Municipal Bonds

Bill to End Securities Law Exemptions in Puerto Rico Passes the U.S. House

Published on: July 14, 2016 | by Shepherd Smith Edwards & Kantas, LLP

The U.S. House of Representatives has voted to pass legislation that would get rid of exemptions from federal securities law for registered securities offered in U.S. territories, including Puerto Rico. The bill is called the U.S. Territories Investor Protection Act of 2016. Rep. Nydia Velazques (D-NY), who sponsored the legislation, said that if passed into law it would give key protections to American citizens in the territories. The bill would also put an end to long standing exemptions that were granted to territorial securities under the Investment Company Act.

Rep. Velazquez believes that had there been such a law previously, certain investment losses that have been sustained in the U.S. territories could have been prevented. She recently noted that certain issuers of securities in Puerto Rico have allegedly become their own underwriters, allowing them to sell and package the securities without letting investors know of this conflict of interest.

Unfortunately, this exact situation is what played out in Puerto Rico over the last decade. Many residents in Puerto Rico have suffered because they were not told of conflicts of interest and about how risky the bond funds they bought were. Their losses have been further compounded by the U.S. territory’s debt crisis. Puerto Rico owes $70 billion to investors, many of whom purchased the bonds indirectly through bond funds.

With Velazquez’s bill, investment companies on the island and other U.S. territories would have to deal with the same rules as their counterparts on the mainland. The legislation includes a three-year grace period for companies to get into compliance with new rules. (It also grants the SEC the authority to extend that timeframe via rulemaking if necessary.)

Last month, U.S. President Barack Obama signed into law PROMESA, the Puerto Rico Oversight Management and Economic Stability Act, which will help the island restructure its debt. On July 1, Puerto Rico defaulted on $911 million of bond payments that were due to creditors that day. At least $799 million of that was general obligation debt, which was supposed to be constitutionally guaranteed. However, Puerto Rico Governor Alejandro Garcia Padilla issued a debt moratorium that made the default on these debt payments possible.

Puerto Rico Defaults on $911M Bond Payment

Published on: July 1, 2016 | by Shepherd Smith Edwards & Kantas, LLP

The U.S. territory of Puerto Rico did not pay $911 million of bond payments due July 1, as expected. At least $779 million of that is general obligation bonds, which are constitutionally-backed debt and supposed to be guaranteed.

However, Puerto Rico Governor Alejandro Garcia Padilla has issued a debt moratorium that allows the territory to default on the general obligation bonds also. This is not the first time Puerto Rico has defaulted on payments due on its debt. The Commonwealth started defaulting on smaller payments last year for several agencies. In May, the government defaulted on the majority of the $422 million of debt that it owed.

The island had $2 billion in bond payments that was due on July 1. In total, the Commonwealth and its agencies owe over $70 billion of debt.

News of the default comes just as President Barack Obama signed the Promesa legislation into law to help Puerto Rico deal with its debt load. Because the territory is not a U.S. state, it has not been able to file for municipal bankruptcy protection under Chapter 9. Promesa, which is the Puerto Rico Oversight, Management and Economic Stability Act, will establish a several-member federal board to oversee Puerto Rico’s finances. The board will be able to postpone lawsuits from creditors seeking payments owed and restructure the U.S. Commonwealth’s debt, including make bondholders go to court, if necessary, to lower the territory’s debt obligations. (The U.S. Senate had passed the bill on Wednesday, making it possible for Mr. Obama to sign the legislation.)

Bondholders Sue Puerto Rico As Debt Talks Falter

Published on: June 27, 2016 | by Shepherd Smith Edwards & Kantas, LLP

A group of hedge funds in New York that invested in Puerto Rico general obligation bonds are suing the island’s government. The bond lawsuit came just days before the island is expected to default on a $2 billion debt payment due, including over $700 million in general obligation bonds on July 1, and on the same day that the island announced it was ending talks with bondholders about debt payments.

