01.03.14

Racing to the Appeals. U.S. Bankruptcy Judge Steven Rhodes is set to reconvene the trial over Detroit’s proposed swaps settlement this morning, with Detroit emergency manager Kevyn Orr expected to return to the witness stand during the trial.On Day 2 of this trial last month, Judge Rhodes had abruptly halted the trial when Detroit refused to provide details of its assessment of the swaps, saying it would be difficult for him to approve the settlement without understanding the city’s legal arguments on the swaps. If the city opts this morning to continue keeping those arguments secret, Judge Rhodes could well reject the new, so-called Christmas Eve settlement, refereed by Chief U.S. District Court Judge Gerald Rosen, which calls for the city to pay the banks $165 million — down from roughly $200 million — as well as $4.2 million to terminate the swaps, or about a 62% payout on the face value of the swaps compared to 75% in the original swap settlement. The Motor City has argued that getting rid of the swaps would free up cash flow to reinvest in public safety and blight removal, while also removing restrictions over the use of its vital casino tax revenue. It was the dispute over the swaps settlement that led Judge Rhodes to question Mr. Orr’s decision to pay $230 million to settle the $293-million swaps transaction, suggesting the deal might be too generous to the banks, and sending the matter to Judge Rosen in an effort to work out a compromise. But bond insurer Ambac Assurance, which has been arguing for months that the swaps transaction was illegal and the settlement was a bad deal, yesterday filed a new objection to the proposed new settlement—claiming that because the swaps should be considered unsecured, not secured debt; they should not even have to be paid off―arguing that Detroit’s 2009 decision to pledge its casino revenue as collateral on the swaps was barred under Michigan law. In addition, the city’s two public pension funds are expected to oppose the agreement this a.m.

It Ain’t Over Until It’s Over. In a formal notice to the bond market earlier this week, Jefferson County, Ala., announced “substantial” consummation of its plan of adjustment and the discharge of the nation’s second-largest municipal bankruptcy case. The announcement followed last month’s closing on the sale of $1.78 billion of new sewer warrants and consequent use of the proceeds to write down the old debt under which Jefferson County substantially implemented its plan of adjustment to win release from bankruptcy, but not the court’s oversight. Indeed, it seems the legal fights are far from over with two local groups in the process of filing appeals. Moreover, even though the federal bankruptcy court approved Jefferson County’s Plan of Adjustment, the federal court retained exclusive jurisdiction over numerous aspects of the plan, “including implementation or enforcement of the approved [sewer] rate structure, issuance of the new sewer warrants under the new sewer warrant indenture,” and other elements such as decisions that modify, reverse, revoke, or vacate the confirmation order approving the plan. Consequently, the federal court could hear disputes over rate related matters over an extended number of years. When the plan was confirmed and largely implemented, all debts, claims and disputes that existed when the case began were discharged, including two cases brought by local groups identifying themselves as ratepayers of the county’s sewer system. But a group of 13 people who include current and former Birmingham City Council members, two state lawmakers, and others on the county’s sewer system, known as the Bennett ratepayers, have said they would file an appeal, challenging the old sewer debt and swaps, which no longer exist, as well as the new plan of finance for the sewer system implemented through the recent bankruptcy court-approved financing. The Bennett ratepayers plan to appeal a number of opinions, orders, judgments, and rulings of the bankruptcy court, including those pertaining to their case and the court’s orders on the use of sewer system revenues and confirmation of the plan. A separate group of three sewer system customers, referred to as the Wilson ratepayers, said they also would file a direct appeal of the bankruptcy confirmation order and other actions of the court. The Wilson group wrote in their filing that their appeal would ask if the bankruptcy court erred in denying their claim by ruling that “there was no direct pecuniary interest which would support such a claim in spite of direct case law which gives rise to a right to repayment if the underlying sewer rate structure” was found to unreasonable, discriminatory, confiscatory, or otherwise unlawful under Alabama’s constitution. The Wilson ratepayers are also seeking a ruling on whether the confirmation of the plan of adjustment properly extinguished their case, and also barred prosecution of a remaining count pending in state court. The appeals are in the process of being filed and no time frame has been given as to when the district court will begin to consider them.

The Prickly Challenge of Avoiding Re-entry into Municipal Bankruptcy. Desert Hot Springs, California, is desperately trying to avoid being the next California city to face bankruptcy―as well as the first city in the country to re-enter municipal bankruptcy (Desert Hot Springs filed for municipal bankruptcy in 2001). The city has eliminated its fire department; however, it faces a far greater problem in addressing its costs for its police department and obligations to the California Public Employees’ Retirement System (CalPERS)―with last springs’ budget of $7 million for the police force out of the total city budget of $10.6 million. An audit conducted prior to November’s elections showed the city was $4 million short and would run out of money by April 2014. Robert Adams, the acting city manager since August, notes the city is simply no longer able to pay for its police force: “What I would say is that we can’t pay them.” Last week, the new City Council voted unanimously to cut all city salaries by 22%, cap incentive pay, and lower the number of paid holidays and vacation days. Mr. Adams said that the cuts would still leave the city $2 million short by next June. Nevertheless, the police union protested that the cuts could hit some officers by as much as 40%. Wendell Phillips, a lawyer for the Desert Hot Springs Police Officers Association, has filed a fact-finding request with California’s Public Employment Relations Board, stating: “All they are going to end up doing is driving away their best, experienced officers and creating a police force made up of people who couldn’t get a job on another force.” Mr. Adams notes that the seemingly unaffordable police pension obligations are a legacy from when former Gov. Gray Davis offered them to the states’ prison guards. That was followed by the California Highway Patrol demanding the same pensions, and then city police officers from around the state. In addition, CalPERS, the huge state-run pension system which covers the employees of Desert Hot Springs, has consistently insisted that cities cannot reduce the pensions of public employees, even in the bankruptcies of Vallejo in 2008 and San Bernardino and Stockton in 2012. In Desert Hot Springs, as in many California cities, police officers can retire as young as 50 with 30 years of service and receive 90 percent of their final salary every year. For Desert Hot Springs, that translates so that for every dollar that the municipality pays its police officers, another 36 cents must be sent to CalPERS to fund their pensions―the average pay and benefits package for a Desert Hot Springs police officer was valued at $177,203 per year in 2011, in a city where the median household income was $31,356 that year.

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