Monday Update – February 26, 2018

Welcome to your weekly Title III update for February 26, 2018. After last week’s blockbuster PREPA fiasco, this week has been seemingly slow but important issues have arisen.

It seems that my opinion that the PREPA loan was simply a ploy to reduce the PR Treasury TSA account was true. Caribbean Business reported that PRASA could seek a $400 million loan. Since PRASA is not currently in Title III (although my bet is that it will be soon), it is unlikely Judge Swain will be involved to deal with the inflated claims of the Commonwealth. It will be interesting to see how the Commonwealth will lend without a lien or a superpriority as it claimed it needed in PREPA.

In the Commonwealth v. COFINA adversary proceeding, the UCC filed a 54-page motion for summary judgment against defendant. Its preliminary statement is important and states:

“Created in the wake of Puerto Rico’s 2005-2006 fiscal crisis, the COFINA structure is essentially an “off balance sheet” financing transaction collateralized by a specified portion of the Commonwealth’s general sales and use tax (“SUT”) revenues. Although purportedly independent from the Commonwealth, COFINA is “attached” to the Government Development Bank for Puerto Rico (the “GDB”) and governed exclusively by the GDB’s directors, who are also the directors of COFINA and who are appointed by the Governor. COFINA’s only authorized purpose is to issue bonds backed by the Commonwealth’s own tax revenues and to use the proceeds to pay the Commonwealth’s own debts and expenses and to provide funding for certain economic development and emergency relief funds of the Commonwealth. The COFINA structure is just one of various “structures” created by the Puerto Rico government and its advisors to stave off the day of reckoning for the government’s fiscal irresponsibility. The court has already encountered one such structure in the Employees Retirement System litigation and will soon have to address a structure involving the issuance of billions of dollars of Public Buildings Authority bonds.”

The UCC motion for summary judgment also claims the transfer of property of SUT revenues to COFINA is unconstitutional for violating the debt limit, violating the debt priorities and violation of the balanced budget provision of the PR Constitution. As to the debt limits, the motion states, inter alia:

“Thus, the COFINA structure created by Act 91 provided an indirect means for the Commonwealth to issue debt payable solely from general Commonwealth tax revenues without having to comply with the Constitutional Debt Limits. . . Such “off balance sheet” financing constitutes an unconstitutional evasion of the Constitutional Debt Limits, which would be rendered meaningless if such financing structures were constitutionally permissible.”

As to the debt priorities, the UCC states, inter alia:

“There can be no dispute that, prior to the Commonwealth Petition Date, the SUT revenues specified for COFINA would, but for the purported transfer to COFINA, be “available revenues” of the Commonwealth (which would first be paid to holders of lawfully issued Commonwealth public debt).9 Accordingly, the purported transfer of SUT revenues to COFINA reduced the revenues that would otherwise be available to the Commonwealth to pay its creditors. . . Stated bluntly, if the Puerto Rico Legislative Assembly can render general tax revenues “unavailable” simply by “transferring” them to a special purpose entity that does nothing but issue bonds to pay the Commonwealth’s own debts and expenses or provide funding for Commonwealth funds, there is no principled limit on the ability of the Puerto Rico Legislative Assembly to undermine the Constitutional Debt Priority.” (emphasis in the original)

Interestingly, the UCC makes this clarification in footnote 9 of the previous paragraph:

“In its capacity as the Commonwealth Agent, the Committee takes no position on whether the same priority is applicable after the Commonwealth Petition Date. The Committee is not a party to this adversary proceeding in its individual capacity and reserves all rights in such capacity.”

Does this mean that the UCC will oppose the GO’s obvious position that they have first dibs on Commonwealth funds? Sometime this will have to be clarified.

Finally, the UCC claims a violation of the balanced budget requirement of the PR Constitution and says:

“Thus, while the Spanish version of the constitution uses a term that is broader than “total revenues” and was meant to include some form of bond proceeds, the English version uses “total revenues” just like the Jones Act. Since “revenues” does not include borrowings (which are a form of expense when repaid), the constitutionality of deficit financing depends, as an initial matter, on which version of the constitution controls. The answer to that question is found in Public Law 600 of June 4, 1951, which is the law by which the U.S. Congress “provide[d] for the organization of a constitutional government by the people of Puerto Rico,” and Public Law 447 of July 3, 1952, which is the law by which the U.S. Congress approved the Puerto Rico constitution conditional upon certain amendments not relevant here.

Public Law 600 provided that “[u]pon approval by the Congress the constitution shall become effective in accordance with its terms.” Public Law 600, 64 Stat. 319, 48 U.S.C. § 731d (1951) (emphasis added). Public Law 447 provided that:

the constitution of the Commonwealth of Puerto Rico hereby approved [i.e., the English version] shall become effective when the Constitutional Convention of Puerto Rico shall have declared in a formal resolution its acceptance in the name of the people of Puerto Rico of the conditions of approval herein contained, and when the Governor of Puerto Rico, being duly notified by the proper officials of Constitutional Convention of Puerto Rico that such resolution of acceptance has been formally adopted, shall issue a proclamation to that effect.

Public Law 447, 66 Stat. 327-328 (1952) (emphasis added). Accordingly, the “terms” in accordance with which the constitution became effective were the terms of the English version approved by the U.S. Congress; not the Spanish version debated at the constitutional convention. Even if the constitution had become effective in accordance with the terms of the Spanish version, there would be no reason to interpret “recursos totales” to include long-term financing of massive structural deficits through the issuance of bonds by “off balance sheet” special purpose entities. If limited to general obligation bonds of the Commonwealth, any deficit financing would at least be constrained by the otherwise applicable Constitutional Debt Limits. If deficit financing through COFINA-like structures is allowed, the Balanced Budget Clause truly has no meaning to speak of. In deciding to include the Balanced Budget Clause in Puerto Rico’s constitution, the delegates to the constitutional convention could not have intended to leave the door open for unconstrained deficit financing that would eviscerate the purpose of having such a clause in the first place.”

I do not disagree with the UCC’s reasoning but I need to point out a few things. What the UCC does is, maybe inadvertently, put its finger on one of the raw nerves of Puerto Rico’s status debate. The island’s supreme law, its Constitution, is not supreme in Spanish, but rather in English. Also, the UCC makes no mention of the Opinion of the Secretary of Justice of May of 1976 where Francisco de Jesús Schuck, using the Spanish version of the Constitution, opined that the island could borrow to balance its budget. Again, I agree with the UCC but it will bring a storm of protests from certain sectors of the local legal community, but not from me.

Another important issue before the Court is the Board’s quixotic acceptance to lifting the stay in labor grievance cases. In its motion, the Board said:

“The Commonwealth consents to modifying the Title III Stay to allow the Actions, as provided herein and to the extent that such actions do not affect the Commonwealth Fiscal Plan, to proceed to judgment in the ordinary course in accordance with the grievance and arbitration procedures in collective bargaining agreements between the Commonwealth and the CBA Counterparties, or under applicable statutes including, but not limited to, Law 8-2017, Law 184-2004, Law 32-1972; provided, however, that the Commonwealth reserves all rights, defenses, and protections with respect to any matters pending or that may arise in the Title III Cases, including the treatment of any claims arising from the Prepetition Actions under a plan of adjustment or otherwise in the Title III Cases.”

What this may mean eludes me and I think movants and the Court will have the same problem. Let’s see what the Court decides.

In addition, the Board objected to the PBA bondholders claim that they can force the Commonwealth to pay the rents that fund their bonds on the grounds of standing. The Board claims that they are not a party in interest since their claim is derivative and they have no direct claim on the rents. It may be right. Again, let’s see what the Court decides.

