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Muni Week Review / Preview 7/17/2017

Monday, Jul 17, 2017

PUERTO RICO UPDATE

The Puerto Rico Government and Employee Retirement System (ERS) bondholders reached an agreement that will pay bondholders the missed July 1 interest payment and monthly interest until Judge Swain rules on the ERS lien by October 31… The Puerto Rico Federal Oversight Board approved a plan to restructure $4 billion of Government Development Bank debt, advancing the only Title VI consensual restructuring the Island has with creditors…

Employee Retirement System Bondholders Will Receive Monthly Interest Through October...The Island’s government Employee Retirement System (ERS) bondholders is the first Title III creditor group to successfully strike an agreement following legal action seeking relief from the bankruptcy stay scheduled to end in September. The ERS bondholder group argues the lien on employer contributions that are pledged to bonds issued by the government ERS must be honored. The Commonwealth and Oversight Board recently ceased to transfer employer contributions to the ERS for the benefit of bondholders. The government recently switched to a pay-as-you-go system to cover payment of retiree benefits. Retirement benefits will now be paid from the General Fund thus eliminating employee contributions which were the basis of bondholder payments.

The agreement filed July 14 by the Island’s Financial Control Board and a group of ERS bondholders is now pending Federal Judge Laura Taylor Swain’s approval, which would put on hold until October 31 the creditor group’s legal action against the Commonwealth as part of the ERS’s bankruptcy case under Title III of PROMESA.

Through October 31, the Commonwealth will deposit $92 million into a new ‘post-petition segregated account’ which shall carry a “security interest and lien in favor of the Creditors and have the same prepetition and post-petition validity, attachment, perfection, priority and enforceability, if any, and subject to the same defenses, if any, as existed prior to the commencement of the ERS Title III case”.

In a June 28 hearing, Judge Swain ordered the parties to negotiate a stipulation by July 11 that could avoid a quick judgment by her over the matter. After two extensions to the deadline the government and the ERS bondholder group struck yet another stipulation, the third one since the first creditor action against ERS was filed last year.

Employee Retirement System bondholder protection lacks a legal separation from the Commonwealth and Commonwealth employer contributions. Commonwealth contributions which are the basis for the bondholders’ payments were partially subject to a “clawback” provision. The government had a statutory mandate to annually appropriate 9.275% of employee contributions for the benefit of bondholders. However, legal protections do not prohibit the government from making changes that make bondholders less protected.

The bondholder stipulation to the agreement calls for payment of some $14 million in interest due July 1 that was missed by the ERS, after commencement of its Title III bankruptcy case. The ERS would also have to pay subsequent monthly interest payments until October 1, about $42 million in total. These payments would be covered by funds set aside by the Commonwealth since January, pursuant to a previous stipulation struck between ERS and its creditors early this year.

Furthermore to stop the Oversight Board from delaying a court ruling, on or before July 21, the Puerto Rico government will commence an adversary action to have the judge decide the “validity, priority, extent and enforceability” of the liens and security interests asserted by the ERS bondholders, as well as the Commonwealth’s rights over employer contributions received by ERS in May.

According to the agreement filed July 14, the Commonwealth would set aside $18.5 million in a segregated account on July 31, August 31, September 31, October 31, in addition to any money related to employer contributions made by the Commonwealth to the ERS. According to a proposed schedule for this action which includes discovery by each party through the next three months, Judge Swain would make a key ruling on the dispute by October 31. The use of the $18.5 million monthly set asides would depend on Judge Swain’s final decision over the respective rights and remedies asserted by the Commonwealth and its creditors. Other Commonwealth creditors, particularly of the Highways & Transportation Authority (HTA), also seek relief similar to that petitioned by the ERS bondholder group.

The Island’s Financial Control Board as representative of the Commonwealth and its entities filed on May 21 a Title III bankruptcy case on behalf ERS, joining the Central Government, Sales Tax Financing Corp. (COFINA) and HTA. Recently, the Island’s Electric Power Authority (PREPA) also filed for Title III bankruptcy protection. The Oversight Board recently rejected a PREPA deal after several years of negotiations and agreements between with the Puerto Rico government and bondholders.

Puerto Rico Board Approves GDB’s Restructuring Deal… On July 14 Puerto Rico’s Federal Oversight Board announced it had “conditionally” certified a Restructuring Support Agreement (RSA) between the Island’s Government Development Bank (GDB) and its bondholders, paving the way for the overhaul of the entity’s debt under Title VI of the federal PROMESA law.

The agreement comes more than two months after the federal panel voted to liquidate the bank’s assets as part of the U.S. territory’s effort to reduce its debts. The GDB bonds are general, unsecured, senior obligations of the GDB, ranking on a parity with all other general, unsecured and unsubordinated obligation of the GDB.

Bondholders have consented to take losses on their unsecured bonds and have the option of exchanging their current bonds for one of 3 tranches. A.) Take a 45% haircut and receive a bond, 55% of face value with a 7.5% rate of interest, B.) Take a 40% haircut and receive a new bond, 60% of face value with a 5.5% rate of interest, C.) Take a 25% haircut and receive a new bond, 75% of face value with 3.5% rate of interest, (Tranches A & B will be secured by a first lien on assets, tranche C will be secured by a second lien, all bonds will mature in 2040).

Since the agreement is consensual and made under the provisions of Title VI of PROMESA, to take effect, the deal will need to be approved by a two-thirds vote of bondholders, as long as those voting in favor hold at least half of the bank’s debt. While the Board’s press statement says it has “conditionally” certified the RSA, no details were provided on the conditions to which the agreement is subject.

If you have any questions or desire updated information contact your GMS Account Executive.

Information obtained from sources deemed reliable; GMS does not purport Review/Preview contains all available information.