Reuters blog archive
By Kevin Allison
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
Bondholders in Detroit’s $18 billion bankruptcy must feel like they’re in a mirror universe. A restructuring plan filed by the city’s emergency manager would effectively turn bankruptcy precedents upside down by paying equity holders – in this case, ordinary Detroiters – at the expense of secured creditors. Such a shareholder-friendly approach might save the city and anoint Judge Steven Rhodes a hometown hero. But it may yet come at a market price.
Detroit’s Chapter 9 case is a long way from a more familiar Chapter 11 bankruptcy. When a company can’t make good on its debts, shareholders get wiped out first, with creditors carving up what’s left.
Cities don’t have shareholders, and there are few precedents to the bankruptcy of a major municipality, but viewed through a financial lens, residents arguably play a similar role. They appoint management to run the city and they benefit from its expenditures, whether it is police protection, sanitation or other services - a bit like equity holders sharing in a firm’s profits.
The stream of analysts blasting Detroit's proposed treatment of creditors summarized in 3 words: This is unprecedented! Yes. But is it fair?
— Nathan Bomey (@NathanBomey) February 24, 2014
Detroit’s proposed treatment of general obligation bondholders has turned muniland upside down. Here is what Fitch Ratings says:
Detroit Institute of Art (DIA)
Various foundations contributing to save the DIA
Residents of Detroit
The state of Michigan
A showdown between bond insurers and city attorneys in Detroit’s bankruptcy highlights the level of protection that secured bondholders have in Chapter 9 bankruptcy. Detroit attorneys argued that federal bankruptcy law trumps Michigan state law and that “secured” bonds could be impaired. From Chad Livengood of the Detroit News:
[Bond insurers] Ambac Assurance Corp., Assured Guaranty Municipal Corp. and National Public Finance Guarantee Corp. want [federal bankruptcy judge Stephen] Rhodes to order the city to segregate special property taxes Detroit voters approved for economic development, cultural and recreation projects and public safety facilities and resume paying bondholders the full amount owed.
Having watched six municipal bankruptcies happen before Detroit filed for Chapter 9 protection, it was never clear why Michigan Governor Rick Snyder and Detroit Emergency Manager Keyvn Orr thought that they could conclude court proceedings in only fourteen months. Previous bankruptcies were much smaller and less complex, and each took several years to conclude.
Detroit’s bankruptcy leaders have set an aggressive schedule to resolve difficult elements of the case. Reuters reported:
There is a shadowy part of muniland. It is populated by liabilities that are absent from balance sheets and municipal debt that was contracted by circumventing the law.
Muniland’s biggest unknown liabilities are unfunded pensions and retiree health care benefits that until recently were not required to be on issuers’ balance sheets. The information related to these often enormous future expenses had previously only been reported in footnotes. Muniland’s accounting overseer said in 2012:
from The Great Debate:
For the second year in a row, the issue of economic inequality was featured in President Barack Obama’s State of the Union Address. Even some Republican lawmakers have now dared to speak the “i-word.”
Though Obama predictably avoided comparisons between the earnings held by the top 1 percent and the 99 percent of Occupy Wall Street fame, the message was familiar: The widening income gap between the very rich and everyone else is a stain on the social compact and a serious problem for future economic growth.
Swaps ruling winners: Retirees, residents, pension funds, bondholders. Losers: Kevyn Orr, Jones Day, Gerald Rosen, UBS, Bank of America.
— Nathan Bomey (@NathanBomey) January 16, 2014
In a stunning decision, bankruptcy judge Steven Rhodes refused to approve a $165 million settlement proposed by Detroit emergency manager Kevyn Orr to pay off Bank of America/Merrill Lynch and UBS for dubious interest rate swaps. Orr’s swap proposal has been contentious since Detroit formally filed for bankruptcy on July 18th, 2013. The Detroit News reported:
By Richard Beales and Kevin Allison
The authors are Reuters Breakingviews columnists. The opinions expressed are their own.
Christie’s says artworks owned by bankrupt Detroit could fetch up to $866 million. But there’s no need to stop there. With 78,000 abandoned buildings and a Banksy tag potentially worth $1 million or more, graffiti could help save the day.
Fitch Ratings managing director Amy Laskey talked to Fox Business about how Detroit is a unique story in muniland. Fitch published a research note on the bankruptcy ruling and concluded that Detroit’s ruling would not lead to a “spate” of local bankruptcies in Michigan:
Although the judge ruled that pensions could be adjusted, Fitch does not believe the ruling grants Detroit's emergency manager unlimited freedom to adjust these obligations. The city must submit a plan of adjustment to the bankruptcy court, which must be deemed 'fair and equitable' by the presiding judge. The emergency manager expects to submit the plan to the court by year-end. Fitch does not believe that the judge's decision on pensions will lead to a spate of additional bankruptcy filings in Michigan.