Sep 2025
In this seven part series, Barnabas Finnigan and Nick Ward dissect special purpose vehicles and bankruptcy-remote orphan structures of the type used in the US CLO market. Together they explore how SPVs are formed, how they work, who (or what) owns them, and the various measures taken to enhance marketability and mitigate transactional risks. Whether you are a seasoned finance professional or just dipping your toes into structured finance, this series offers a deep dive into the architecture behind some of the most resilient financing structures in the market.
Part 1: What are bankruptcy remote structures and how and why are they used?
The fundamental point of utilising an orphan SPV structure in a financing transaction is to insulate the transaction in question from certain risks (which are not strictly related to the performance of the collateral assets underlying the deal).
More particularly, as the name suggests, the purpose of a “bankruptcy remote” structure is to insulate the underlying assets from the risk of being pulled into bankruptcy proceedings should something happen to one or more of the parties in a transaction.
The primary goal is to create a legal and operational separation between the assets being financed and the potential financial troubles of the entity that originated or sold those assets. This means that participants in the transaction can focus their credit and risk analysis on the relevant assets themselves and need not conduct time consuming due diligence on the operations and history of the obligor or parties connected with it.
Most structured finance or asset-backed transactions including CLOs and CFOs are conceived in this way and have been the subject of extensive analysis by, amongst others, the credit-rating agencies, who over the years have provided extensive guidance as to how one attains the coveted state of “bankruptcy remoteness”. Tick every box (non-petition covenants, independent directors and limited-recourse language thick enough to stop a cavalry charge) and the transaction should win the coveted rating agency seal of approval, enhancing investor confidence in the transaction, making the deal more marketable (e.g. by lowering regulatory capital requirements) and allowing for tighter pricing.
Part 2: What is a special purpose vehicle or “SPV” in the context of orphan structures?
The SPV is usually a limited liability company with no prior operating history, newly established for the sole or “special” purpose of participating in the financing transaction in question. The vehicle of choice in the vast majority of CLOs and other structured finance transactions utilising a Cayman Islands note issuing SPV is almost always the “exempted company”, an entity incorporated under the Companies Act (as amended) of the Cayman Islands (the “Companies Act”) which can be established in as little as 24-48 hours. The shares of this company are typically held on trust (usually a trust ultimately for charitable purposes) by a Cayman Islands licensed trust company such as Conyers Trust Company (Cayman) Limited, whose members/shareholders enjoy limited liability and over which directors take responsibility for day-to-day business and management (assuming associated fiduciary duties). This means the SPV is an “orphan” — it does not form part of a wider corporate group or have traditional shareholders in the background, just a trust company (working in conjunction with a corporate administrator) making sure everything is above board.
The directors of the SPV are responsible for running the show, taking on all the usual fiduciary duties, but with a twist: the SPV’s activities are strictly limited to what is required for the transaction at hand. No side hustles, no entrepreneurial spirit, just a laser focus on the job it was created to do.
Because the SPV is freshly minted for each transaction, it comes with a squeaky-clean record — no skeletons in the closet and no historic liabilities to keep anyone up at night. This makes it a dream come true for risk analysts and credit committees, who can rest easy knowing there is no hidden baggage. And since the SPV is all about keeping things simple, it does not need to think about HR headaches or lease agreements. Just a corporate administrator and professional directors ensuring that the SPV is running properly and efficiently. Its sole purpose is to facilitate the transaction, and once that is done, it quietly fades into the background — mission accomplished.
Part 3: How are the SPV’s activities limited?
It is important that the SPV does not at any time carry out any activities which might expose the transaction parties to any extraneous risks. The activities of the SPV are therefore limited in several ways:
- the administrator of the SPV will undertake not to do anything which is inconsistent with the transaction documents or the SPV’s limited corporate objects as set out in its constitutional documents – this means no dabbling in side projects, no moonlighting, and certainly no “just for fun” investments;
- the corporate objects of the SPV will generally be limited in its memorandum of association to participating in the transaction and entering into the relevant transaction documents and other activities related thereto. As a matter of Cayman Islands law, the powers of the directors of a company are to be used in furtherance of the corporate objects set out in the memorandum of association and the directors of the SPV would be using their powers improperly if they were to engage the SPV in activities beyond its corporate objects – if they try to take the SPV on a detour—say, opening a chain of beachside taco stands—they would be acting outside their authority, and that’s a big no-no (regardless of how appealing beachside taco stands in Cayman might be); and
- negative covenants are included in the documents relating to the transaction which contractually restrict the SPV from entering into any activities unrelated to the transaction. Breaching these covenants constitutes an event of default which can give rise to various remedies, including enforcing the security interests granted over the relevant assets, and may entitle participants in the transaction to seek an injunction restraining the SPV from acting in a particular way.
