Interim Agreement. In a filing late Tuesday with the U.S. Bankruptcy Court, attorneys for the City of San Bernardino and CalPERS advised the court the two sides had “reached an interim agreement regarding various items that will help form the basis for a plan of adjustment.” While the filing provided few details about the agreement, it could mark a significant breakthrough—potentially short circuiting a pending challenge in the 9th U.S. Court of Appeals as to whether the federal municipal bankruptcy law prevails over the California state constitution with regard to public pensions. Indeed, the issue of pensions and CalPERS has been festering in each of the fiscally challenged cities in California, with U.S. Bankruptcy Judge Christopher Klein, who presided over Stockton’s chapter 9 municipal bankruptcy case noting: “We have a festering sore here…We’ve got to get in there and excise it.” San Bernardino—unlike its neighbor Stockton to the north, withheld payments to CalPERS in the wake of filing for federal bankruptcy protection in 2012. Even though it has resumed making payments, the city still owes the pension fund about $13.5 million in back payments, plus interest and penalties. U.S. Bankruptcy Judge Meredith Jury had ordered the two sides into court-supervised mediation—with the potential breakthrough this week mayhap indicating the city could now focus on seeking to hammer out a deal with its labor unions—noting in its filing: “Having recently concluded its plan negotiations with the California Public Employees’ Retirement System…the city, its officers and legal counsel are now fully engaged in” talks with the police and fire unions, the lawyers wrote. The parallel constitutional challenges arising from the constitutionally protected pension contracts in Michigan and California – questions pending before the 6th and 9th U.S. Courts of Appeal—have been challenged by creditors in Stockton’s bankruptcy case, Detroit, and San Bernardino. But in California, CalPERS has warned that if a municipality even reduces its contributions—as Detroit, for instance, is doing as part of its plan of adjustment, its pension plan will be “terminated” and employees and retirees will see a significant reduction in benefits – 60 percent in Stockton’s case, according to testimony in the city’s recent bankruptcy trial. Stockton officials said police, firefighters and others would quit in droves if that happened, leaving the city essentially ungovernable. The pending outcome in San Bernardino could well ripple across the country: In addition to its own challenge of Judge Jury’s determination that San Bernardino is eligible for federal municipal bankruptcy protection with the 9th U.S. Circuit Court of Appeals, CalPERS has also filed an amicus brief with the 6th U.S. Circuit Court of Appeals on the Detroit bankruptcy eligibility decision by Judge Rhodes, claiming that Judge Rhodes’s decision “raises issues that are of critical importance to CalPERS and its 1.7 million members.” The brief in the 6th Circuit argues that Judge Rhodes ruled improperly and urges the court to vacate his finding that the chapter 9 federal law can overcome a state’s constitution. Notwithstanding that the Golden State’s laws and constitution have no force in a federal case in Michigan, CalPERS nevertheless charged that Judge Rhodes’ decisions with regard to Detroit’s municipal bankruptcy, especially with regard to public pensions, could well set a precedent for California and its cities, writing: “Such a precedent can be, and has been, misconstrued for the broad proposition that all pensions are subject to impairment in Chapter 9.”
The Motor City Hybrid Plan. Under the hybrid retirement plan set to trigger a week from Monday, Detroit’s employees will shift to hybrid benefits, under which the underlying purpose is to modify the investment risk. The plan sets up a series of eight “levers” or risk adjustors to trigger if the plan’s investments falter, including: 1) setting up a reserve fund that must be used to cover losses, 2) raising the workers’ required contributions, and 3) lowering retirees’ cost-of-living increases and making workers build up their benefits more slowly. The goal is provide a flexible set of tools or levers to try to ensure that the plan is on track to be 100 percent funded within five years—thereby reducing the risk to the city’s taxpayers—or, put another way—to the risk of service insolvency. To measure the level of funding, the plan will use a rate-of-return assumption of 6.75 percent—a level that would still provide for a significant level of risk, but significantly less than the 7.9 percent assumption the city was using before Kevyn Orr was appointed Emergency Manager by Michigan Governor Rick Snyder last year.