Finally, Judge Swain referred to Magistrate Judge Dein Ambac’s November 2017 and National’s January 2018 motions for Rule 2004 discovery. Very soon Judge Dein must rule on them and if she grants them, as I suspect she will, this will bring big implications for the Board and Commonwealth’s usual lack of transparency. Most of us eagerly await her ruling on these documents.

In addition, today, Judge Swain issued a very important order on Rule 2004 discovery, such that I am compelled to discuss it here. She had allowed discovery on certain documents, subject to specific objections to specific documents. After some negotiations, the documents that could fall under the deliberative process privilege and the documents leading to the 2017 and 2018 Fiscal Plans still needed resolution. Judge Swain withheld the deliberative process documents but the Board and the Commonwealth must provide a privilege log with the following:

“i) the basis for withholding each category of documents; (ii) a sufficient description of the subject matter of the category of documents to permit Movants to evaluate the claim of privilege; (iii) the date range for the set of documents in each category; and (iv) an aggregate list of all persons sending and receiving documents in each category. See Joint Report, Dkt. No. 2154 at I(c). The parties shall meet and confer to discuss when the log needs to be produced and the frequency with which the log must be updated. The Court will otherwise adopt the parties’ proposed schedule regarding the procedure for challenging items listed in the log.”

Clearly this means that after the log is produced, movants may still challenge individual documents as not covered by the privilege. Moreover, as to the Fiscal Plans, the Court decided in favor of transparency. Judge Swain held:

Movants claim that production is warranted under Rule 2004 and that use of the documents is presently warranted. Respondents contend that the materials exceed the scope of permissible discovery under Rule 2004, and that the materials produced in the data room should remain there subject to existing restrictions. For the reasons detailed herein, this Court concludes that the Fiscal Plan Development Materials are discoverable under Rule 2004. However, Movants have not shown good cause for their immediate use in these proceedings. Therefore, consistent with the parties’ agreement related to the documents in the data room produced in response to other requests, Movants are entitled to the information and may attempt to use documents in the Title III or adversary proceedings, but Respondents are not prejudiced from objecting to individual documents at the appropriate time. See Joint Report,

Dkt. No. 2154, at 1(a). . .

Movants argue that they will need to use these documents later in this Title III proceeding, especially during confirmation of a plan of adjustment. They contend that the confirmation process entitles them to use “all information that bears on how the Fiscal Plan was developed, what assumptions, projections and data were used, and what assumptions, projections and data were rejected.” Movants’ Brief, Dkt. No. 2223 at 3. For their part, Respondents take the position that the issues raised by a plan of adjustment are much more limited, and that much of the Fiscal Plan Development Materials may not be relevant to the issues to be decided in connection with a plan of adjustment. Opposition, Dkt. No. 2274 at 6. For the reasons detailed below, this Court does not have to define the standard that will be employed in assessing any plan of adjustment at this time. Nevertheless, the Respondents’ objections to the relevancy of the Fiscal Plan Development Materials are not persuasive. Movants have successfully shown that the materials are properly discoverable under Rule 2004.

First, Respondents argue that the Fiscal Plan Development Materials need not be produced under Rule 2004 because PROMESA § 106(e) prohibits district courts from reviewing fiscal plan certifications. See Opposition, Dkt. No. 2274 at 4. This argument is unpersuasive. The Movants are not seeking to challenge the fiscal plans. Rather, they are seeking information to understand the past, present and future financial condition of the Commonwealth. This information will form the basis for any plan of adjustment. This is an appropriate purpose for discovery under Rule 2004. In re Enron Corp., 281 B.R. 836, 840 (Bankr. S.D.N.Y. 2002) (“Rule 2004 examinations are appropriate for revealing the nature and extent of the bankruptcy estate.”). For the same reasons, Respondents’ contention that Movants’ “effort to deconstruct the Fiscal Plans would not give them the insight into the Commonwealth’s financial condition they purport to seek” is equally unavailing. See Opposition, Dkt. No. 2274 at 5. Respondents claim that a fiscal plan is “a blueprint for further fiscal and economic action by the Commonwealth. It is not a plan of adjustment designed to identify the treatment of each class of claims.” Id. However, even if just a blueprint, the 2017 and 2018 Plans undeniably describe the existing and projected financial condition of the Commonwealth. Such information not only

falls squarely within the purpose of Rule 2004, but is instructive in developing an understanding of any future plan of adjustment. Rule 2004 allows parties to broadly examine the financial Respondents also disagree with Movants’ description of the standard for confirming a plan of adjustment. Movants claim that “for any plan of adjustment to be confirmed over the objections of a dissenting class of creditors, it must be, among other things, fair and equitable . . . provide creditors with the maximum that the debtor could reasonably pay under the circumstances . . . [and] be consistent with the applicable Fiscal Plan.” Movants’ Brief, Dkt No. 2223 at 23 (internal quotations, citations, and punctuation omitted). In contrast, Respondents argue that “. . . PROMESA [] does not require the debtor to pay prepetition claimholders as much as it can. Rather, it provides the Court should consider what creditors could recover under applicable nonbankruptcy law, i.e., what a race to the courthouse would produce for the creditors under nonbankruptcy law.” Opposition, Dkt. No. 2274 at 6 (internal punctuation omitted). Respondents’ argument, however, does not destroy the relevance of the Fiscal Plan Development Materials. Under either the Movants’ or Respondents’ proposed standard, the correct interpretation of which the Court need not decide today, the Fiscal Plan Development Materials are important for the Movants to have so that they can assess the financial condition of the debtor and participate in a plan confirmation process. Fiscal projections of the debtor are relevant no matter how one interprets the plan confirmation standard.

Seems Judge Swain is not buying the Board’s arguments as of late and is opting for greater transparency in the case, something that all other parties welcome. Again, major defeat for the Board.

This summary is merely what I believe are the more salient motions and decisions in the cases. I receive an average of 20 filings each day so it would be impossible to summarize everything. If you have legal interest in these cases, I urge you to hire an attorney to represent you.

Weekly Update – February 20, 2018

Welcome to your weekly Title III update for February 20, 2018. This week was dominated by the PREPA Interim Financing request.

On Thursday, February 15, Judge Swain heard evidence and arguments pertaining to the PREPA loan. The hearing started with testimony by Mr. Filsinger, detailing the dire consequences of not granting the DIP loan and the way the system would be shut down, starting with residential clients being cut off. Mr. Filsinger did explain that if the $550 million was lent, by June 2019, PREPA would be OK. There was no evidence presented, however, for the need for $1 billion the Board requested.

Things started to go south when Gerardo Portela, head of AFFAF, came on. Portela sent 27 letters to different Commonwealth agencies for them to pay the PREPA bill, but did not put the total amount owed by these corporations, rather an amount he determined was adequate. When asked why not loan to public corporations, there was an objection by his attorneys. Bondholders cleverly did not insist on the answer to the question. In addition, Portela did not know of the law of 2016 that required that in 45 days the public corporations and PREPA would have to determine how much they owed the utility and in 60 days work out a payment plan. He is also unfamiliar with the law of his agency, which makes you wonder how effective a manager he can be.

Although AFFAF was the agent for the Commonwealth and PREPA on the loan negotiations, Mr. Portela was not present in all the meetings, he had other people dealing with it. He did not know if anything else was offered by the Commonwealth as to the loan or if different terms were offered by the Commonwealth or even if different interest rates were offered. All in all, Mr. Portela was a terrible witness that seemed not to understand simple questions that were posed to him. This happens when witnesses think they are brighter than the attorneys posing the questions, or maybe he’s tired and looking for the exit door.

