Independent Directors - Crypto Fund Governance
Digital Asset Hedge Fund Governance | Cayman Investment Funds
With the adoption of digital assets by institutions, it is important that crypto funds recognize the importance of appointing experienced independent directors to the board, who can add value to the fund structure and provide comfort to investors and regulators. Many fund managers continue to overlook the importance of appointing directors who are not affiliated with the fund manager or fund administrator i.e. truly independent. Given the ever increasing compliance and regulatory landscape, the manager is often unaware of developments in the region in which the fund is actually domiciled and regulated so having suitably qualified and experienced directors is invaluable. It also helps if the board understands the asset management industry and digital asset industry developments such as the various service providers in custody, banking, the exchanges, staking, lending and OTC providers, developments in de-fi, insurance and so on.
What are a Fund director’s duties?
The duties of a director of a Fund arise as a consequence of the fiduciary relationship between the director and the Fund and are based on a combination of English and Commonwealth common law, as applied in the courts of the Cayman Islands, statute and regulatory guidance. There is, however, no statutory codification in the Cayman Islands of the general directors’ duties, obligations and liabilities.
Directors’ duties will ordinarily be owed to the Fund but can, in particular circumstances, be owed to creditors or individual shareholders.
In the ordinary course of business, the interests of the Fund mean acting in the best interests of the Fund's shareholders as a whole. However, if the Fund becomes insolvent or ‘doubtfully’ solvent directors must take account of the Fund's creditors when discharging their duties. Directors are also obliged to comply with various statutory obligations regarding the management and operation of the Fund. The principal obligations applicable to the Fund and to the directors arise under the Companies Act, the Mutual Funds Act (for Regulated Funds), the Private Funds Act (for Private Funds) and the Proceeds of Crime Act.
to act bona fide in what the director considers to be the best interests of the Fund
to exercise their powers under the Articles for the purposes for which they are conferred
to avoid conflict between the interests of the Fund and the director’s personal interests and duties or (where such conflicts are permitted by the Articles, as is common) making sure that any such conflicts are properly disclosed
to exercise the director’s powers as a director independently, without subordinating their powers to the will of others (except to the extent that such powers have been properly delegated)
not to make secret profits from acting as a director of the Fund
Duties of skill and care
to acquire and maintain a sufficient knowledge of the business of the Fund on a continuing basis; and
to supervise the discharge of functions which have been delegated to advisers and service providers.
Directors are obliged to undertake these duties with care, diligence and skill. Directors are subject to a minimum objective standard as a director of the Fund, but the expected standard will be raised if a particular director has more knowledge, skill or experience than would ordinarily be expected of a director in their position. Directors will also have the relevant contractual duties and obligations set out under any service agreements that they may enter into with the Fund.
Directors of a Fund are obliged under Cayman Islands legislation:
to maintain the Fund’s register of members,
the register of directors and officers and
the register of mortgages and charges
to maintain proper books of account for the Fund
to maintain a registered office in the Cayman Islands for the Fund
to comply with the Anti-Money Laundering Regulations (AML Regulations) issued under the Proceeds of Crime Act
to ensure that the Offering Document issued by the Fund describes the shares in all material respects, and contains such other information as is necessary to enable a prospective investor in the Fund to make an informed decision whether or not to invest;
to update the Offering Document to take account of any material changes
file any material changes to the information previously filed with CIMA, including an amended Offering Document, within 21 days of the change
to ensure that the Fund is audited on an annual basis
to comply with reporting obligations including, without limitation, notifying the Registrar of Companies (Registrar) of any changes in the directors, officers or registered office of the Fund, arranging for the filing of the Fund's annual return and exempted company declaration with the Registrar and filing the Offering Document and annual audited financial statements with CIMA
to comply with the requirements of the Director Registration and Licensing Act.
Conflicts of interest and risk
Directors of funds must ensure that the fund's Offering Document adequately and accurately discloses conflicts of interest and ensure that the fund has adequate measures in place to identify, disclose, monitor and manage any conflicts of interest. Directors should ensure that they provide suitable risk management oversight and that risks are appropriately managed and mitigated. This is particularly important for Private Funds where valuation, title verification or cash monitoring is being performed by a related party. Meetings The board of directors of a fund should meet at least twice a year, in person or by telephone or video conference call, and more often depending upon the circumstances or size, nature and complexity of the fund.
