Monday Update – October 22, 2018

Welcome to your weekly Title III update for October 22, 2018. Not much happened last week but this time a lot has happened and most of it of great importance. On October 19, the Board filed the COFINA Plan of Adjustment (96 pages), Disclosure Statement (621 pages) and the Motion for Title III settlement pursuant to Rule 9019 of Bankruptcy Procedure (98 pages).

I will not discuss the Disclosure Statement much or go into much detail on the other motions. I will, however, discuss the salient parts of the settlement and the Plan of Adjustment (“Plan”).

The Disclosure Statement divides creditors:

Claims are classified as follows:

(a) Class 1: Senior COFINA Bond Claims

(b) Class 2: Senior COFINA Bond Claims (Ambac)

(c) Class 3: Senior COFINA Bond Claims (National)

(d) Class 4: Senior COFINA Bond Claims (Taxable Election)

(e) Class 5: Junior COFINA Bond Claims

(f) Class 6: Junior COFINA Bond Claims (Assured)

(g) Class 7: Junior COFINA Bond Claims (Taxable Election)

(h) Class 8: GS Derivative Claim

(i) Class 9: General Unsecured Claims

(j) Class 10: Section 510(b) Subordinated Claims

Section 23.2 defines impaired classes, which are:

Impaired Classes to Vote: The Claims in Classes 1 through 9 are impaired and receiving distributions pursuant to the Plan, and are therefore entitled to vote to accept or reject the Plan; provided, however, that, based upon the elections made on the Ballot/Election Form, Classes 4 and 7 are deemed to have accepted the Plan. The Claims in Class 10 are impaired and not receiving a distribution pursuant to the Plan and, therefore, Class 10 is deemed to have rejected the Plan.

Hence, only classes 1-3, 5, 6, 8, and 9 get to vote on the Plan of Adjustment but it seems there is one class that will not vote in favor of the Plan. If one class does not vote in favor of the Plan of Adjustment, the Plan is not approved unless Judge Swain does a cram down, which seems to be the strategy here. What are 510(b) claims?

Section 510(b) Subordinated Claim: Any Claim, to the extent determined

pursuant to a Final Order, against COFINA or its Assets arising from or relating to (a) rescission of a purchase or sale of an Existing Security, (b) purchase, sale or retention of such a security, or (c) reimbursement, indemnification or contribution allowed under section 502 of the Bankruptcy Code on account of such Claim.

In PROMESA a cramdown may occur pursuant to section 314(c) if:

(c) CONFIRMATION FOR DEBTORS WITH A SINGLE CLASS OF CLAIMS.—If all of the requirements of section 314(b) of this title and section 1129(a) of title 11, United States Code, incorporated into this title by section 301 other than sections 1129(a)(8) and 1129(a)(10) are met with respect to a plan—

(1) with respect to which all claims are substantially similar under section 301(e) of this title;

(2) that includes only one class of claims, which claims are impaired claims; and

(3) that was not accepted by such impaired class, the court shall confirm the plan notwithstanding the requirements of such sections 1129(a)(8) and 1129(a)(10) of title 11, United States Code if the plan is fair and equitable and does not discriminate unfairly with respect to such impaired class.

The Plan of Adjustment has also something interesting as to conditions precedent:



25.1 Conditions Precedent to the Effective Date. The occurrence of the Effective Date and the substantial consummation of the Plan are subject to satisfaction of the following conditions precedent:

(a) Satisfaction of Certain Settlement Agreement Conditions: The

satisfaction of the “Conditions to Effective Date” set forth in Section 4 of the Settlement Agreement.

(b) Fiscal Plan Certification: The Oversight Board shall have determined

that the Plan is consistent with COFINA Fiscal Plan and shall have certified the submission of the Plan, and any modifications to the Plan through the Confirmation Date, in accordance with Sections 104(j) and 313 of PROMESA.

(c) Entry of the Confirmation Order: The Clerk of the Title III Court shall

have entered the Confirmation Order in accordance with Section 314 of PROMESA and section 1129 of the Bankruptcy Code, made applicable to the Title III Case pursuant to Section 301 of PROMESA, which shall be in form and substance reasonably acceptable to the Oversight Board, AAFAF, COFINA, the PSA Creditors and Bonistas, and the Confirmation Order shall provide for the following:

(i) Authorize COFINA and Reorganized COFINA, as the case may be, to

take all actions necessary to enter into, implement, and consummate the contracts, instruments, releases, leases, indentures, and other agreements or documents created in connection with the Plan;

(ii) Decree that the provisions of the Confirmation Order and the Plan are

nonseverable and mutually dependent;

(iii) Authorize COFINA and Reorganized COFINA, as the case may be, to (1) make all distributions and issuances as required under the Plan and (2) enter into any agreements and transactions, as set forth in the Plan Supplement;

(iv) Authorize the implementation of the Plan in accordance with its terms.