Dustin Mondell from Rothchild testified that this was not an  “arm’s length negotiation,” as required, rather it was a cooperative negotiation. Also, Mr. Mondell said that FEMA would approve the CDL loan if the Hacienda TSA account went down to $800 million. PREPA negotiations started when the FEMA letter was received. There were no negotiations for other lenders. As Gibbs rule #39 states, “There is no such thing as a coincidence.” Obviously, the Commonwealth and the Board want to empty out the General Fund so it can qualify for the CDL loan from the Federal Government. The Board and the Governor must think no one in Washington is watching.

Judge Swain, however, threw a monkey wrench on the Board and Commonwealth plans. Judge Swain ruled that PREPA needed money but movants have not proven need or legality of the $1 billion loan. There was no evidence of negotiations on the loan and that there were no “arm’s length negotiations.” She stated she was willing to approve a $300 million non-priming loan, superpriority administrative expense, but the record must be clear about robust effort for third party financing. She also stated that the Business Judgment test is inadequate because bondholders’ interest must be considered. Any proposed order must include Ad Hoc GO’s bondholders’ observations and objections.

Early Friday morning, approximately 4:21 am Puerto Rico time, the Board filed their new request for a loan, but also stated that they would seek further loans in two to four weeks. On Friday afternoon, Judge Swain gave objectors until 7 pm Puerto Rico time on Saturday to file and the Board until Sunday at 3 pm Puerto Rico time to respond. As expected, there were objections.

National objected to the proposed order stating the following:

“[A]s written, it is directly contrary to the Court’s oral ruling at the February 15, 2018 Hearing on PREPA’s Financing Motion (the “Hearing”) in a number of respects, including: (i) as to the applicable legal standard (i.e., entire fairness, not Movants’ invented “permissible judgment as a governmental instrumentality”); (ii) as to the Court’s ruling that the requirement of Section 364(e)’s good-faith showing has not been met; and (iii) as to the Court’s admonition to include in the proposed order only essential provisions.”

The Ad Hoc Group of PREPA bondholders filed a short encompassing objection. I found especially telling that it objected to the use of the Business Judgment standard invented by the Board, especially after the Judge stated that it “focused solely on rationality from a PREPA business point of view is inappropriate.”

The PREPA Bond Trustee also objected and said, inter alia:

“The Movants’ draft attempts to retain priming features in the Revenues that either fail to credit the Court’s ruling or presume the outcome of litigation not properly before the Court. Secondly, there are changes proposed to clarify that the promises of the Authority in the Credit Agreement need to be consistent with: (i) the Authority’s obligations under the Trust Agreement, without attempting to resolve what those duties are; and (ii) the Financing Order and the realities of what can legally be done under Title III of PROMESA on account of a super-priority administrative expense claim.”

The GO Ad Hoc Group of Bondholders also filed a detailed objection, but also stated what everyone in Puerto Rico knows:

“The Commonwealth’s persistence in offering below-market terms to PREPA is also of a piece with its ongoing attempts to undercut the possibility of any private, arms-length financing for PREPA, including the financing offer recently proposed by PREPA’s bondholders. This pattern began with AAFAF’s inexplicable delay in beginning any search for private financing, continued when that search amounted to nothing more than a token effort to check the boxes, and culminated when the Commonwealth offered terms so favorable to PREPA that no arms-length lender could possibly compete. This irresponsible course of conduct has now placed the Court in an impossible position, with the Oversight Board and AAFAF asking for approval of financing on an emergency basis because PREPA faces serious liquidity challenges that were entirely avoidable if AAFAF and the Oversight Board had made a serious effort to secure private financing alternatives.

All of this is part of a cynical effort to make the Commonwealth’s liquidity appear less than it really is—to game the federal government and the Commonwealth’s own creditors. And it is just the latest in the Commonwealth’s continual strategy—aided and abetted by the Oversight Board—of withholding or manipulating information in order to game the system.

The GO Group therefore urges AAFAF and the Oversight Board to heed the Court’s direction that, to the extent they intend to seek approval of a larger financing facility for PREPA in the future, the record must “demonstrat[e] far more robust efforts to solicit third-party financing on terms that do not include super-priority or security provisions.”

The Board’s reply to the objections was lengthy and attempts to convince the Judge that objectors’ concerns were addressed but that is unlikely for a couple of reasons. First, the Board said twice that the Third Supplemental Filsinger Declaration demonstrates that Commonwealth would not lend without superiority status. If one examines the declaration, however, that is not what Mr. Filsinger said:

“I asked Secretary Maldonado if the Government would be willing to make a proposal with terms more favorable to PREPA than those proposed by the ad hoc PREPA bondholders.

Secretary Maldonado advised me that he believed that the Government’s creditors and constituents preferred a 364(d) priming lien but in light of PREPA’s urgent cash flow crisis and the negative implications for the Government if PREPA runs out of money, the Government would be prepared to offer unsecured financing of $300 million on the following terms: (i) the Facility would have superpriority status (pursuant to 11 U.S.C. § 364(c)(1)), and (ii) the interest rate on the Facility would be increased from that set forth in the original proposal to 5% per annum.”

Nowhere does Mr. Filsinger state that the Commonwealth refuses to lend to PREPA otherwise and have the lights go out. But the Board stated that at pages 11 and 13 of its motion and Judge Swain will not appreciate this since she reads all documents. Moreover, the Board’s motion states that it denied around half of the objections to the financing and most of the objections to the Financing Document.

Moreover, PREPA has commenced to shutdown part of its systems redundancies allegedly to prepare in case the loan does not come through. This completely obviates the Commonwealth’s obligation to come to PREPA’s aid lending the $300 million since it claims it does not need permission to do so. Moreover, the Commonwealth could use the same $300 million it is to lend PREPA to lend to the public corporations so they can pay PREPA. They can even prepay PREPA as allegedly the Commonwealth did. No responsible government would jeopardize the peace of mind of its citizens by refusing to lend to its power utility but apparently that is what the Governor and the Board are willing to do to obtain CDL financing.

Nevertheless, Judge Swain approved the loan on Monday, February 19. Let there be no doubt about this; the Board suffered a major defeat when Judge Swain did not approve its original DIP petition. The fact that Judge Swain reduced the loan to $300 from the original $1.3 billion that was requested shows she did not believe the Board and AFFAF’s experts and witnesses. The changes made to the loan documents were substantial, as stated by the Board’s motion for the $300 million loan:

The material changes in the Revised Financing are:

  1. Principal Amount. Reduced to $300 million.

  2. Interest Rate. Fixed at 5% per year.

  3. Superpriority. Unchanged.

  4. Collateral. Eliminated.

  5. Good Faith Lender Finding for 11 U.S.C. § 364(e). Eliminated.

  6. Insulation from Attack in the Commonwealth Title III Case. Eliminated.”

In addition to this, the order also places constraints on future changes to the loan, as for example, a CDL loan from the federal government:

“Amendments, Consents, Waivers, and Modifications.

(a) Subject to the approval of the Oversight Board, the Debtor may enter into any amendments, consents, waivers, or modifications to the Credit Documents, in accordance with the terms thereof, without the need for further notice and hearing or any order of this Court; provided, however, that to the extent any material amendment, material consent, material waiver or material modification to the Credit Agreement or any other Credit Document, including without limitation Sections 9-2, 4-13, 5-5, and 5-6 of the Credit Agreement, is approved by the Oversight Board (for the avoidance of doubt, including any refinancing of the Facility), such material amendment, material consent, material waiver or material modification or any other material change (however accomplished) shall not become effective without further Court order, which shall be submitted on presentment with notice to parties in interest in accordance with the case management procedures then in effect in the Debtor’s Title III case. For the avoidance of doubt, such material amendments, consents, material waivers, or material modifications subject

to this paragraph shall include any consent to the use of proceeds of the Facility to fund or otherwise pay for any Ineligible Uses; provided, however, that the foregoing shall not prevent the Court from ordering, or a party from requesting, a more extended briefing schedule and a hearing relating to such submission, nor shall it prejudice any party’s right to object to any such extension request.

