mind Ponzi scheme cases (e.g. DD Growth Premium 2x Fund 3 and Weavering Macro Fixed Income Fund 4), which inherently involve balance sheet insolvency – since, although an unredeemed investor will have no interest in such a liquidation as shareholder, it may well be able to articulate a sound misrepresentation claim, in which case its failure to redeem before the liquidation commenced will not necessarily mean it is left behind to bear the full brunt of the fraud (a position that some forcefully argue is inequitable). It may instead be entitled to share in any distribution from the liquidation as an unsecured creditor in respect of that claim.
Footnotes
1. (unrep. 7 July 2023).
2. (1880) 5 App Cas. 317.
3. Appleby acted for the liquidators of the Fund in [2014] 2 CILR 316 (GC); [2015] 2 CILR 141 (CICA); [2017] 2 CILR 739 (PC).
4. Appleby acted for numerous custodians in their defence of voidable preference claims pursued by the Weavering liquidators.
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