By Michael Connor and Tom Hals
March 14 Puerto Rico pulled off a blockbuster of
a bond sale this week, sparing it from the threat of imminent
default, but few who have followed the Caribbean island's
financial troubles doubt that a massive restructuring is in its
Not everyone agrees on what such a workout would look like,
though. Because the U.S. territory is not eligible for
bankruptcy, some think restructuring its $70 billion debt load
could look more like the experiences of countries such as
Argentina than U.S. cities like Detroit.
The sale of $3.5 billion in new bonds this week delays a
financial reckoning, but the island's economic problems still
loom large. It has seen a steady exodus of residents to the
mainland United States and has been in recession since 2006.
"Short of some economic renaissance in Puerto Rico, you're
looking at a restructuring of the debt," predicted portfolio
manager Nick Venditti of Thornburg Investment Management in
Santa Fe, who said a restructuring might come by year end.
Market reaction after the deal this week was bullish, with
the new single-maturity GO rising sharply on Wednesday in heavy
volume, according to Municipal Market Data.
The 2035 GO bonds traded on Thursday with an average yield
of 8.49 percent, compared to 8.727 at Tuesday's sale.
Some strategists and lawyers said the upbeat market reaction
might be because documents authorizing the new bonds give New
York courts legal jurisdiction in any disputes.
"To be able to get into U.S. courts and be a squeaky wheel
will position the new GO holders," said Suzzanne Uhland, a
bankruptcy attorney from O'Melveny & Myers in San Francisco.
Hedge funds dominated this week's sale. Many municipal bond
mutual funds stood aside, citing restrictions on holdings of
junk-rated debt. Hedge funds tend to have more appetite for risk
and boast deep pockets necessary for any extended court battles.
STAYING OUT OF COURT
Some bankruptcy lawyers and investment strategists, however,
expect any restructuring of the island's debt will be done
Its lawyers could argue its U.S. commonwealth status
shelters it from many bondholders' claims, since the 11th
amendment of the U.S. constitution grants sovereign immunity
from lawsuits in federal courts to state governments and U.S.
possessions such as Puerto Rico.
But such a move would threaten to shut the island out of
capital markets for years to come.
Instead, the Puerto Rican government will likely try to
hammer out revised terms in closed-door bargaining, according to
bankruptcy lawyer Edward Tillinghast at Sheppard, Mullin,
Richter & Hampton in New York.
As a debtor, Puerto Rico is more a cash-strapped country
than Jefferson County, the Alabama local government that last
year handed Wall Street banks losses topping $1 billion in a
court-approved settlement, Tillinghast said.
Creditor losses in Detroit, the former industrial giant that
last July filed for U.S. bankruptcy-court shelter with $18
billion in bonds and other debts, are expected to ultimately
dwarf those from Jefferson County.
"When you look at some restructurings in the past, in
Argentina and Brazil and other South American and Latin
countries, the likelihood is they (Puerto Rico) would try to
improve their economy and address their obligations by both
improving revenues and restructuring some debt to give them time
and relax payments terms," Tillinghast said.
Any restructuring would likely include extending maturities,
changes in interest rates, and debt reductions, said Anthony
Valeri at LPL Financial in San Diego, who estimated the net $3.2
billion Puerto Rico got from its sale this week would sustain
the government for about two years.
Economic revival is key to Puerto Rico paying its debts,
investors and analysts said.
Years of deficit spending and under-funded public pensions
on the island of 3.67 million have swelled debt levels to some
$70 billion, dwarfing that of any U.S. state on a per capita
The government has hiked taxes and pension reform is under
court review. But its pledge to close a $650 million budget gap
by mid-2015 seems a tall order. Cutting the budget by that much
would suck demand from an already sick economy by reducing
government spending and aggravating unemployment already more
than 15 percent.
Puerto Rico policymakers routinely pledge to honor their
debt payments, which Moody's Investors Service in January
calculated would total $18.35 billion through 2018 on both
tax-supported bonds and those backed by dedicated revenue flows.
But last week they touched off a wave of restructuring
worries by hiring workout experts Millco Advisors L.P. to advise
the Government Development Bank, the island's fiscal agent whose
liquidity levels worry many investors.
Officials in San Juan said the firm was not consulting on
restructuring the island's bonds but was evaluating possible
funding sources for the government.
Policymakers may choose to target only some of the $70
billion of outstanding bonds issued by the commonwealth and more
than a dozen agencies and institutions, lawyers and strategists
said. While the island's main GO rating was cut to junk, its
COFINA sales tax agency and other issuers are investment grade.
But bankruptcy attorney Uhland said, "We think they are most
likely to announce a moratorium on all debt payments and then
force a consensual restructuring."
Washington policymakers, who consistently say there are no
plans for aid to Puerto Rico, might be open to creating an
oversight agency as a possible debt restructuring approaches,
according to James Spiotto, managing director of workout
consultants Chapman Strategic Advisors LLC in Chicago.
"There are precedents, in New York City in the 1970s, and in
DC (District of Columbia)," Spiotto said. "A restructuring just
gets you from point A to point B. What they need is a recovery
plan that creates jobs and brings people back."
Spiotto said the federal government could take many steps
short of a large and politically unpopular bailout of Puerto
Rico, such as restoring incentives for mainland companies to
invest on the island and guaranteeing payments of island debt.
Indeed, some on the island trace its economic problems to
the expiration in 2006 of federal tax breaks for the parent
companies of Puerto Rico-based U.S. manufacturers. Puerto Rico
entered recession that year and has yet to exit.