Might San Bernardino’s Exit from Municipal Bankruptcy Offer Lessons for Puerto Rico?

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eBlog, 4/29/16

In this morning’s eBlog, we consider the nearing end game of the longest municipal bankruptcy in U.S. history—with U.S. Bankruptcy Judge Meredith Jury noting the end is “in view.” We note, moreover, especially in view of the looming issues in Puerto Rico, the resolution emerging in San Bernardino as between the city’s retires and municipal creditors, and the resilience of the city despite these unprecedented fiscal challenges and still unsettled from its terrorism attack to persevere.

Emerging from the Longest Municipal Bankruptcy in American HistoryU.S. Bankruptcy Judge Meredith Jury Wednesday said San Bernardino’s exit from municipal bankruptcy is “in view,” at what was expected to be one of the final federal court hearings before the confirmation process begins. Judge Jury set a hearing for June 16th to discuss the third version of its disclosure statement, which she said will probably be noncontroversial — in no small part because nearly all the city’s creditors have already agreed to support it. At that hearing, Judge Jury said she would probably set a date about three months after that for the final stage of the city’s chapter 9 municipal bankruptcy—the longest process of any American city. In setting the date for the hearing, Judge Jury noted: “I appreciate all the progress the city has made. This case has gone at the speed it has to go. Now we have confirmation in view, and we’ll get there when we are supposed to get there. We are not Detroit; we are not Stockton; we came into this case in a very different posture, and therefore, the fact that it took much longer to get to confirmation was to be expected.”

Judge Jury added that only a few changes will be needed to the version of the plan of debt adjustment the city filed last month, noting San Bernardino will have to clarify how it will handle lawsuits of more than $1 million filed against it — personal injury claims and civil rights lawsuits, including the families of individuals killed by police officers prior to the chapter 9 municipal bankruptcy filing, as well as to resolve a number of issues with a committee representing retirees, leading City Attorney Gary Saenz to note San Bernardino could exit municipal bankruptcy by the end of the year.

Judge Jury has set a hearing 45 days ahead—a hearing which she said could serve as be the tentative confirmation hearing, albeit noting: “I don’t want to say for sure at this point that it is the ‘tentative confirmation hearing,’ because there are still a few issues to be resolved, but it seems like most of the larger issues have already been settled.” San Bernardino has reached agreements with all of its major creditors, which include its retirees, CalPERS, and its police and fire unions—with the final major settlement agreement reached with its pension obligation bondholders a month ago. The confirmation hearing, Mr. Saenz confirmed, was set for mid-September, after which, he noted, would come the confirmation effective date: “That could get us out of bankruptcy by the end of the calendar year.”

Counselor Saenz noted his appreciation of Judge Jury’s comments with regard to the long duration of the city’s case, because there had been so many comments made about how much longer it had taken San Bernardino than any other municipal bankruptcy in American history—it will surpass four years at the end of July. Mr. Saenz added that the reason it took longer is that the city worked to reach settlement agreements with all of the creditors, rather than springing cram-downs at the end: “We wanted to reach settlements ahead of time, rather than have long evidentiary hearings…I believe it was more cost-effective this way,” adding that negotiating agreements that both sides could agree to helped bring certainty for both sides, rather than rolling the dice on what the federal judge might decide.

In terms of the agreement with the city’s municipal bondholders, Mr. Saenz said San Bernardino was able to give its bondholders 40 cents on the dollar of what the city had been obligated to pay—as opposed to the 1% it had originally proposed, because the agreement will permit the city to stretch out payments over two decades: San Bernardino has drafted a 20-year business plan after determining it would be able to feasibly make those payments without the city ending up in municipal bankruptcy again down the road—leading him to note: “One [consideration] Judge Jury will look at is the feasibility of the confirmation plan…We believe we found a model that is dependable.” The pension obligation bond agreement continues a trend of a municipality’s bondholders faring worse than its retirees in municipal bankruptcy resolutions: under the plan of adjustment COMMERZBANK Finance & Covered Bond S.A., formerly Erste Europäische Pfandbrief-Und Kommunalkreditbank AG, and municipal bond insurer Ambac Assurance Corporation, agreed to drop their opposition to San Bernardino’s plan of debt adjustment—under which holders of $50 million in pension obligation bonds will receive payments equal to 40% of their debt on a present value basis, discounted using the existing coupon rate, according to city officials.

The timing of the nearing resolution came against a backdrop yesterday of the arrest of three relatives of San Bernardino terrorist Syed Rizwan Farook—the three were charged yesterday in an alleged marriage-fraud scheme that was uncovered in the wake of December’s attack on a gathering of county employees—making clear the extraordinary situation for a municipality in bankruptcy—and the importance of chapter 9 in ensuring a municipality is able to provide essential, life-saving public services whilst in bankruptcy. The Islamic State had reported in a broadcast on al-Bayan Radio last December that the two main suspects in the San Bernardino shootings were “supporters” of their organization and called them martyrs.

In Like Flint? The U.S. Senate Environment and Public Works Committee yesterday approved (19-1) a $220 million assistance package for Flint—a key aid as the city struggles to address its unsafe, lead-tainted drinking water crisis and consequent apprehension about the impact of lead fear depreciating its assessed property values and, ergo, its property tax revenues vital to the city and its public schools. The bill would authorize $100 million in grants and loans to replace lead-contaminated pipes in Flint and other cities with lead emergencies, as well as $70 million toward loans to improve water infrastructure across the nation; it also would authorize $50 million to bolster lead-prevention programs and improve children’s health nationwide. It authorizes $300 million over five years to remove lead pipes from houses, schools and day care centers nationwide. In addition, it would mandate that EPA warn the public about high lead levels in drinking water if a state or locality fails to do so. The House has passed similar legislation. Chairman James Inhofe (R-Okla.) stated the measure builds on a similar 2014 law and would provide “needed investments in America’s infrastructure to support our communities and expand our economy.” Currently, nearly 1,500 water systems serving 3.3 million Americans have exceeded the EPA’s lead cap of 15 ppb at least once in the past three years. Indeed, if the state of Michigan’s newly proposed standard of 10 ppb were applied across the nation, that number would jump five-fold to more than 2,500 systems with 18.3 million customers according to the Associated Press’s analysis of federal data.

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