Diverging Pension Options. Even as chapter 9 San Bernardino might be on the brink of a pension agreement with the giant Golden State pension agency, the parallel pension promises of California and Michigan are almost certain to change effective July 1st—the day Motor City public employees will see deductions in their paychecks beginning next month as Detroit moves to implement a new hybrid pension plan, the emergency manager’s office said yesterday. Under the city’s new pension formulas will take effect next month for all active and new employees under the General Retirement System and Police and Fire Retirement System as part of the city’s plan to strengthen the two pension funds while maintaining a defined benefit retirement program. The changes, themselves a product of federal judicial mediation between the city and the Official Committee for Retirees of the City of Detroit and public employee unions; current employees who participate in the general pension system will contribute 4 percent of their weekly pre-tax base salary, and police and fire employees will contribute 6 percent toward the cost of benefits payable under their respective hybrid pension plans. Police and fire members hired after June 30 will contribute 8 percent. The Motor City, under the plan, will contribute a match amount to the respective new funds for each employee who participates, with deductions notched in employee paychecks beginning July 14—although some employees whose individual bargaining units have ratified new collective bargaining agreements could see their pension deductions offset by salary increases intended to incrementally return employees to 2010 pay levels over the next four years, according to the Emergency Manager, Kevyn Orr, who noted: “The city and its labor partners have come up with what we think is the best option to strengthen employee pensions, so we can continue to meet future obligations in a financially responsible and sustainable manner…This new pension plan is the result of months of intense negotiation between the city, its unions and its retirees.” Mr. Orr added: “The city’s intention all along was to create a sustainable retirement plan for its employees that is fiscally sound and continues to meet their needs.” In addition to the establishment of the new pension plan formulae, benefit accruals under each fund’s current benefit formulas will be frozen effective June 30th and closed to new employees. All current and future employees will participate in the new hybrid plans beginning July 1. This new plan only for Detroit’s active workers: the city’s retirees will keep 73 percent to 100 percent of their current base pensions under the city’s proposed plan of adjustment. The plan is, as Mary Walsh Williams of the New York Times wrote, “a hybrid, which means the workers will keep some of their current plan’s most valuable features but will give up others. Trading down to a less generous pension plan is often said to be a legal nonstarter for government workers, so if Detroit succeeds, its hybrid could become a model for other distressed governments from Maine to California.” Nevertheless, Detroit’s unions, like CalPERS, have not dropped their appeal of Judge Rhodes’ ruling last December that pensions could be cut under federal bankruptcy law, despite protective language in Michigan’s constitution; however, the unions are required to drop the appeal if they vote for Detroit’s plan of adjustment.
Out of Sync. Bond insurer and Motor City creditor Syncora yesterday reported it had subpoenaed two prominent Motor City business leaders, Dan Gilbert and Roger Penske, seeking to require them to appear early next month for separate depositions — albeit the court filings do not indicate the specific intent or aim of the depositions. What can be written is that both the targets have been supportive of the city’s chapter 9 resolution efforts—and both have prospered in the Motor City, notwithstanding the city’s municipal bankruptcy. Mr. Penske’s Michigan-based automotive giant Penske Corporation, founded in 1969, distributes diesel engines for the federally bailed-out GM. Perhaps better known as a former race car driver and owner of NASCAR and IndyCar teams Penske Racing, Mr. Penske earns more than most readers of this eBlog (the billionaire also owns the second-largest publicly traded auto retailer in Penske Automotive Group, which posted $13.2 billion in revenues for 2012.). For his part, Mr. Gilbert is the founder of Quicken Loans; he is co-chair of the city’s new blight task force. That is, in its own Gilbert & Sullivan sort of way, these two business leaders have been deeply involved in coordinating with Motor City business leaders in raising millions of dollars to rejuvenate cash-strapped police and fire departments with 23 new EMS rigs and 100 patrol cruisers. Both have supported various aspects of the city’s turnaround efforts—and, mayhap critically, each is on Mr. Orr’s list of witnesses he expects to call on during this August’s trial on whether to approve the city’s plan of adjustment. Indeed, it was Mr. Penske who told the Detroit Free Press earlier this month that he is confident Detroit’s bankruptcy will leave the city and the region better off: “I think Kevyn Orr, the emergency manager, is doing a terrific job. He’s patient, he’s got a mission and a track he’s on. At the end of the day, I think the process will prove to be the best for the people who live in this region for the next 100 years.”
Taking Risks.In looking at the municipal bankruptcies—(or near bankruptcy in Harrisburg) in California, Rhode Island, Alabama (Jefferson County), Pennsylvania, and Michigan;the roles of the respective states ranged from adverse (Alabama—as specifically noted by U.S. Bankruptcy Judge Thomas Bennett), to seemingly irrelevant (California), to positively reactive (Rhode Island). The federal chapter 9 law requires that state law provide authority for a municipality before it can even file for federal bankruptcy protection—something each of the states listed above do, but beyond that the potential risk of involvement—especially the truly extraordinary and bipartisan involvement taken by Michigan Gov. Rick Snyder and the state’s legislature involve, after all, fiscal risks—not to mention political risks. So, in a sense, it should not have come as a surprise when Standard and Poor’s (S&P) this week revised its outlook on Michigan to stable from positive, noting that its downward outlook revision was due to several economic and fiscal factors, including softening revenue. But the rating agency noted another factor: Michigan’s recent decision to dip into its rainy day fund to appropriate a $195 million contribution to the Motor City’s retirees as a critical part of the so-called “grand bargain” critical to Detroit’s bankruptcy exit plan. In its rating, S&P wrote that the state action “raises questions as to potential future state contributions to other distressed localities and school districts, and we will monitor the uniqueness of this event.” In a statement to the Bond Buyer, a spokesperson for the Governor’s office wrote: “We knew the Detroit settlement package and [budget stabilization fund] was a concern with the rating agencies, which is why the Governor felt it was important to address head on and show why the package was a financially responsible, smart way for the state to address Detroit, with benefits not only to Detroit and Detroiters but to the entire state and Michiganders,” adding that the contribution was unlikely to set a precedent for other distressed local governments: “The Detroit situation is an incredibly unique situation that really can’t and shouldn’t be used to draw any broader parallels,” adding that that earlier this week Fitch Ratings affirmed its AA rating and stable outlook on the state’s general obligation bonds, and Moody’s affirmed its Aa2 rating with a positive outlook. Needless to say, S&P did not analyze what its rating might have been had not the Governor and bipartisan state legislative leadership stepped up to the plate.