Structured investment vehicles – insolvency remote?
The Company was a structured investment vehicle (SIV), incorporated in the Cayman Islands. It invested in asset-backed securities, seeking to profit from the spread between the cost of funding and returns on its investment portfolio. The Company was “insolvency remote” (similar to other SIVs), because pursuant to the terms of its governing documents, secured creditors were not entitled to utilise the typical range of insolvency procedures available. Instead, secured creditors agreed to limit their rights to a distribution scheme, provided for in a security trust deed (Trust Deed).
Nevertheless, when the financial crisis hit in 2008, the high level of defaults in the US sub-prime mortgage market substantially affected the value of asset-backed securities. By 30 September 2008, the Company’s board of directors had no option but to resolve that the Company should be wound up.
The scheme of distribution was triggered by an event of default in October 2008 and the JARs were appointed by the secured creditors over the Company’s assets pursuant to the Trust Deed. The JARs subsequently found that the Company’s liabilities far outweighed its assets, into the billions of US dollars.
A petition for the winding-up of the Company was also filed in the Cayman court on 19 December 2008 (December Petition), but this was adjourned as it was overtaken by the progress of the JARs. A fresh petition filed on 4 June 2024 and the December Petition was successfully withdrawn on 17 July 2024.
Interpretation of the Security Trust Deed – UK Supreme Court
The Trust Deed provided for a scheme of distribution using long term and short-term “pools”. In order to establish the pools, the JARs were required to realise the Company’s assets during a “realisation period”. The intention was to match the maturity dates of the assets in the short-term pool to the maturity dates of the short-term liabilities and achieve a similar match in the long-term pools. Once the realisation period passed, secured creditors would be paid on their maturity dates pari passu from the assets available in the applicable pool.
However, the contractual interpretation of the distribution provisions became a highly contested issue in the English courts, with an appeal ultimately being made to the UK Supreme Court. The dispute arose between the Company’s secured creditors, regarding whether the Company’s assets fell to be distributed preferentially to creditors as debts fell due, meaning that secured creditors with maturity dates arising in the realisation period, would be paid in priority to those in the short-term and long-term pools. In a landmark ruling delivered in October 2009, the UK Supreme Court found that the lower courts had given insufficient weight to the commercial context of the Trust Deed, in circumstances where the underlying assumption at the time of drafting, was that there would be sufficient assets to cover all secured liabilities. The result of this decision was that any realisation period debts would be put in the same position as other short-term liabilities, which would be paid pari passu from the short-term pool.
In accordance with the Supreme Court’s judgment, the JARs made distributions totalling c.US$406m. Notwithstanding the realisations made, the Company remained “deeply insolvent”[3]. Consequently, on 19 July 2024, the JARs caused the Company to petition to the Cayman court for a winding-up order on the basis that the Company was unable to pay its debts and was “hopelessly insolvent”, and also on the basis that it would be just an equitable to do so.
At the hearing of the petition on 17 July 2024, Justice Doyle found that the JARs had standing to file the petition and duly recognised their appointments. The Court ordered that the Company be wound up on both grounds. In doing so, the Court referred to the evidence filed that “[a]t its height the receivership’s realised assets were in the region of US$440 million with secured liabilities alone originally exceeding US$ 5 billion.”
The joint official liquidators will now take steps to distribute the Company’s final assets, US$ 4.7 million held in cash at bank, to the secured creditors and dissolve the Company, bringing this particular chapter to a close.
[1] SIGMA FINANCE CORPORATION Announcement to Beneficiaries – 15:41:00 27 Mar 2024 – News article | London Stock Exchange
[2] Re Sigma Finance Corp (in admin rec.) [2009] UKSC 2
[3] In the Matter of Sigma Finance Corporation (Unreported, 19 July 2024)
