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Analyst: COFINA deal may usher in P.R.’s ‘next default’

The agreement reached between the government and Sales Tax Financing Corp. creditors in August may become unviable in as little as five years if Puerto Rico’s economy fails to grow, as stated in the newest version of the Fiscal Plan certified by the Financial Oversight and Management Board.

Such is the conclusion stated by the H. Calero Consuting firm, which said that if the prediction of zero economic growth by 2023 holds true, the deal with COFINA (as the Sales Tax Financing Corp. is known in Spanish) creditors will lead to a new default for Puerto Rico.

In early August, senior and subordinate COFINA creditors and the government — backed by the Oversight Board — reached a restructuring support agreement representing a total of approximately $10 billion in obligations.

Implied recoveries will be in the mid-90 percent range for the senior bonds and some 60 percent for the subordinate bonds. The COFINA deal requires the approval of a bill that has already been submitted at the Legislature.

Once the bill is signed into law, the government will reduce COFINA debt by 32 percent and save $17.5 billion in debt service payments, according to the government.

COFINA was created in 2006 to cover the balance of the Commonwealth’s extra-constitutional debt and was to be funded from revenue collected through the Sales and Use Tax.

“The onset of the current economic crisis in 2006, coupled with a new credit line from COFINA, led the Commonwealth to increase its reliance on debt,” the analysis firm noted in the latest edition of its internal bulletin, “Pulse.”

Under the restructuring agreement, COFINA is to immediately repay its outstanding debt with new debt. The deal, however, does not condition the repayment to the economy’s outlook. So, H. Calero Consulting believes there are several sources of underlying risks:

  1. The Oversight Board does not expect the local economy to grow beyond 2023;
  2. The implementation of the agreement would require legislation to be enacted by the legislature to, most importantly, forfeit its right to tax and,
  3. It raises potential legal uncertainties regarding the validity of the agreement as it does not represent the judgment of Puerto Rico’s Supreme Court or the U.S. First Circuit Court.

“With so much on the line — including the Oversight Board’s credibility as enforcer — the stakes could not be higher. If it stands, the COFINA Aagreement would be the first major negotiated success, outside debt processes already undertaken by some state-owned corporations,” H. Calero Consulting noted.

“However, there is also a wide-ranging understanding amongst analysts and the Oversight Board that Puerto Rico’s current economic fundamentals are an unavoidable stumbling block to the agreement’s long-term sustainability,” the firm stated.

“In effect, Puerto Rico’s economic fundamentals remain weak and will do so for a prolonged time. The agreement may simply turn out to be a transfer of risk to Puerto Rico’s public sector rather than a viable financial remediation for the government’s current fiscal position,” the analysis firm noted.

“Worse yet, absent decisive public policy aimed at boosting economic development and growth, the recently negotiated agreement may turn out to be just a preparation for the next default,” it concluded.

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