Tue 02/28/2023 21:07 PM
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Judge Laura Taylor Swain gave the Puerto Rico Electric Power Authority the green light to solicit its disclosure statement at a heavily contested hearing today, overruling several objections that took issue with the adequacy of the document’s disclosures and asserted the underlying plan is patently unconfirmable. The utility, which is the sole remaining Title III debtor in Puerto Rico’s restructuring process, will still have to face the substance of the objectors’ arguments at its confirmation hearing, as the judge stressed that she has not ruled on those matters.

Many of the objections are to “specific substantive and economic features or alleged consequences of the proposed plan of adjustment,” Judge Swain noted, such as the proposed classification and treatment of claims held by certain creditors, the plan’s economic feasibility and the good faith (or lack thereof) of PREPA and the PROMESA oversight board in negotiating and formulating the proposed plan.

The judge also said she anticipated issuing a ruling on the PREPA bond lien and recourse litigation “in the near future” and voiced an expectation that all parties “engage in meaningful mediation” in the weeks leading up to a plan confirmation hearing contemplated for July.

Arguing in support of the DS were counsel for the oversight board along with National Public Finance Guarantee and the fuel line lenders, both of which have reached settlement agreements in support of the plan. Objecting to the DS were counsel for bond trustee U.S. Bank, PREPA bondholder constituencies - including the ad hoc group of PREPA bondholders, Syncora Guarantee, Assured Guaranty, the ad hoc committee of National claim assignees and an individual investor - as well as the official committee of unsecured creditors, PREPA’s main union, PREPA’s retirement system and PV Properties.

During the hearing, the oversight board acknowledged the potential, in connection with PREPA’s plan of adjustment, for a renewed petition in the U.S. Supreme Court for a writ of certiorari asking the court to weigh in on whether pre-bankruptcy unsecured claims for just compensation that arise under the Fifth Amendment’s Takings Clause are dischargeable and can be adjusted in bankruptcy. The Supreme Court declined to take up an initial petition on this question last week. That now-denied cert petition arose out of Judge Swain’s confirmation of the Puerto Rico commonwealth plan of adjustment.

Martin Bienenstock of Proskauer Rose, for the oversight board, said the Supreme Court's denial was “very surprising,” noting that the oversight board’s question involved circuit conflicts and constitutional issues. “For now we are just trying to preserve the oversight board’s options if it wants to at the end of confirmation of PREPA’s case to try again for cert. We are just preserving the board's options in case it does want to do that at the time,” Bienenstock said. “For now, there is at least peace with the 5th amendment claimants on how we are going forward. We fully expect that this court and the circuit will maintain their original positions, although we might urge you in a page or two not to.” Bienenstock said “the only question is whether it is worth taking a second chance” for cert since Supreme Court jurisprudence is that their cert denials have no precedential impact.

The DS hearing was also marked by a discussion of the Puerto Rico Energy Bureau’s role in approving a rate increase contemplated in the plan, as well as the assertion by the PREPA retirement system, known as SREAEE, that it will run out of cash to pay pensioners in May. Peter Friedman, of O'Melveny and Myers for the commonwealth Fiscal Agency and Financial Advisory Authority, or AAFAF, said the government and the oversight board are “addressing” the matter and would provide more information in the context of status reports expected to be filed in conjunction with the next omnibus hearing scheduled for mid-March.

In the course of discussing PREB’s role in rate setting, Bienenstock emphasized that PREB is a regulatory agency subject to “reverse preemption” and any changes to rate must be approved by PREB first, which Bienenstock cautioned is beyond oversight board control. This means that the PREPA plan could be confirmed before PREB authorizes the rate component, Bienenstock conceded.

Many creditors acknowledged that PREPA is a case “unlike the others,” as it is highly contested by significant creditors, including multiple bondholder constituencies, the bond trustee, the creditors’ committee, pensions and unions, and has far less creditor support than in prior Title III cases.

