Appeal of COFINA restructuring is alive and kicking

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A year after a lower court restructured the Puerto Rico Sales Tax Restructuring Corp. (COFINA) bonds into new bonds, a case attempting to overthrow the restructuring is actively moving forward in an appeals court.

At stake is a restructuring of senior and subordinate COFINA bonds with original par value of $17.6 billion. Investors started selling the new restructured bonds on the secondary market Feb. 15, 2019. According to the Puerto Rico Oversight Board, the bonds have since been traded tens of thousands of times.

Puerto Rico Oversight Board attorney Martin Bienenstock
Puerto Rico Oversight Board attorney Martin Bienenstock is leading a team at Proskauer Rose defending the COFINA restructuring.

Various parties started making restructuring appeals in February 2019 to the U.S. Court of Appeals for the First District. Three cases were consolidated and the appellants have been making a wide variety of legal attacks on the restructuring.

In April the Puerto Rico Oversight Board and the Puerto Rico Fiscal Agency and Financial Advisory Authority filed a motion to dismiss on the doctrine of equitable mootness. In the words of the board and FAFAA, “An appeal challenging a reorganization plan should be dismissed as equitably moot when the plan has been implemented to such a degree that ‘fashioning fair and effective judicial relief’ is no longer practicable.”

A team of lawyers at Proskauer Rose led by Martin Bienenstock are fighting to defend the COFINA restucturing.

In April the government parties said that the appellants had not sought a stay of the restructuring plan, the plan had been consummated, and any relief for the appellants would harm the rights of innocent third parties.

“Generally, courts try not to unscramble the egg” in bankruptcy cases like this, said James Spiotto, managing director at Chapman Strategic Advisors and an expert on U.S. municipal bankruptcies.

In August, the court refused to dismiss the case on equitable mootness grounds but left open the possibility it would do so at a later point.

Some of the appellants’ arguments are on constitutional grounds, Spiotto noted. The court may find these to be, on their face, serious and potential grounds for overcoming any equitable mootness argument. This may be the reason the court didn’t dismiss the case.

The board and a group representing holders of COFINA seniors has until the close of business on Friday to submit their arguments against the substance of the appellants’ arguments. They asked for and the court granted them the right to submit an “oversize” brief of up to 24,000 words.

One appellant is arguing that the Puerto Rico constitution wasn’t followed in the approval of legislation authorizing the new COFINA bonds. He says that a member of the unaffiliated representative in the Puerto Rico House of Representatives tried to speak on the legislation when the body took it up. The president of the House, a member of the majority party, refused to let him or anyone else speak about the legislation.

The unaffiliated legislator appealed this to a state court and the case was then moved to a federal court. Both the board and the Title III bankruptcy court, the U.S. District Court for Puerto Rico, were aware of this legal action before the court approved the bankruptcy.

The appellants say that if a restructuring reversal ended up hurting any third parties, it would be the board’s fault because the board chose to go ahead with the deal despite being aware of the legal objection.

Holders of subordinate COFINA bonds are using other arguments against the restructuring. They said that it breaches the so-called takings clause of the Fifth Amendment of the U.S. Bill of Rights. They also said that the court didn’t give individual bondholders sufficient notification that some parties were negotiating a deal on the COFINA bonds.

Spiotto said a ruling for the appellants would not only create a mess for current COFINA holders but for the recently announced central government bond restructuring. In that deal, holders of current general obligation bonds and Public Building Authority bonds would be converted into GOs and subordinate COFINAs. That latter would make up half of that deal.

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Puerto Rico Puerto Rico Sales Tax Financing Corp (COFINA) Commonwealth of Puerto Rico PROMESA