Welcome to your weekly Title III update for August 13, 2018. Many important things came about this week, but I discussed Judge Swain’s decision on the Commonwealth and Legislature’s complaints and the Commonwealth-COFINA deal in separate postings. The First Circuit, however, reversed Judge Swain in two cases and developments in and outside the Title III have developed.

In the first of the Circuit opinions, the Court (Judge Kayatta writing the opinion) decided that Peaje did not have a statutory lien—however, that did not end the discussion. The First Circuit affirmed Judge Swain’s determination not to allow evidence of any other type of lien in the adversary proceeding but hinted that if raised in another case, it could be litigated. In addition, Judge Kayatta reversed her findings, “that Peaje failed to establish irreparable harm and that defendants established adequate protection of Peaje’s interests.” Since the Court had already decided the main issue of the case, it did not have to analyze this topic. Nevertheless, anticipating further litigation, it reversed the “brief treatment” of these essential issues. I project either further litigation or a prompt settlement of these bonds by the Board.

In the second case where the Ad Hoc Group of PREPA bondholders requested the lifting of the stay to permit them to request from another court the appointment of a receiver, the First Circuit (Judge Kayatta also being the author) went one by one over Judge Swain’s reasons to deny the petition and reversed her on all of them. Of note is the following:

The Title III court did try to deflect these problems by stating that its refusal to lift the stay arose in the context of a request for a receiver, certainly a robust form of interference with the debtor’s finances and property. The implication – which the debtor’s brief makes express — is that perhaps the Title III court would lift the stay to allow another court to provide some other type of protection of collateral. But neither the Title III court nor the debtor points to any toehold in the language of Section 305 that would accommodate a distinction allowing the Title III court to lift the stay to allow another court to interfere with the debtor’s property sometimes but not others. Either Section 305 only bars the Title III court itself from interfering, or it bars that court also from lifting the stay to allow another court to do that which it cannot do. And it is only the latter, broader possibility that creates a situation in which the creditor is deprived of any means of protecting its property interest.

The Title III court also pointed out that Section 305 would not bar section 362(d) relief when the Oversight Board consents to the requested relief. But the principal aim of section 362(d)(1) is to protect the creditor when protection is needed, which is customarily when the debtor is not obliging. In short, saying that a creditor can get relief from the stay when the debtor’s representative consents effectively wipes out section 362(d)(1) precisely when it is most likely needed.

We also find no inconsistency between the apparent purpose served by Section 305 and a reading of that section as only barring the Title III court itself from directly interfering with the debtor’s powers or property. Like the Title III court, we read Section 305 as respectful and protective of the status of the Commonwealth and its instrumentalities as governments, much like section 904 of the municipal bankruptcy code respects and protects the autonomy of states and their political subdivisions. See 11 U.S.C. § 904. When a bankruptcy or Title III court acts directly, it impinges on that autonomy. But when it merely stands aside by lifting the automatic stay, it allows the processes of state or territorial law to operate in normal course as if there were no bankruptcy.

In addition, Judge Kayatta stated:

For these reasons, we hold that Section 305 does not prohibit as a matter of course the Title III court from lifting the stay when the facts establish a creditor’s entitlement to the appointment of a receiver in a different court in order to protect a creditor’s collateral should that protection otherwise be necessary and appropriate. Although we share the Title III court’s concerns about the deleterious impact that a robust receivership outside the Title III court’s control might have on the efforts of the Title III court to consolidate and adjust the debtor’s affairs, those concerns are best addressed in deciding whether, precisely to what extent, and for what purpose relief from the automatic stay might be granted. In other words, it might be possible to grant tailored relief for the creditor to seek a receivership provided that the receiver only take specific steps necessary to protect the creditor’s collateral. Further, concerns about moving the locus of the debtor’s protections outside the Title III court are greatly ameliorated by the fact that the Oversight Board itself can always, through consent, opt for a regime held more tightly within the federal forum’s direct control. (emphasis supplied)

To me, it is obvious the First Circuit is inviting Judge Swain to allow the receiver but to tailor what it can or cannot do. In their briefs and during oral argument, plaintiffs emphasized that this receiver would substitute the PREPA governing board and would not only be subject to the Board’s Fiscal Plan, but also to its budget and its general powers. Moreover, the last sentence above from Judge Kayatta hints that the Board could consent to a receiver with specific duties and responsibilities. After I heard the oral arguments in this case, I wrote that the First Circuit was likely to reverse Judge Swain. This may have been a catalyst for the Board’s agreement with PREPA bondholders. Food for thought.

José Ortiz, the new executive director of PREPA gave an interesting interview to Caribbean Business . Caribbean Business reports Ortiz admitted that the “Ad Hoc deal comprises $5 billion in unsecured debt. “And we negotiated with 35 percent of them [the creditors], or about $2.7 billion. The rest we are going to have to pay…that has not been said publicly,” he told Caribbean Business.’” Since the Board has admitted that this group does have a lien, I assume that Mr. Ortiz meant the insured bonds, which I pointed out before would probably get a better deal. Here, he is saying they will get paid in full and the only way this can be achieved is with an increase of the rates. WOW! So much for the Board’s insistence on a 20 cent per K/H rate!

Finally, on Friday, the Board sent a letter to Puerto Rico’s Secretary of Corrections, informing him that the Comprehensive Management Agreement with Correctional Health Services Corporation was in excess of $10 million, was not sent to the Board before signing, and hence was invalidated. Also, the letter states:

 Please be advised that the new contract, scheduled to commence October 1, 2018 with Physician HMO, Inc., must be submitted to the FOMB prior to execution and with sufficient time to review (e.g., two weeks minimum). It should be noted that given that the contract extension is expected to generate $840,000 in savings, it is the expectation of the FOMB that DCR must generate a further $4,159,731 of healthcare related savings through both procurement and personnel measures.

In addition, the submission from DCR, must answer the following questions:

1. Are “difficult recruitment employees” (as such term used in the original documentation) covered under the new agreement?

2. The Fiscal Plan requires that $3,309,151 savings be generated by the procurement of healthcare for inmates and a further $1,690,579 in personnel savings related to inmate healthcare for FY19. Please outline how you will achieve these savings – inclusive of the extension and new contract and other related contracts

3. The savings for FY20 increase to $13,236,605 for procurement of healthcare services for inmates and $6,762,317 for personnel related to these healthcare services. Can you please provide the pathway to deliver these savings?

Right after the Board announced it was not going to appeal Judge Swain’s decision on Zamot but announced it would require new Fiscal Plans, I said the Board wanted to rule from the Fiscal Plan. After Judge Swain’s decision on the Commonwealth and Legislature’s challenges, that is exactly what it is doing. I frequently criticize the Board for its actions but it is trying to put some limits to political spending in Puerto Rico. Politicians continue to believe that they can spend without limit, without understanding that at some point in the near future, debt service will recommence. Then what?

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.