Franklin Cal. Tax-Free Trust v. Puerto Rico

• Citation: 85 F.Supp.3d 577
• Decision Date: 06 February 2015
• Docket Number: 14–1569FAB.,Civil Nos. 14–1518 FAB
• Parties: FRANKLIN CALIFORNIA TAX–FREE TRUST, et al., Plaintiffs, v. Commonwealth of PUERTO RICO, et al., Defendants. BlueMountain Capital Management, LLC, Plaintiff, v. Alejandro J. Garcia–Padilla, et al., Defendants.
• Court: U.S. District Court — District of Puerto Rico

85 F.Supp.3d 577

FRANKLIN CALIFORNIA TAX–FREE TRUST, et al., Plaintiffs

v.Commonwealth of PUERTO RICO, et al., Defendants.

BlueMountain Capital Management, LLC, Plaintiff

v.Alejandro J. Garcia–Padilla, et al., Defendants.

Civil Nos. 14–1518 FAB

14–1569FAB.

United States District Court, D. Puerto Rico.

Signed Feb. 6, 2015.

Jonathan M. Wagner, Tom Mayer, Phil Bentley, Amy Caton, Kramer Levin Naftalis & Frankel, LLP, New York, NY, Manuel Fernandez–Bared, Linette Figueroa–Torres, Toro, Colon, Mullet, Rivera & Sifre, PSC, San Juan, PR, Laura R. Dominguez–Llerandi, Guaynabo, PR, for Plaintiffs, Franklin California Tax–Free Trust, et al.

Christopher Landau, Claire Murray, Eugene F. Assaf, James H.M. Sprayregen, Jeffrey Powell, Liam P. Hardy, Michael A. Glick, Susan M. Davies, Kirkland & Ellis, LLP, Washington, DC, Janitza M. Garcia–Marrero, Joseph G. Feldstein–Del Valle, Maraliz Vazquez–Marrero, Jorge L. Flores–De Jesus, Department of Justice, Jorge R. Roig–Colon, Gonzalez, Machado & Roig, LLC, Alejandro Febres–Jorge, Pietrantoni Mendez & Alvarez, Virgilio J. Machado–Aviles, San Juan, PR, Lawrence Bart Friedman, Lewis Jeffrey Liman, Sean Aaron O'Neal, Clearby Gottlieb Steen & Hamilton LLP, New York, NY, Richard James Cooper, Guaynabo, PR, for Defendants, Commonwealth of Puerto Rico, et al. and Alejandro J. Garcia–Padilla, et al.

Matthew D. McGill, Scott G. Stewart, Theodore B. Olson, Gibson, Dunn & Crutcher LLP, Washington, DC, Matthew J. Williams, Gibson, Dunn & Crutcher LLP, New York, NY, Jeffrey M. Williams–English, Leticia Casalduc–Rabell, David C. Indiano–Vicic, Indiano & Williams, PSC, San Juan, PR, for Plaintiff, BlueMountain Capital Management, LLC.

OPINION AND ORDER

BESOSA, District Judge.

Plaintiffs in these two cases seek a declaratory judgment that the Puerto Rico Public Corporation Debt Enforcement and Recovery Act (“Recovery Act”) is unconstitutional. (Civil No. 14–1518, Docket No. 85; Civil No. 14–1569, Docket No. 20.) Before the Court are three motions to dismiss plaintiffs' complaints and one cross-motion for summary judgment.

For the reasons explained below, the Court GRANTS in part and DENIES in part the three motions to dismiss, (Civil No. 14–1518, Docket Nos. 95 & 97; Civil No. 14–1569, Docket No. 29), and GRANTS in part and DENIES in part the cross-motion for summary judgment, (Civil No. 14–1518, Docket No. 78). Because the Recovery Act is preempted by the federal Bankruptcy Code, it is void pursuant to the Supremacy Clause of the United States Constitution.

I. BACKGROUND

Plaintiffs collectively hold nearly two billion dollars of bonds issued by the Puerto Rico Electric Power Authority (“PREPA”). As background for the bases of plaintiffs' claims challenging the constitutionality of the Recovery Act, the Court first summarizes relevant provisions of the PREPA Authority Act (which authorized PREPA to issue bonds), the Trust Agreement (pursuant to which PREPA issued bonds to plaintiffs), the Recovery Act itself, and Chapter 9 of the federal Bankruptcy Code.

A. The Authority Act of May 1941

In May 1941, the Commonwealth of Puerto Rico (“the Commonwealth”) enacted the Puerto Rico Electric Power Authority Act (“Authority Act”), P.R. Laws Ann. tit. 22 §§ 191 –239, creating PREPA and authorizing it to issue bonds, id. §§ 193, 206. Through the Authority Act, the Commonwealth expressly pledged to PREPA bondholders “that it will not limit or alter the rights or powers hereby vested in [PREPA] until all such bonds at any time issued, together with the interest thereon, are fully met and discharged.” Id. § 215. The Authority Act also expressly gives PREPA bondholders the right to seek the appointment of a receiver if PREPA defaults on any of its bonds. Id. § 207.