(b) In the event the Facility is funded through a Commonwealth Financing that results in a material change to or additional economic terms of the Facility or any other transfer or assignment of any rights under the Credit Documents, such change or addition shall not become effective without further Court order, which shall be submitted on presentment with notice to parties in interest in accordance with the case management procedures; provided, however, that the foregoing shall not prevent the Court from ordering, or a party from requesting, a more extended briefing schedule and a hearing relating to such submission, nor shall it prejudice any party’s right to object to any such extension request.”

Moreover, PREPA, in accordance with Article 5 of the Loan Document, must provide:

“5.2 Weekly Reports. On the Wednesday of each week following the Effective Date, the Borrower shall provide the Lender and the Oversight Board, with copies made available to the Committee and the creditors of the Lender and the Borrower who are party to the Mediation Agreement or a customary non-disclosure agreement with the Borrower, with (i) an update to the Budget (which shall include reconciliation of actual results with the prior Budget), (ii) cash balance, (iii) total accounts payable and, if available, accounts payable aging schedule, (iv) grid restoration report for so long as any restoration activities are ongoing, (v) generation restoration report for so long as any restoration activities are ongoing and (vi) a FEMA Flash Report for so long as applicable.

5.3Monthly Reports. No later than the fifteenth (15th) day of each month following the Effective Date, the Borrower shall provide the Lender and the Oversight Board, with copies made available to the Committee and the creditors of the Lender and the Borrower who are party to the Mediation Agreement or a customary non-disclosure agreement with the Borrower, with an updated schedule of accounts receivable, and, if available, accounts receivables aging schedule.”

Although the loan document states that the Board and AFFAF will attempt financing again in 2-4 weeks, they better come up with more convincing financial information for the Judge to approve it.

This summary is merely what I believe are the more salient motions and decisions in the cases. I receive an average of 20 filings each day so it would be impossible to summarize everything. If you have legal interest in these cases, I urge you to hire an attorney to represent you.

Monday Update – February 12, 2018

Welcome to your weekly Title III update for February 12, 2018. This week has been dominated by the PREPA Interim Financing request, but again issues outside the litigation are looming large.

Last Monday, the Board sent the Commonwealth of letter advising it that the Fiscal Plans submitted for the PR Government, PREPA and PRASA did not comply with PROMESA and gave it until, today, February 12 to present compliant ones. There are numerous changes requested by the Board. Here’s a few:

  • An emergency reserve of $650 million for the next five years and $1.3 billion for the next ten;
  • It “must commit to improving specific World Bank Ease of Doing Business measures in the areas in which Puerto Rico most significantly trails the mainland, in particular the categories of Construction Permits, Registering Property, Paying Taxes, and Getting Electricity;”
  • Labor and welfare reform that would mean the end of Law 80, elimination of Christmas bonuses, reduction of vacation time in the Government and adopting Right-to-Work laws;
  • Tax reform that is revenue neutral;
  • It “must outline a specific capital investment plan at a greater level of specificity than what is currently outlined. This should include: A prioritized list of investments, beyond the reconstruction plan, that addresses key bottlenecks to generate economic growth; framework for reconstruction that does not just build back what existed, but instead incorporates resiliency measures to build to a risk adjusted level; and Sources of funding for all investments;”
  • “A strong and independent regulator is crucial to a successful transformation of the power sector, which itself is critical to the Island’s economic recovery. The Board requires that the Proposed Plan contain a plan for a robust and independent energy regulator. Legislation to create this regulatory model should be introduced by this summer. . . [a]t least three but preferably five commissioners, who are selected by the Governor from a candidate list developed by an independent expert panel;”
  • “Reduction of municipal subsidies by 80% of current levels by FY22. The Commonwealth should retain 20% of current subsidies to incentivize municipalities to achieve these operating model changes and avoid further fiscal imbalance;”
  • A 10% reduction in pensions;
  • Detail “projected savings for healthcare” driven by the “New Healthcare Model”;
  • “The Proposed Plan for reduction in costs across government agencies relies on an assumption that savings will be driven solely by employee attrition as a result of the Single Employer Model and the Voluntary Transition Program (VTP). Without greater detail on agency-level service eliminations, the Board believes that the Proposed Plan’s attrition-based model overstates the fiscal impact that such an approach will achieve and does not ensure the permanency of fiscal impact. Further, it will not lead to a Government that is rightsized to efficiently meet the key needs of citizens and reflect demographic realities. The Board requires that the Proposed Plan include specific reference to services that can be reduced, eliminated, externalized, or taken over by other entities, as well as which types of employees are currently fulfilling those services. Further, the Proposed Plan must include a specific implementation plan and timeline for such agency rightsizing.”

Clearly, no government can realistically make these changes to a Fiscal Plan in only 7 short days. Moreover, the requirement for reduction in pensions and government employees/furlough, was resisted by the Commonwealth in previous Fiscal Plans and resulted in the Board suing for its compliance. The Commonwealth was saved by the hurricanes and the Board dismissed the lawsuit without prejudice. This is part of the Board’s plan of governing Puerto Rico through the Fiscal Plan. The Commonwealth will counter, saying that the new federal monies make it unnecessary for these changes to be made and will refuse to comply. The Board will then impose its own Fiscal Plan and sue for the Commonwealth’s compliance. All paid by the island’s taxpayers.

However, the budget deal last week in Washington will loom large for the Commonwealth and the Board in the new Fiscal Plan. Will the Governor and Board continue to assign zero funds for debt service? Will the Board acknowledge the $4.8 billion in Medicaid and allow Governor Rosselló’s Mi Salud reforms to progress? Will the Board take into account the monies from the Community Block Development Grants and for PREPA?

Tied to this, in early January, the Wall Street Journal reported that the Board was aware of these accounts since July 2017. I reported about this development in my blog with a link to the internal Rosselló Government log that documents the detailed conversations between the Board and the Governor’s team.

To date, the Board has not denied the accuracy the Wall Street Journal’s article or on my blog; rather, they are simply whitewashing this with the hiring of the forensic audit team. They’re doing this for good reason: The Board told Judge Swain in the summer of 2017 that the Commonwealth’s finances were so bad that it would have to borrow from COFINA by November 2017. Appearing before Congress last November, Executive Director Natalie Jaresko testified that Puerto Rico needed $3.6 billion before the end of the year and between $13-21 billion over next two years. To add insult to injury, sources in Washington are telling me that Jose Carrion in his meetings with Congressional offices is saying the Board was kept in the dark over the secret accounts by none other than Natalie Jaresko. Really?

As to the PREPA, the Board required “a five-year plan for a financially sustainable utility, which is required as a baseline regardless of future transformation plans. The Proposed Plan must also further define realistic measures to reduce costs so that PREPA can continue delivering electric services to the people of Puerto Rico at more affordable rates. The Proposed Plan must also support a transaction by providing a set of targets for a potential bidder to meet or exceed during the bidding process, in line with the Governor’s announced plan to privatize generation and enter into a long-term concession agreement for transmission and distribution.”

The Board applauded the effort to sell PREPA but, “the Proposed Plan must contain much greater detail [of the sale], including specificity regarding ownership models and a timeline towards supporting the proposed transformational transaction. In addition, the Proposed Plan must address steps to improve governance leading up to a transition and describe a strategy for effective governance in a concession or similar arrangement.” Since the bill to allow the sale has not even been presented to the Legislature, and the Title III process is ongoing, this requirement is impossible to achieve, again resulting in the inevitable result: the Board imposing its own Fiscal Plan and directing not only the sale of the utility, but the utility itself.

