At the latest Trade & Export Finance webinar, Sam Fowler-Holmes, a partner in the Trade & Export Finance Group at Sullivan's London office, gave some valuable insight into what to consider before using a special purpose vehicle (SPV) in trade finance transactions. As SPVs become increasingly commonplace in trade structures, particularly in the receivables finance sphere, this is a timely opportunity to consider some of the "risks and rewards" associated with SPV structures.
What is an SPV?
A common misconception is that SPVs are a bespoke entity in and of themselves. While it may be the case that some types of entity may typically be used solely for SPVs, SPVs can also take the form of well-known legal entities (such as limited liability companies or limited liability partnerships). The distinguishing feature is that an SPV is a legal entity that is created for a specific limited purpose, be that a specific financing or transaction, or a particular type of transaction to be conducted on a repeat or ongoing basis.
When might you use an SPV?
There are many reasons why an SPV structure might be used. The SPV can be used to ringfence particular assets or to provide an insolvency remote structure which shields the party setting up the entity from the liabilities being assumed by the SPV and shields the parties transacting with the SPV from the liabilities and potential insolvency risk of the party setting up the SPV.
An SPV can be a useful way to mitigate what can be summarised as 'on shore' issues. This refers to those issues that can make a transaction difficult to progress in certain jurisdictions, whether as a result of regulatory issues (such as a requirement for central bank or governmental approvals, foreign exchange controls or repatriation of funds), unhelpful tax positions or legal obstacles (such as challenges to granting security). Introducing an SPV into the structure which is incorporated in a different jurisdiction may help to mitigate these issues, thereby facilitating the transaction as a whole and likely saving time and cost.
While using SPVs can provide a number of benefits, it is important to understand the rationale for using an SPV for a particular structure. A useful exercise is to outline the objectives that are to be achieved by using the SPV, and rank these in order of priority. Inevitably, there will be some aspect of negotiation involved and you need to be clear on what objective you are prepared to compromise on in order to get the transaction over the line. If you cannot clearly answer why you are using an SPV, it may be the case that an SPV is not appropriate for that particular transaction, or that it is being used for inappropriate or unlawful reasons.
Where to incorporate the SPV?
A number of jurisdictions are commonly used for SPVs, including the British Virgin Islands, Cayman Islands, Jersey, Luxembourg and Ireland, to name a few. While speed of incorporation, cost of incorporation and cost of administration are all relevant factors when choosing a particular jurisdiction, there is often not much to differentiate between jurisdictions on these factors.
Often of more importance are factors such as a favourable tax regime (i.e. no / low rates of corporation tax and no withholding tax), investor familiarity and confidence in the jurisdiction, and a sophisticated legal system that has knowledge and familiarity with English law concepts and that will recognise and enforce English law, and English law judgments or arbitral awards. Other relevant factors may include a lack of corporate administrative burdens, good infrastructure, telecommunications and transport links, and varied options for the legal nature of the SPV.
It is also advisable to keep abreast of any changes to the regulatory environment, whether at the time of incorporation of the SPV, or that may be in the pipeline.
Issues surrounding ownership and control of an SPV
There are several different ways of structuring the ownership and control of an SPV. Be aware that, while ownership and control have some overlap, they are not one and the same and it is possible to control an SPV and not be the owner, and vice versa. An SPV can be owned by a financer, an obligor, or occasionally by a third party. However, most commonly, there will be no owner, and the shares of the SPV will be held by a trustee, typically for the benefit of a charitable trust.
Whichever option is chosen, consideration needs to be given to who is responsible for running the SPV on a day-to-day basis, the relevant costs that will be involved, what rights and liabilities each party has in respect of the SPV and what the process should be if the entity running the SPV needs to be replaced. Consideration also needs to be given to ensuring that the directors of the SPV have the expertise and sophistication to comply with their obligations under local law and that the arrangements around the running of the SPV enable them to do this. Some jurisdictions (including England and Wales) have the concept of shadow directorship (which can result in a third party potentially assuming liability for the SPV's liabilities) and this should be factored into the decisions around control of the SPV.
While using SPVs can help facilitate trade finance, and can allow certain transactions to be carried out that may not otherwise be possible, it is important to be aware of the fact that using an SPV can bring its own challenges. Using SPVs can introduce additional costs and require additional due diligence, particularly where it means the involvement of third parties that would not otherwise participate in a transaction. However, by setting out the proposed objectives in using an SPV and identifying the risks or challenges that using an SPV will mitigate at the outset of a transaction, parties can ensure that the SPV contributes positively to the transaction.
Please click here for a link to a video of the webinar.