When Solvent Funds Run Out of Cash: Cayman Directors and the Liquidity Trap

Even a fund that looks solvent on paper can hit a cash wall.

For Cayman fund directors, the real risk often isn’t balance-sheet insolvency, it’s cash flow stress. When redemption requests spike or Level 3 assets can’t be sold, liquidity dries up fast. The fund may suddenly struggle to meet redemptions, pay expenses, or keep counterparties calm.

If left unchecked, that shortfall can snowball: investor confidence weakens, creditors get anxious, and regulatory scrutiny follows. Acting early, and visibly, gives directors control over outcomes and helps protect both value and reputation.

Recognizing Cash Flow Risk

Directors should stay alert to early warning signs like:

• Redemption pressure: Large or concentrated requests that outstrip available liquidity.
• Illiquid or Level 3 assets: Positions that can’t be valued or sold quickly.
• Operational shortfalls: Gaps in paying service providers, expenses, or margin calls.
• Cross-border exposure: Assets or obligations in jurisdictions that limit swift enforcement.

Spotting these issues early allows directors to manage liquidity before it becomes a formal insolvency problem.

The Director’s Toolkit

Cayman law gives directors several tools to manage or control liquidity stress before it escalates.

Liquidity Planning and Stress Testing
Regularly model redemption scenarios and cash flow forecasts. Identify which assets need time to liquidate and record assumptions and board discussions. This documentation matters if decisions are ever challenged.

Provisional Liquidators
Useful when oversight or asset protection is urgently needed. Provisional liquidators can preserve fund value, access records, and maintain neutral control — especially where there’s investor tension or potential asset dissipation.

Court-Supervised Voluntary Liquidation
A structured option for winding down a fund under court supervision. It provides an orderly realisation process, formal creditor oversight, and clear governance — particularly valuable when assets are illiquid or hard to value.

Creditor Communication
Engaging creditors early shows diligence and often avoids contested petitions. It can also create room to negotiate standstills or structured settlements.

Cross-Border Coordination
Understand where assets sit globally and how recovery or enforcement will work across jurisdictions. Aligning these pieces early saves time and reduces value leakage later.

Practical Considerations for Directors

• Timing matters: Early action reduces personal risk under sections 138–139 of the Companies Act (2025 Revision).
• Documentation is key: Keep clear board minutes, solvency confirmations, and valuation records.
• Valuation discipline: Illiquid or Level 3 assets often need independent input.
• Regulatory awareness: CIMA expects boards to act transparently and prudently in liquidity situations.
• Communication strategy: Consistent investor updates can calm sentiment and deter panic redemptions.

Key Takeaways

• Cash flow insolvency is distinct from balance-sheet insolvency and often more immediate.
• Use statutory mechanisms like provisional liquidation or court-supervised voluntary liquidation proactively, not reactively.
• Integrate financial, legal, and operational oversight when making liquidity calls.
• Early assessment, clear documentation, and open communication protect both the fund and its directors.