Puerto Rico Files for Historic $70 Billion Debt Restructuring

  • Court option was extended in U.S. rescue law enacted last year
  • The proceedings will dwarf Detroit’s record-setting bankruptcy

Miller Buckfire MD Says Title III Will Help Puerto Rico

Puerto Rico has finally and officially filed for protection from its creditors in what amounts to the biggest municipal bankruptcy in U.S. history.

Now comes the real reckoning. After years of wrangling in Washington, San Juan and on Wall Street -- a fight that has pitted hedge funds against some of the poorest U.S. citizens -- a federal judge may at last help decide who gets paid, and how much.

For both sides, the showdown will mean pain, as well as opportunity. Bondholders are certain to take a hit, with the commonwealth saying it can’t pay in full. Puerto Rico, meantime, will find no easy fix for an economic crisis that has driven many thousands of its citizens to the U.S. mainland during a decade-long recession and years of borrowing to cover budget gaps.

“An orderly process for working out Puerto Rico’s debt trouble provides the best hope for Puerto Rico and also the best chance for most creditors to emerge better off,” Brad Setser, senior fellow at The Council on Foreign Relations, said in a telephone interview. “But clearly there’s going to be fights between different groups of creditors.”

The commonwealth is asking a federal court to force creditors to take losses on about $74 billion of debt. The process, called Title III, was created by a U.S. law enacted last year to help Puerto Rico emerge from its economic malaise. Thousands of islanders marched in San Juan’s financial district on May 1, protesting against anticipated spending cuts.

The move, announced by Governor Ricardo Rossello and then followed by a filing in U.S. court in San Juan, came after he and his predecessor both failed to persuade the island’s major creditors to accept less than they’re owed and the government faced an onslaught of new lawsuits stemming from a series of defaults. The governor’s fiscal plan covers less than a quarter of the debt payments due over the next decade.

Hedge funds, including Aurelius Capital Management, Monarch Alternative Capital and Whitebox Advisors, hold about a third of the island’s debt.

The prices of Puerto Rico’s major bonds were little changed after the announcement. General obligations due in 2035, among the most actively, traded for an average of 65.6 cents on the dollar Wednesday, up from 64.7 cents Tuesday, according to data compiled by Bloomberg.

Puerto Rico’s restructuring will be the largest ever in the $3.8 trillion municipal-bond market. The island, where nearly half its residents live in poverty, has struggled since 2006 to grow its economy. About 62,000 residents left the island last year, the steepest decline since 2004.

Along with the municipal debt, Puerto Rico’s pension has the weakest funding among U.S. states. It’s unfunded pension liability is approaching $50 billion and its three public retirement systems are either out of money or will be out of funding this year. A federal rescue law, called Promesa, requires an oversight board address the pension issue.

"We have reached this decision because it protects the best interests of the people of Puerto Rico," Rossello, who took office in January, said.

For a detailed analysis of the governor’s approach, click here.

Hedge Funds

Some bondholders disagree. A group of hedge funds holding general-obligation bonds claim a deal with Puerto Rico was within reach Tuesday until a federal board that oversees the commonwealth’s finances intervened and blocked a potential agreement.

With the board’s Title III filing, “the governor has forfeited all power over the restructuring, and the economy of Puerto Rico will be put on hold for years,” Andrew Rosenberg, a partner at Paul Weiss Rifkind Wharton & Garrison, who advises the group of general-obligation bondholders, said in an email. “Make no mistake: The Board has chosen to turn Puerto Rico into the next Argentina.”

The financial collapse promises to impose deep losses on bondholders who for years snapped up Puerto Rico’s securities, which are tax-free throughout the U.S. U.S. states can’t file for bankruptcy, and investors bought the bonds assured that it wasn’t a legal option for Puerto Rico either.

Record Restructuring

The scale of the restructuring is far larger than Detroit’s record-setting $18 billion bankruptcy, and it’s unclear how long a court proceeding would last or how deep would be the cuts that are imposed on bondholders. The island’s financial recovery plan covers less than a quarter of the debt payments due over the next decade, assuming Puerto Rico’s budget can be steadied.

Rossello’s latest offers to creditors show the commonwealth believes general obligations should receive a better recovery than its sales-tax bonds, another major class of its debt.

Analysts have been speculating that the island would have no choice but to have a court oversee its debt restructuring, given the unprecedented challenge of striking a voluntary agreement with so many creditors.

— With assistance by Alex Lopez

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