B. The Trust Agreement of January 1974

PREPA issued the bonds underlying these two lawsuits pursuant to a trust agreement with U.S. Bank National Association as Successor Trustee, dated January 1, 1974, as amended and supplemented through August 1, 2011 (“Trust Agreement”). The Trust Agreement contractually requires PREPA to pay principal and interest on plaintiffs' bonds promptly. Trust Agreement § 701. Plaintiffs' bonds are secured by a pledge of PREPA's present and future revenues, id., and PREPA is prohibited from creating a lien equal to or senior to plaintiffs' lien on these revenues, id. § 712. Upon the occurrence of an “event of default,” as the term is defined in the Trust Agreement, plaintiff bondholders may accelerate payments, seek the appointment of a receiver “as authorized by the Authority Act,” and sue at law or equity to enforce the terms of the Trust Agreement. Id. §§ 802–804. An event of default occurs when, among other things, PREPA institutes a proceeding “for the purpose of effecting a composition between [PREPA] and its creditors or for the purpose of adjusting the claims of such creditors pursuant to any federal or Commonwealth statute now or hereafter enacted.” Id. § 802(g).

C. The Recovery Act of June 2014

On June 25, 2014, the Commonwealth Senate and House of Representatives approved the Recovery Act, and on June 28, 2014, the Governor signed the Recovery Act into law. The Recovery Act's Statement of Motives indicates that Puerto Rico's public corporations, especially PREPA, “face significant operational, fiscal, and financial challenges” and are “burdened with a heavy debt load as compared to the resources available to cover the corresponding debt service.” Recovery Act, Stmt. of Motives, § A. To address this “state of fiscal emergency,” the Recovery Act establishes two procedures for Commonwealth public corporations to restructure their debt. Id., Stmt. of Motives, §§ A, E. It also creates the Public Sector Debt Enforcement and Recovery Act Courtroom (hereinafter, “special court”) to preside over proceedings and cases brought pursuant to these two procedures. Id. § 109(a).

The first restructuring procedure is set forth in Chapter 2 of the Recovery Act and permits an eligible public corporation to seek debt relief from its creditors with authorization from the Government Development Bank for Puerto Rico (“GDB”). Recovery Act § 201(b). The public corporation invoking this approach proposes amendments, modifications, waivers, or exchanges to or of a class of specified debt instruments. Id. § 202(a). If creditors representing at least fifty percent of the debt in a given class vote on whether to accept the changes, and at least seventy-five percent of participating voters approve, then the special court may issue an order approving the transaction and binding the entire class. Id. §§ 115(b), 202(d), 204.

Chapter 3 of the Recovery Act sets forth the second restructuring approach. Under this approach, an eligible public corporation, again with GDB approval, submits to the special court a petition that lists the amounts and types of claims that will be affected by a restructuring plan. Recovery Act § 301(d). The public corporation then files a proposed restructuring plan or a proposed transfer of the corporation's assets. Id. § 310. The special court may confirm the plan if the plan meets certain requirements, id. § 315, including a requirement that “at least one class of affected debt has voted to accept the plan by a majority of all votes cast in such class and two-thirds of the aggregate amount of affected debt in such class that is voted,” id. § 315(e). The special court's confirmation order binds all of the public corporation's creditors to the restructuring plan. Id. § 115(c).

Chapter 2 of the Recovery Act provides for a suspension period and Chapter 3, an automatic stay, during which time creditors may not assert claims or exercise contractual remedies against the public corporation debtor that invokes the Recovery Act. See Recovery Act §§ 205, 304.

D. Chapter 9 of the Federal Bankruptcy Code

The Recovery Act is modeled on Title 11 of the United States Code (“the federal Bankruptcy Code”), and particularly on Chapter 9 of that title. Recovery Act, Stmt. of Motives, § E. Chapter 9 governs the adjustment of debts of a municipality, 11 U.S.C. §§ 901 et seq., and “municipality” includes a public agency or instrumentality of a state, id. § 101(40). A municipality seeking to adjust its debts pursuant to Chapter 9 must receive specific authorization from its state. Id. § 109(c)(2). Puerto Rico municipalities are expressly prohibited from seeking debt adjustment pursuant to Chapter 9. Id. § 101(52).

II. THE PRESENT LITIGATION

A. Franklin and Oppenheimer Rochester Plaintiffs' Second Amended Complaint (Civil No. 14–1518)

Franklin plaintiffs¹ are Delaware corporations or trusts that collectively hold approximately $692,855,000 of PREPA bonds. (Civil No. 14–1518, Docket No. 85 at ¶ 3.) Oppenheimer Rochester plaintiffs² are Delaware statutory trusts that hold approximately $866,165,000 of PREPA bonds. Id. at ¶ 4. On August 11, 2014, the Franklin and Oppenheimer Rochester plaintiffs filed a second amended complaint against the Commonwealth of Puerto Rico, Alejandro Garcia–Padilla (in his official capacity as Governor of Puerto Rico), Melba Acosta (in her official capacity as a GDB agent), and PREPA. (Civil No. 14–1518, Docket No. 85.) The Franklin and Oppenheimer Rochester plaintiffs seek declaratory relief on the following claims: (1) Preemption: that the Recovery Act in its entirety is preempted by section 903 of the federal Bankruptcy Code and violates the Bankruptcy Clause of the United States Constitution; (2) Contract Clause: that sections 108, 115, 202, 312, 315, and 325 of the Recovery Act violate the Contract Clause of the United States Constitution by impairing the contractual obligations imposed by the Authority Act and the Trust Agreement; (3) Takings Clause: that the Recovery Act violates the Takings Clause of the United States Constitution by taking without just compensation plaintiffs' contractual right to seek the appointment of a receiver, see Recovery Act § 108(b), and plaintiffs' lien on PREPA revenues, see id. §§ 129(d), 322(c); and (4) ...