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Detroit Manager and Banker Outline Tense Swap Negotiations

CHICAGO — Detroit emergency manager Kevyn Orr and the city’s investment banker said in court depositions that the urgent need to access casino revenue drove tense negotiations with its interest-rate swap counterparties in the days before the city’s historic bankruptcy filing.

The settlement remains key to the city’s long-term solvency, Orr said.

“If we don’t have this agreement, there’s a very real chance, yes, in a steady state, we will run out of cash” by December, Orr testified.

Ken Buckfire of the city’s investment banking firm Miller Buckfire said gaining access to the gambling dollars, estimated at $180 million a year, is a matter of “life and death” for Detroit.

In 500 pages of depositions recorded Thursday and Friday, Orr and Buckfire offered insight on a range of issues, including details of a recent effort to secure debtor-in-possession financing, and how the state and federal government rebuffed requests for aid or credit enhancement.

The testimony is part of a court battle with bond insurers and pension certificate holders over Detroit’s proposed settlement with UBS AG and Merrill Lynch, the counterparties on the city’s interest-rate swaps. Orr has proposed paying the banks roughly 75 cents on the dollar -- and more after a certain point -- on a $300 million termination penalty in return for gaining access to the casino revenues that are used as swap collateral.

Several bond insurers, led by Syncora Guarantee Inc., which insures both the swaps and a chunk of the pension certificates, have challenged the settlement, saying it’s unreasonably favorable to the banks and would leave creditors without access to the gaming revenue, the city’s third-largest revenue source.

U.S. Bankruptcy Judge Steven Rhodes, who is overseeing Detroit’s Chapter 9 case, is expected to hear arguments on Sept. 23 and 24.

The swap settlement extends through June 2014, at which point it can be renegotiated if the city has not terminated.

Syncora attorney Stephen Hackney noted that Rhodes’ recent ruling that the automatic stay applies to the casino revenue gives the city access to them without the agreement. Hackney also noted that the expected rise in interest rates over the next six to eight months would only bode well for the city, as the termination penalty falls as interest rates rise.

Buckfire provided details of the city’s effort to get debtor-in-possession financing in place by October. The city initially contacted about 40 lenders to see if they were interested in receiving a request for proposals for a $350 million DIP loan, he said. Ten turned the city down. The city has asked for initial responses by Friday, Sept. 6, with actual terms proposed by Sept. 16.

The loan would mature at the end of the bankruptcy case and would feature a lien on the casino revenues -- assuming the judge approves the settlement -- as well as other, unnamed collateral.

Buckfire also noted that the Michigan Gaming Control Board signed off on the original 2009 agreement that gave the swap counterparties access to use the casino revenues for collateral. That contradicts an argument from the bond insurers that it’s illegal under state law to use the casino revenues as collateral.

Buckfire outlined a series of tense negotiations with the swap counterparties in early June through mid-July, just days before the city’s historic Chapter 9 filing.

“They were expecting us to pay them,” Buckfire said of an initial meeting with the banks. City officials wanted to win a settlement with the counterparties ahead of a June 14 debt payment due on the pension certificates that the city was by now expecting to default on.

“They were very unhappy,” he said. “It was a very tense and difficult meeting. They were extremely aggressive toward the city,” he said. “They made it very clear ... that their patience was wearing thin.”

The banks rebuffed the city’s first offer of a 50% discount. Later, however, Merrill Lynch “indicated that although they were not conceding at all that their collateral position was in any jeopardy, they recognized that they had a book reserve issue against their swaps, not an economic loss but a book loss caused by Dodd-Frank rules that led them to perhaps consider a termination payment of 85,” Buckfire said.

Buckfire’s counteroffer of 72% prompted laughter from the Merrill Lynch attorney, he said. The final settlement calls for 75% payment.

Orr also addressed his widely reported comment last June describing banks and creditors as the “Huns on Wall Street.”

“The capital markets have assisted the city in many, many ways over the years, and as I said before earlier today, in addition to providing funding in 2008, 2010, 2012, when the city was in very dire straits,” he said. “What I do mean to say is given the dire straits that the city is in, and the fact that under any set of circumstances it can no longer afford to pay this debt, there has to be adjustment of this debt.”

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