Welcome to your weekly Title III update for September 10, 2018. Important things came about in the case, almost all related to the UCC.

The UCC came out swinging in its reply to the Board and AAFAF’s opposition to their stay motion. It argued:

As discussed below, the GDB Restructuring does not involve the exercise of the “governmental and political powers” reserved to the Commonwealth under section 303 or protected from Court interference under section 305. Moreover, it is impossible for an order enforcing the automatic stay to “interfere” within the meaning of section 305 of PROMESA because such an order merely recognizes the application of a stay that is already in force, having arisen either “automatically” by act of Congress or consensually by prior order of this Court (in the case of the Stay Order).

The Oversight Board’s remaining arguments also fail. Contrary to the Oversight Board’s assertion that the Title III Debtors consented to the GDB Restructuring, the Title III Debtors cannot consent to annul the automatic stay. Further, the Oversight Board’s assertion that the Title III Debtors lack net claims against GDB is irrelevant, unsupported, and shows only that the Oversight Board is hopelessly conflicted and uninterested in acting as a true fiduciary for the Title III Debtors. . .

Debtors cannot consent to annul the automatic stay. Further, the Oversight Board’s assertion that the Title III Debtors lack net claims against GDB is irrelevant, unsupported, and shows only that the Oversight Board is hopelessly conflicted and uninterested in acting as a true fiduciary for the Title III Debtors. (Bold added)

The motion does not stop there. It claims:

More fundamentally, the actions taken by GDB pursuant to the GDB Restructuring consist of more than just the use, sale, or lease of property as described in section 363; they are actions specifically designed to enforce the GDB’s claims against the Title III Debtors and to disallow the claims of the Title III Debtors against the GDB, including by handing out releases to the GDB Releasees.

At the end of the motion, the UCC further abounds on the issue of the Oversight Board’s fiduciary duty:

Indeed, the Oversight Board’s premature conclusion that the Title III Debtors have no net claims against the GDB is profoundly troubling given the Oversight Board’s role in the Title III cases. The Oversight Board is the Title III Debtors’ trustee and representative, a fiduciary charged with maximizing the Title III Debtors’ assets. Yet, without any analysis, it is eager to abandon potential claims against GDB in order to facilitate the GDB Restructuring.

This is particularly troubling given that the Oversight Board’s own investigator has produced a report that discusses, among other things, how GDB officials directed the Commonwealth to borrow additional debt even as they were plotting for a restructuring by hiring restructuring counsel and restructuring financial advisors before the issuance of the $3.5 billion GO bond offering in March 2014 (which they failed to disclose to the general market). These same GDB officials controlled the 2014 GO offering, as they did for all of the Puerto Rico bond offerings, utilizing proceeds of such offering to repay the GDB, so that GDB and its directors and officers would be off the hook from any liability—all of this at a time when both the Commonwealth and the GDB appeared to be at least undercapitalized, if not insolvent.

Want more? At footnote 68, the UCC says:

The Oversight Board has argued elsewhere that section 315(b) of PROMESA simply makes the Oversight Board the representative of the Debtor in a title III but does not make the Oversight Board a fiduciary. See Motion of the Financial Oversight and Management Board for Puerto Rico to Dismiss Plaintiffs’ First Amended Adversary Complaint Pursuant to Fed R. Civ. P. 12(B)(1) and 12(B)(6), at 30 n. 15, Pinto Lugo v. United States [Docket No. 36 in Adv Proc. No. 18-041-LTS]. The Supreme Court has recognized that a “trustee for a debtor out of possession” owes fiduciary obligations to creditors and shareholders.

This motion is not all the news. The UCC also filed an Informative Motion Regarding the Investigator’s Final Report, essentially saying the investigator’s work is not up to par. At the conclusion, the UCC states:

The Committee wishes to reiterate that it is not dismissive of the work performed by the Investigator. Moreover, the Committee continues to study the Final Report, and, while attempting to minimize costs, will likely file another motion (or amend the Committee’s prior Rule 2004 Motion) to the extent necessary to do so to cover areas of inquiry that were either completely ignored or partially covered by the Final Report. However, the Committee makes this filing only to highlight for the Court and the various parties that the Final Report is not the end of the matter, that its findings remain subject to question, and that—as the Final Report acknowledges—much more work remains necessary to obtain full transparency in these Title III cases.

