Chapter 15 Update: “I’m in a New York state of mind”

Read our article in the Cayman Financial Review Magazine, eversion 

Music legend Billy Joel never could have imagined that his song “New York state of mind” would be used in connection with an article discussing developments in case law interpreting the “Center of Main Interests” in Chapter 15 proceedings for hedge funds.  

However, his lyrics aptly summarise two recent decisions which, although they apply different rationales, indicate a strong willingness on the part of the Bankruptcy Courts from within the Southern District of New York to grant recognition to court-appointed liquidators of hedge funds from off-shore jurisdictions: In re Fairfield Sentry Ltd., 440 B.R. 60 (Bankr. S.D.N.Y. 2010), aff’d, 2011 WL 4357421 (Sept. 16, 2011) and In re Millennium Global Emerging Credit Master Fund Ltd., — B.R. –, 2011 WL 3805787 (Bankr SDNY 2011).   

These recent cases go a long way to narrow the gulf that resulted from the Bankruptcy Court’s 2007 decision in In re Bear Stearns High-Grade Structured Credit Strategies Master Fund, which denied Chapter 15 recognition to Cayman provisional liquidators, and should permit parties from Cayman and other offshore jurisdictions to strongly consider the SDNY as a venue choice for Chapter 15 proceedings.

After all, New York is home to some of the world’s largest financial institutions and its bankruptcy judges have presided over the largest and most complex financial bankruptcy cases in history – the recent cases of Lehman, Madoff and MF Global are but just a few examples.

It is therefore natural that the SDNY should be considered the top venue choice to provide assistance to offshore jurisdictions in connection with the wind down of hedge funds.

In order to understand the importance of these recent decisions, a brief background of Chapter 15 and a summary of the Bear Stearns decision are necessary. In 2005, the United States Bankruptcy Code was amended to adopt the Model Law on Cross-Border Insolvency drafted by the United Nations Commission on International Trade Law and is known as “Chapter 15”.

Chapter 15 replaced section 304 of the Bankruptcy Code which was the primary vehicle by which foreign representatives sought ancillary assistance from United States courts.

The purpose of Chapter 15 is to provide an effective means to address cross-border insolvency cases and, among other things, to promote cooperation between the United States courts and parties of interest and the courts and other competent authorities of foreign countries involved in cross-border insolvency cases. See 11 USC § 1501.

Chapter 15 may be used for a variety of purposes, including to protect assets located in the United States, to pursue claims, to take discovery and to sell assets. However, in order to gain such assistance, Chapter 15 provides that the foreign debtor must first file a petition with the bankruptcy court and be granted “recognition”.

A grant of recognition will provide the petitioning entity, either on a mandatory or permissive basis, with a series of rights and protections – the most important of which is the benefit of the automatic stay under section 362 of the Bankruptcy Code.

Recognition requires a determination by the bankruptcy court of whether the entity’s foreign insolvency proceeding is either a “foreign main” or “foreign non-main” proceeding. This issue requires a determination of where the entity’s COMI resides.

If the entity has its COMI in the country where the foreign insolvency proceeding is pending, it is a “foreign main” proceeding. As a result, certain beneficial protections are automatically triggered.

If the entity’s COMI is not in the country where the foreign insolvency proceeding is pending, but the entity has an “establishment” in that country1, the proceeding may qualify as a “foreign non-main” proceeding.

As a result, the bankruptcy court would have the discretion to provide the entity with much of the same protections automatically granted in the context of a foreign main proceeding.

If a debtor’s underlying insolvency case is determined to be neither a foreign main nor a foreign non-main proceeding, the debtor may be denied access to the protections and assistance of Chapter 15. This was the precise scenario that arose in the Chapter 15 petition of Bear Stearns.

In Bear Stearns, the SDNY determined that the foreign insolvency proceedings, which were commenced on the same day as the liquidators filed their petition for Chapter 15 recognition, could not qualify as either a “foreign main” or “foreign non-main” proceeding.