Judge Swain said in today’s ruling “although many of these are important issues that implicate central aspects of proposed plan, they are for the most part issues that should be addressed on a full record in connection with the oversight board's request for confirmation of the plan of adjustment and are premature at this time,” Judge Swain said.

The court underlined that the question addressed in its ruling is whether the proposed DS provides sufficient information to permit a hypothetical creditor to make an informed judgment about the proposed plan of adjustment and whether the DS fails because the plan is “patently unconfirmable.” Ultimately, the court was satisfied that the DS met both criteria.

In reaching this conclusion, Judge Swain walked through each substantive objection, including several "disparate and inadequate treatment" objections related to the plan's proposed classification scheme and the sufficiency of certain plan distributions that attempt to call into question the affordability of the plan.

In response to gerrymandering allegations raised by Syncora, Judge Swain remarked that “while the gerrymandering objections are serious … the plan presents four possible classes of claims that could be impaired accepting classes.” Judge Swain held that “at this juncture the record is not sufficiently clear to demonstrate” that the oversight board's proposed classification scheme is precluded as a matter of law or, conversely, whether the proposed distributions are obviously sufficient under PROMESA or the Bankruptcy Code. The court also found that without yet knowing the results of the voting process, it is premature to determine whether the section 1122(b) requirements of the Bankruptcy Code are implicated with respect to any class.

"To be clear, the court has not determined if the plan of adjustment's classification scheme is necessarily lawful and confirmable,” Judge Swain emphasized. “The difficult issue of whether the oversight board can demonstrate if there is a legitimate basis for the plan's classification scheme and the differential treatment arising therefrom will be addressed at the appropriate time in the context of objections to the confirmation of the plan of adjustment," Judge Swain said.

The court likewise overruled without prejudice the bond trustee's objection that the plan is unconfirmable because it is not consistent with the structure of the trust agreement that governs the bonds. Judge Swain said the main reason for overruling the objection is that the trustee has not demonstrated at this time that the plan is patently unconfirmable on this basis. Other trustee objections related to concerns that the plan could spark further intercreditor disputes should be characterized as objections to the classification scheme and addressed at confirmation, the court indicated.

Judge Swain declined to characterize the oversight board’s conduct as “bad faith” in connection with negotiating the PREPA plan and determined that oversight board communications with uninsured bondholders do not constitute an impermissible solicitation of votes in favor of the plan. Nevertheless, the judge pointed out that she had not determined if the bondholder settlement is lawful and proper.

The court also overruled a series of objections based on plan treatment and affordability disclosures, finding that the DS provides sufficient information on the new bonds and the structure of the legacy charge, but directed the oversight board to amend the DS order to require the new master indenture to be filed three weeks prior to the voting deadline to allow for sufficient creditor review. The court further overruled objections regarding the need for additional disclosure about possible delays to the plan and different recovery outcomes that could result from the ongoing litigation, determining adequate information is included in the DS. Judge Swain also determined that the DS adequately details key settlements and overruled related objections.

Ehud Barak, of Proskauer Rose on behalf of the oversight board, opened the hearing detailing the different recovery scenarios involving the proposed $5.68 billion distribution under the plan, depending on the outcome of the PREPA lien challenge litigation. According to Barak:

  • A determination that the bondholder collateral was limited to the sinking fund and that bondholders have no recourse beyond that would enable most other creditors to be paid in full.

  • If the court determined that the collateral was limited to the sinking fund but that bondholders have additional recourse beyond the sinking fund, the non-settling creditors would have a deficiency claim equal to general unsecured creditors, resulting in a 46.5% recovery.

  • However, if the court determines that the bonds are secured, the non-settling bondholders would receive the value of their collateral and virtually all other creditors, except for settling creditors, would receive virtually nothing.


Barak emphasized that under all three scenarios “settling bondholders would receive the terms of their settlement.” He also noted that pension claims under all three scenarios would be treated similarly to pension claims under the commonwealth’s plan of adjustment. The defined benefit plan would be frozen as of the effective date and converted into a PayGo plan, with pension payments treated as an operating expense not subordinated by the new bonds.

