May 3, 2019 / 8:38 PM / 2 months ago

Puerto Rico oversight board sues over bond payment pledge

May 3 (Reuters) - Puerto Rico’s longstanding pledge to pay off about $13 billion of outstanding general obligation (GO) bonds is just an unsecured promise, according to the latest lawsuits brought by the bankrupt U.S. commonwealth’s federally created financial oversight board.

Its action capped off a barrage of litigation this week that unsettled the $3.8 trillion U.S. municipal market, where states, cities, schools and other issuers sell debt.

Complaints were filed in U.S. District Court in Puerto Rico late on Thursday against GO bondholders, including mutual funds and other institutional and individual investors who contend they have a lien on the island government’s revenue.

The board countered that Puerto Rico’s pledge of its “good faith, credit and taxing power” is “nothing more than a promise to pay” and that promise is not secured by any of the government’s property. Even if a lien existed under local law, it would be avoidable under bankruptcy law, according to the lawsuits.

Defendants included BlackRock Financial Management, whose representative declined to comment.

The lawsuits were filed ahead of the second anniversary of Puerto Rico’s May 3, 2017, bankruptcy, which seeks to restructure about $120 billion of debt and pension obligations.

They followed other litigation this week against hundreds of government vendors, as well as Wall street banks and firms that participated in the island’s bond sales. The board also went after certain GO bondholders in an attempt to recoup past debt service payments.

James Spiotto, managing director of Chapman Strategic Advisors and a municipal bankruptcy expert, called the board’s attack against liens a probable negotiating ploy.

“Clearly, there’s not a lot alleged as far as facts in there,” he said on Friday.

While detailing “significant risks” for investors, the prospectus for $3.5 billion of GO bonds Puerto Rico sold in 2014 pointed to the commonwealth’s “irrevocable pledge” of its credit and taxing power to pay off the debt. It also stated that the bonds have a “first claim on available commonwealth resources” under Puerto Rico’s constitution.

In January, the oversight board filed a motion seeking to invalidate more than $6 billion of GO bonds - the 2014 issue and bonds sold in 2012 - on the basis they were issued in violation of constitutional debt limits.

Analysts said the litigation involving GO bonds could harm the municipal market and make it harder for the board to meet its mandate under the 2016 federal PROMESA Act to restore Puerto Rico’s capital markets access.

“It will cast a dark cloud over any other full-faith general obligation credit in the future if they get away with it,” said Richard Ciccarone, the head of Merritt Research Services.

Axios Advisors told clients: “Even if the board is successful in these efforts, which we seriously doubt, the commonwealth will be paying the price later on when it tries to access the capital markets again.” (Reporting by Karen Pierog in Chicago, additional reporting by Luis Valentin Ortiz in San Juan Editing by Matthew Lewis)

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