As to PRASA, the Board, inter alia, requires that “the Proposed Plan forecasts significantly reduced revenues post-Hurricane Maria but does not provide for a commensurate reduction in operating expenses, which results in a significant operating deficit. Similarly, PRASA presently faces a precarious liquidity shortfall and must adopt a cash management program to actively minimize the cash gap.”

Also, “PRASA must exclude uncertain federal funding sources from the Proposed Plan, including removing the Community Disaster Loan ($200M) and 50% of the state revolving funds and rural development funds requests (total $322M).” Moreover, “PRASA must provide a vision for and perspective on potential actions it may take to achieve long-term fiscal sustainability, improved water quality, and greater infrastructure resiliency. The Proposed Plan must include a chapter describing this long-term vision and a prioritized capital plan to achieve it with specific measures around, for example, infrastructure consolidation, modernization, interconnection, and digitalization. The Proposed Plan should propose potential funding sources for the capital plan, including but not limited to federal funding, additional P3s, and concessions.” Not only this is not achievable in the short time given to amend the plan, but it reeks of a Title III filing.

It is unclear what effect the now approved federal funds will have on these requirements, the pensions or the utilities. What we do know is that the Fiscal Plan simply cannot be as stark as the one the Board planned to present. Even if the Fiscal Plan cannot be revised by the Court, and some parties have questioned this Board position, any Plan of Adjustment has to be based on the Fiscal Plan. I cannot see Judge Swain cramming it down if the underlying economic and financial assumptions are patently inaccurate. Let’s see what happens.

In the Court cases, the Board objected to the GO and others having standing to question the PREPA loan. Judge Swain, denied their opposition and stated “In light of preclusive nature of certain relief sought in the proposed order submitted in connection with the Financing Motion, the Court hereby finds that the Movants constitute interested entities and grants the Intervention Motions, to the extent provided herein, pursuant to Federal Rule of Bankruptcy Procedure 2018(a). The Court hereby accepts the substantive briefs submitted by the Movants in response to the Financing Motion, and authorizes the Movants to participate as Opponents in the February 15, 2018, evidentiary hearing on the Financing Motion, subject to the time limitations and consultation requirements established in the Court’s Order.” This order provides for movants and objectors each to have 3 hours, to be distributed internally as they believe best. The hearing is going to be long indeed.

In addition, the Board filed a new proposed order and a new credit agreement. By Friday, several parties filed short supplemental objections to the PREPA loan. Syncora’s objection is that that the loan is an “insider transaction” and hence entitled to heightened scrutiny by the Court and not the Board’s proposed test of “permissible judgement”; that creditors are entitled to information regarding the PREPA-Commonwealth negotiations on the loan and that the Court deny the Board’s request that any “obligations and other financial accommodations under the DIP Facility [be] ‘deemed to have been extended by the Lender in good faith, as that term is used in section 364(e) of the Bankruptcy Code.’”

National also objected to a “permissible judgment” test, insisted that PREPA had not shown the need for the $1.3 billion loan, that the loan is not “fair and reasonable” and that bondholders were not receiving adequate protection. It also wants modifications to the agreement if the Court were to approve the loan.

Assured also claims it needs adequate protection and counters the Board’s argument their lien’s value is zero. It goes further and states “if the value of the lien were zero, then the Commonwealth would not need a priming lien, because a priming lien on valueless collateral would have no value. This is particularly so given that the DIP Facility is subordinate to Current Expenses upon an event of default.”

U.S. Bank National Association, as trustee for the PREPA Bondholders, adopted the objections of other creditors but added some to the document itself. It argues the “Financing Order and Credit Agreement Improperly Delegate Future Priming Loan Approval Authority to Cooperating Insiders,” that it does not solve the problem of material modifications, that it improperly passes through to PREPA unlimited rate increases of the Commonwealth’s financings, that it includes “Improper Provisions Regarding the Application of Proceeds after Acceleration and Current Expenses,” that it should include greater transparency in the transaction, that the scope of the priming lien is unclear, among others.

The Ad Hoc Group of PREPA bondholders also filed an objection. Essentially, it argues that PREPA has not justified that it needs $1.3 billion and that the reason of the cash crisis of PREPA is the Commonwealth and its dependencies not paying their bills. Powerful arguments indeed since, in my opinion, neither the Board nor PREPA have adequately explained why the Commonwealth can lend it $550 million tomorrow but cannot pay over $200 million the utility is owed. Moreover, with the $2 billion in CDBG funds already approved by Congress and signed by President Trump, why is the loan needed at all? I am sure Judge Swain will have these and many other questions for the Board.

Finally, the President of the PR Senate, Tomás Rivera Schatz presented PS 827 to allow holders of bonds of the Government, its instrumentalities and municipalities to use them as collateral in the lease of government property or loans, direct or indirect financing. Although the bill seems to allow local as well as US bondholders to use the bonds in this manner, the foreword of the bill and its declaration of public policy both mention the need to have the $15 billion held by local investors be used for local investment.

Clearly, the purpose of the bill is to benefit local investors over stateside investors, especially when the preamble states that bondholders will not receive neither principal nor interest on their bonds. This bill not only discriminates against those who are not local investors who will do business in PR, but all local investors who do not do business with the Government!

Moreover, the bill is fiscally irresponsible. If for example you use a $1,000,000 PR bond that is worth 15% in the market as a collateral for a loan from the Government for the same amount, in the real world, the loan is undercollaterised for $850,000. This is nothing more than the usual government scheme to help its cronies that put PR in the financial mess it is in now. Wonder whose “close friend” (amigo del alma) the bill wants to benefit?

Surely the Board will oppose this bill, otherwise they will have zero credibility towards their mission to restoring fiscal responsibility and access to capital markets for the island.

This summary is merely what I believe are the more salient motions and decisions in the cases. I receive an average of 20 filings each day so it would be impossible to summarize everything. If you have legal interest in these cases, I urge you to hire an attorney to represent you.

Monday Update – February 5, 2018

Welcome to your weekly Title III update for February 5, 2018. This week has been dominated by the PREPA Interim Financing request but again issues outside the litigation are looming large. Due to the importance of the DIP loan sought and the number of motions filed in the last four days, this Update will be longer than usual.

Many motions opposing the request for an order for interim financing for PREPA were filed. The Board listed them as:

“(a) Limited Objection by and Reservation of Rights of Arc American, Inc. to the Urgent Joint Motion of the Financial Oversight and Management Board for Puerto Rico and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Entry of Interim and Final Orders (a) Authorizing Postpetition Secured Financing, (b) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (c) Modifying the Automatic Stay, (d) Scheduling a Final Hearing, and (e) Granting Related Relief [ECF No. 563] (the “Arc Objection”), filed by Arc American, Inc.

(b) The Ad Hoc Group of General Obligation Bondholders’ (i) Objection to the Urgent Joint Motion of the Financial Oversight and Management Board for Puerto Rico and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Entry of Interim and Final Orders (a) Authorizing Postpetition Secured Financing, (b) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (c) Modifying the Automatic Stay, (d) Scheduling a Final Hearing, and (e) Granting Related Relief, and (ii) Urgent Cross-motion, in the Alternative, to Intervene [ECF No. 566] (the “GO Objection”), filed by the Commonwealth’s General Obligation Bondholders.

(c) Objection and Reservation of Rights of PREPA Bond Trustee to Urgent Motion of the Financial Oversight and Management Board for Puerto Rico and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Entry of Interim and Final Orders (a) Authorizing Postpetition Secured Financing, (b) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (c) Modifying the Automatic Stay, (d) Scheduling a Final Hearing, and (e) Granting Related Relief [ECF No. 568] (the “Bond Trustee Objection”), filed by the PREPA Bond Trustee.