The combined effect of the foregoing measures is to restrict the SPV’s activities to those which are expressly contemplated by the transaction which serves to ensure that the vehicle does not engage in other arrangements or transactions, incur indebtedness or become exposed to litigation risk or other creditors’ claims, all of which could cut across the transaction or adversely affect the rights of participants and/or dilute expected returns or recoveries.
Part 4: In what sense is the SPV an “orphan”?
Limiting the activities of the SPV will eliminate or reduce the risks of activities and exposures outside the scope of the transaction being actively incurred by the SPV. However, the SPV could still inadvertently be exposed to risks by, for example, consolidation – a concept which in this context refers not to merging your debts into one easy payment or getting your inbox to zero but rather to the ability of a court, liquidator, restructuring officer or official receiver to treat a company that is not insolvent as part of one or more companies that are insolvent and treat the assets of the solvent company as available to satisfy the obligations of the insolvent company or companies. The result? The SPV’s assets could be commandeered to pay off the debts of those less fortunate companies, even though the SPV itself has been minding its own business and following all the rules.
Typically this might happen because the activities of a parent company give rise to liabilities or claims, or otherwise put the parent at risk of bankruptcy. If a parent were to enter bankruptcy, the shares it holds in the SPV could become available to its creditors. Those creditors might seek to disrupt the transaction or stop the SPV from performing its obligations in the transaction. To avoid this, the SPV’s shares are not left in the hands of a potentially reckless parent but are instead held by an independent, licensed trust company like Conyers Trust Company (Cayman) Limited under the orphanised arrangements described above, entirely unconnected to the transaction parties in mitigation of those risks.
So that everyone has a bit more comfort that this all works as it should, the lawyers are usually asked to give true-sale and non-consolidation opinions to provide assurance that the risks of a consolidation occurring are negligible.
Part 5: Who owns the SPV and in what way is it an orphan?
There is no prescribed minimum authorised or issued share capital for an exempted company in the Cayman Islands. A nominal number of shares will be issued by the SPV to the designated share trustee at par value, and beneficial title to such shares will be held on trust established pursuant to and operated in accordance with a declaration of trust by Conyers Trust Company (Cayman) Limited or other designated licensed trust company based in the Cayman Islands (authorised by the Cayman Islands Monetary Authority (“CIMA”) under Cayman Islands law to hold shares in such a manner). Usually this is a trust established for charitable purposes and the benefit of one or more qualifying charities.
It is customary for the SPV to have an authorised and issued share capital of US$250, divided into 250 shares of US$1.00 nominal value each. This means that all the shares the SPV is capable of issuing are issued and no more shares may be issued to any other person. The share capital is, however, entirely nominal and other formulations are also sometimes seen (though usually the amount would not exceed US$50,000 because that would take the SPV into the next bracket of annual government fees and nobody wants to pay more than is necessary to keep the SPV alive).
To preserve the structure for the duration of the transaction, the declaration of trust usually comes with a set of ironclad rules as to how the SPV is to be operated, and will generally provide that until the date all obligations of the SPV under the relevant transaction documents have been fully discharged, the designated share trustee will:
- hold the shares and not dispose of them to any other person;
- not amend the memorandum and articles of association of the SPV;
- not wind up or dissolve the SPV; or
- not amend the terms of the trust without the consent of the party nominated to give instructions to it.
Following the termination date, the designated share trustee will be able to wind up and liquidate the SPV and distribute the US$250 or other nominal share capital (and any residual value) to the nominated charity or charities. The nominated charity or charities will have no interest in the shares of the SPV itself, their only interest is in the proceeds of distribution of those shares following the occurrence of the termination date.
The trust arrangements described above also ensure that the transaction will not be at risk in the unlikely event that the share trustee itself were to go into bankruptcy or liquidation. If that were to happen, the Cayman Islands court conducting the winding up/liquidation would not be able to use the shares in the SPV to discharge the claims of the share trustee’s creditors. This is because they are held by the share trustee as a trustee for the nominated charity/ies and are not owned by it beneficially. The Cayman Islands court may seek to appoint another trustee to hold the shares and, upon taking ownership of the shares in the SPV, such new trustee would itself be bound by the terms of the relevant declaration of trust.
While not technically without a parent (all companies must have a shareholder under Cayman Islands law), the SPV will effectively be an orphan because of the position described above. This construct allows the SPV to be independent of all other parties to the transaction and not subject to any risks that might affect the person who owns its shares.
Note too that, by entering into the declaration of trust, the share trustee assumes a fiduciary role and the risks and liabilities for being found to have acted in breach of trust and such fiduciary obligations can be serious. Aside from the reputational impact, damages can be awarded to aggrieved parties and the share trustee would risk revocation of its trust licence by CIMA. As such, the share trustee is heavily incentivised to follow the terms of the documents.
