The answer, of course, is to threaten to sue. But sue whom, and on what basis? Any legal arguments depend on who knew what and when. The answer will be fact specific.
Where to start?
What is the basis of a claim? This is not necessarily an English law question. The answer depends on a review of the fund agreement (which will be governed by the law of establishment of the fund) plus any local statutes which apply to funds of that type.
The lender would have a claim against the general partner for breach of contract and possibly also for a deliberate dilution of the value of the security. However, the general partner is generally a shell entity and unlikely to hold physical or financial assets following the investor release.
Claims may lie against the directors of the general partner for breach of duty, but the lender would need to prove that a duty was owed to it as well as to the shareholders of the general partner. This may be difficult, and if the general partner has locally appointed corporate directors then they may lack the deep pockets of other parties involved with the fund. One could also consider claims based on the tort of deceit. But if they are only ‘local’ directors, did they really have the relevant intention towards the lender?
Deep pockets (sewn up)?
A claim against an investor would be tempting, given their typical financial resources, although the potential adverse reputational fall-out may give a lender pause for thought. However, the issue will be to what extent an investor is complicit in the actions of the general partner. Did investors know their release was a breach of the lender’s security? How easy will it be to determine that an investor knew there was a dilution of the value of the lender’s security as a result of their release?
Setting out the facts
A key ‘fact specific’ question is whether or not the investors knew about the outstanding borrowing prior to their release from the fund. Investors will know of the lender’s security, which is typically notified to investors on financial close of the capital call facility. Investors would probably argue that they were unaware of the level of borrowing by the fund. (A well-advised investor might seek confirmation from the general partner whether any secured borrowings exist before its release becomes final.)
An Investor could point out that that neither the notice of security nor the description of permitted borrowings contained in the fund agreement is sufficient to put investors on notice of the specific facility covenants which the lender claims were breached, and contrast that to the right of investors under the fund documents to accept a release offered by the general partner (or to request one). It really comes down to the facts – did an investor know what was happening, and can the lender prove it?
However, this may be a little pessimistic. The contrary view is that all investors should now be familiar with the operation of capital call facilities, and will know (from the notice of security) that all capital commitments (including theirs) have been secured. Investors know they are liable indirectly to repay fund borrowings, to the extent of their capital commitments.
Joining the dots
There is no contract between lender and the investors, so any claim would need to be made either on a tort (e.g. tort of deceit if there was a deliberate attempt to evade the security) causing loss to the lender. Another possible claim is for restitution - the investor unjustly enriched to the detriment of the lender, who was entitled to expect repayment from the capital commitments.
A lender could also argue that since investors knew of its security investors also knew the lender held a property interest in the capital commitments themselves. This in turn (arguably) makes investors constructive trustees of the value of the lender’s security as it relates to the investor’s released commitments. Is it a tough sell? If the amounts at stake for the lender are sufficiently high, litigators will no doubt say the work involved developing a robust claim is worthwhile.
One might expect an investor to fight tooth and nail against any such claim. It would set an adverse precedent for private fund investors, who are not responsible for management of the fund.
The true guilty party?
Finally, a lender could seek to rattle the cage of the fund manager. If the fund is marketed to non-retail investors in the European Union, then the fund manager is probably required to be regulated under Alternative Investment Fund Managers Directive (AIFMD).
So, in omitting to repay the facility before releasing investors, were the manager’s actions consistent with the ‘fit and proper’ requirements specified for an ‘AIFM’?
That is a question which would concentrate the fund manager, given that it needs to be authorised pursuant to AIFMD in respect of its assets under management going forward (i.e. the issue is not ring-fenced to the fund which has been released).