(v) The COFINA Bonds and the covenants by COFINA Reorganized COFINA and the Commonwealth, as applicable, for the benefit of the holders of the COFINA Bonds and COFINA Parity Bonds (including the Sales Tax, non-impairment, substitution of collateral and tax-exemption covenants set forth in Article XVI hereof), as provided in the New Bond Legislation and the New Bond Indenture, constitute valid, binding, legal and enforceable obligations of COFINA, Reorganized COFINA and the

Commonwealth, as applicable, under Puerto Rico and federal law, and the COFINA Portion (and any substitution of New Collateral on the terms and conditions provided for herein) is the property of Reorganized COFINA, free and clear of all liens, claims, encumbrances, and other interests of creditors of COFINA, Reorganized COFINA, the Commonwealth, or any instrumentality of the Commonwealth, other than liens and claims afforded to holders of COFINA Bonds under the Plan and the Confirmation Order

and shall not be “available resources” or “available revenues” of the Government of Puerto Rico, as used in Section 8 of Article VI of the Puerto Rico Constitution or as otherwise used in the Puerto Rico Constitution (whether construed pursuant to the Spanish or English version of the Puerto Rico Constitution);

(vi) Pursuant to the New Bond Legislation, the COFINA Bonds and COFINA Parity Bonds have been granted and are secured by a statutory first lien as described in Section 16.2 hereof, which Lien shall remain in full force and effect until the COFINA Bonds and COFINA Parity Bonds have been paid or satisfied in full in accordance with their terms;

(vii) The statutory lien on, and pledges of, COFINA Pledged Taxes as provided in the New Bond Legislation and the New Bond Indenture, as applicable, and all other provisions made to pay or secure payment of the COFINA Bonds and COFINA Parity Bonds are valid, binding, legal, and enforceable; including, without limitation, covenants not to impair such property, maintain available tax exemption and provide for the conditions regarding substitution of New Collateral as adequate protection for the

property rights conferred under the Plan and the Confirmation Order;

(viii) New Bond Legislation has been enacted to amend (or repeal and replace) the existing COFINA legislation to, among other things, (i) establish the independent COFINA board of directors referred to in Section 28.3 hereof, (ii) permit the Sales Tax, tax exemption, substitution of New Collateral and non-impairment provisions referred to herein and (iii) grant such other authorizations, if any, which may be required to implement the transactions contemplated herein, including, without limitation, (a) a

determination that COFINA is the owner of the COFINA Portion under applicable law,  with respect to the COFINA Bonds and COFINA Parity Bonds, in whole or in part, or otherwise in accordance with the Additional Bonds Test, (c) enhanced financial reporting, (d) events of default and imposition of certain measures upon an event of default, (e) submission of any disputes under the New Bond Indenture to the jurisdiction of the Title III Court, and (f) other customary terms, conditions, and covenants for

similarly structured and supported municipal bonds that are acceptable to the PSA Creditors. To the extent applicable, the foregoing terms and such other terms as may be agreed upon shall be included in the New Bond Indenture;

(ix) The transfer of the COFINA Portion (and any substitution of New

Collateral on the terms and conditions provided for herein) pursuant to the Plan is appropriate and binding and specifically enforceable against Reorganized COFINA and the Commonwealth, their respective creditors and all parties in interest in accordance with the Plan, including, without limitation, because the transfer of the COFINA Portion created in Reorganized COFINA an ownership interest in such property (and any

substitution of New Collateral on the terms and conditions provided for herein) and is a valid provision made to pay or secure payment of the COFINA Bonds;

(x) The deemed acceleration of the Existing Securities on the Effective Date

(i) in connection with the treatment of Junior COFINA Bond Claims (Assured) and (ii) if requested by Ambac and/or National prior to the commencement of the Disclosure Statement Hearing, in connection with the Senior COFINA Bond Claims (Ambac) and the National Election, respectively; provided, however, that, such deemed acceleration shall not affect, nor shall it be construed to affect, any issues regarding the existence of a “default” or an “event of default” with respect to the Existing Securities which were pending prior to the Effective Date;