“This is not a placeholder plan. It is confirmable under all reasonable likely outcomes of the lien recourse litigation. The only situation in which it will not be confirmable is if the court were to hold that the value of the collateral exceeds the amount of bonds that can be distributed under the plan,” Barak said.

Turning to disclosure issues. Barak emphasized that “the job of the disclosure statement is to disclose information about the proposed plan; that’s it.” He noted that the DS was amended three times to account for settlements and address DS objections, calling it a “tremendous undertaking.” The oversight board attorney said that “the bottom line” is that the DS meets the court’s direction to start the plan development process despite the unresolved litigation issues.

Bienenstock, also for the oversight board, emphasized the importance of the PREPA restructuring as it entails both the restructuring of its $14 billion debt and transitioning PREPA into an efficient operation. He said completing the restructuring is “critical in all respects” given the importance of a stable energy system in complying with PROMESA’s objective to return market access and financial responsibility to Puerto Rico.

Bienenstock addressed the question of whether the plan is patently unconfirmable because it proposes actions that are arguably inconsistent with the trust agreement. He explained that the trust agreement had debtor-creditor provisions between PREPA and the bond trustee, in contrast to intercreditor provisions. He asserted that the debtor-creditor provisions allow PREPA to do everything it proposes to do under the plan without violating the intercreditor provisions.

Further, Bienenstock defended the proposed deals with National and settling bondholders, under which they would relinquish rights by giving up six years of interest payments and taking less principal than is owed under the bond covenants, according to Bienenstock. He contended that these agreements actually benefit nonsettling bondholders, potentially boosting their recoveries should they prevail in their litigation.

Bienenstock called it “unfortunate” that creditors representing only $70 million, or 0.9%, of bonds have opted into the settlement, preferring instead to “roll the dice” on their respective recoveries.

However, he said the action “has simplified the arithmetic for everyone else,” and that the oversight board no longer needs to reserve an estimated $800 million to settle such claims.

Judge Swain asked Bienenstock if the bond trustee’s objection lacked merit because the trustee argues the the bonds would have to be distributed to bondholders in a non pro rata way by the trustee in violation of the trust agreement, but the trustee is wrong because the settlement consideration would be distributed via bond exchanges and not by the trustee. Bienenstock called the court’s description “generally right” but said his position is based more on the trust agreement language than on the ministerial duty of the bond trustee.

Nothing in the agreement says everything needs to be distributed pro rata, Bienenstock said, adding that non-settling bonds could receive an even larger distribution of collateral if the settling bondholders get the exchanged bonds and the nonsettling bondholders succeed at trial.

“The trust agreement simply does not have the language that the trustee indirectly alleges it has,” under which “everything that everyone gets would have to be pro rata distribution,” Bienenstock said. He asserted that “nothing about the settlements hurts the bondholders in any way” and that “even if the trustee had a case, it would have no damages.”

Bienenstock also took issue with a demonstrative exhibit from the PREPA ad hoc group regarding the oversight board’s affordability analysis. Noting that with 1.3 million taxpayers in Puerto Rico, there are only 100,000 who earn more than $60,000 annually, the attorney said that the affordability of electric power is “extremely important,” but it is “hardly an exclusive factor” in determining how much PREPA could afford to pay creditors. He cited other factors considered by the oversight board including collective bargaining agreement expenses, the threat of solar conversion if rates go too high and the competitive macro economic environment, which requires Puerto Rico’s electric power system to be competitive with other jurisdictions, including the Dominican Republic.

Bienenstock also underlined the board’s view that fiscal plans are not negotiable because they provide the roadmap to what the oversight board believes is needed to accomplish its statutory mandate. The oversight board only changes fiscal plans, and related debt sustainability analysis, when mistakes are made or new information comes in, he added.

