Saturday, September 19, 2020

Puerto Rico’s Lack of Access to Capital

By on June 24, 2020

“Key innovations arise from Creative Destruction.”

Executive Summary 

•The coronavirus outbreak has thrown the U.S. & Puerto Rico into a systemic risk crisis that will result in close to 10,000 to 15,000 business closing and losing another 100,000 jobs in Puerto Rico. While robust institutions may be able to brush off the impact of the adverse effects of the pandemic, a significant majority of Businesses in Puerto Rico will not be able to recover. 

• The direct impact increased of the COVID-19 lockdown is north of $9.7 billion, with the total result being more than 45% higher than any jurisdiction, on account of the extended lockdown. 

•During the last decades, Puerto Rico has seen its access to capital severely hindered; for one, we have seen the exodus of all International Universal banks and some local banks from Puerto Rico. Currently, the Puerto Rico market is controlled by three local banks that have grown in size and capitalization. Still, their lending appetite has become quite timid during the last decade, a situation that will continue to inflict harm into most businesses in Puerto Rico. 

•Puerto Rico Business needs a lending program with a $2.0 billion in funding from the U.S. Government to support all Small and Midsize Businesses operating in Puerto Rico. This program will allow Businesses to expand the financing sources available for them and to preserve their operations, enhance their capacity, increase their resiliency, and further their development. 

• One of the ideas is to transform and recapitalize the Economic Development Bank for Puerto Rico (EDB) while granting it $2.0 billion in fresh capital to allow the EDB to fully commit itself to offer all types of loans to Small and Midsized Entrepreneurs. While doing so, the law of the EDB should be changed to create a board composition mainly of private sector directors and two government agency heads. The EDB should be the only entity from the Government of Puerto Rico, providing financing to the private sector. 

•By providing assistance to the EDB through federally guaranteed funding estimated at $2.0 billion Congress will help 3.5 million American citizens recover from the current threat and allow the Business to bring up to date their facilities, acquire needed equipment and continue being a major catalyst of the economy of Puerto Rico with decent-paying jobs. 

Introduction 

The White House and Congress have acted swiftly in developing and implementing programs such as the first three and a half stimulus bills. At the cost of $2.7 trillion, while it will take some time to understand the overall effectiveness of these funding bills fully. 

The COVID-19 pandemic lockdown has made this Business lost a significant part of their revenues and income streams have evaporated, along with their financial wellbeing. While robust institutions may be able to brush off the impact of the adverse effects of the pandemic, most institutions will not be able to recover fully and will ultimately close, leaving thousands of workers without jobs, and the overall business ecosystem of most communities will suffer during a time when most citizens need it most. 

The coronavirus outbreak has most Business throughout the U.S. and Puerto Rico into a systemic risk crisis. 

The situation in Puerto Rico is even direr, as Governor Vazquez implemented a lockdown of Puerto Rico on March 15, 2020. Below of a summary of economic impact. 

During the last decade, Puerto Rico has seen its access to capital severely hindered; for one, we have seen the exodus of all International Universal banks and some local banks from Puerto Rico. 

Since 2008, we have seen the following banks exit the Puerto Rico Market: 

• Citibank 

• Banco Bilbao Vizcaya Argentaria 

• RG Financial 

• Westernbank 

• Eurobank 

• Doral Financial Corporation 

• Banco Gubernamental de Fomento 

• Scotiabank 

• Banco Santander (in process) 

As these nine banks exited the market with them, Puerto Rico lost more than 50 percent of its commercial lending capacity, and most businesses have to utilize now “Alternative Lending Operations” that charge interest rates that surpass 20% in most instances. 

Currently, the Puerto Rico market is controlled by three local banks that have grown in size and capitalization. Still, their lending appetite has become quite timid during the last decade, a situation that will continue to inflict harm into most businesses in Puerto Rico. 

