The Recovery Act, signed by Gov. Alejandro García Padilla in late June, allows certain Puerto Rican public corporations and other instrumentalities of the commonwealth to seek protection from creditors through bankruptcy-like debt restructuring process in local courts.

The law has sparked a flood of downgrades, with S&P on Friday following similar moves by Moody’s Investor Service and Fitch Ratings. The governor said Puerto Rico would consider suing Moody’s over its four-notch downgrade, but has not commented on the Fitch and S&P cuts.

Although the Recovery Act specifically excludes GO, general fund appropriation secured, and Puerto Rico Sales Tax Financing Corporation (Cofina) secured debt, S&P said it could potentially limit the demand for liquidity and budgetary support to the public corporations from the commonwealth and the Government Development Bank.

“We also believe that the enactment of the bill is indicative of the mounting economic and fiscal challenges for the commonwealth as a whole, which could lead to additional liquidity pressures in the long term, and enactment of the legislation itself signals a potential shift in the commonwealth’s historically strong willingness to continue to meet its obligations to bondholders, particularly in the event of constrained market access,” S&P said.

“S&P’s suggestion that the recent passage of the Recovery Act signals a potential shift in the commonwealth’s historically strong willingness to continue to meet its obligations to bondholders is simply incorrect,” Government Development Bank Chairman David Chafey and Treasury Secretary Melba Acosta said in a joint statement. “The Recovery Act specifically excludes the Commonwealth, all of its municipalities, the GDB and COFINA and in no way alters our commitments to honor our GO, COFINA and other related credits. The explicit aim of the Recovery Act is to protect and strengthen the GDB, General Fund, and Puerto Rico’s GO credit by giving public corporations the opportunity to become self-sustaining businesses that no longer require support from the general fund or the GDB.”

S&P cut Puerto Rico’s GOS to BB’ from BB+.

It also lowered the island’s top-rated Cofina bonds. First lien sales tax bonds were cut to BBB from AA-; the second lien Cofina sales tax underlying rating was lowered to BBB- from A+.

S&P said the multiple notch downgrade of Cofina to bring it closer to the GO level stems from its view that the Recovery Act raises the risk that the commonwealth may seek additional changes in statutory law that could potentially reduce the separation in credit quality of Cofina’s sales tax pledge from the commonwealth’s finances should financial stress on the general fund increase significantly. However, S&P continues to maintain an investment grade rating on the Cofina bonds due to the strong statutory provisions that still remain in place giving Cofina a first lien on pledged sales taxes, before transfer of excess revenues to the general fund after payment of Cofona debt service.

The rating reduction on Cofina also reflects continued weak economic trends over the past year.

“Cofina debt has an escalating annual debt service schedule, and while we believe current annual debt service coverage is strong by pledged sales and use taxes, weak economic and revenue performance could translate to lower annual coverage coverage in the future,” S&P said.

The Wall Street ratings agency pointed to fiscal 2014 (ended June 30) preliminary number released by the Puerto Rico government on Friday that showed tax revenues rose 5 percent but missed estimates by $488 million.

S&P also also downgraded the Highways and Transportation Authority (HTA) to B’ from BB.

“We believe the new law facilitates Puerto Rico’s eventual restructuring of HTA operations and debt obligations, including approximately $2 billion in loans payable to GDB, as well as outstanding toll and gas and petroleum tax secured bonds,” S&P said.

S&P said the Puerto Rico government’s finances remain shaky despite the positive step of passing a balanced fiscal 2015 budget.

“Although from a credit standpoint we view the recent enactment of a budget for fiscal 2015 that significantly improves structural alignment for fiscal 2015 as favorable, we nevertheless continue to view the commonwealth’s fiscal situation as precarious,” S&P said. “We believe there will be spending pressure from escalating GO and Cofina related debt service in future years and—absent implementation of reform measures currently under judicial stay—potential for rising costs related to the commonwealth’s teacher retirement system.”

The enacted general fund budget for fiscal 2015 projects no new deficit financing, but S&P said there are still implementation risks to the achievement of budget projections. These include a history of revenues coming in below budget and difficulty in reducing expenditures. The 2015 budget assumes new revenue measures of $370 million, plus $170 million of additional revenue from collecting the sales & use tax (IVU) at ports of entry, plus $112 million of additional revenue from rum sales and other adjustments.

The commonwealth recently announced general fund net revenues were $488 million short of fiscal 2014 budgeted amounts, on budgeted fiscal 2014 revenues of $9.5 billion. The fiscal 2014 budget had originally targeted a deficit of $650 million, or 6 percent of appropriations, and now has an estimated fiscal 2014 deficit of $783 million, or 8 percent of amended budgeted appropriations, according to S&P. The commonwealth attributes some of the shortfall to taxpayers who postponed tax filings, which may result in increased deferred revenue as extended filing deadlines are reached shortly after fiscal year end.

The executive budget proposal for fiscal 2015 projects expenditures reductions of about $130 million from fiscal 2014, the result of cost escalators of $1.2 billion offset by corrective measures of $1.4 billion.

S&P said lawmakers also made additional spending-side adjustments in the fiscal 2015 budget, with an additional $82 million in net spending cuts that were included in the enacted budget. Corrective expenditure reductions include certain freezes in funding formula increases, and the redirection of certain recurring revenues from public corporations to related expenses, among other measures.

“The negative outlook on the GO debt reflects our view of implementation risk in achieving progress toward structural budget alignment in fiscal 2015, potential limitations on capital market access, and continued weak economic conditions that we believe show recent signs of stabilization, but not yet meaningful growth,” S&P said.

Should fiscal 2015 develop a material general fund deficit as the fiscal year progresses, to the extent general fund liquidity is affected during its one-year rating outlook horizon, or economic conditions deteriorate substantially, S&P could lower the rating. If, in S&P’s view, financial, liquidity and economic conditions improve significantly the outlook could be returned to stable.

“We do not see upside rating potential at this time due to the uncertainty surrounding the potential restructuring of public corporation debt and its impact on the central government and the Government Development Bank,” S&P said.

The negative outlook on related appropriation secured and other debt and debt subject to prioritization after payment of GO debt under the Puerto Rican Constitution is based on S&P’s GO rating outlook.

The negative outlook on Cofina debt reflects the possibility over the next two years S&P could lower Cofina’s rating should it lower the commonwealth’s GO rating, and its view that a smaller rating separation between Cofina and the GO rating is appropriate following passage of the Recovery Act.

In addition, should the commonwealth make statutory changes that affect the level of pledged sales tax revenues, or there should be a significant decline in pledged revenues for economic reasons, S&P said it could lower the rating.

S&P also downgraded the following ratings: Puerto Rico Municipal Finance Agency, the Puerto Rico Employees Retirement System, and general fund-supported appropriation and moral obligation bonds to BB- from BB; and its ratings on the Puerto Rico Infrastructure Financing Authority (rum tax) and the Puerto Rico Convention Center District Authority (hotel tax) ratings to BB from BB+.