Many portfolio companies continue to confront business disruptions as a result of the COVID-19 pandemic. Even prior to the pandemic, we were seeing an uptick in litigation claims against sponsors and funds arising out of portfolio companies. The liquidity challenges since March have increased those risks at some companies. For sponsors, many of these risks arise from director positions and conflicts of interest, whether real or alleged. Below we provide tangible ways for fund sponsors to identify risks, educate their directors, and mitigate risk.
Ten Step Action Plan
- Create a list of companies with sponsor board members.
- Sensitize directors to fiduciary duties to company and shareholders as a whole and fund, and potential conflicts between them.
- Scrutinize corporate transactions, particularly in distressed situations, and document decision making.
- Consider use of special committees to resolve conflicts; retain fund counsel where fund receives a benefit that not all shareholders receive.
- Consider the risk of portfolio company employee claims, including claims arising out of COVID-19.
- Sensitize directors to insolvency issues and be mindful of duties to creditors of an insolvent corporation.
- Observe best practices: participate in deliberations, adhere to formalities, retain good minutes, exercise care in communications.
- Train directors on attorney-client privilege, including distinction between fund counsel and company counsel.
- Expect scrutiny of valuation practices and financial records.
- Assess relevant contracts and rights (investment agreement, shareholder agreement, insurance contracts, and indemnification rights and obligations).