By Richard Cooper (Cleary Gottlieb) and Antonio Pietrantoni (Pietrantoni Mendez & Alvarez)
Editor’s Note: This article was previously published in the October 2023 issue of Pratt’s Journal of Bankruptcy Law, © 2023 Matthew Bender & Co., Inc. All rights reserved.
On August 25, 2023, the Puerto Rico Electric Power Authority (“PREPA”), the last major instrumentality of the Commonwealth of Puerto Rico (the “Commonwealth” or “Puerto Rico”) with debt restructuring negotiations still ongoing, filed its third amended plan of adjustment and marked what may be the final stretch of nearly a decade-long effort by the Commonwealth to come to grips with its fiscal and economic challenges, challenges that themselves took years to recognize. While a confirmed plan of adjustment for Puerto Rico’s government-owned utility may mean that Puerto Rico can finally fully focus its fiscal and policy efforts on generating growth and prosperity for its residents, the path to addressing its fiscal challenges was hardly a straightforward exercise. Indeed, back in 2014, when its mounting fiscal challenges forced the Commonwealth to accept the fact that it lacked market access, it was only the realization that it lacked the legal tools necessary to obtain debt relief in a fair and orderly manner that propelled it down the road that ultimately led to where it stands today.
Unlike private corporations, American states cannot file for bankruptcy protection under the federal Bankruptcy Code. Their municipalities, however, do have access to bankruptcy relief under Chapter 9 of the Bankruptcy Code. For reasons not addressed by legislative history, Puerto Rico and its municipalities were expressly precluded from being able to file for bankruptcy relief under Chapter 9. As a result, Puerto Rico and its municipalities had no formal mechanism to bring its stakeholders to the table and obtain debt relief, and this exclusion ultimately dictated the path that Puerto Rico would have to take to get to where it is today.
Congress made history when it enacted the Puerto Rico Oversight, Management and Economic Stability Act (“PROMESA”) in June 2016. PROMESA provided the Commonwealth with two distinct restructuring tools, (i) an out-of-court process that relies on a mechanism to bind creditors similar to collective action clauses in sovereign debt instruments, and (ii) a court-led restructuring mechanism modeled on Chapter 9 of the Bankruptcy Code. To be sure, PROMESA is far from perfect. But as the Commonwealth’s experience aptly illustrates, the complexities of its debt stock, the interdependence of many of its credits, the legal uncertainties caused by often opaque and conflicting documentation, laws and Puerto Rican and federal statutes and the U.S. Constitution, and the diversity of its creditor pool would have almost certainly prevented Puerto Rico or its creditors from restructuring the Commonwealth’s debt outside the cover of a formal bankruptcy regime.
While the underlying causes of fiscal distress in state and local governments vary on a case-by-case basis, legal issues involving relative priorities, due process, the claw back of recoveries and contractual and property rights, all of which played a critical role in Puerto Rico’s path to bankruptcy, generally form a common thread among them. PROMESA’s ability to tackle these issues through recognized and tested mechanisms should therefore serve as a potential blueprint to address future fiscal crises.
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