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Ashley Gunning, Walkers

Essential lessons for independent directors

By Ashley Gunning, Walkers – Twelve months on from the Weavering decision it is interesting to look at how the approach to corporate governance has evolved amongst our clients. Although the decision did not in itself create any new law, it has forced issues regarding independent directors and best practice to the top of the agenda. Weavering effectively provided a pertinent reminder to directors of investment funds as to the nature and extent of their fiduciary duties and how delegating functions to service providers and then taking a back seat can go badly wrong.

To see how attitudes have changed, Walkers examined all the regulated Cayman Islands hedge funds we had established for clients over the previous year and found a clear trend towards the use of truly independent boards. Some 72 per cent of funds used independent directors: an increase from 64 per cent a year earlier. Further analysis revealed a preference for funds choosing a majority of independent directors on their boards, with 49 per cent comprised as such, while 37 per cent of boards were fully independent. Boards with an even split of independent and affiliated directors accounted for 10 per cent of the total, while 4 per cent of funds had a minority of independent directors.

Today, boards should be focusing their attention on a number of key areas: How often they meet and how such meetings are held (whether in person or by telephone); arrangements for documenting meetings and keeping records; the degree of expert advice to be taken from outside the board; and the kind of reporting from service providers needed to make fully informed decisions.

Directors must also be proactive. Merely reacting to troublesome events is likely to be an inadequate response and we have certainly noticed boards setting and agreeing more formal and regular reporting requirements for their service providers. Not only does this allow boards to react sooner but also leaves an important paper trail, should the board’s practice come under scrutiny at some point in the future. New funds would be well advised to bring independent directors in at an earlier stage than perhaps they had traditionally done in the past, making sure that appropriate legal advice is sought, selecting the right service providers and getting involved in reviewing and agreeing the fund documentation from the fund and investor perspective.

For existing funds, the key is to make sure that regular board meetings are held. Ideally there should be between two and four meetings each year with one in person, although more would be recommended if the fund is actively traded or experiencing liquidity problems. Naturally, physical meetings are preferable as they allow directors to eyeball the service providers and drill down their questions. Given that the investment manager might be based in the US, the directors in Cayman, and the administrator possibly in Ireland, practically speaking it is likely that most meetings will be held by conference call.

The trend of increased use of independent directors means that some regulatory changes are expected. From CIMA’s perspective, whilst there’s no legislation in the pipeline there has been discussion concerning proper testing for directors and a disciplinary and disqualification procedure. Given the size of Cayman’s fund sector, great care needs to be taken with consideration of a limit on the number of relationships that a director can hold. Any arbitrary limitation would, bearing in mind the volume of registered and unregistered funds in the Cayman Islands, necessitate a huge increase in firms or individuals providing director services. The danger is that this may dilute the high quality and experience of directors for which Cayman is renowned.

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