Detroit on the Razor’s Edge: Day IV. In the fourth day of municipal bankruptcy hearings before U.S. Bankruptcy Judge Rhodes on the Motor city’s eligibility for chapter 9 municipal bankruptcy, creditors cross-examined Detroit Emergency Manager Kevyn Orr, who warned, “Detroit will spiral into a free-fall crisis if creditors succeed in kicking the city out of bankruptcy court.” Earlier, Mr. had painted a grim picture of life in Detroit, from a fire department with faulty equipment to blighted neighborhoods where school children say they are afraid of “everything” as they walk to school or their bus stops: “If we do not go through Chapter 9, this city will continue to fail: Detroit will spiral into a free-fall crisis if creditors succeed in kicking the city out of bankruptcy court,” warning that if Detroit is denied Chapter 9 relief, the city will return to a 10-year trend of racking up $100 million annual deficits and resident flight that each year saw Detroit’s population shrink by the size of Romulus (Romulus, not the twin of Remus, is a city in neighboring Wayne County of 23,000.) The day in court was headlined by the unprecedented testimony of a sitting governor, Governor Rick Snyder, who termed the city’s situation “a crisis,” and testified he had taken several measures to address the city’s troubles over the past two years, including negotiating an agreement with its Mayor, Dave Bing, under which the city would cut some of its losses and streamline operations in return for $137 million to pay its bills. However, he testified, the city’s failure to honor the agreement led him to declare a financial emergency under state law. He then appointed Mr. Orr to the powerful post of emergency manager, giving him nearly unilateral control of the city’s finances and operations. Nevertheless, the Governor stated he had no preconceived plan to steer Detroit into bankruptcy, and acted only after Mr. Orr recommended that the city file for Chapter 9 in mid-July: “It was a tremendously difficult decision to make, but the right one.”
Was Authorizing the City of Detroit to File for Bankruptcy a Hard Decision? The decision to approve the biggest municipal bankruptcy in U.S. history was “tremendously difficult” but the right call, Gov. Rick Snyder testified. During his testimony, the Governor was questioned about his decision to authorize Detroit to file for Chapter 9 bankruptcy last July. The filing came amid a flurry of lawsuits filed against Detroit that had the potential to block the Governor from approving a bankruptcy petition. The Governor replied: “This problem has been accumulating for 60 years that have not been solved before and there are not that many problems of this magnitude in our country.” Detroit retiree/employee lawyer William Wertheimer asked Gov.Snyder what prompted him to approve the bankruptcy case. In response, Gov. Snyder testified: “It was more the filing of the lawsuits…Bankruptcy is the very last resort and these actions showed there wasn’t a meeting of the minds and not a mutual understanding to resolve this short of bankruptcy…That was part of my decision-making process; when I was comfortable signing a letter authorizing bankruptcy. It was a tremendously difficult decision to make, but the right one.”
Pensions. Gov. Rick Snyder chose not to attach any strings to the Detroit bankruptcy filing that would protect vested retiree pensions because he did not want to slow down the historic case. Pension fund lawyer Ron King asked the Governor why he did not approve a bankruptcy filing on the condition that it would not cut vested retiree pensions, which are protected by the state constitution. To which Gov. Snyder responded: “I made the decision not to put any conditions because my concern was this is an extremely difficult process, we are in a crisis mode and have serious issues here and felt it could be an issue causing more delays…I have confidence in the judicial process…I believe I am following the constitution and the constitution of the United States, which treat pensions as a contractual obligation.” Gov. Rick Snyder said the state will pay Detroit retiree pensions if a judge determines that Michigan has an obligation to bankroll vested pension benefits. “That is a legal question,” Snyder said during questioning from attorney William Wertheimer, who represents several Detroit employees and retirees. “If the court decides we had a constitutional obligation, we would pay it.” Gov. Rick Snyder’s top lawyer recommended placing conditions on a Detroit bankruptcy filing regarding the treatment of vested retiree pension benefits — conditions that were nowhere to be found when the city filed Chapter 9 in mid-July. A lawyer for Detroit retirees produced a July 12 email from the Governor’s legal counsel, Mike Gadola, who recommended placing conditions on the bankruptcy. The email was sent six days before the city filed bankruptcy. “The conditions could also include such items as pre-approval for anything having to do with vested pension benefits (general obligation) bonds or the disposition of certain assets, or assets greater than a certain amount in value. We would need time to figure out what those conditions should be if the Governor is included to impose them,” Mr. Gadola wrote. After being shown the email, the Governor said it was not a mandate, but a possibility to include conditions on the bankruptcy filing. In the end, there were no conditions attached to the city’s July 18 bankruptcy filing. Orr said he believes federal law trumps state law when it comes to pensions in bankruptcy. He was responding to a question from Ullman about whether Orr was upholding an oath he took to become emergency manager to protect the Michigan constitution by proposing the pension cuts.