The negotiations has resulted in a number of failed proposals and counterproposals, but no resolutions. The U.S. Commonwealth continues to owe $70 billion in public debt, including $12.5 billion in general obligation debt.

The hedge funds’ complaint seeks to invalidate a law allowing Puerto Rico Governor Alejandro Garcia Padilla to put into effect a temporary debt moratorium. The bondholders contend that when they purchased the general obligation bonds, they had counted on the protection that was supposed to guarantee the bonds under the territory’s constitution.The hedge funds are arguing that they are entitled to be paid first—and in full—and on time. They claim that the the moratorium cannot be applied to the bonds that they hold. Also, the hedge funds are accusing the Puerto Rico government of improperly diverting tax revenue to the Puerto Rico Sales Tax Financing Corp. (COFINA) so more debt could be issued while bondholders were not paid.

Municipal Bond Fraud: Two Firms Are Accused of Deceptive Practices When Working with California School Districts & Ex-CEO of Charter School Operator Settles Charges

Published on: June 20, 2016 | by Shepherd Smith Edwards & Kantas, LLP

The Securities and Exchange Commission has settled its fraud case with two municipal advisory firms and their executives. They are accused of using deceptive practices when trying to solicit business from five school districts in California. The advisory firms, School Business Consulting Inc. and Keygent LLC, resolved the administrative proceedings without denying or admitting to the charges.

According to the regulator, School Business Consulting gave Keygent LLC confidential information that allowed it to win municipal advisory contracts from the school districts. School Business Consulting had advised districts about their process for hiring financial professionals.

The SEC said that without the district’s consent School Business Consulting shared the confidential information with Keygent, including questions asked in interviews with the districts and what competitor candidates were proposing and charging. The Commission believes that the unauthorized disclosure of this information gave Keygent an “improper advantage” over competitors.

Municipal entities are entitled to be able to trust that their choice of a municipal advisor is not blemished by any breach of fiduciary duty. As part of the settlement, School Business Consulting will pay a $30K penalty and it has consented to a censure. The company’s president, Terrance Bradley, was ordered to pay a $20K penalty and is barred from acting as a municipal advisor. Keygent is also censured and will pay a $100K penalty. Its principals, Chet Wang and Anthony Hsieh, will pay $20K and $30K penalties, respectively.

US Supreme Court Strikes Down Law That Would Have Let Puerto Rico Public Utilities Restructure Their Debt

Published on: June 15, 2016 | by Shepherd Smith Edwards & Kantas, LLP

The U.S. Supreme Court struck down a Puerto Rico law that would have let its public utilities restructure $20 billion of debt. The territory’s officials enacted the Recovery Act in 2014 in an attempt to help it deal with its $70 billion of debt. Puerto Rico’s large public utilities owe about $26 billion to bondholders and banks. It was their creditors that challenged the law in federal court.

Puerto Rico is not allowed to file for bankruptcy protection. The Commonwealth is excluded from Chapter 9, which is the section of the bankruptcy code that usually applies to local governments, including cities, public utilities, counties, and other branches that have become insolvent and need help. (Puerto Rico has tried to convince the U.S. congress to get rid of the 1984 rule that excluded it from Chapter 9. No reason has been provided for why it was deliberately left out.)

Writing for the majority in the Supreme Court ruling, Justice Clarence Thomas reminded us that the federal bankruptcy code does not let lower government units and states enact their own bankruptcy laws. However, U.S. legislators are looking for ways to potentially help Puerto Rico.

A bill passed by the U.S. House of Representatives to help the territory deal with its debt crisis has gone to the Senate for consideration. If passed into law, the bill would establish a board to manage the restructuring of Puerto Rico’s debt and oversee the territory’s finances. The Commonwealth sure could use the help.

