The Extreme Challenges of Governance in Bankruptcy

eBlog

June 19, 2015
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Wait a Minute, Mr. Postman. In the wake of Wayne County Executive Warren Evans’ request for Michigan to declare the county in a financial emergency, Wayne County yesterday announced it would defer a $186 million note sale originally scheduled for today—a step taken so that potential investors have time to settle—and the county, which surrounds Detroit, might be able to enter into a consent agreement with the state. The sale is intended to tide over the county in order to make up for late property tax collections for its local governments. (Wayne County has 34 cities, including Detroit, and 9 townships—making it the 19th largest county in the nation.) Nevertheless, Wayne County cannot wait long: Deputy Treasurer Christa McLellan reports Wayne wants the money by the end of its fiscal year—June 30th, advising the Bond Buyer: “The request for state review will necessitate a delay in the sale of the notes which was to have taken place today, June 18,” Ms. McLellan said. “It is now expected to be rescheduled to Wednesday or Thursday of next week, in order to give investors time to digest and react to the executive’s announcement as well as understand the strengths and vitality of the delinquent tax program…Although the executive’s announcement has delayed our timing slightly, we are moving forward with a goal of closing on the notes before the end of this month.”

Getting Ready to Rumble. At the first hearing in U.S. Bankruptcy Judge Meredith Jury’s courtroom this week, the bulk of San Bernardino’s creditors were generally positive about the city’s proposed plan of debt adjustment—and how the city had finally come together to complete it. Unsurprisingly, the attorney representing San Bernardino’s municipal bondholders—creditors with some $50 million at risk—was less than enthusiastic about a plan under which, if approved by the federal court, those bondholders would receive about one penny on the dollar. The issue, very much as in Stockton’s bankruptcy case before U.S. Bankruptcy Judge Christopher Klein, will pit the city’s bondholders against almost all its other creditors—creditors in this case who generally told the federal court they respected the progress in a case that began with San Bernardino’s initial filing for chapter 9 municipal bankruptcy in August of 2013. The bondholder’s attorney charged that San Bernardino’s foot-dragging on the case had already been demonstrated by the city’s failure to propose a date for the hearing, which the attorney said would be standard practice, and he criticized the municipality for proposing a plan of debt adjustment which he noted might not work, because, he told Judge Jury, it depends on changes to the city charter that cannot be voted upon until 2016, and, it could then be rejected, testifying: “(The city’s filing) fails in our view in what was intended to be its central purpose, which was to finally move this case along…And raises once again the question of what the city has been doing for the almost three years that it has been under the protection of Chapter 9 (bankruptcy).” Democracy, of course, is quite different than a quasi-dictatorship: as we have noted, a key distinction between state laws which provide for municipal authority to seek federal bankruptcy protection, is whether such laws provide for an emergency manager or receiver, as opposed to leaving the elected leadership in place. Democracy can be messy—especially with regard to such agonizing public decisions. Indeed, interestingly, Ron Olinor, who represents the San Bernardino Police Officers Association, testified in praise of the city’s progress: “Obviously bondholders — Wall Street — don’t like the plan, and they’ll take their shots…You forced the city to move forward. They made hard decisions…I would say today is a very good day for the city and a very good day for this case.” The attorney representing a committee of retirees, Steven Katzman, also took issue with the bondholders’ attorney: “What Mr. Marriot ignores — even though I don’t think it’s the right place (to discuss it), but he brought it up…my committee has agreed to forsake $40 (million) to $50 million in health care benefits…It’s about the same amount of money that they’re owed. To say that they’re in the same place as us is sort of like saying Bill Gates and I are in the same place. They’re Bill Gates — they’re well off, they’re well-heeled — and my clients are giving up the same amount of money as his clients are.” For his part, San Bernardino City Attorney Paul Glassman testified the city’s proposed plan of debt adjustment does not depend on voters approving changes to the charter: “We’re simply talking about a reorganization that would assist the city and be viewed as helpful…We worked very hard to put together a plan that is not dependent upon an election happening.” Counselor Glassman told Judge Jury San Bernardino was operating under an interim charter agreement—a challenge to governance, and another hurdle drawing further criticism from the bondholders’ counsel, who told the court: “I don’t know how long the city can operate on a basis that’s inconsistent with its own charter.” The pension obligation bondholders are already appealing Judge Jury’s earlier decision that bondholders do not have to be paid the same as the California Public Employees’ Retirement System (CalPERS)—a replay of a similar challenge from the Stockton bankruptcy case. It appears now the next step will come next month, when Judge Jury will hear arguments about the fire union’s temporary restraining order against the city’s attempt to outsource the Fire Department—a key provision in the city’s plan of debt adjustment that could reduce its debts by as much as $7-10 million, but which the city’s fire union contends is prohibited by the city charter. Judge Jury has scheduled a hearing for October 8th to determine whether the financial disclosure statement San Bernardino filed along with its plan of debt adjustment is adequate, noting the city’s fiscal situation could change significantly by then.

The Fate of a U.S. Territory. In preparation for a possible debt crisis, Puerto Rico Gov. Alejandro García Padilla is seeking legislation to grant immunity from some lawsuits to the leadership and staff of Puerto Rico’s Government Development Bank (GDB), because, unlike the directors of most corporations and banks, the GDB’s leadership lacks immunity from lawsuits over their decisions. The proposed legislation would provide immunity to the banks’ leaders should they opt to default on particular GDB debt obligations; nevertheless, the leaders could still be sued for embezzlement or other illegal actions. There has been some apprehension that absent such legal protections, the bank’s leadership would opt to resign rather than risk liability over their decisions. With uncertainty with regard  to unlikely action by Congress to offer the U.S. territory legal options available to U.S. states, Gov. García Padilla warns that the Commonwealth is in the greatest financial crisis in its history: the timeline is shrinking, as the commonwealth, last March, issued a report saying that it might not be able to pay all obligations coming due in July and August. There is about $72 billion in public sector debt in the commonwealth. Historically, the GDB has financially supported many of the debt issuers. There are now two immunity bills in the legislature, with some hopes for progress, as one is currently in conference between the Puerto Rico House and Senate right now, and Representative Jesús Santa Rodríguez’s spokesperson reports the conference committee is on the verge of approving the measure. The action comes as the Puerto Rico House hopes to complete and send to the Senate the territory’s FY2016 budget as early as today. The last minute budget and debt negotiations come as creditors of Puerto Rico’s nearly insolvent public power utility PREPA have agreed to extend a creditor agreement to the end of the fiscal year—a key step to ensure more time for restructuring negotiations, and to protect the PREPA from default: the agreement had been scheduled to expire last night. PREPA, with about $9 billion of debt, also has a June 30 deadline by which to reach a restructuring deal with creditors—with the issue being the reaction to its proposed quasi plan of debt adjustment, which needs some $2.3 billion in investments to make its business more sustainable: its long-term prospects depend on converting a largely oil-fired generation fleet to natural gas—a key to lowering operating costs, and improving collections and increasing efficiencies, while also keeping electricity rates at the lowest possible levels to help spur economic growth. With PREPA confronting a July 1 deadline for a $400 million payment to its bondholders, creditors are questioning the proposal—with one going so far as to describe the utility’s proposal as “unworkable.”

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