In its ruling, which was affirmed on appeal, the Bankruptcy Court found that Bear Stearns’ COMI was not located in Cayman but in the United States because (i) the funds had no employees in Cayman, (ii) all of the funds’ assets were located in the United States and (iii) the funds’ asset manager was located in the United States.

The Bankruptcy Court also determined that the Cayman proceeding could not qualify as a “foreign non-main” proceeding because the funds were registered as “exempted” companies under Cayman law which required that they had to seek business outside of Cayman and could not compete with local businesses.

As a result, the Bankruptcy Court denied recognition to the Bear Stearns offshore feeder funds and the protections of Chapter 15. The decision in Bear Stearns was followed shortly thereafter by another Bankruptcy Court for the Southern District of New York in In re Basis Yield alpha Fund (Master), 381 BR 37 (Bankr SDNY 2008), which again denied recognition to a Cayman liquidator.

Subsequently, foreign entities, including offshore investment vehicles in liquidation, have successfully filed Chapter 15 petitions in venues other than the SDNY. However, in making their rulings, those courts have generally been careful not to directly criticise the Bear Stearns decision, but, rather, distinguish their own facts in order to grant the relief sought.

See In re Saad Investments Finance Co (No 5) Ltd, No 09-13985 (Bankr D Del 17 Dec, 2009) (granting recognition to Cayman Island exempted company, in liquidation); In re Betcorp Ltd, 400 BR 266 (Bankr D Nev 2009) (granting recognition to Australian public company engaged in online gambling, in liquidation); In re British Am Ins Co Ltd, 425 BR 884 (Bankr SD Fla 2010) (granting foreign non-main recognition to St Vincent and the Grenadines insurance vehicle, in liquidation).

Recently, the SDNY was, again, asked to decide the issue of COMI and recognition in connection with off-shore investment funds. In both cases, the Bankruptcy Courts recognised the offshore proceedings which allowed for the protections available under Chapter 15.

While the Courts in these cases reached the same result based on different analyses, specifically the question when it is the proper point in time to measure a foreign proceedings’ COMI, the end result appears to be the same: The Bankruptcy Court will not rigidly apply Bear Stearns and automatically deny recognition to offshore investment vehicles.

In fact, the Bankruptcy Court appears ready to recognise such proceedings so long as there is some possible means to distinguish them from Bear Stearns.

In re Fairfield Sentry Ltd

Fairfield, together with its related funds Fairfield Sigma Limited and Fairfield Lambda Limited, were established as vehicles for mainly non-US persons and certain tax-exempt United States entities to invest with Bernard L Madoff Investment Securities LLC.

As is well known, BLMIS was a Ponzi scheme of epic proportions and in December 2008 was placed into a proceeding under the Securities Investor Protection Act in the United States. In April and July 2009, the court in the British Virgin Islands appointed liquidators for the Fairfield entities.

The liquidators filed Chapter 15 petitions in the SDNY seeking recognition of the BVI proceedings as either foreign main or foreign non-main proceedings. The Bankruptcy Court analysed the totality of the circumstances and concluded that Fairfield’s COMI was in the BVI and granted foreign main recognition.

Integral to the Bankruptcy Court’s finding was that the funds had ceased doing any business for 18 months prior to their Chapter 15 petition, and seven months prior to the appointment of the liquidators, and thus had no business, management or tangible assets located in the United States.

Thus, the Bankruptcy Court reasoned that the debtors’ most feasible administrative “nerve centre” had existed for some time in the BVI as a result of the liquidators’ appointment who had been directing and coordinating the debtors’ affairs. See In re Fairfield Sentry Ltd, 440 BR at 64. With this basis, the court recognised that a debtor’s COMI may shift, but cautioned against parties moving COMI in bad faith or to “game” the system. Id at 65 & n 3.

In re Millennium Global Emerging Credit Master Fund Ltd. (“Millennium”)

Millennium Global Emerging Credit Master Fund Limited and Millennium Global Emerging Credit Fund Limited were a master/feeder structure that filed for liquidation in Bermuda.

