Stockton, California, won court approval of its plan to exit bankruptcy by paying bond investors pennies on the dollar while fully protecting public-worker pensions, in a case that has been watched by other cities in the state facing heavy retiree costs.
"This plan, I'm persuaded, is the best that could be done in terms of restructuring the city's debts," U.S. Bankruptcy Judge Christopher Klein said at a hearing today in Sacramento, the state capital.
Stockton's bankruptcy pitted public-pension advocates against investors, who stood to recover a fraction of what they're owed for their bonds. Bankruptcy lawyers and pension advocates nationwide followed the case to see whether pensions administered by the California Public Employees' Retirement System (Calpers) would be shielded from cuts.
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This month, Klein ruled that Calpers doesn't deserve special protection, the first time the state pension fund was found vulnerable to cuts in a bankruptcy. Calpers and public-worker groups decried the decision. Last year, a bankruptcy court in Detroit ruled against pension funds in a similar situation.
That ruling gave Stockton the opportunity to end the Calpers contract, which it declined because, as the judge noted in his ruling, the workers "would be the real victims." The employees' pension payments from the state fund would be reduced in line with the amount that their plan is underfunded, without furthering its restrucuturing.
Detroit Next
Detroit will learn next week whether it can proceed with a $7 billion debt-cutting plan. The city filed the biggest U.S. municipal bankruptcy last year, listing $18 billion in liabilities. Its trip through court has been faster than Stockton's, and settlements that would impose cuts on major creditor groups, including retirees and some bondholders, were reached through mediation.
Stockton's exit plan leaves the pensions alone. Ending the contract with Calpers would have reduced them by 60 percent and caused many employees to leave, Marc Levinson, Stockton's lead bankruptcy attorney, has said. It would have taken years to set up a new pension system, he said.
While the pensions were left untouched, workers agreed to "quite substantial concession" in pay, which has an indirect effect on pensions, Klein said.
"It has relatively minimal effect" on pensioners, said Dave Low, chairman of Californians for Retirement Security, a Sacramento-based group representing more than 1.5 million pensioners in the state.
"I wouldn't say they got out unscathed," Low said. "The pensioners in Stockton have accepted substantial cuts through the negotiations process. We think that what happened was a fair agreement."
The city cut deals with most creditors, including unions and retirees. The holdout was Franklin Resources Inc., which attacked the plan as unfair. The San Mateo, California-based money manager said Calpers shouldn't be given special treatment.
"We are obviously disappointed by your ruling and we will evaluate our options," Franklin lawyer James O. Johnston said at the hearing.
Stockton, a city of 298,000 about 80 miles (130 kilometers) east of San Francisco, filed for bankruptcy after spending too much on downtown improvement projects and seeing its property-tax revenue plunge in the housing crisis. Creditors filed $1.18 billion in claims.
Cautionary Word
The judge sent a word of caution to other financially distressed cities, at the end of his ruling.
"This is a very expensive case," Klein said. "This should be an object lesson as to why Chapter 9 should not be entered into lightly" since the expenses have far exceeded what was projected. "It seems to me that it's impossible to do Chapter 9 cases without an eight-digit figure."
Chris Morgan, a director at Standard & Poor's said, "There's a direct cost of going into bankruptcy, and there's the reputational cost that comes along with it," by setting a city apart from other municipalities.
"It's really reinforcing our view that bankruptcy is a difficult journey to go on," Morgan said today by phone.
Under the city's plan, Calpers will be fully repaid while two Franklin funds will get back only about 1 percent of the unsecured portion of the $36 million they're owed. Franklin will get full payment on its $4 million secured claim.
The case is In re Stockton, 12-bk-32118, U.S. Bankruptcy Court, Eastern District of California (Sacramento).
–With assistance from Alison Vekshin in San Francisco.
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