Hedge Funds to Benefit Most in Puerto Rico Proposal, Sims Says

Puerto Rico Electric Power Authority bondholders would be hit with a 33 percent loss of interest income over eight years under an investor group’s restructuring proposal, according to Richard Larkin at Herbert J Sims & Co.

“If that’s the deal that’s struck, clients that bought these bonds at par are getting sandbagged,” Larkin, director of credit analysis in Boca Raton, Florida, said in a telephone interview.

A group representing owners of 40 percent of the securities, including OppenheimerFunds Inc. and hedge fund BlueMountain Capital Management LLC, unveiled a $8.1 billion debt exchange Thursday that would delay payments for several years and give the junk-rated agency, called Prepa, $2.5 billion to upgrade the utility’s system. The agency called the plan unworkable.

Investors would receive $1.96 billion of interest payments from 2016 through 2023, according to the bondholder plan. That’s about $984 million, or 33 percent, less than what Prepa is currently obligated to pay on interest during that time, Larkin wrote in a report Friday.

That may be fine for distressed-debt investors who purchased the securities at 60 cents on the dollar or less, Larkin said. Other bondholders who bought the debt at full value would feel some pain, he said.

Forbearance Agreement

Under the proposal, debt-service payments would be suspended on existing securities and interest costs reduced by selling new obligations that would be repaid from a surcharge on Prepa’s customers. Those changes would free up about $2.5 billion through 2025 to modernize plants and diversify fuel sources for commonwealth’s main electricity provider.

Puerto Rico and its agencies racked up $72 billion of debt by borrowing to fix budget deficits as the island’s economy has struggled to grow since 2006. Governor Alejandro Garcia Padilla last month said the commonwealth can’t afford to pay its debts, igniting concern an island issuer will default. Officials are set to draw up a restructuring proposal by Sept. 1.

The utility in August 2014 signed a contract with investors, banks and bond insurers that keeps negotiations out of court, called a forbearance agreement. Prepa must craft a debt-restructuring plan by Sept. 1 or that accord will expire. The utility avoided defaulting on a July 1 bond payment with the help of a loan from bond insurers.

The utility’s bonds rallied following news of the latest bondholder proposal. Prepa debt maturing July 2042 traded Friday at an average 57.2 cents on the dollar, the highest since June 8 and up from 49 cents on Wednesday, data compiled by Bloomberg show. The average yield was 9.4 percent.

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