So, while the SPV may look like a humble, underfunded company with a tiny share capital, it’s actually a carefully constructed fortress, guarded by a trustee with every incentive to keep it safe, sound, and scandal-free. ‘
Part 6: Who manages the SPV?
The business of the SPV will be managed by its directors, whose duties are to exercise their powers in furtherance of the SPV’s corporate objects set out in its memorandum of association and pursuant to the transaction documents relating to the transaction in respect of which the SPV has been established. The minimum number of directors is one (although it is customary to have at least two) and, from a strictly Cayman perspective, there are no applicable residency requirements. The directors will be responsible for the conduct of the SPV’s day-to-day business and management. As a general matter, there are no statutory provisions in the Cayman Islands specifying the general or fiduciary duties of directors and, rather, Cayman Islands courts have adopted English common law principles.
The SPV will also enter into an administration agreement with a corporate services provider (such as Conyers Governance (Cayman) Limited) which will provide the necessary administrative/corporate support services. The administration agreement sets out the services to be provided by the administrator to the SPV, which usually include providing appropriately experienced and qualified directors and officers to the SPV and carrying out all necessary day-to-day administration of the SPV required to ensure that the SPV complies with the terms of the transaction documents and all applicable laws and regulations of the Cayman Islands. As the SPV is not permitted to have employees and would not otherwise be able to comply with all those various obligations, this role is necessary.
Without employees, the SPV would be hopelessly lost when it comes to meeting its obligations under the transaction documents and Cayman Islands law. The administrator steps in to keep the SPV running smoothly, ensuring it doesn’t miss a beat (or a filing deadline). So, while the directors may be the face of the SPV, it is the administrator working behind the scenes who keeps the whole operation afloat.
Part 7: Limited recourse & non-petition: special provisions
All the transaction documents to which the SPV is party will contain customary “limited recourse” and “non-petition” provisions: two key provisions that are as essential as sunscreen in the Cayman Islands!
The directors will seek to ensure all agreements entered into and any transactions undertaken by the SPV are done so on a ‘limited recourse’ basis whereby counterparties to the SPV acknowledge and agree that all of the SPVs obligations in respect of the issued notes and under the relevant transaction agreements may only be discharged from proceeds of collateral (or cash-flows derived therefrom) in accordance with a meticulously planned priority of payments waterfall, following which such obligations and liabilities are extinguished or diminished so as not to be greater than the assets available to meet them. Such provisions ensure that the SPV does not end up with liabilities it cannot handle — no unexpected bills, and no financial acrobatics required.
As the SPV will be a single or special purpose vehicle and has no assets other than the underlying collateral and no operating activities other than those connected with the transaction, there is no other source of funding for the SPV’s payment obligations. As a result, it is crucial that the SPV does not promise more than it can deliver. The limited recourse provisions will therefore be entirely consistent with the special purpose nature of the SPV and the structure of the transaction. Note that there are some assets of minor value which are always retained by the SPV and to which participants in the transaction do not have recourse. These are (i) the paid-up share capital and (ii) transaction fee (often US$250) which is paid to the SPV in consideration for entering the transaction and which helps to establish corporate benefit. These are the amounts which form the basis of the trust property under the share trust and are distributed to the designated charity or charities when the SPV is liquidated.
In addition to the limited recourse provisions, and in order to support the bankruptcy remote analysis, the transaction documents should also contain ‘non-petition’ language – a kind of peace treaty for the SPV. The transaction parties expressly agree not to petition for a liquidation or winding up of the SPV until following the termination of the transaction. This avoids the risk of an early termination of the structure as a result of the winding-up the SPV prior to maturity, ensuring that:
- the transaction performs as agreed between the parties;
- any priority of payments or waterfall which allows for some participants to be paid ahead of others is not disrupted by a court winding up the SPV (which could apply pari passu principles of distribution); and
- no payments made to participants during the life of the transaction in accordance with the transaction documents are ever challenged or subject to claw back.
Typically the non-petition protections will extend for a period following the termination of the transaction (by market convention, generally one year and a day) to ensure that any residual claims are also captured. Non-petition clauses have statutory recognition in the Cayman Islands – section 95(2) of the Companies Act provides that the court shall dismiss a winding up petition (or adjourn the hearing of a winding up petition) on the ground that the petitioner is contractually bound not to present such a petition against the company in question, keeping the SPV safe from premature liquidation.
These provisions are vital for maintaining the SPV’s integrity and ensuring the transaction proceeds smoothly. The limited recourse clause keeps the SPV from overextending itself financially, while the non-petition clause prevents any party from pulling the plug too early. Together, they create a robust framework that allows the SPV to focus on its mission without worrying about unexpected liabilities or premature termination.
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