(d) Objection of Ad Hoc Group of PREPA Bondholders to Urgent Joint Motion of the Financial Oversight and Management Board for Puerto Rico and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Entry of Interim and Final Orders (a) Authorizing Postpetition Secured Financing, (b) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (c) Modifying the Automatic Stay, (d) Scheduling a Final Hearing, and (e) Granting Related Relief [ECF No. 570] (the “PREPA Bondholder Objection”), filed by PREPA’s Bondholders.

(e) Limited Objection of Whitefish Energy Holdings, LLC to Urgent Joint Motion of the Financial Oversight and Management Board for Puerto Rico and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Entry of Interim and Final Orders (a) Authorizing Postpetition Secured Financing, (b) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (c) Modifying the Automatic Stay, (d) Scheduling a Final Hearing, and (e) Granting Related Relief [ECF No. 571] (the “WEH Objection”), filed by Whitefish Energy Holdings, LLC (“WEH”).

(f) Response and Limited Objection of Scotiabank de Puerto Rico, as Administrative Agent, to Urgent Motion for Entry of an Interim Order Authorizing Postpetition Secured Financing [ECF No. 572] (the “Scotiabank Response”), filed by Scotiabank de Puerto Rico.

(g) Statement of Solus Alternative Asset Management LP in Response to the Urgent Joint Motion for Postpetition Secured Financing [ECF No. 576] (the “Solus Statement”), filed by Solus Alternative Asset Management LP.

(h) Objection of National Public Finance Guarantee Corporation to Urgent Joint Motion of the Financial Oversight and Management Board of Puerto Rico and the Puerto Rico Fiscal Agency & Financial Advisory Board for Entry of Interim and Final Orders (a) Authorizing Postpetition Secured Financing, (b) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (c) Modifying the Automatic Stay, (d) Scheduling a Final Hearing, and (e) Granting Related Relief

[ECF No. 580] (the “National Objection”), filed by the National Public Finance Guarantee Corporation.

(i) Ambac Assurance Corporation’s (i) Objection to the Urgent Joint Motion of the Financial Oversight and Management Board for Puerto Rico and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Interim and Final Financing Orders, and (ii) Urgent Cross-Motion, in the Alternative, to Intervene [ECF No. 582] (the “Ambac Objection”), filed by Ambac Assurance Corporation.

(j) Objection of Assured Guaranty Corp., Assured Guaranty Municipal Corp., and Syncora Guarantee Inc. to the Urgent Joint Motion of Financial Oversight and Management Board for Puerto Rico, and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Entry of Interim and Final Orders (a) Authorizing Postpetition Secured Financing, (b) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (c) Modifying the Automatic Stay, (d) Scheduling a Final Hearing, and (e) Granting Related Relief [ECF No. 585] (the “Assured Objection”), filed by Assured Guaranty Corp., Assured Guaranty Municipal Corp., and Syncora Guarantee Inc.

(k) Statement of Official Committee of Unsecured Creditors in Response to Urgent Joint Motion of the Financial Oversight and Management Board for Puerto Rico and the Puerto Rico Fiscal Agency and Financial Advisory Authority for Entry of Interim and Final Orders (A) Authorizing Postpetition Secured Financing, (B) Granting Priming Liens and Providing Superpriority Administrative Expense Claims, (C) Modifying the Automatic Stay, (D) Scheduling a Final Hearing, and (E) Granting Related Relief [ECF No. 597], filed by the Official Committee of Unsecured Creditors of the Commonwealth of Puerto Rico.

(l) Joinder of U.S. Bank National Association in its Capacity as PREPA Bond Trustee to Objections to Urgent Joint Motion of the Financial Oversight and Management Board of Puerto Rico and the Puerto Rico Fiscal Agency & Financial Advisory Board For Entry of Interim and Final Orders (A) Authorizing Postpetition Secured Financing, (B) Granting Priming Liens And Providing Superpriority Administrative Expense Claims, (C) Modifying The Automatic Stay, (D) Scheduling A Final Hearing, And (E) Granting Related Relief [ECF No. 606], filed by U.S. Bank National Association in its Capacity as PREPA Bond Trustee.

(m) Siemens Transportation Partnership Puerto Rico, S.E.’s Limited Objection With Respect to the Urgent Motion for Postpetition Secured Financing, Priming Liens, and Providing Superpriority Administrative Expense Claims [ECF No. 2335 in Case No. 17-03282], filed by Siemens Transportation Partnership Puerto Rico, S.E.”

The oppositions to the loan request included questions on the amount of the loan, its particulars and the fact that the Commonwealth is the lender. Here are a few.

Arc objects and states:

“If the Motion is approved in its current form, Arc may never be paid millions of dollars despite having conferred post-petition tangible benefits directly to PREPA, its bankruptcy estate and the people of Puerto Rico. Instead, Puerto Rico, as Lender, and the professionals for the Debtor, Oversight Committee and Creditors’ Committee, likely will be the only administrative creditors that are paid, while bondholders may receive a minimal recovery and Arc is unlikely to recover anything on an administrative expense claim, in an amount close to $19 million, once allowed by the court.”

The Ad Hoc Group of GO Bondholders objected and stated:

“Let us be clear, the GO Group does not object to PREPA obtaining financing to meet a demonstrated need, from an appropriate source, and on commercially reasonable terms. But the Proposed Loan meets none of those criteria. Rather, the Proposed Loan reflects a unilateral decision by the Oversight Board to use the resources of the Commonwealth—itself a Title III debtor that claims to be unable to pay its own creditors—to subsidize a legally separate instrumentality that has its own Title III case, its own creditors, and its own assets. Worse still, the Oversight Board’s maneuvering seeks to displace the legitimate path for seeking such funding for PREPA, which would involve a reasonable market process and adequate disclosures of the debtor’s finances. The Oversight Board, which serves as representative of both the would-be borrower and the would-be lender, has simply determined for itself that this unprecedented transaction is best for all involved. To the contrary, the Proposed Loan is a massive windfall to PREPA, a severe and unnecessary financial blow to the Commonwealth, and a startling arrogation of power by the Oversight Board. The Proposed Loan seeks immediate authorization for $550 million, even though the movants’ own (unsupported) numbers justify only a small fraction of that amount in the near term. The terms of the loan do not resemble a reasonable, arms-length transaction.”

Scotiabank, a fuel line supplier of credit, also objected:

“The Fuel Line Lenders, however, have several objections to the Interim Financing Order in its present form. First, the Oversight Board has requested authority to borrow up to $550 million prior to a final hearing. But, under the “Initial 13-Week Budget” submitted with the Financing Motion, PREPA does not need that amount on an interim basis. Moreover, based on public information, PREPA is owed significant amounts by Government entities. Before PREPA is permitted to borrow funds that it does not immediately need, PREPA must either collect what it is owed by other Government entities or provide a compelling justification for failing to collect those amounts.”

Siemens claims that the HTA owes it several millions for the Urban Train and filed a limited objection:

“Siemens objects to the Motion only to the extent that the terms of the financing requested therein seeks to pledge, use as collateral, or otherwise encumber funds that are held by GDB for Siemens’ benefit, including the funds located in the Siemens Account. While Siemens does not believe that the Motion contemplates a lien on the Siemens Account or funds held therein, in an abundance of caution Siemens files this Limited Objection.”