On Thursday, September 6, 2018, the UCC filed an adversary proceeding against the Commonwealth, AAFAF, the GDB and the Board seeking to stop the bank’s Title VI proceeding. The complaint states:

As a result of the fiscal crisis, GDB was operationally wound down and ceased operations more than a year ago, but former GDB insiders remain involved in all aspects of Puerto Rico’s restructuring efforts. Indeed, current and former GDB insiders are now (i) members of the Oversight and Management Board for Puerto Rico (the “Oversight Board”), (ii) officers of the Puerto Rico Fiscal Agency and Financial Advisory Authority (“AAFAF”), (iii) managing directors of AAFAF’s financial advisor, or (iv) the executive director of a GDB bondholder group supporting the transaction (the so-called “Bonistas Del Patio”).

These individuals would prefer that this Court “bury” GDB before the Committee and other interested parties have the opportunity to perform the autopsy. To that end, they are attempting to do what PROMESA does not allow—restructure all of GDB’s debts and liquidate all of its assets outside of Title III pursuant to a “home-baked” chapter 7 equivalent known as the Government Development Bank of Puerto Rico Debt Restructuring Act (the “GDB Restructuring Act”), which was enacted specifically to effectuate the restructuring of GDB and all related transactions (collectively, the “GDB Restructuring”).

The complaint’s requests for relief are:

• On the First Cause of Action, declaring that the GDB Restructuring Act is invalid and unenforceable because it amounts to a de facto bankruptcy law that is inconsistent with Title III of PROMESA;
• On the Second Cause of Action, declaring that the GDB Restructuring Act is inconsistent with Section 601(m)(2) of PROMESA and therefore preempted pursuant to Section 4 of PROMESA insofar as it purports to release rights and claims of the Title III Debtors unrelated to any Bond affected by the purported Qualifying Modification, including any claims against the GDB Releasees;
• On the Third Cause of Action, declaring that the GDB Restructuring Act is inconsistent with the automatic stay and therefore invalid and unenforceable in accordance with Section 4 of PROMESA insofar as it purports to release the Title III Debtors’ rights and claims against the GDB Releasees;
• On the Fourth Cause of Action, declaring that the GDB Restructuring Act is inconsistent with PROMESA and therefore invalid and unenforceable in accordance with Section 4 of PROMESA insofar as it would deprive creditors of the Title III Debtors of their right under Section 926(a) of Bankruptcy Code to seek appointment of a trustee to pursue Avoidance Claims;
• On the Fifth Cause of Action, declaring that the GDB Restructuring Act is inconsistent with PROMESA Section 601(n)(2) and therefore invalid and unenforceable in accordance with Section 4 of PROMESA insofar as it purports to deprive the Title III Debtors of standing they would otherwise have under PROMESA to challenge the unlawful application of Title VI;
• On the Sixth Cause of Action, declaring that the GDB Restructuring Act is invalid and unenforceable insofar it purports to deprive the Title III Debtors of standing they would otherwise have in federal court;
• On the Seventh Cause of Action, declaring that the GDB Restructuring Act is inconsistent with PROMESA and therefore invalid and unenforceable in accordance with Section 4 of PROMESA because a core purpose of the GDB Restructuring is to ensure compliance with a Fiscal Plan that is not in compliance with PROMESA Section 201(b)(1)(M).
• On the Eighth Cause of Action, that the GDB Restructuring Act is invalid and unenforceable insofar as it violates Section 303 of PROMESA;

As if this were not enough, the UCC filed a motion to be appointed the representative of the Title III debtors, claiming, with good reason, conflicts of interest in AAFAF, the Board, the GDB and GDB Bondholders (i.e. Bonistas del Patio). The UCC requests from the Court the following:

This Court should exercise its broad equitable powers and grant the Committee derivative standing to act on behalf of the Title III Debtors with respect to the GDB Restructuring for the limited purpose of maintaining the status quo and preserving their rights and claims. This Court should also confirm that, in addition to having derivative standing to act on behalf of the Title III Debtors, the Committee separately has the ability to appear in the Title VI case for the limited purpose of arguing that it has direct standing to be heard in that case on behalf of the Title III Debtors’ unsecured creditors.

