CNE: Restructuring PREPA’s debt must be done right in ‘process and substance’
The recently terminated Restructuring Support Agreement to negotiate the Puerto Rico Electric Power Authority (PREPA)’s hefty debt, which was called off by the government earlier this month, was the third failed attempt to restructure at least a portion of the corporation’s fiscal load.
Now that the government will again sit down with creditors, with the Financial Oversight and Management Board for Puerto Rico as the mediator — to map out the new strategy, it will have to follow a tight deadline imposed by the US District Court for the District of Puerto Rico.
To get that done, time is of the essence said Sergio M. Marxuach, policy director at the Center for a New Economy.
“However, while we fully understand the desire to expeditiously conclude this process after five years of expensive and drawn-out negotiations, it is just as important to get right both the process and the substance of the debt restructuring,” he said, as part of analysis on the status of the debt restructuring process.
After the government left the table, US District Court Judge Laura Taylor Swain — who has been overseeing Puerto Rico’s bankruptcy process for the better part of the past five years — imposed a tight deadline for the Oversight Board to start that mediation process and file a plan of adjustment, submit a schedule for the litigation of pending issues, or show cause as to why the Court should not dismiss the Title III case.
In its analysis, the CNE offered several recommendations to “provide a useful framework to thoughtfully analyze any new proposal to restructure PREPA’s debt.”
“Any new plan of adjustment for PREPA has to be comprehensive in nature. This means the plan of adjustment must consider the complicated environment in which PREPA operates — Puerto Rico’s weak economy, the fragility of the island’s transmission and distribution system, PREPA’s aging generation fleet, the politicization of its management, and PREPA’s prior history of mismanaged initiatives to reduce costs,” said Marxuach during a virtual meeting with reporters.
In the think-tank’s opinion, a restructured PREPA should be a solvent entity, because if it remains insolvent after completing the debt restructuring process, then the plan may not be confirmed by the court.
“While PROMESA does not require that solvency be established to confirm a plan of adjustment, it does require that it be ‘viable’ and certainly solvency is at least one component of any ‘viability’ analysis,” Marxuach said.
Another key consideration in the renegotiation is PREPA’s existing debt. According to the Monthly Report the utility submitted to its Governing Board for the Month of December 2021, PREPA’s liabilities totaled $18.1 billion, while its assets added to $10.1 billion, a difference of $8 billion.
“In theory, then, that is the minimum amount — $8 billion or 44% of all liabilities — by which all of PREPA’s obligations would have to be reduced to keep it as a minimally sustainable going concern post-restructuring,” said Marxuach.
“It would be extremely ironic, not to say utterly irrational, to finish this expensive five-year process with an entity that is still technically insolvent,” he said.
The debt restructuring process should also call for eliminating the securitization structure currently in place that would have guaranteed the repayment of the new PREPA bonds regardless the public corporation’s operational situation and would have represented a significant upgrade of the bondholder’s collateral package.
“The repayment guarantee for any new PREPA bonds, as is the case with the existing PREPA bonds, should be a lien against the net revenues, after payment of the operating costs of the issuer, generated by PREPA,” Marxuach said.
“We see no reason for upgrading this security structure or for substantially modifying PREPA’s current relative repayment priorities, unless creditors provide an infusion of new money, something analogous to a debtor in possession financing, or some other similar consideration,” he added.
Finally, the CNE again stressed that any rate increases to pay off debt will have negative economic consequences.
“Electricity prices affect economic activity and economic activity affects electricity prices. Any significant rate increases to pay off debt would reduce economic activity and employment, which, in turn, would reduce demand for electricity,” he said.
Lower demand for electricity would force PREPA to further increase its rates to cover operating costs and meet its obligations, said Marxuach.
“Failure to do so would result in the deferment of capital investments and/or maintenance costs, which would adversely affect the quality of service. And under that scenario, we could expect an increase in ‘grid defection.’ That is, we could expect an increase in the number of customers switching to their own generation sources or connecting ‘informally’ to the PREPA grid,” Marxuach added.