National Public Finance Corporation also objected:

“PREPA has failed to demonstrate that the Facility meets the entire fairness standard for insider transactions and the Bankruptcy Code’s and PROMESA’s requirements for postpetition financing, or that the Commonwealth should be entitled to the good faith protections for a postpetition lender under the Bankruptcy Code. First, PREPA has not shown it was unable to obtain financing on an unsecured basis. The Commonwealth could easily have provided PREPA with ample liquidity simply by paying—or causing its instrumentalities to pay—some or all of the outstanding electricity bills owed to PREPA. Second, PREPA has not demonstrated that the $550 million requested on an interim basis and $1.3 billion requested on a final basis are commensurate with PREPA’s actual needs. In fact, given the unpaid electric bills that the Commonwealth has accrued, there is little doubt that any immediate and irreparable harm could be avoided by payment of even some of these outstanding amounts. Third, the Facility is not fair and reasonable because the payment obligations are not offset or reduced by the Commonwealth’s unpaid bills. In addition, granting an administrative expense claim to the Commonwealth would effectively permit the Commonwealth to exercise control over PREPA’s plan of adjustment process, to the further detriment of PREPA’s creditors. Fourth, to grant priming liens to the Commonwealth, PREPA must ensure that bondholders’ liens are adequately protected. The FOMB’s insistence that bondholders are adequately protected because proceeds of the Loans will be utilized to preserve PREPA’s assets is entirely speculative and therefore wholly insufficient to provide adequate protection.

Finally, given the role of the FOMB and AAFAF in negotiating the Facility for both borrower and lender, and the Commonwealth’s overreaching in requesting a superpriority claim and priming lien, PREPA has not shown that the Facility was negotiated at arms’ length and in good faith. Instead, the Financing Motion leaves open many questions regarding the circumstances and process followed to develop the proposed Facility.”

U.S. Bank National Association, in its capacity as the PREPA Bond Trustee, objected to the DIP financing as premature and prefers the Commonwealth to pay what it owes the utility. It stated:

“The DIP Motion proposes a solution that is premature, improper, and the proposed priming lien violates 11 U.S.C. § 364(d). In addition, the PREPA Bond Trustee submits that the proposed interim financing order includes findings that are and will be unsupported by the record and grant rights and protections that are objectionable as set forth herein.

The DIP Motion lumps together two distinct proposed lending relationships between PREPA and the Commonwealth bankruptcy estates that should be reviewed by the Court separately. The first consists of low interest rate direct advances by the Commonwealth to PREPA of up to $550 million (the “Direct Advances”) pursuant to Joint Resolution 196 of the Puerto Rico legislature, dated January 25, 2018 (the “Joint Resolution”). The second proposed relationship consists of the Commonwealth serving as a pass-through lender of proceeds that the Commonwealth hopes to receive from the federal government for community disaster loans (“CDLs”) that PREPA could qualify for under applicable disaster relief statutes (the “Pass-Through Advances”). Together the Direct Advances and the Pass-Through Advances could total $1.3 billion. In both cases, however, the proposed lender/borrower relationship is premature and imposes an inequitable burden on the PREPA bankruptcy estate and its creditors. And, any priming lien would violate § 11 U.S.C. 364(d)(1)(A) and (B).”

Even the UCC informally (whatever that may mean) objected to the DIP request:

“Although the Committee is not formally objecting to the Financing Motion, given the Committee’s overarching responsibility as a “watchdog” for the Debtors in these title III cases, the Committee is duty-bound to advise the court of the Committee’s position and concerns with respect to the Financing.

First, the Committee is, of course, supportive of PREPA having sufficient liquidity to operate and continue to operate as close as possible to ordinary course of business under the circumstances.4 Moreover, the Committee recognizes that the Commonwealth and its unsecured creditors generally benefit from the continued operation of PREPA given the critical importance of a functioning electricity infrastructure. That said, PREPA and the Commonwealth are separate Debtors with separate asset pools and different sets of creditors, and, therefore, the impact and benefits of the Financing must be evaluated separately for creditors of each Debtor and the Financing should be as close as possible to market terms.

Second, while the Committee generally supports PREPA’s efforts to obtain postpetition financing, the Committee believes that the proposed Financing does not reflect market terms from the point of view of the Commonwealth. This is especially true for the interest rate, which would be 0% for the first six months, increase by 50 basis points every six months thereafter, and then top out at 3% after three years. Zero percent DIP loans do not exist in the marketplace, and this feature means that millions of dollars of value are being transferred from the Commonwealth and its creditors to PREPA (and possibly and unintentionally, to the benefit of the entity which will acquire PREPA pursuant to the recently announced privatization program). As a point of comparison, the PREPA secured bondholders previously offered postpetition financing to PREPA at an effective interest rate of approximately 8%.

The Committee recognizes that the court is being asked to authorize PREPA (not the Commonwealth) to enter into the proposed Financing. Indeed, the Oversight Board takes the position that the Commonwealth need not seek court authorization to use its funds to extend the Financing to PREPA on the grounds that (a) section 305 of PROMESA prohibits the court from interfering with any of the Commonwealth’s property or revenues, unless the Oversight Board consents,5 and (b) section 363 of the Bankruptcy Code is not incorporated into title III of PROMESA. However, the matter is not as clear-cut. In fact, in the proposed order attached to the Financing Motion, the Oversight Board is seeking a factual finding that the Financing is fair to the Commonwealth.6 The Oversight Board cannot, on the one hand, claim that the court may not interfere with the Commonwealth’s decision to enter into the Financing, but then, on the other hand, ask this court to bless the transaction from the perspective of the Commonwealth. By asking the court to make factual findings as it relates to the Commonwealth, the Oversight Board is, in essence, consenting to the court’s interference with the Commonwealth’s use of property and revenue, thereby taking the matter outside of section 305 of PROMESA. Accordingly, the court should evaluate the proposed Financing from the perspective of both PREPA and the Commonwealth.”

Ambac, who is not a PREPA creditor, also filed an objection to the fair and reasonable language of the proposed order and also stated:

“The Court must not lose sight of the fact that this is not the typical case. Here, the entity proposing to hand out more than a billion dollars virtually interest free for up to 30 years is itself a debtor with nearly $18 billion dollars of debt. In light of the financial condition of the Commonwealth, and the potential impact the Proposed Loan will have on the Commonwealth’s ability to service its debt, it is a virtual certainty that it will be subject to scrutiny and attack by Commonwealth creditors.

The Proposed Loan is a sweetheart deal for PREPA that will deplete the Commonwealth of sorely needed cash and harm the Commonwealth’s creditors. Although Ambac agrees that PREPA must be provided with adequate liquidity, that liquidity cannot be provided on terms that are both inconsistent with PREPA’s actual needs and harmful to the Commonwealth and its creditors.”

The PREPA Ad Hoc Creditors Committee objected extensively to the DIP loan, including under the premise of adequate protection:

“There is no emergency need here other than the one created by the Commonwealth itself. Even if PREPA’s 13-week budget is a good faith estimate of its cash needs, the budget shows PREPA needs less than $77 million prior to a final hearing on the proposed loan.4 If the Commonwealth and its instrumentalities (collectively, the “Commonwealth Government”) were to pay what they owe to PREPA under past due bills for power provided during this Title III case, PREPA would have more than enough cash to operate without the Commonwealth Loan . . .

The Commonwealth controls PREPA; it controls its other instrumentalities. It has the money to make the loan – therefore it has the money to pay past-due bills. It also has the power to direct PREPA to bill other customers and collect from other customers. Instead, it has directed PREPA (alone among its instrumentalities) not to bill and not to collect from its customers – but to continue supplying power that is not being paid for.

Because the Commonwealth has required PREPA to provide power to customers who do not pay, thus forcing PREPA to take ever-increasing credit risk, the Commonwealth should be required to pay, rather than lend, the cost of this subsidy. Having PREPA’s bondholders bear the cost of power-for-free by granting a priming lien on their collateral would constitute a taking under the Fifth and Fourteenth Amendments of the United States Constitution. Armstrong v. United States, 364 U.S. 40 (1960).

