Puerto Rico's Representative Explores Bankruptcy Option
By Steven Church, Derek Wallbank and Michelle Kaske Jul 9, 2014
Puerto Rico’s municipal agencies would be able to file for bankruptcy to restructure their debts under a proposed change to federal law advocated by Pedro Pierluisi, its non-voting representative in the U.S. Congress.
Pierluisi, whose formal title is resident commissioner, will ask congressional leaders about introducing a bill that would change the U.S. Bankruptcy Code to let the commonwealth’s agencies seek court protection from creditors, just as cities including Detroit and Stockton, California, did when they determined they were unable to meet financial obligations.
“It would be logical and appropriate for the code to be amended to authorize public agencies and instrumentalities in Puerto Rico to file under Chapter 9 to the same degree and extent as their counterparts in the 50 states,” Pierluisi, a Democrat, said, referring to the section of bankruptcy law that covers municipalities.
In the U.S., bond investors have long opposed municipal bankruptcies, preferring to work to restructure debt outside of a courtroom, where a judge has the power to impose cuts. Only about half the states let their municipalities file for bankruptcy. Some of those, like Michigan, require a fiscal review process first. States themselves are barred from filing for bankruptcy.
Puerto Rico lawmakers took matters into their own hands last month, passing a Recovery Act that would allow some public corporations to negotiate with bondholders, potentially forcing them to accept unfavorable terms.
The Puerto Rico Electric Power Authority, which supplies most of the island’s electricity and owes $8.6 billion, may be a candidate to reduce its debt load under the new law.
Fitch Ratings June 26 downgraded Prepa to CC, its third-lowest speculative grade, citing a probable debt restructuring or default. The utility paid $417.6 million to bondholders on July 1.
Franklin Templeton Investments and Oppenheimer Funds Inc., which hold more than $1.7 billion in power authority bonds, have sued to halt the new restructuring law. Under the U.S. Constitution, only a federal bankruptcy court has the power to force creditors to accept changes to a debt contract, such as reduced payments.
The bond-fund managers filed their case just hours after Governor Alejandro Garcia Padilla signed the bill into law June 28. On June 30, a federal court gave Puerto Rico 21 days to respond to the suit.
In a joint statement today, Puerto Rico Chief of Staff Ingrid Vila and Treasury Secretary Melba Acosta said they had discussed changes to the bankruptcy code with the U.S. Treasury Department “to correct the exclusion of the commonwealth.” They decided it would take too long to pass an amendment and chose to introduce the Recovery Act.
They called Pierluisi’s decision “positive” and said they would review any proposed legislation before commenting.
“It would be convenient if in the future the resident commissioner would coordinate his efforts with those of this administration to work together for the fiscal health of the government of the Commonwealth of Puerto Rico,” they concluded.
Moody’s Investors Service responded to the new law on July 1 by cutting the commonwealth’s $14.4 billion of general obligations to B2, five steps below investment grade.
Debt sold by the commonwealth and its agencies lost 6.4 percent last week, the biggest decline since at least 1999, according to S&P Dow Jones indexes.
About 45 percent of Puerto Rico’s residents live in poverty, according to U.S. Census data. Its economy has declined about 11 percent since 2006, according to its Planning Board. The 13.8 percent unemployment rate is more than double the U.S.average.
The funds’ case is Franklin California Tax-Free Trust v. Commonwealth of Puerto Rico, 14-cv-01518, U.S. District Court, District of Puerto Rico (San Juan).