Directors of funds:
are responsible for the appointment, removal, monitoring and supervision as well as the contractual terms of service providers including notifying investors and CIMA of any changes to the fund’s service providers and making appropriate updates to the fund’s Offering Document
should communicate adequate information to the fund's investors, including where enhanced disclosure to investors is appropriate, making relevant enquiries when issues are raised and be satisfied that appropriate action is being taken
must have sufficient capacity to apply their minds to overseeing and supervising each fund in accordance with relevant laws, regulations, rules, statements of principles and the provisions of the SoG and other relevant SoGs issued by CIMA. No specific limits are set on the number of directorships that can be accepted by an individual or corporate director, although under the Directors Registration and Licensing Act if the number of directorships exceeds 20 or more Covered Entities (as defined below), then the professional director licensing requirement will apply, see Directors registration and licensing below
should ensure that the Offering Document contains such information as is necessary to enable a prospective investor to make an informed investment decision, including clear descriptions of the investment strategy and conflicts of interest policy
should exercise independent judgment, act in the best interests of the fund, take into account the interests of investors as a whole, and should operate with due skill, care and diligence and act honestly and in good faith at all times, making sure they have sufficient and relevant knowledge and experience to carry out their duties
must exercise the care, skill and diligence of a reasonably diligent person with such general knowledge, skill and experience
should at all times be fully aware of the fund’s investment activities, performance and financial position and review and approve the fund’s financial statements
should also regularly monitor the fund’s net asset valuation policy and that the fund’s net asset value is being calculated in accordance with the policy at the relevant intervals.
Directors registration and licensing
The Directors Registration and Licensing Act (DRL Act) imposes obligations on directors of Regulated Funds and certain securities investment businesses (Covered Entities) to register with CIMA prior to being appointed as a director of a Covered Entity.
What are the consequences of a director not discharging its duties?
Breach of statutory obligations The Companies Act, the Mutual Funds Act, the Private Funds Act and the Proceeds of Crime Act (among others) impose certain obligations on directors of a Fund. Some of these obligations are sanctioned by criminal penalties and, on conviction, are punishable by a potentially substantial fine and (in relation to certain offences) a custodial sentence. It is also important to note that if a Fund is in breach of a statutory obligation, the relevant legislation may also impose penalties on any ‘operator’ or ‘officer’ of the Fund (which includes a director) who is ‘in default’. For these purposes, directors will be ‘in default’ if they knowingly and willingly authorise or permit the default, refusal or contravention that constitutes the breach.
CIMA also has the power under the Monetary Authority Act to impose significant administrative fines of up to CI$1 million (US$1.2 million) for each breach of certain provisions of the AML Regulations and other Cayman regulatory laws and regulations, including the Mutual Funds Act, the Private Funds Act, Securities Investment Business Act and the DRL ACT.
Breach of fiduciary duty
If directors breach their fiduciary duties to the Fund they may be found personally liable to the Fund in damages.
In circumstances where a director has been negligent in making a statement, for example in the Offering Document, such director may be liable for a claim in damages brought by a person who has suffered loss in reliance on that statement.
If a director is fraudulent in misrepresenting facts by making a statement in the knowledge that it is false, or by being reckless as to whether or not the statement is true or false, for example in the Offering Document, the director could be found liable in damages to an investor or purchaser who is deceived by the statement.
The Penal Code
If a director publishes (or concurs in publishing) a written statement or account which to its knowledge is or may be misleading, false or deceptive in any material particular with intent to deceive shareholders or creditors of the Fund then the director will be guilty of an offence, punishable on conviction by up to seven years imprisonment. Recent changes to the Penal Code also now require reporting of suspicion of overseas tax evasion as part of the AML framework in the Cayman Islands.
Contempt of court
If a director is aware that the Fund has been ordered by any court of competent jurisdiction either to do or refrain from doing something, or that the Fund has given an undertaking to the court to do or refrain from doing something, then the director is under a duty to take reasonable steps to ensure that the order or undertaking is complied with.
Fraud on, or prior to, winding-up
The Companies Act provides for a range of statutory offences relating to the actions of the directors prior to, or in connection with, a winding-up of the Fund.
The Memorandum sets out the capacity and powers of the Fund and the Articles prescribe the manner in which the Fund is to be operated. If the directors of the Fund enter into any transaction that is outside the objects set out in the Memorandum, the transaction will be ultra vires and the Fund will be without capacity to enter into the transaction.
In addition, if the directors enter into a transaction on behalf of the Fund that is ultra vires their powers under the Articles, the directors are without capacity to bind the Fund. In either circumstance, the Companies Act steps in to ensure that any such transaction with a third party is not invalid by such lack of capacity. The Fund may however bring a claim against the directors for any loss caused or damage suffered as a consequence of the ultra vires act.
CV5 Capital - Independent Director Services
CV5 Capital directors routinely act on the board of crypto hedge funds and other alternative investment funds in the blockchain, fintech and digital asset industry. We have unique expertise in both traditional asset management governance, investment banking, law, risk management, fund and product structuring as well as many years in the digital asset and crypto hedge fund industry. For further information feel free to contact us: email@example.com