Moreover, where the lender controls the borrower, and the need for the loan is created by the lender’s own defaults and the lender’s own constriction of the borrower’s revenues, the lender – the Commonwealth – is not extending credit in good faith under 11 U.S.C. § 364(e). The Oversight Board – which controls both the Commonwealth and PREPA – cannot show either the “immediate and irreparable harm” required by Bankruptcy Rule 4001(c)(2) or that the Commonwealth Loan passes the “entire fairness” standard that governs approval of selfinterested transactions. Therefore, the Commonwealth Loan cannot be approved.”

Solus, however, did support the loan, but with modifications:

“Based on PREPA’s publicly filed 13-week cash flow forecast, Solus recognizes that PREPA has an immediate liquidity need to meet its operating expenses because PREPA’s General Fund is projected to be negative by the week ending February 16, 2018.5 Until the CDL loans or other sources of funding become available, the DIP Facility appears to be the best (and only) option to pay for PREPA’s near-term operating expenses.

Nevertheless, Solus believes certain modifications to the DIP Facility are appropriate, including (i) limiting the amount of loans that can be borrowed on an interim basis to the amount that PREPA projects will be needed during this interim period (per the 13-week cash flow forecast); (ii) preserving PREPA’s setoff rights against amounts owed by the Commonwealth and its instrumentalities; and (iii) requiring notice and a hearing for any material amendments to the DIP Facility.”

After the first objections started coming in, the Board asked the Court to limit the scope of its review to only two issues, to wit “whether PREPA could obtain similar or better financing without providing to the Commonwealth a priming lien and superpriority claim, and whether PREPA’s bondholders, asserting a security interest in PREPA’s Revenue, are adequately protected.” Judge Swain, however, disagreed:

“The Court has considered all of the submissions carefully. The Scope Motion improperly seeks to curtail the scope of the Interim Hearing and is hereby denied.

In connection with the Omnibus Hearing, scheduled for February 7, 2018, the Court will conduct an Interim Hearing on the Financing Motion in the following two stages:

First, the Court will hear oral argument and any relevant evidence as to whether interim relief is “necessary to avoid immediate and irreparable harm” prior to a final hearing on the Financing Motion that will be held, in New York, on February 15, 2018.

Second, if the Court determines that interim relief is necessary, the Court will then hear oral argument, and any relevant evidence, on the merits of the Financing Motion.

The Debtor is directed to file, with its reply papers on the Financing Motion: (i) an updated budget that includes actual amounts for recent weeks, (ii) a declaration identifying and quantifying any additional sources of receipts that are not otherwise identified on the Debtor’s budget (e.g., insurance proceeds), and (iii) a supplement to the Financing Motion that includes a revised summary of the key terms of the credit agreement that satisfies the express requirements Federal Rule of Bankruptcy Procedure 4001(c)(1)(B).”

The Board quickly complied with the Court’s order and replied to the objections in an Omnibus order. It withdrew its request for interim financing given the final hearing date of February 15. The Board’s order also states:

“(i) clarify that material amendments must be approved by the Court after notice and a hearing; (ii) for creditors who wish to obtain information that do not participate in mediation, PREPA will address requests for information as received; and (iii) clarify that the Final Financing Order does not alter any setoff rights PREPA or any other party has, and all setoff rights are reserved.”

The Board continued its arguments that the only questions at hand were whether PREPA could obtain a better deal and the adequate protection of its bondholders.

In my opinion, it failed to explain why the Commonwealth and its dependencies could not pay PREPA what is owed or why the terms, which could not be obtained commercially, were fair and reasonable. Also, although PROMESA Section 305 prevents the Court from interfering with the Commonwealth’s use of its funds, it behooves the mind to believe that it cannot question whether it can lend to an entity that needs judicial permission to take a loan.

As several parties suggested, PREPA can continue operating with a much more modest loan that the one proposed by the Board. Why offer so much then? My take is that the Board and the Commonwealth, acting in concert, want to dramatically draw down the latter’s liquidity in order to convince the US Treasury to release the CDLs it wants. Moreover, since the CDLs, if and when they come, will likely be for an interest rate above what the Commonwealth is offering, the advantageous terms are illusory.

As the Judge Swain stated in her order, she will decide whether she will hear oral arguments on this issue, which runs counter to her practice of usually having them. Hence, we may or may not know on February 7 whether she will approve said financing.

HTA and GO Rulings

In addition to all this, Judge Swain issued two important opinions in cases involving HTA Bonds and GO Bonds. In the first case dealing with HTA, the Judge dismissed all claims, but those having to do with the claim of lien were dismissed for jurisdictional reasons, namely ripeness, and can be, as the Judge suggested, at a later time such as when the Plan of Adjustment is to be confirmed. Judge Swain determined that 11 U.S.C. § 922 does not require that revenue bonds be paid and hence are not subject to the automatic stay. Rather, she opined, it gave the debtor the chance to determine whether it would continue to pay the revenue bonds. Importantly, Judge Swain decided that bondholders were not the owners of the HTA funds or that they were held in trust for them. Since these are some of the allegations of the COFINA bondholders, this does not abode well for their claims.

As to the GO claims, again, the Judge dismissed for jurisdictional reasons the claims as to liens and priorities, clearly leaving them for another date. Although AFFAF’s Gerardo Portela claimed a “significant victory” for the Commonwealth, his exuberance is misplaced and a fundamental misunderstanding of Judge Swain’s ruling, but we’ve come to expect this from the Rosselló government. The Section 922 issue definitely is the ultimate question of liens and priorities is more important. In bankruptcy, liens must be paid. If these liens exist, the Plan of Adjustment must include their payment. In any event, GO bondholders filed a notice of appeal and the HTA bondholders will probably do the same.

Clearly, Judge Swain is taking a leaf out of Judge Rhodes book: Deny everything and force creditors into agreements in mediation. The difference here is that the Puerto Rico Fiscal Plan presented to the Board has no provision for debt payment. Also, the Board said on November 13, 2017, that there was no money for debt payment in the next 5 years. This position may have changed, however. During the Puerto Rico Chamber of Commerce Second PROMESA Conference, José Carrión was one of the speakers. When asked what was the Board’s position as to paying debt service, Mr. Carrión said: “The vision of the Board is that debt must be paid. . . We are basing ourselves on the premise that the right thing is that we should pay sustainable debt. Because if we don’t, we believe that we will not be complying with a fundamental part of our mandate, which is to ensure that Puerto Rico can regain access to the capital markets.”  At the same time, Carrion refused to answer a question on the validity of bondholder’s liens.

Does the above mean that the Board will now change its tune? I doubt it. This can very well mean that the Board will graciously offer its bond creditors “growth bonds”, to wit, a new instrument that will be paid when Puerto Rico starts growing at a particular clip. It is doubtful, however, whether bondholders will accept this, so litigation will continue up to the Plan of Adjustment and beyond. More and more of Puerto Ricans taxpayer money going to lawyers.

Mr. Carrión also made it clear that Puerto Rico does not deserve the power system it has and that PREPA must be sold. He stated that the Board is behind the Government’s intention of selling PREPA. I seldom agree with Mr. Carrión, but I wholeheartedly support the idea of selling PREPA. The devil, however, is in the details.

Finally, I found disturbing that Arc claims it is owed $19 million and Whitefish claims it is owed $100 million. How is Puerto Rico going to rise if those who are doing the dirty work are not paid? This reinforces the idea that PREPA must be sold, the sooner the better.

This summary is merely what I believe are the more salient motions and decisions in the cases. I receive an average of 20 filings each day so it would be impossible to summarize everything. If you have legal interest in these cases, I urge you to hire an attorney to represent you.