The liquidators appointed by the Bermuda court sought recognition in the SDNY in order to investigate the funds’ financial affairs, conduct discovery related to potential causes of action against parties in the United States, and ultimately provide for a distribution of recovered property to creditors. See In re Millennium Global Emerging Credit Master Fund Ltd, 2011 WL 3805787 at *1.

The Bankruptcy Court identified two questions that needed to be answered in order to ascertain the funds’ COMI: (i) the appropriate date at which to make the determination and (ii) the factors to be considered in making the determination. Id at *6.

First, after reviewing prior cases, making a textual analysis and giving weight to the policy of discouraging forum shopping, the Bankruptcy Court concluded that the point in time at which COMI must be determined is the date that the foreign insolvency proceeding is initiated and not the commencement of the Chapter 15.

Second, the Bankruptcy Court considered the following factors: (a) the location of the debtor’s headquarters, (b) the location of those who actually manage the debtor (which, conceivably could be the headquarters of a holding company), (c) the location of the debtor’s primary assets, (d) the location of the majority of the debtor’s creditors or of a majority of the creditors who would be affected by the case and (e) the jurisdiction whose law would apply to most disputes. The Court also noted that many cases also emphasise that the COMI should be “ascertainable by third parties”. See id at *10.

When applying these factors as of the time of the commencement of the foreign insolvency proceedings, the Bankruptcy Court concluded that based on “a simple tally”, the factors pointed toward the funds’ COMI being in Bermuda.

Specifically, the Bankruptcy Court found it important that “two of the funds’ three directors were located in Bermuda, and the directors had the right to replace all of the funds’ other agents, as well as the right to determine whether to place the funds into an insolvency proceeding.

Bermuda was also the location of the funds’ bank, their custodian and their auditors.” Id. The remaining factors pointed to more than one jurisdiction. See id at *12. In essence, the Bankruptcy Court distinguished Bear Stearns from the facts before it and described the offshore funds in that case to be a mere “letterbox” with no nexus to Cayman. See id at *132.

However, the Bankruptcy Court also made an important finding that the only COMI reasonably “ascertainable by third parties” was Bermuda which should have an impact on future COMI analysis.

The Bankruptcy Court observed that the funds’ offering documents made clear that investors were taking shares in a Bermuda company subject to the control of Bermuda-based board of directors and that all cash was to be sent to an account in Bermuda. Thus, the investors should have reasonably expected that Bermuda was likely to be the venue of any proceeding to wind up or liquidate the funds. See id at *11.

Simply put, parties invested in the offshore vehicle primarily, if not solely, to enjoy the tax advantage that the funds afforded and they cannot later pretend to be surprised if the funds’ determine to wind up in Bermuda.

The Bankruptcy Court also made an important statement that should resonate well with off-shore parties seeking to commence Chapter 15 cases in the SDNY. The Bankruptcy Court stated:

the COMI requirement should not be applied in a manner that would effectively establish a presumption against recognition of cases from offshore jurisdictions. Such a presumption would set the text of the statute on its head and construe chapter 15 to reverse a line of cases under the predecessor provision, § 304, that recognised proceedings from the Caribbean.”
Id at *14 (emphasis in original).
Several years have passed since the Bear Stearns decision and courts – including the SDNY – have taken the opportunity to examine its consequences. The lesson from Fairfield and Millennium should be apparent:

The SDNY wants to recognise Chapter 15 petitions from hedge funds in offshore jurisdictions and will not apply a de facto rule denying recognition to such funds.

We believe that under appropriate facts, the SDNY should be strongly considered as an appropriate forum for Chapter 15 filings from offshore jurisdictions. In other words, the SDNY is again open for Chapter 15 business; good news for offshore directors and liquidators.


  1. An establishment means any place of operations where the debtor carries out a nontransitory economic activity. See 11 U.S.C. § 1502(2).
  2. The Bankruptcy Court also found that if COMI were to be determined as of the date of the Chapter 15 filing, COMI would still be in Bermuda because the liquidators had been winding down the fund for at least two years.