He also opposed creditor assertions that the oversight board is not acting in good faith. Bienenstock said the incorporation into the plan of contingent value instruments, which would provide additional recoveries to creditors if PREPA performs better than expected, is further evidence the oversight board is acting in good faith.

Judge Swain said she understands that many of the objectors maintain that in addition to the best interest of creditors test, PREPA has an obligation to pay as much as it can afford to creditors after accounting for all resources and needs. The judge asked Bienenstock if there is any such obligation in PROMESA or the Bankruptcy Code.

Bienenstock responded that creditors may wish to raise rates as much as possible to boost recoveries, but added, “We don’t use affordability because it’s not what certain people can afford, it’s all these other considerations taken into account so the plan is feasible and the economy remains sustainable going forward.”

Opposing DS approval, Susheel Kirpalani of Quinn Emanuel for Syncora Guarantee stressed that Puerto Rico’s previously completed Title III cases were marked by broad plan support. The oversight board has flip-flopped in PREPA’s case and abandoned consensus in a calculated turn toward litigation, he argued.

Citing the commonwealth’s Title III restructuring, Kirpalani noted that he represented the Lawful Constitutional Debt Coalition, or LCDC, which negotiated the first commonwealth PSA and initially aimed to push it through confirmation. He reminded Judge Swain that the court, noting that the LCDC only represented 15% of the debt, directed the parties at that time to “go back and do better” through mediation to secure broader support. Although that “was a hard day for me with my client,” Kirpalani said there was “no doubt it was the correct judicial decision” that forced creditors and the oversight board to find more common ground.

Kirpalani urged the court to “send the message” to the oversight board that it must now do better in PREPA’s case, asserting that if the path taken in previous Title III cases is followed, “we will have a shot” at achieving a consensual plan.

Gary Orseck of Kramer Levin, on behalf of the PREPA bondholder ad hoc group, urged the court to reject the proposed plan now because it is patently unconfirmable. Citing “wasted time and resources,” he asserted that it is better for the court to address the objectors’ arguments at this stage of the case.

Orseck asserted that the proposed plan aims to put the court “in a box.” The oversight board is now contending the substantive objections should not be addressed until the July confirmation hearings, but the board could then argue during confirmation that too much work has been done on the plan to go back to the beginning, according to Orseck.

Orseck also asserted the National settlement provides “radically better” treatment than any monoline or bondholder could receive even if they prevail in their litigation. He called the proposed settlement a “sweetheart deal” that was extended “in order to obtain an accepting impaired class,” even though theNational claims are the “exact same claims” as other bondholders and monolines.

During rebuttal arguments, Bienenstock highlighted the importance of PREB in approving rates, but said the oversight board also believes the court may also play a role. Local law requires that rates must take into account debt payments but PREB also considers concepts such as affordability in approving rates, he added. He called PREB a “real player” that may not approve rates that totally align with the plan provisions. Bienenstock said the oversight board is working with PREB and hopes to get approvals for new rates the plan will require, but added that the implementation of such rates may or may not occur prior to confirmation.

Bienenstock also addressed creditors’ arguments that if they prevail in their litigation challenges, they would still be limited to a 51% recovery. He said that the future income stream would still have to be valued, which would depend on how much PREB raises future rates. “It may be less, frankly, and it may be more,” he said, adding no “unfair discrimination” would take place because the oversight board would have to amend the plan to pay bondholders the proper amount.

Bienenstock also addressed an assertion from the ad hoc PREPA bondholder group that the trust agreement requires all “value” to be distributed on a pro-rata basis. According to Bienenstock, the agreement actually refers to “monies,” adding that “the trust agreement does not say what they wish it said.” Bienenstock also pointed out that similar objections were not raised in connection with the 2019 RSA, even though it also lacked unanimous creditor support.

Judge Swain asked if the court has the authority to determine if the fiscal plan debt sustainability analysis comports with PROMESA requirements. Bienenstock responded that the analysis is outside the court’s jurisdiction - but this does not require the court to find that other confirmation requirements, like the best interests test, have been satisfied.
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