SEC Bond Cases: Illinois Mayer Settles Municipal Bond Fraud Charges for $10K, Ethiopia’s Electric Utility Pays Over $6M to Resolve Bond Offering Violations, and Miami , Fla. Likely to Come Under Scrutiny in Civil Trial

Published on: June 12, 2016 | by Shepherd Smith Edwards & Kantas, LLP

Mayor of Harvey, Illinois Barred From Future Involvement In Muni Bond Offerings
Eric J. Kellog, the mayor of Harvey, Illinois, will pay $10K to resolve the Securities and Exchange Commission’s case accusing him of municipal bond fraud. As part of the settlement, Kellog has agreed to never take part in a muni bond offering again.

According to the Commission, Mayor Kellogg was tied to a number of fraudulent bond offerings made by the city of Harvey. Investors thought their money would go toward building a Holiday Inn hotel when, instead, at least $1.7M in bond proceeds were diverted to cover the city’s payroll and pay for operational costs that had nothing to do with the hotel construction project.

Kellogg was in charge of Harvey’s operations. His signature was on key offering documents used by the city of Harvey to sell and offer the municipal bonds. The SEC said that the mayor was liable for fraud as a control person under the Securities Exchange Act.

By settling, Kellog is not denying or admitting to the SEC findings.

Ethiopia’s Electric Utility Pays Over $6M to Settle SEC Municipal Bond Case
In other bond fraud news, the SEC has reached a settlement with the Ethiopian Electric Power over charges that the foreign electric utility did not register the bonds that it sold and offered to U.S. residents who were of Ethiopian descent. EEP will pay almost $6.5M to resolve the case accusing it of violating U.S. securities laws.

U.S. House Passes Puerto Rico Debt Rescue Bill

Published on: June 10, 2016 | by Shepherd Smith Edwards & Kantas, LLP

The U.S. House of Representatives passed PROMESA, a bill to help Puerto Rico deal with its recession and its over $70 billion debt, in a landslide vote of 297-to-127. The island has been in financial trouble for some time now, with many of its residents leaving because the situation has gotten so bad. Already, Puerto Rico has defaulted three times in the last year on the debt payments that it owes.

PROMESA would establish an Oversight Board that will regulate the U.S. territory’s finances. The Oversight Board would be able to sell Puerto Rican government assets, let the island reduce the minimum wage for certain workers on a temporary basis, and decide whether to restructure the island’s debt. PROMESA is not a “bailout” of Puerto Rico as no taxpayer money would be used to pay off Puerto Rico’s debt and no federal funds would be committed under the bill.

Congress’s passage of PROMESA comes as the island is encountering new financial problems, including that the Commonwealth owes $2 billion on July 1 of this year. If the U.S. Senate were to pass PROMESA before then, however, Puerto Rico may not have to pay the full amount in July. The bill gives the Commonwealth a grace period through at least February 2017.

Under that “grace period” provision, Puerto Rico would be able to pay just interest on its debts and creditors wouldn’t be allowed to go after the Commonwealth with lawsuits. The grace period would hopefully give the board time to devise a plan.

Even though a solution is clearly needed, there are those who oppose the measure, including some creditors, interest groups, and bondholders. Puerto Rico’s $7 billion debt is held by local residents, financial institutions, U.S. hedge funds, and mutual fund firms, which means that there are investors on the mainland who are also holding Puerto Rico debt.

U.S. Government to Help Restructure Puerto Rico’s $70B Debt

Published on: May 19, 2016 | by Shepherd Smith Edwards & Kantas, LLP

U.S. lawmakers have come up with a bill that will help Puerto Rico restructure its debt. The territory has been asking for help from the federal government to deal with its debt crisis.

Unlike states and other municipalities in the U.S., territories are not allowed to file for bankruptcy protection under the U.S. Bankruptcy Code. The bipartisan legislation would offer the territory a legal remedy similar to filing for bankruptcy protection but without requiring the commitment of federal funds.

Puerto Rico has been in a huge economic crisis while struggling to repay its debt. Already, the island has defaulted on different bond classes, including the majority of a $422 million payment that was due this month. The Commonwealth also has another $2 billion debt payment due in July.

