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Federal Judge Listens to Arguments Against Promesa Stay

By on September 22, 2016

SAN JUAN – Commonwealth lawyers said Thursday at the U.S. District Court for Puerto Rico that plaintiffs in four lawsuits, who are seeking relief from the stay imposed by the Puerto Rico Oversight, Management & Economic Stability Act (Promesa), should not be given special treatment over other creditors because they can take their complaints to the Fiscal Oversight Board under Promesa.

Michael Williams, an attorney representing the commonwealth government, said that if the Promesa stay was lifted as the four lawsuits are asking in challenging the constitutionality of the Puerto Rico Emergency Moratorium & Financial Rehabilitation Act, there would be irreparable harm to the island. He said the burden of litigation would divert resources from essential services.

U.S. District Court Judge Francisco Besosa is holding hearings to decide whether lawsuits filed by U.S. Bank Trust, Brigade Leveraged Capital Structures Fund Ltd., National Public Finance Guarantee Corp. and the Dionisio Trigo group of bondholders, should be granted relief from the stay imposed by Promesa, which expires in six months.

Testimony on the first day of hearings showed that Brigade tried to negotiate with the government even after the Moratorium Act was passed; that U.S. Bank Trust, which is the University of Puerto Rico’s trustee, isn’t complaining over lack of payment to its bondholders because reserves are funded until December 2017; and that National is fully capitalized and has made only one payment totaling $4 million as a result of the government default.

The United States District Court for the District of Puerto Rico (CB photo/ Juan José Rodríguez)

The United States District Court for the District of Puerto Rico (CB photo/ Juan José Rodríguez)

The Dionisio Trigo group, which holds Government Development Bank bonds, hasn’t been paid since May and it fears the GDB will disappear before they are able to recuperate any of its losses. Promesa says the stay can be lifted if the bondholders can prove there was irreparable harm.

Williams said the plaintiffs had a remedy under Promesa, which is to go to the fiscal control board because Promesa does not discharge any obligation from the government. Promesa also allows the fiscal board to authorize debt restructurings.

Besosa’s questions made him appear to be inclined on deciding on whether the Moratorium Act was constitutional. He asked why wait for the stay to expire to make such a ruling.

The Moratorium Act, essentially, allowed the governor to suspend debt payments of certain obligations and declare a stay. The plaintiffs contend that certain provisions of the Moratorium Act are unconstitutional because they substantially impair contracts; take property for the benefit of the commonwealth without just compensation; and are preempted by the federal Bankruptcy Code.

Government lawyers argued that the Moratorium Act was necessary to continue to provide funding for essential services.

Besosa must decide whether the lawsuits are stayed. Section 405 of Promesa mandates the automatic stay of the commencement or continuation of judicial, administrative or any proceeding against the government that was or could have been commenced before the enactment of Promesa or to recover a liability claim.

Promesa defines liability as a bond, loan, letter of credit, other borrowing title, obligation of insurance or other financial indebtedness for borrowed money, including rights, entitlements or obligations whether such rights, entitlements or obligations arise from contract, statute or any other source of law related to such a bond, loan, letter of credit, other borrowing title, obligation of insurance or other financial indebtedness.

During the hearing, Robert Lamb, a CEO for Municipal Advisers Financial Services, described in his testimony on behalf of National Public Finance the covenants that guaranteed payments to bondholders of the Highway and Transportation Authority (HTA). These included provisions requiring HTA to raise revenue streams to make payments and forbidding the government from interfering with the rights of bondholders.  

“Once money is received by fiscal agent, it is applied to interest and principal,” he noted.

In the case of Afica bondholders, he said the revenues, which include income from university dorms, is held in trust in favor of the bondholders.

He noted that the executive order issued by the governor under the Moratorium Act, the money was diverted. He calculated that around $10.8 million has not been paid to bondholders. “This is without precedent,” he said.

After the executive order, he said there was a huge spike in yields, “something of a shock.” He also said National has paid over $4 million to bondholders.

Lamb said once the government “repudiates the debt” in such a way, it would be difficult for bondholders to come back.

Upon cross examination, Lang acknowledged that while there may be money in the reserves to pay bondholders, the non-payment of the bonds has hurt bondholders because the value of their bonds has gone down.

He also acknowledged that there have been no defaults in 1968, 1998 and 2003 bond issuances. The only default has been in a 1998 subordinate bond issue because the reserves are on the GDB.

He also admitted to the government lawyers that the executive stay order on the payments “was only temporary.” However, he added that he has rarely seen an executive order that is temporary.

While he also said the executive order was unprecedented, he also acknowledged that Puerto Rico was forced to do what it did because it has no access to Chapter 9 bankruptcy protections.

During the cross examination, government lawyers brought out a document from National was well-capitalized. Lang said he hadn’t seen any documents from National to credit rating agencies, stating that it was having financial troubles.

He also admitted that Afica and HTA bondholders have the same rights as other bondholders, which does not set them aside from bondholders seeking a lift from the stay.

During the redirect, Lamb said bondholders suffered damages when reserve funds to pay debt are depleted, because they have to pay a higher capital charge to maintain their bond ratings.

Lauran Moran, vice president of U.S. Bank Trust National, said the UPR’s bond service account has zero balance but that a reserve account has $55 million. She said there is money to pay until December 2017 but that bondholders have a less-secure debt.

Upon cross examination, however, she was forced to admit that the Moratorium Act expires in March 2017, before the December 2017 payment, which means bondholders will get paid during the moratorium.

Bradley Meyers, a partner of Ducera Partners, testified on behalf of Brigade Leveraged to discuss the GDB’s financial condition and debt obligations. He revealed that the Moratorium Act aborted debt renegotiations because amendments made in May to the law gave island co-ops preferential payment treatment.

See Creditors alert Promesa’s fiscal board about GDB

By May 1, Meyers, who said he represented an ad-hoc group of bondholders, had agreed on certain key terms for a debt restructuring at the GDB. But the negotiations went down the drain after the changes to the Moratorium Act, which gave preferential treatment in debt payments to GDB depositors and co-ops, affecting bondholders.

He said the act itself has contributed to the level of uncertainty that has prevented negotiations to restructure the debt.

The Ad Hoc group had reached an agreement with the GDB for a bond exchange. He said there were plans to do parallel negotiations for a broad government restructuring but that those negotiation also fell. He then said the group tried through Millstein and Cleary & Gottlieb to reignite the negotiations for a debt restructuring of the GDB.

He insisted that GDB bondholders should be treated different than other bondholders because the bank’s liquidity has dwindled from about $500 million in May to $160 million in August.

Meyers said he believes the bank will run out of cash by October. GDB bondholders cannot wait to take their claims to the fiscal board as he noted that at this time, it hasn’t appointed an executive director nor hired legal advisers. He believes it will take six months for the fiscal board to become operational.

Also testifying at the hearing were Ernesto Smith and Rafael Rojo, who are private bondholders who invested in GDB bonds. Smith said he invested over $1 million while Rojo and his two firms invested $2.5 million. In their respective testimonies, they said they were both aware that their bonds were unsecured but that they had the impression the government wouldn’t let the bank fail. Neither one has received payments in interest since May.

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