According to the Office of the Commissioner of Financial Institutions (OCFI), we note that in 2008 there were $60.2 billion in loans outstanding in Puerto Rico granted by the Commercial banks alone. By the year 2019, the total commercial loan portfolio has reduced to $33.5 billion, a decrease of $26.7 billion. These are very significant reductions in a tendency that will worsen as the Puerto Rico banks monopolize the market. 

We are concerned for all Small and Midsize entrepreneurs, who are the lifeblood of many communities. Most have been severely affected by the lack of access to capital. Due to the lack of capital, they are unable to grow, replenish supplies, seek new inventories, or to improve and follow the American dream. We must fix this situation. 

You may ask why? Well, during the same period from 2008 to 2019, the banks’ capital grew from $6.4 billion in 2008 to $7.7 billion in 2019, an increase in equity of $1.3 billion or 20.30%. We share the latest numbers published by the “OCFI” shows how robust the capital of the Puerto Rico banks, how profitable they are, and how much their design has reduced their lending activity. 

Initiative 

Puerto Rico businesses are reeling from the necessary steps taken by the Government to curtail the spread of disease. The situation is dire to the point that we are at a crossroads in a moment where we need Puerto Rico’s save our Business more than ever. If we have our institutions are fighting to make ends meet instead of investing in supplies, inventory, technology, new products, and services, it can prove devastating to many. The Government must step in and provide a safety net to our institutions. The Government of Puerto Rico must create a robust program to finance and refinance medical facilities. If we apply the lessons learned from the banking crisis, loaning out to Business at reduced rates would create enough savings across the board to get Business back to health. 

In order to address the deficiencies as mentioned above, the Congress is called upon to develop and support initiatives that cannot only address the immediate emergency threat of COVID-19 in the short run but also it must do so through long- lasting initiatives that can bring the Puerto Rico business sector back to life. 

Need to Create a Lending and Investment Program 

Puerto Rico has the Economic Development Bank (EDB); we need to make it more durable and free it for the political turmoil. 

For this reason, we support a plan to transform the EDB into a quasi-private institution with governance similar to those of Invest Puerto Rico and Discover Puerto Rico and recapitalize it with a $2.0 billion in funding from the U.S. Government to support Business operation in Puerto Rico. 

This will allow to expand the financing sources available for the Business operations of Puerto Rico and to preserve their services, enhance their capacity, increase their resiliency and further their development and in tandem with the U.S. Treasury to complement the Federal Reserve Bank’s lending capacity for this sector. 

Establishing a Puerto Rico-Small Business Lending and Recovery Program (PR-Save Business) in the EDB will allow Puerto Rico business to survive the worst pandemic of our generation. In trying time American Citizens have been able to survive with the help and support of the safety net that Congress has provide, this time we face a similar crisis. 

Puerto Rico- P.R. Business Resiliency Initiative Program (BUSRIP) 

This program is a multi-faceted program to allows the Government to invest, lend, grant, or guarantee financing to any Business operating in the U.S. 

The PR-Save Business program should be funded with a minimum $2.0 billion investment from the U.S. Congress; this investment would be administered and implemented by the Treasury. The Treasury would create a separate entity to administer the program. 

P.R. Business Resiliency Initiative Program (BUSRIP) BUSRIP is created with a $2.0 billion investment to expand the financing sources available for the business operations in Puerto Rico and to preserve their operations, enhance their capacity, increase their resiliency and further their development and in tandem with the Economic Development Bank to complement the Bank’s lending capacity for this sector. BUSRIP will have the legal power to invest in capital stock, grant loans and guarantee long-term loans for all Business.

i. Maximum Advance Rates:
ii. Real Estate: 110% of fair market value
iii. Equipment: 100% of fair market value
iv. Inventory: 80% of book value
v. Accounts Receivable: 80% of book value (less than 180 days)
vi. Maximum amount of a loan amount?
vii. $250 million
viii. What are the loan terms?
ix. Maximum term is 30 years
x. Interest-only payments for the first 5 years
xi. Pricing and interest rates?
xii. Interest rates are to be fixed Libor for the term of the loan.

