Do ratings on Puerto Rico issuers matter anymore at this stage? Yesterday, Fitch downgraded PREPA one notch to “BB” while keeping the issuer on negative watch. Certainly, for an entity that’s widely viewed as a restructuring candidate (and one that actually ran out of cash to buy fuel a few weeks ago), a “BB” rating may still be too high. In its review, Fitch specifically mentioned “liquidity” as one of its key concerns and, given the potential for PREPA to once again rely on the Government Development Bank (GDB) for short-term liquidity, wanted to align PREPA’s rating with the Bank’s.
When it comes to any press release from the Commonwealth of Puerto Rico (PR), the headlines never tell the whole story. A case in point: on Monday, the Hacienda sent out a notice titled “Puerto Rico Preliminary May 2014 Collections Up $141 Million Compared to Prior Year Period; Exceed Estimate By $29 Million.” Quite an upbeat title, until one takes a deeper dive into the text of the announcement. After detailing all the revenue gains, Treasury Secretary Melba Acosta finally admitted that the Commonwealth is facing a $320 million shortfall in the current FY2013 budget.
To anyone who has been following the news from the Island, the shortfall shouldn’t come as much of a surprise. How the Commonwealth intends to address the shortfall may raise quite a few eyebrows.
First, the financial team has “found” a $35 million “surplus” from a 2009 Cofina issue and intends to apply that toward the deficit. Needless to say, any interaction between the General Fund and the Cofina accounts makes us very nervous as it may open the door to a “clawback” argument down the line from future plaintiffs. Secondly, the Commonwealth intends to defer or stretch out the repayment of $250 million due to the GDB. One can only imagine what this might do to the GDB’s already frail liquidity position. Thirdly, a $90 million scheduled payment to the Central Government Employees Retirement System will also be deferred. Pension reform, we hardly knew ye.
All these moves are symptomatic of a government that is still lurching from one liquidity crisis to the next. In fact, it has been suggested to us, and only half in jest, that if one goes through and nets out all the receivables that Puerto Rican agencies and public corporations owe one another, the end result may well be “zero cash.”
In a similar vein, the “historic” agreement between the Commonwealth and the labor unions that was announced over the weekend also fails to impress upon further scrutiny. The agreement reportedly covers 18 unions representing about 92% of the Commonwealth’s unionized labor force and still needs to be ratified by the rank and file. The PR government clearly wanted to secure the unions’ support for the pending Fiscal Sustainability Law (FSL) and avoid any labor unrest that might derail current economic development efforts. However, in so doing, it may have caved in to the unions’ demands on major cost-containment items. This so-called historic agreement appears to be nothing less than a significant dilution of the FSL as originally proposed.
Although the full text of the agreement has yet to be released by the Padilla Administration, we were able to obtain from a Twitter post a summary of the agreement that was circulated by the unions, contrasting what was originally proposed with what the union leadership was able to negotiate. Since the document is in Spanish, we had to get help with translation. While the following comments are based on our best understanding of what was written, it is quite possible that we may have misinterpreted some of the language in the agreement as described.
With that caveat, the union summary appears to show the Administration retreating on several major cost -savings items. In effect, the unions have secured themselves a seat at the negotiating table, on a par with the bondholders. Smartly, they have insisted on having access to the same financial information that will be provided to the rating agencies and the bondholders. The burden is now on the Administration to prove to the unions, on a regular basis, why any fiscal restraint measure remains necessary.
On most major cost-saving measures, the unions were able to turn proposed hard cuts into temporary deferrals, subject to an annual review process. For instance, while the original FSL mandated a three-to six year freeze on wages, the unions were able to change it to a two year deferral, subject to annual review. With respect to the medical plan, the original FSL mandated no further increase in employer contributions for medical benefits. The unions also turned that into an annual negotiation process.
One of the more interesting clauses had to do with Christmas bonuses. The original FSL wanted all Christmas bonuses reduced to $600 across the board. Under the new agreement, 2014 bonuses will be maintained at 2013 level. Starting in 2015, bonuses will be reviewed by each agency on a case-by-case basis. In a notable twist, bonus levels will be used to provide an incentive for energy conservation: if each agency can achieve a 10% energy cost savings, its employees will earn their full bonuses (presumably equal to 2013 levels). Lower cost savings in the 5-10% range will result in pro-rated bonuses.
As we see it, with only days to go before it comes to a vote before the House, the Fiscal Sustainability Law may have already been stripped of many of its most significant cost-saving features. In fact, union leaders may have already achieved their major objective: a guarantee from the Governor that there will be no layoffs and no reduction in work hours. Assuming the Law passes, the annual review/negotiation process that has been agreed upon has the potential of injecting an element of uncertainty into the annual budgeting process.
In all fairness, it is quite conceivable that the original language of the FSL was meant as a negotiating position all along and that Administration officials knew they couldn’t get away with everything they proposed. From that perspective, the ability to achieve any cost saving at all might well be viewed as a positive outcome.
The deal with the central government unions does not even cover the electric utility’s labor force, where presumably much of the bureaucratic bloat resides. In fact, Uitice, one of PREPA’s unions, has already voted to strike. Utier, the largest PREPA union, is expected to vote for a strike shortly.
The pushback from the unions is expected to reach its crescendo over the next two weeks as PR’s organized labor tries its best to derail passage of the Fiscal Recovery Act. It has already proven it can play hardball politics.
Disclaimer: The opinions and statements expressed in this column are solely those of the author and Axios Advisors, who are solely responsible for the accuracy and completeness of this column. This column does not reflect the position or views of RICIC, LLC or MuniNetGuide.
The opinions and statements expressed on this website are for informational purposes only, and are not intended to provide investment advice or guidance in any way and do not represent a solicitation to buy, sell or hold any of the securities mentioned. Opinions and statements expressed reflect only the view or judgment of the author(s) at the time of publication, and are subject to change without notice. Information has been derived from sources deemed to be reliable, but the reliability of which is not guaranteed. Readers are encouraged to obtain official statements and other disclosure documents on their own and/or to consult with their own investment professional and advisors prior to making any investment decisions.