(xi) The Confirmation Order is full, final, complete, conclusive and binding

upon and shall not be subject to collateral attack or other challenge in any court or other forum by (1) COFINA, (2) Reorganized COFINA, (3) the Commonwealth, (4) each Person or Entity asserting claims or other rights against COFINA, the Commonwealth or any of its other instrumentalities, including each holder of a Bond Claim and each holder of a beneficial interest (directly or indirectly, as principal, agent, counterpart, subrogee,

insurer or otherwise) in respect of bonds issued by COFINA, the Commonwealth, or any of its other instrumentalities or with respect to any trustee, any collateral agent, any indenture trustee, any fiscal agent, and any bank that receives or holds funds related to such bonds,  whether or not such claim or other rights of such person or entity are impaired pursuant to the Plan and, if impaired, whether or not such person or entity accepted the Plan, (5) any other Person or Entity, and (6) each of the foregoing’s respective heirs, successors, assigns, trustees, executors, administrators, officers, directors, agents, representative, attorneys, beneficiaries or guardians; and (xii) The Plan is consistent with the COFINA Fiscal Plan and satisfied Section 314(b)(7) of PROMESA.

This section raises several questions. The Plan states that the Commonwealth cannot question the existence of COFINA again. However, what if ten years from now, the new government wants to use all of the COFINA funds and claims that the deal violates the Puerto Rico Constitution? Most specifically, Article VI, section 2, which was invoked by the UCC in its claim that COFINA is unconstitutional? What if in the future Picture Rico issues GO’s, it defaults, and then its bondholders claim that COFINA is unconstitutional for it violates Article VI, section 2, arguing that the sales tax is an available resource within the meaning of Article VI, section 8 of the Puerto Rico Constitution? These claims were made in the Commonwealth v. COFINA litigation and can be raised again.

Moreover, the Legislature needs to legislate certain laws in order for this Plan to work. With the Puerto Rico Legislature fighting both with the Board and the governor, will that happen? Will it refuse to surrender its power to tax, giving COFINA property rights to its portion of the SUT?

My point is that the Plan of Adjustment does not in and of itself bury claims against COFINA forever. There would be a judgment as to its validity but it is not a judgment by the Puerto Rico Supreme Court or even by the First Circuit, hence it is open to attack in the future. And this is only what I can think of. I am sure that many other ideas can be devised to question the decision if it so benefits lawyers’ clients.

In addition, on Wednesday October 17, the UCC filed an Urgent Motion Of Commonwealth Agent Requesting Entry Of Order Establishing Hearing Date And A Briefing Schedule For Motion To Enforce Stipulation And Order Approving Procedure To Resolve Commonwealth-Cofina Dispute In Title Iii CASE OF COMMONWEALTH OF PUERTO RICO. The UCC avers:

As the Commonwealth Agent repeatedly advised the Court and parties-in-interest over the last few months,4 the Agreement in Principle was approved by the Commonwealth Agent in reliance upon the May 30, 2018 certified fiscal plan. The Oversight Board revised the May 30 fiscal plan’s long-term projections materially downward in connection with its certification of the June 29, 2018 fiscal plan, thus rendering, in the opinion of the Commonwealth Agent, a settlement along the lines of the Agreement in Principle neither feasible nor desirable.

Indeed, after taking into account the COFINA debt service under the COFINA Settlement, the projected cash flows under the June 29, 2018 certified fiscal plan would reflect an approximate $28 billion (in nominal dollars) deficit for the Commonwealth and that deficit amount assumes that no Commonwealth creditor would receive a plan distribution. To add another point of reference, the June 29 certified fiscal plan reduced the 40-year cash flow as presented in the May 30 certified fiscal plan by an amount that is several billions of dollars more than the total proceeds to be received by the Commonwealth under the Agreement in Principle. The Commonwealth Agent, when determining the appropriate action with respect to the Commonwealth-COFINA dispute may “consider what result, through litigation, negotiation and mediation, will render [the Commonwealth” best able to achieve fiscal responsibility and access to capital markets, in the judgment of the [Commonwealth] Agent. Stipulation, ¶ 4g. Accordingly, the Commonwealth Agent believes that as long as the current fiscal plan is in effect (or a fiscal plan which suffers from the same deficiencies), neither a COFINA settlement based upon the Agreement in Principle nor the COFINA Settlement can be executed and/or consummated. . .

As set forth below, because the Oversight Board has no authority to proceed with the Rule 9019 Motion absent the Commonwealth Agent’s agreement to a settlement under the Stipulation, the issue of the Oversight Board’s violation of the Stipulation should be heard prior to the merits of the Rule 9019 Motion. . .