The motion minces no words in describing the different conflicts of interest involved in the GDB restructuring:

GDB and AAFAF share the same officers, several of whom were GDB officers prior to the creation of AAFAF in 2016. GDB and AAFAF also share the same counsel, and the same financial and restructuring advisor.

Among the financial advisor personnel advising GDB and AAFAF are (i) a senior managing director who was president of GDB from 2011 to 2012 and Senior Vice President and Director of Investment Banking at Santander Securities Corporation, which advised GDB on numerous government debt offerings, and (ii) a senior managing director who was Executive Vice President-Financing and Treasury of GDB from 2009 to 2011 and then CEO and vice chairman of Santander Securities LLC. The financial advisor engagement team also includes a managing director who served as a senior vice president and special advisor to the president of GDB from 2013 to 2016. All would get a release for their prior GDB role pursuant to the GDB Restructuring.

Furthermore, at the time the GDB Restructuring was being orchestrated, the executive director of AAFAF was a former vice president of investment banking at Santander Securities LLC, which acted as an underwriter in numerous Puerto Rico debt offerings, all of which were controlled by GDB.

The Oversight Board, which certified the relevant terms of the RSA as a “Qualifying Modification,” is also conflicted, as is its counsel. The Oversight Board is conflicted because two of its members are former GDB presidents (who both would get a release pursuant to the GDB Restructuring) and because it is the statutory representative of the Title III Debtors. And counsel to the Oversight Board was engaged by GDB starting in January 2014 “to provide specialized legal services with respect to the evaluation of potential liability management transactions as may be requested by the [GDB].” These “liability management transactions” (i.e., restructuring and/or bankruptcy services) included drafting the Puerto Rico Corporation Debt Enforcement and Recovery Act30—the Commonwealth bankruptcy statute that was ultimately struck down by the U.S. Supreme Court. Such engagement, which was signed prior to the Commonwealth’s $3.5 billion general obligation bond offering in 2014, was never disclosed to the general market.

Even the GDB Bondholders that are signatories of the RSA are tainted by conflict. The executive director of Bonistas del Patio (the bondholder advocacy group that represented bondholders in the restructuring negotiations) was president of GDB from 2007 to 2008, and therefore would be getting a release pursuant to the GDB Restructuring. He was also an executive director at Morgan Stanley, which played an instrumental role several Puerto Rico bond offerings with which he was directly involved. Moreover, the board of directors of the Corporacion Publica para Supervision y Seguro de Cooperativas (“COSSEC”), which regulates and supervises the Cooperatives, authorized and encouraged them to buy GDB bonds in 2009 and then authorized them to buy more in 2012. COSSEC’s board of directors includes representatives of GDB and previously included two of the former GDB officers who have been advising GDB and AAFAF as financial advisors.

If the purported Qualifying Modification is approved, the very people who orchestrated the GDB Restructuring will have succeeded in releasing themselves, GDB, and others of any liability to the Title III Debtors relating to GDB’s role in Puerto Rico’s financial crisis, including any liability based on “unknown” facts. (Bold in the original)

Finally, the UCC and Bettina Whyte filed a motion requesting an extension until October 3 for holding in abeyance any motions on their case on COFINA. The UCC mentions its motion where it states that the numbers in the Commonwealth Fiscal Plan cannot cover COFINA payments. However,given that a new Fiscal Plan will be certified in September, it is willing to wait. The question is what happens if the new Fiscal Plan does not pass the UCC’s muster?

Paraphrasing Walter Donovan in Indiana Jones and the Last Crusade, “the UCC has declared war on AAFAF and the Board.” I don’t know what Judge Swain will think or do about these motions but they are important and the factual allegations are well supported.

We will probably know more on September 13 during the Omnibus hearing—although I am sure Judge Swain will want a full briefing before the oral arguments, which may delay the Title VI procedure. During the hearing, Judge Swain will hear arguments on the UCC’s motion on the stay request on the Title VI, which is opposed both by AAFAF and the Board. Her decision may give us some idea of which way she leans, or not. Stay tuned.

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.