In what may constitute as the latest setback in Puerto Rico’s attempt to put the economy back on track, Moody’s Investors Service announced Wednesday its decision to downgrade $16 billion in Puerto Rico Sales Tax Financing Corporation bonds.
The New York-based credit ratings agency cut a combined $6.8 billion in senior COFINA (as the fund is known in Spanish) bonds to Aa3 from Aa2 and $9.2 billion in subordinate bonds to A3 from A1.
“The downgrades reflect our view of the increased risk in the bonds’ escalating debt service structure as a result of the effects on Puerto Rico’s economy of the extended recession coupled with structural changes in the manufacturing sector due to the phase-out of territorial tax benefits and exposure to greater global competitive forces,” Moody’s said in its explanation of its decision.
The combined result is that the commonwealth’s economy is expected to underperform compared to the U.S. economy, decreasing the likelihood that sales tax collections will achieve the growth necessary to maintain levels of debt service coverage consistent with prior rating levels and compared with other credits at that rating level, the agency further noted.
That said, Moody’s also conceded a stable rating outlook for the COFINA bonds, reflecting its “expectation that sales tax revenue growth will continue as enforcement efforts proceed, and that in the long term the sales tax collections will grow at a rate sufficient to maintain strong coverage of senior debt service and adequate coverage of total COFINA debt service.”
The outlook also reflects the legal and structural separation the COFINA bonds have from the Commonwealth’s general finances.
Administration officials, who were seemingly taken aback by Moody’s decision, were quick to react Wednesday.
“We strongly reject this decision, as we believe that it is untimely and unjustified because all we have to do is compare our situation today to how it was back in 2009, when Moody’s gave us an upgrade,” said Office of Management and Budget Executive Director Juan Carlos Pavía.
In 2009, he said, Puerto Rico’s economy was shrinking by 3.8 percent, while sales and use tax revenue — which feed the COFINA fund — were dropping at a rate of 4.7 percent. The numbers contrast the island’s current situation, Pavía added.
“The economy is growing at 0.9 percent, while sales and use tax collections have grown by 3.1 percent in the last 12 months,” he said. “When they conducted their analysis now, Moody’s concluded that the COFINA debt has been maxed out.
Although Moody’s does not offer a process to formally appeal its rating cuts, Pavía said the government would be submitting a letter to the agency before the end of the week to express its “dissatisfaction with the way they acted.”
“We will continue making our case and be persistent in the fact that the bond ratings did not deserve the cut, because we owe it to our bondholders and all of those who trusted in Puerto Rico. We will continue our conversations and transparency with Moody’s, as we’ve done so far,” Pavía concluded.
While the government did not take Moody’s decision in stride, the downgrade had already been predicted by several analysts who warned it could happen as a result of the new methodology the credit ratings agency implemented in March to evaluate bonds payable with special taxes, as in COFINA’s case.