Sunday, February 9, 2014

Puerto Rico's Cash Crisis

"We are confident that we have the liquidity on hand to satisfy all liquidity needs until the end of the fiscal year," Treasury Secretary Melba Acosta Febo and GDB Chairman David Chafey said in a joint statement following the S&P downgrade.--Reuters
How long before Puerto Rico runs out of cash and defaults on its debt? The tea leaves suggest that the debacle will occur either this month or next.
One might well ask, what is PR's financial condition? PR's financial disclosure is poor and infrequent. The last comprehensive annual report was published nineteen months ago, in June 2012. The June 2013 report has not been published yet (shades of Enron). There was some spotty disclosure in October which did not include financial statements.
What an investor (or bond analyst) could really use at this point are: (1) a recent balance sheet; and (2) a monthly schedule of proforma cashflow for the balance of the year. In my experience with distressed credits, financial statements are commonly delayed or unreliable prior to default. Transparency takes a back seat when default looms.
According to a recent statement, the government intends to borrow soon: "the GDB and the Commonwealth of Puerto Rico have been in discussions with parties that have expressed an interest in arranging additional liquidity for the Commonwealth". If so, I would imagine that prospective "liquidity providers" would demand up-to-date financials and proforma cashflows.
Reuters published a very helpful story on PR's liquidity situation yesterday, which provides some indicative tidbits. There is the following paragraph:
The timing of S&P's downgrade, coming just 11 days after the agency announced a review, was unexpected. 'If we have enough information to take action, we have to release it; otherwise we're holding onto inside information,' S&P's Hitchcock said in an interview. 'We do have confidential information on GDB cash flows and liquidity, and, based on the information that we do have, we feel that we had to take action.'
In other words, S&P saw the numbers and had to act fast.
And then there is this:
The GDB is searching everywhere to increase liquidity. El Nuevo Día, the most widely read newspaper in Puerto Rico, reported that the GDB is asking for loans from Puerto Rico banks, trying to get refinancing and forbearance on outstanding loans and bonds from local creditors and trying to sell real estate holdings.
The above paragraphs would seem to contradict the government's happy talk about having adequate liquidity. So while we don't know precisely when PR will run out of cash, we do know that it is imminent, unless its current fundraising activities prove successful, which is unlikely given the recent rating downgrades. Whatever hopes PR had for raising funds have been severely complicated by the fact that it is no longer rated investment grade by either S&P or Moody's. That precludes most conventional municipal investors from buying--or even holding--PR debt.
The next step would be for the government to announce a "temporary" moratorium on debt repayment pending a review of its situation and conversations with creditors. Being unable to seek bankruptcy protection, the workout will be difficult and litigious. I can only imagine that the government has already retained a workout adviser such as Goldman or some other firm which is not a big creditor. It is as yet unclear to me in what venue such litigation will occur. It is also unclear to me whether PR enjoys complete sovereign immunity or is subject to court decisions made in San Juan or New York.
The government has scheduled an investor briefing for this coming Tuesday, which could include some useful financial disclosure. I would hope that there would be sufficient disclosure to be able to calculate PR's debt capacity, however exiguous. This would provide investors with a sense for the valuation of the commonwealth's bonds. My understanding is that the bonds are still trading at levels that suggest a substantial recovery rate. From what I can see, that is very optimistic. More on this later.

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