The purpose of the bill would be to lower the island’s debt burden, which absorbs over 30% of the Commonwealth’s revenues. The U.S. government is also trying to prevent the legal brouhaha that could arise in court between different creditors to which the island owes money. Per some of the terms of the bill, a control board would mandate that Puerto Rico’s government establish a fiscal plan, which would including providing sufficient funding for pensions. At the moment, according to Fox News, the territory has underfunded its public pension by over $40 billion. However, there are those who oppose the bill, including opposition groups cautioning that the legislation could establish a precedent for U.S. states that are in trouble. Already, Puerto Rico’s economic woes have compelled over 200,000 to flee the island.

NY City Council Speaker Wants SEC to Investigate Oppenheimer Funds Over Puerto Rico Debt Crisis

Published on: May 9, 2016 | by Shepherd Smith Edwards & Kantas, LLP

According to InvestmentNews, New York City Council Speaker Melissa Mark-Viverito is asking the U.S. Securities and Exchange Commission (“SEC”) to conduct a probe into OppenheimerFunds, Inc. (“OPY”) and its impact on Puerto Rico’s financial woes. Speaker Mark-Viverito believes that the asset-management company played a part in making Puerto Rico’s financial crisis worse by investing even more in the island’s debt. She claims that just in the last eight months, OppenheimerFunds has added $500 million to investments it made in Puerto Rican debt.

Right now, the U.S. territory owes over $70 billion in debt, which it is struggling to pay. It recently defaulted on over $370 million of a bond payment that was due this month. Another $2 billion is due in July, including around $700 million in general obligation debt.

To satisfy investor redemptions, OppenheimerFunds has sold its non-Puerto Rico bonds, which would have raised the current allocation of the asset manager’s funds to the Commonwealth. In a letter to the SEC, Mark-Viverito, who was born in Puerto Rico, urged the agency to look into whether Oppenheimer has complied with all regulations and securities laws when handling its Puerto Rican bond investments. She believes banks, hedge funds, and other investors in the territory’s general-obligation bonds and utility debt are to blame for the island’s financial woes.

Puerto Rico Misses Most of Its $422M Debt Payment

Published on: May 3, 2016 | by Shepherd Smith Edwards & Kantas, LLP

Puerto Rico Governor Alejandro García Padilla announced this week that the U.S. territory would not be paying most of the $422 million in debt that was due on Monday. However, it did pay $23 million in interest. As the Puerto Rican government had swapped $33 million of debt for new debt that matured at a later date, the principal it missed on its Government Development Bank-issued bonds was $367 million.

This was a significant development in the stand-off between the Commonwealth and Washington DC, as well as investors in Puerto Rican debt. Moreover, there are much more significant sums due this summer and, if this week’s failure to pay is an indication, investors could be in trouble.

Puerto Rico currently owes more than $70 billion to bond holders. Over $2 billion in bond payments are due this summer, including $805 million in Puerto Rico general obligation bonds. In the wake of this latest default there is growing concern that there will be more defaults in the future.

One significant Puerto Rico bond issuer, the Puerto Rico Government Development Bank (“GDB”), says it has arrived at a tentative deal with a group of hedge funds holding $900 million of the bank’s debt in which the funds would agree to a possible reduction on the dollar of their original securities’ face value. This group of institutional investors, which is being called the “Ad Hoc Group of bondholders,” include Claren Road Asset Management, Avenue Capital Management, Fir Tree Partners, Brigade Capital Management, Solus Alternative Asset Management, and Fore Research Management. The GDB arrived at a similar deal with credit unions that are holding about $33 million in debt. Regardless, according to Bloomberg, analysts at Moody’s Investors Service said that even if creditors agree to a non-payment, it would still be a default.

Mutual funds, bond insurers, hedge funds, and individual investors are among those still holding the Commonwealth’s debt. Many of them got involved with Puerto Rico closed-end bond funds because of the high yields and tax benefits. When the securities plunged in value a few years ago, thousands of investors lost a significant portion of their savings. Retail investors, retirees, and small business owners were hit especially hard.