Good Faith Negotiations? Lawyers for unions and retirees challenged Mr. Snyder on whether Mr. Orr had made good-faith attempts to negotiate concessions on pensions before recommending bankruptcy. For his part, the Governor replied that he believed unions and retirees had an opportunity to bargain with Mr. Orr after he made a blanket proposal to reduce pensions at a meeting with creditors in June. Similarly, yesterday afternoon, Mr. Orr sparred with union lawyers who accused him of seeking concessions under the threat of bankruptcy, rather than negotiating in good faith. Mr. Orr responded he welcomed counterproposals from the unions about cost savings, but did not receive any after the initial creditors meeting.
Kevyn Orr. Mr. Orr, whose cross examination was interrupted for three hours for Gov. Snyder’s appearance, said he was “shocked” at the state of the city’s finances and services when he took over as emergency manager: “I knew things were bad, but it was somewhat shocking just how dire it was.” He described a city so destitute that payroll checks were bouncing, and frightened children armed themselves with rocks and sticks to fight off assaults on their way to school. He said some of Detroit’s electric grids could not be fixed because conditions were too dangerous for repair crews. If Detroit is denied Chapter 9 relief, he warned, the city will return to a 10-year trend of racking up $100 million annual deficits and resident flight. Mr. Orr noted that a number of lawsuits were filed in the weeks before the city filed for bankruptcy on July 18, saying that the litigation made it clear that city creditors were not willing to make compromises on reducing Detroit’s debt: “Given the amount of litigation, it was clear to me there was going to be no other way to pursue a comprehensive and orderly restructuring of the city’s problems in an expeditious way.” He testified that Detroit’s financial status was “shocking” when he first took office, saying that no knowledgeable person had ever disputed his claim that the city is insolvent. At the end of his testimony, Mr. Orr offered a blunt opinion of what would happen to Detroit if Judge Rhodes rejected the city’s Chapter 9 filing. “To put this city back to the status quo is clearly unacceptable,” he said. “If we do not go through Chapter 9, this city will continue to fail.”
The trial is expected to last several more days, with union leaders likely to testify that they had little opportunity to negotiate with Mr. Orr before the bankruptcy filing. Judge Rhodes has set aside additional days in early November if needed.
Jiggering with the Recovery Plan. Commissioners David Carrington and Jimmie Stephens of Jefferson County Friday completed meetings in New York City with creditors in an effort to fine tune the county’s exit from chapter 9 municipal bankruptcy, seeking new concessions from creditors, and warning that additional negotiations will be necessary with major creditors of the county’s debt-laden sewer system. The Commissioners had set a deadline of close of business yesterday for the County’s sewer creditors to accept a modified plan of adjustment with $350 million in concessions or risk additional months, if not years, dealing with the county in bankruptcy. However, no response has been received from the creditors, including JP Morgan Chase & Co., the hedge funds, the bond insurers and smaller banks. Jefferson County leaders have stated they cannot ask the bankruptcy court to confirm the county’s current plan without the additional concessions. If creditors agree to the concessions, the County Commission will likely schedule a meeting no later than this week to pull notices sent last week announcing plans to terminate the plan support agreements by Nov. 4—with concessions by the creditors making such notices void; a confirmation hearing in bankruptcy court is scheduled for Nov. 12th, and Jefferson County leaders have said they plan to exit bankruptcy by end of the year. However, the non-response means the county’s options are unclear, albeit they have said they are willing to withdraw the bankruptcy exit plan and begin the process again―an action that could cost millions of dollars on both sides—and those are just the legal fees. It’s also unclear what creditors will do. Some believe the county has not done enough to fill the hole and even say Jefferson has added to the spread by asking for an engineering report that was not needed. The report recommended an extra $150 million to maintain the sewer system and that addition is one reason—plus higher interest rates which account for the other $200 million—the plan is no longer feasible, according to some. Nevertheless, Commission President Carrington seems quite resolute, making clear last week: “I want to note that some sewer creditors, in times past, have underestimated this commission’s resolve to act decisively…It would not be prudent for them to make that mistake again.”