Regional News

Detroit Hearings Open on Swaps/DIP Financing

CHICAGO — Detroit had to pursue a settlement with the interest-rate swap counterparties on its pension certificates or risk the "cataclysmic" loss of access to casino revenues, the city's investment banker told the bankruptcy court Tuesday.

The testimony came on the opening day of hearings slated for this week before U.S. Bankruptcy Court Judge Steven Rhodes on the city's proposed $350 million debtor-in-possession financing with Barclays Capital Inc. and the related settlement with its interest-rate counterparties.

The city would use about $230 million from the DIP financing to terminate the swaps in a deal that represents a roughly 75-cent to 82 cent-on-the-dollar payout. The remainder would finance so-called "quality of life" spending.

Proceeds from the quality of life series would be used in part for investments in blight removal, public safety and technology infrastructure. Detroit Emergency Manager Kevyn Orr wants to spend roughly $20 million a month starting in January 2014 on so-called reinvestment activity.

Detroit, which filed the largest Chapter 9 municipal bankruptcy case in July, began laying out its case Tuesday for why Rhodes should approve the settlement and DIP financing. Objectors, who originally included bond insurers, pension funds, and some holders of the city's pension certificates, have fought the deals which they believe provide the swap counterparties and Barclays with favorable terms at the expense of other creditors' recoveries.

The number of objectors dwindled this week with some bondholders and two bond insurers dropping their disputes after negotiations with the city resolved their concerns on the deals' terms.

The swaps settlement and the DIP financing are closely linked. The city is required under the terms of the DIP to settle with the swap counterparties, UBS AG and Bank of America Merrill Lynch Capital Services Inc.

In testimony Tuesday, the city's investment banker Ken Buckfire, of Miller Buckfire, warned that if the city chose a route challenging the status of the swaps instead of negotiating a settlement, the casino revenues would have been tied up during litigation, hurting the city even if it eventually prevailed. If the banks eventually won, they could have captured the much-needed casino revenues for years, he said according to reports from the Detroit Free Press.

The city wants to close on the swap settlement before the end of the year to capture a $68 million discount, Buckfire reportedly said. The discount drops to $49 million after the new year.

Buckfire reportedly called the swaps deal "effectively a one-sided arrangement, only with benefit to the banks."

Under questioning by a lawyer for Detroit's pension funds, Buckfire acknowledged that the DIP serves as working capital and the city and would replace it "with more advantageous financing" after it exits Chapter 9, Buckfire reportedly said.

Also Tuesday, city attorney Corinne Ball announced that the retiree committee, Assured Guaranty Municipal Corp. and National Public Finance Guarantee Corp. had withdrawn objections to the DIP and settlement. Some bondholders also have withdrawn their objections after language was added to the city's proposed order that does not prevent them from seeking future claims.

Assured formally submitted a filing that posted on the court docket withdrawing its objections.

National Public Finance Guarantee did not formally file anything with the court but spokesman Kevin Brown confirmed that the company was "withdrawing" its objections. Brown did not comment on the reasons saying only "the city simply has proposed a form of financing order that contains terms that resolve our objections."

Language added to the city's proposed order authorizing the DIP and settlement makes clear the segregation of revenues pledged to sewer and water bonds which had been sought by Assured: "Under no circumstances shall the collateral include revenues of the systems or of any other assets pledged to secure any of the water/sewer bonds," it reads.

The city also added language to the proposed order saying it would segregate the piece of the DIP financing going to finance "quality of life" spending and provide creditors with routine updates on the use of those funds. It also laid out requirements for additional reporting on the city's financial condition and cash flow.

The city also amended its proposed order to ban the use of property tax revenue to meet the super priority claim on DIP repayment in the event Rhodes eventually finds that the city's general obligation bonds are secured or the city reaches a settlement on the status of its GOs.

Orr has rattled the market by proposing that the city's GOs be treated as unsecured including most of its unlimited tax GOs.

If the court finds any property tax revenue is subject to a lien on any GOs or is not generally available for use by the city other than for payment of the bonds then it can't be tapped to repay the DIP "until any allowed claims arising from such limited or unlimited general obligation bonds have been satisfied in full," the order reads.

Detroit's lawyer Corinne Ball from Jones Day opened the hearing on the DIP and swaps settlement Tuesday, telling the court: "These motions stabilize the city's working capital," according to reports posted by the Detroit News.

Ernst & Young Capital Advisors LLC consultant Gaurav Malhotra testified the city could exhaust its cash by the end of 2013 and face a $284 million shortfall by June 2015 if the swaps are not terminated, according to the Detroit News. The settlement would pave the way for the city to access a portion of revenue from its casinos which generate $170 million annually.

The settlement would generate between $1.5 million to $3 million in monthly savings on interest rate payments, Malhotra reportedly told the court.

A pledge of the city's casino revenues currently backs the swaps, and will be shifted to the DIP deal if approved. City income taxes would also be pledged. The DIP agreement with Barclays expires on Jan. 7, 2014.

Ball pressed the city's case for the DIP saying it "represents the best feasible financing realistically available to the city in its current condition when the city is only able to offer limited collateral and insists on remedies that preserve the city's ability to operate, even in the face of default."

During testimony, Rhodes said he was concerned over the 75 cents on the dollar payout the swaps settlement would result in when other creditors face the prospect of a far steeper haircut and asked how the city arrived at the figure. Rhodes also questioned the role of the state's Emergency Loan Board in approving the transactions and why it had not yet taken action. He ordered the city to provide answers early Wednesday.

Formally, Detroit is asking Rhodes to enter an order approving motions that allow for the post-bankruptcy petition DIP financing, the pledging of liens, and a super priority claim status, and modifying the bankruptcy's automatic stay.

Also on Tuesday, the city filed an objection to Rhodes' decision to allow creditors to seek an expedited appeal of his rulings that the city is eligible for Chapter 9 and that pensions hold only contract-like status and are not necessarily protected in bankruptcy.

Rhodes on Monday granted creditors' request to allow a direct appeal to the U.S. Court of Appeals for the Sixth Circuit but he did not immediately rule on their request for an expedited appeal. In its new filing, the city said the appeal should occur in the "ordinary course following the city's continued efforts to reach agreement with its creditors."

The swaps settlement was reached days before Orr filed for Chapter 9 in July. At a hearing last week, Rhodes denied Syncora Guarantee Inc.'s request to delay this week's hearings to provide more time for discovery. Syncora insures the swaps as well as a chunk of the $800 million of pension certificates that the swaps hedge.

The hearings resume Wednesday. The hearing quotes came from postings on Twitter from reporters at the Detroit News and Detroit Free Press. Documents quoted are posted on the court docket at http://www.kccllc.net/detroit/document/list/3666?nh=1




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