The Oversight Board does not have the authority to seek approval of a COFINA settlement in the Commonwealth’s Title III Case unless (1) the Oversight Board does so as part of confirmation of a Commonwealth plan of adjustment that incorporates such settlement, see Stipulation, ¶ 4.n, or (2) the settlement in question was negotiated by the Agents. See id. ¶ 4.j. Because the Oversight Board is not seeking confirmation of a Commonwealth plan of adjustment nor approval of a settlement negotiated by the Agents, the Rule 9019 Motion does not comply with the Stipulation.

Undeterred by the UCC’s motion, the Board filed a Motion Pursuant To Bankruptcy Rule 9019 For Order Approving Settlement Between Commonwealth Of Puerto Rico And Puerto Rico Sales Tax Financing Corporation. At footnote 2, it comes out swinging and says:

A debtor under PROMESA Title III is not required to seek court approval of settlements pursuant to Bankruptcy Rule 9019, and by filing this Motion, the Commonwealth does not waive any argument as to whether any other

settlement or compromise entered into by the Commonwealth is subject to the requirements of Bankruptcy Rule 9019. See In re City of Stockton, 486 B.R. 194, 195-200 (Bankr. E.D. Cal. 2013) (“11 U.S.C. § 904 gives a chapter 9 debtor freedom to decide whether to ignore or to follow the Rule 9019 compromise-approval procedure . . . .”); PROMESA § 305 (incorporating similar provisions as 11 U.S.C. § 904); see also In re City of Detroit, 524 B.R. 147, 198-99 (Bankr. E.D. Mich. 2014) (recognizing that “the City exercised its right under § 904 not to request Court approval of this memorandum of understanding.” (citing In re City of Stockton, 486 B.R. 194, 199 (Bankr. E.D. Cal. 2013)). The Commonwealth has elected to file this Motion to approve the Settlement as part of the orderly administration of the Commonwealth’s Title III Case, as a condition of the Settlement Agreement, and in conjunction with the Amended and Restated Plan Support Agreement for COFINA, dated as of September 20, 2018, where the Commonwealth agreed to seek approval of the Settlement Agreement contemporaneously with the confirmation of COFINA’s plan of adjustment.

I don’t think even the Board believes this one. This is the first settlement and it needs the Court’s imprimatur even if it is for appearances purposes. Further in the motion, the Board states:

On August 13, 2018, the Commonwealth Agent filed an informative motion indicating that it was not prepared to enter into a definitive agreement for the Agreement in Principle because the Oversight Board’s most recent certified Fiscal Plan for the Commonwealth was dramatically different than when the Agreement in Principle had been reached. Adversary Proceeding, ECF No. 540.

Based upon conversations with the COFINA Agent, the Oversight Board, as representative of the Commonwealth in its Title III Case pursuant to section 315(b) of PROMESA, pursuant to the Oversight Board’s authority to negotiate and mediate with creditor to achieve a Authority, Act 2-2017, negotiated and executed the Settlement Agreement with the COFINA Agent. settlement of the Commonwealth-COFINA Dispute pursuant to Paragraph 4(n) of the Procedures Order, together with AAFAF, as the entity authorized to act on behalf of the Commonwealth under the authority granted to it under the Enabling Act of the Fiscal Agency and Financial Advisory Authority, Act 2-2017, negotiated and executed the Settlement Agreement with the COFINA Agent.

In other words, the Board ignores the UCC motion and tells the Court, “I can settle this on my own.” Again we see the Board and the UCC butting heads. Of course, all this may be moot. On Tuesday October 23, the Board will certify a new Fiscal Plan for the Commonwealth and the UPR which could allay any fears the UCC may have had, but the tone of the motion negates this idea. In any event, we will know more on Tuesday. Given the importance of this first big settlement, I am sure the Board will fight tooth and nail to have it approved.

In addition, both COFINA and all other debtors in Title III filed a Motion for Entry of an Order (a) Approving limited Omnibus Objection Procedures, (b) Waiving the Requirement of Bankruptcy Rule 3007(e)(6), and (c) Granting Related Relief. The motion is very detailed and any creditor who filed a proof of claim in the cases MUST read it carefully. Prime Clerk received 165,333 claims and the Board is preparing the procedure to object to some (probably the majority) of those claims. Two things must be noted, however. Each Omnibus will include objections for 500 claims and if objections are not countered within 30 days, the objection may, and probably will, be granted by the Court. This procedure will probably be approved by the Court and one must look at it carefully.

Finally, there will be an Omnibus hearing on October 25, 2018. I will be there and if anything important transpires, will try to have a new posting.

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.