Government Recovery & Investment Program (GRIP) 

The GRIP allows for the issuing of equity warrants allowing any institution to request a financial institution to issue equity warrants (a type of security that entitles its holder to purchase shares in the company issuing the security for a specific price), or equity or senior debt securities (for non-publicly listed companies) to the Economic Development Bank for Puerto Rico(EDB). In the case of warrants, the EDB will only receive warrants for non-voting shares, or will agree not to vote the stock. This measure is designed to protect the Government by giving the EDB the possibility of profiting through its new ownership stakes in these institutions. Ideally, if the Business benefit from government assistance and recover their former strength, the Government will also be able to profit from their recovery. GRIP will use $100 to $300 million from BUSRIP capital and generate significant purchasing power to invest in warrants for the Business with the potential to expand the program over time. 

At the same time, the difficulty of obtaining private financing on reasonable terms has limited the ability for Business to face the current challenges. The GRIP is designed to insert new capital into the system by providing government equity and attractive public financing. This program facilitates the rapid resiliency and recovery of the sector and over time, to reduce the systemic risk. 

The sole focus for the Government’s GRIP are Puerto Rico Business o Valuation of Warrants and Preferred Stocks- Initial Valuation Once a Business becomes eligible, the EDB will hire a third-party valuation firm to produce an initial valuation. The EDB will use the initial valuation to determine the enterprise value of the Business. The EDB will invest in warrants or preferred stock at the London Interbank Offered Rate (LIBOR Rate), capitalizing any interest for the life of the investment and the GRIP has the option of converting the investment into a grant. The GRIP will be designed around five basic principles: i. Protecting the financial health of all Business and by doing so we protect 3.5 U.S. citizens from Puerto Rico. ii. Avert a systemic risk. iii. Maximizing the impact of the Governments Investment dollars: by using government financing in partnership with Federal Initiatives thus creating significant purchasing power. iv. Balancing the islands economic development model v. Shared risk and profits with the participants. What is the role of the Government of Puerto Rico-Enters into agreements with implementing agency/entity. Issues the loan, security or guarantees loans to the Economic Development Bank for Puerto Rico. 

What is the EDB’s role- Originates, processes, and services loans. Submits guarantee applications to the state for review/approval, and obtains assurances of eligibility from each borrower. Establishes terms and conditions, pricing, disbursement, contracts, budgets, reporting requirements, databases to support the program, and other administrative elements. What is the potential role of an implementing agency/entity- Acts on behalf of the state to administer the Loan Guarantee Program. Assists in marketing the program in their region or community. What is the role of the trustee and the reserve fund- Invests conservatively as dictated by the state’s investment guidelines. Supplements administrative costs through interest earnings. 

In Conclusion 

The COVID-19 emergency is disrupting all business operations because of sudden closure due to the lockdown. It is causing enormous losses if they do not receive the necessary financial assistance by the governmental entities, whether it is the state or federal entity. 

Positively, the Business has received little financial aid from the provisions of the CARES Act. As of the day of this report, without financial assistance and losses of $10 billion, the Puerto Rico Economy will never recover. 

One thing is for sure, without Congress’s direct involvement, the Puerto Rico Business sector would disappear before the end of the year. 

Similarly, as stated by Congress, when TARP was approved, and we quote. 

• “The goal of TARP was to mend the financial situation of banks, strengthen overall market stability, improve the prospects of the U.S. auto industry, and support foreclosure prevention programs. TARP funds were used to purchase the equity of failing Business and financial institutions.” 

• As we noted at the beginning of our discussion, TARP existed due to Wall Streets’ greed; The BUSRIP program would exist to allow Businesses to survive the worst pandemic the world has seen in the last 100 years. Without BUSRIP, the Business sector will not be able to survive. 

All American Citizens should be able to have a shot to the American dream this crisis has particularly hard hit the U.S. Citizens of Puerto Rico. 

Sincerely, 

Francisco Rodriguez-Castro 

President & CEO 

Birling Capital, LLC 

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