The Puerto Rico Oversight Board put the island's central government into the largest municipal bankruptcy ever, using a provision of the U.S. law enacted last year to address the territory's debt crisis.
The board filed the
Gov. Ricardo Rosselló asked the board to put Puerto Rico commonwealth debt into Title III in a filing that affects what was $51.9 billion of debt as of February, 2017, according to the board’s certified fiscal plan. That breaks the record set by Detroit’s bankruptcy, which affected $8.8 billion in debt, excluding unfunded pensions and other post-employment benefits.
Puerto Rico and its public sector instrumentalities are struggling with roughly $69.2 billion of debt and $49 billion in unfunded pension obligations. The filing came after a stay on litigation over the debt expired Monday, prompting a flurry of lawsuits by creditors.
“Puerto Rico’s decision to invoke Title III under PROMESA and initiate a court proceeding to restructure its debt marks a positive step for bondholders overall,” said Moody’s Investors Service analyst Ted Hampton. “Although a court proceeding will take considerable time and likely involve losses for all Puerto Rico bondholders, it will be an orderly process that should be better for creditors in the aggregate than a chaotic and uncertain period involving proliferating lawsuits among holders of the commonwealth’s numerous debt types.”
The Ad Hoc Group of Puerto Rico General Obligation Bondholders disagreed. “Over the past several days, the GO bondholder group and the commonwealth have been negotiating a consensual deal," the group said in a statement. "Yesterday, just as a deal was within reach, we understand that the Oversight Board intervened to block it, and the governor acquiesced to the board.
“For months, the Oversight Board has made every effort to sabotage consensual negotiations, to flout the requirements of PROMESA and Puerto Rico's constitution, and to force Puerto Rico into bankruptcy. With that bankruptcy now started, the governor has forfeited all power over the restructuring, and the economy of Puerto Rico will be put on hold for years. Make no mistake: The board has chosen to turn Puerto Rico into the next Argentina."
Rosselló said in a letter to board chairman José Carrión Tuesday that additional “government entities and instrumentalities” would ask the board to start Title III for their own debts. The governor didn’t specify which entities would apply for Title III.
He said some entities may choose to use the consensual restructuring pursuant to Title VI. Only the Puerto Rico Electric Power Authority and its creditors have made major progress towards a consensual agreement, and this may be the only one to use Title VI of the act.
The largest previous municipal bankruptcy filing came from Detroit which entered Chapter 9 in July 2013 while under state oversight, led by emergency manager Kevyn Orr. The filing was supported Gov. Rick Snyder. The city eliminated $7 billion of its $18 billion of debt, pensions, and OPEBS in its plan of adjustment and emerged in late 2014. It has since hit financial targets, but faces fiscal pressures when pension payments resume in 2023.
During its bankruptcy, Detroit became the largest city to default on its unlimited tax general obligation bonds when it treated the bonds as unsecured. Detroit eventually settled with unlimited tax general obligation insurers for a 74% recovery rate. Limited tax GO holders settled for a 34% recovery rate.
City pensioners took a slight hit as they benefited from the so-called “Grand Bargain” that included state and philanthropic financial support. The city paid a steep yield penalty of about 300 basis points over the AAA benchmark on its first post-bankruptcy bond sale despite its investment grade ratings.
The Puerto Rico commonwealth is now at a “breaking point,” the oversight board said in its statement included in the filing.
The statement lays out a grim picture for the commonwealth absent relief due to persistent economic deterioration since PROMESA was established. The current fiscal emergency is without precedent and threatens Puerto Rico’s ability to protect the health, safety and welfare of residents.
“The fiscal distress Congress declared is about to worsen exponentially due to the elimination of approximately $850 million in Affordable Care Act funds in fiscal year 2018 and increasing substantially year-over-year, and the exhaustion of all public pension funding, the shortfall of which could cost the Commonwealth approximately $1.5 billion per year,” according to the statement included in the filing. Economic growth has eroded in nine of the last 10 years along with population declines as young doctors and other professionals leave.
“From current revenues, the Commonwealth and its instrumentalities cannot satisfy their collective $74 billion debt burden and $49 billion pension burden and pay their operating expenses,” the statement reads.
Puerto Rico’s three principal retirement systems as of June 30, 2015, were only 1.57% funded and are projected to deplete their liquid assets between July and December of 2017.
“The result is that Puerto Rico can no longer fully pay its debt and pay for government services. Nor can Puerto Rico refinance its debt—it no longer has access to the capital markets,” the oversight board statement said. “In short, Puerto Rico’s crisis has reached a breaking point.”
“The fiscal plan is a carefully calibrated solution that maintains sufficient infrastructure and governmental services to arrest negative growth after several years and respects creditors’ rights,” the board wrote. “The Oversight Board recognizes that Puerto Rico’s residents vehemently believe the Oversight Board has cut government services far too much and that creditors believe the money for debt services is far too little… By focusing on the long-term benefits and eschewing the impulse for short-term gains, an optimal outcome for all – the island and its stakeholders – can be obtained.”
The Title III process will consolidate the debt restructuring process for each issuer under a single judge and replace the existing debt lawsuits, of which there are 22, according to the board.
Rosselló said that there had been insufficient progress in negotiations with creditors.
On Tuesday Rosselló wrote to Carrión: “While the government remains willing to continue to pursue good-faith dialogue and negotiations with its creditors, the recent expiration of the PROMESA stay imposed against enforcement of creditor liability claims dictates that the best course of action is for the government to enter into Title III for the purpose of adjusting its debts to a sustainable level consistent with the fiscal plan.”
The board approved a fiscal plan for the next nine fiscal years in March, dictating levels of spending and revenues. PROMESA section 305 prohibits the Title III judge from adjusting the fiscal plan amounts without the board’s approval. As a practical matter, the judge may be able to exert pressure on the board to changes these amounts to, for example, increase debt service spending, said James Spiotto, managing director at Chapman Strategic Advisors.
It will be up to the board to suggest a plan of debt adjustment to the Title III judge. This will specify haircuts for the debts and may adjust other things like interest rates and maturities.
Pricing on some actively traded Puerto Rico general obligation bonds was mixed in Wednesday activity, after Rosselló said Title III would be filed.
Wednesday’s filing affects the following debts: general obligation, Puerto Rico Sales Tax Financing Corp. (COFINA), Highways and Transportation Authority, Public Building Authority, Government Development Bank, Employment Retirement System (bonds), Infrastructure and Finance Authority, Public Finance Corporation, University of Puerto Rico, Industrial Development Company, Convention Center District Authority, and a few other very small Puerto Rico government debtors.
Chip Barnett contributed to this article.
