Frank Shafroth, director, Center of State and Local Leadership at George Mason University

CHICAGO — The bankruptcy exit plan Detroit circulated to creditors last week yields greater recoveries to creditors than a first offer floated last year, but should still be seen as a rough draft that could change significantly over the next few weeks, municipal finance experts said.

The 99-page draft plan of adjustment is filled with legalese and pockmarked with placeholders that make it difficult to accurately determine the city's proposed recoveries for various creditors.

Recoveries depend on the city's ability to close a $1.8 billion plan to lease its water and sewer system, which would generate an additional $300 million for bondholders, pensioners and retirees, according to the plan. The plan also relies on $700 million from a high-profile but still unfinished plan to garner contributions from various foundations and the state. All of the proceeds from that would go to the city's pensioners.

Recovery rates for bondholders would also depend on the success of a lawsuit filed late Friday seeking to invalidate $1.4 billion of pension certificates, and termination of related interest-rate swaps that hedge the certificates.

"It's obviously a very sophisticated plan and they have various levels of treatment for creditors," said Chapter 9 expert and attorney James Spiotto, managing director of Chapman Strategic Advisors LLC.

Spiotto cautioned against investing too much into the proposal without seeing a detailed disclosure statement or being able to hear the more concrete figures that are likely being tossed around in negotiations.

"No judgments should be made until you see the final plan. There are blanks in there and they want to negotiate," he said. "Until the plan is fully negotiated, there's a lot of Kabuki theater, and you want to make sure it doesn't turn into kamikaze."

The city presented the plan to creditors last Thursday. Negotiations will likely continue over the next two weeks, and the city hopes to achieve as many settlements as possible before filing a more concrete plan with the court by mid-February. U.S. Bankruptcy Judge Steven Rhodes, who is overseeing the plan, has set a deadline of March 1 for the city to file a final plan.

"We're getting to the end here, Rhodes has set a deadline of March 1, and you're sitting there with 100,000 creditors," said Frank Shafroth, director, Center of State and Local Leadership at George Mason University. "It's complex and it's intended to push people to get this resolved, so right away you see a lot of blank spaces."

One of the most unusual aspects of the already historic bankruptcy is the developing plan, supported by Gov. Rick Snyder and fellow Republicans who control Michigan's legislature, to funnel state and foundation money toward pensioners while protecting from sale valuable artworks in the city owned Detroit Institute of Arts.

"This does reflect the bipartisan [state] plan and the DIA; something that really has never occurred before in American history," Shafroth added. "This reflects something fundamental has changed from the last round, and the city is saying the clock is running out. We're going to fill in all those little blank spaces with numbers and that's what's going to go to Judge Rhodes."

Press reports of the plan have featured differing recovery rates, partly because it's difficult to accurately assess proposed recoveries without knowing the current claims and principal. The sizes of some of the proposed note issues that would pay off current outstanding debt are yet to be determined.

Without clear documents like a disclosure statement or being privy to negotiations it's difficult to assess actual proposals, Spiotto said.

"You really need to be able to have a deeper dive into the numbers," he said. "What you see now is movement up from where it was, and you may see some more movement."

Not all creditors are impaired under the draft plan. The holders of GO bonds issued in 2010 and 2012 secured by a statutory lien are unimpaired, as are the holders of some Housing Urban Development notes and $9.3 million of parking bonds.

Every unsecured creditor, from pensioners to unlimited-tax general obligation bondholders, takes a hit.

But it's not necessarily a reduction in principal.

Water and sewer bondholders, who hold $5.7 billion of paper generally considered to the city's most secured debt, would see all principal returned and interest rates remain the same but have their debt payments subordinated to a lease payment to the city from the system.

The proposed annual $47 million payments — as well as all operations and maintenance expenses — would also be excluded from any bondholder liens. The new debt would feature the same interest rate and mature in 30 years. It depends on current bondholders waiving their call protections so the debt can be refinanced.

Detroit's limited-tax GO bondholders, who have roughly $190 million of debt outstanding, would be in line for proceeds from a $16.1 million note issue, representing less than 10% return. They would, however, also get a piece of a series of note issues that total up to $700 million.

Those notes would be issued in three series, two for $200 million with 30-year maturities and 5% coupon. The last series, dubbed B-3, would be for $300 million with a 40-year maturity and 5% coupon. That debt would only be issued if the city is able to close the water and sewer deal.

Both limited-tax and ULTGO holders would be in line for proceeds from the note issues. Unlimited-tax GO holders, who have $411 million of outstanding debt, will also be in line for proceeds from a $122 million note issue. The note issue represents roughly 33% of the outstanding ULTGO claims.

Recovery rates could be slightly different if actual claims differ from outstanding principal.

The plan treats both its pension certificates and the interest-rate swaps hedging the certificates as unsecured and not payable under the plan.

The pension certificate holders would also get a piece of the note proceeds if the city ends up settling with them.

If the swaps are treated as secured by the court, then the banks would have access to a share of funds held in a claims reserve, which will be funded by a $4.2 million monthly payment from casino revenue, and a piece of a new certificates of participation swaps note issue. The size of the note issue has not yet been determined.

The city also proposes a $524 million 10-year, interest-free note to pay off its other-post employment benefits liability.

Recoveries for unsecured creditors in Chapter 9 have averaged around two-thirds since 1938 when Chapter 9 was first enacted, Spiotto noted, while Detroit's current offer for bondholders is less than 50%.

"The costs of borrowing could go up in Michigan and that's a serious issue," he said.

"If in fact there's a significant hit to public debt, there will probably be an increased cost of borrowing and it could easily be 200 basis points or more." That would add up to billions over the average 30-year life of a debt, he said. "We shouldn't kid ourselves, there are consequences."

Spiotto and Shafroth say the Chapter 9 exit plan is key, but more important is crafting a plan that creates a successful future for the Motor City.

"I've seen lots of municipalities come out of Chapter 9, but with no sustainable future they might be back in," Shafroth said. "This is a huge thing, and this could be one of the most precedent-setting decisions we'll ever see in our lifetime."

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