Municipalities in Fiscal Distress Find There's No Easy Way Out

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Ted Orson, the bankruptcy attorney for little Central Falls, R.I., has fielded calls from around the country. “Many of them look at Central Falls as an example of how to do it right,” he said from Providence, where The Bond Buyer beginning Monday will host a symposium on distressed municipalities.

Central Falls, population 19,000 and merely one square mile, left Chapter 9 bankruptcy in September after only a 13-month stay. The city exited with a six-year financial plan, quickly implemented a balanced budget and its credit ratings improved, though still junk-level.

“About everything we accomplished was through negotiation as compared with litigation,” said Orson, a partner at Providence firm Orson and Brusini Ltd.

Central Falls made general obligation bond payments while in bankruptcy, thanks to state laws in 2010 and 2011, respectively, that created a three-tiered system of state intervention with an eye toward protecting Rhode Island communities’ bond ratings from potential fallout, and giving bondholders priority lien on property taxes and general fund revenues in any Chapter 9 filing.

The city, which faced an $80 million unfunded pension liability, reworked benefits for police and fire retirees, resulting in benefit cuts of up to 55%.

“We did three huge things,” said Orson. “We made bankruptcy less expensive, although Chapter 9 by its very nature is awfully expensive. We shortened the time period. And we left a feeling among most of the constituencies — although some are still very upset about the process — that the plan and process left very little imposed on them. That carries a huge tangible value post-bankruptcy.”

“The state team was proactive compared with Jefferson County and in general, though to a lesser extent, to California,” said Karen Grande, a partner with Edwards Wildman Palmer LLP in Providence and the primary drafter of those two Rhode Island laws. Grande, a 25-year public finance veteran, served as municipal finance counsel to the state, its Department of Revenue and the Central Falls receiver’s office.

Both Orson and Grande praised state officials, including Gov. Lincoln Chafee and revenue director Rosemary Booth Gallogly.

“What we did in Central Falls empowered the city of Providence and other communities to get things done” regarding pension overhaul, Grande added.

Providence Mayor Angel Taveras last year crafted a settlement with police and retired firemen over retirement benefits.

General Treasurer Gina Raimondo championed an overhaul of pension benefits for state workers. The Rhode Island Retirement Security Act of 2011, pending a court challenge, created a hybrid plan merging conventional public defined-benefit pension plans with 401(k)-style plans.

In Pittsburgh, officials eagerly await word on the city’s application to exit Pennsylvania’s distressed communities program, known commonly as Act 47. “We’ve not only addressed our legacy costs but institutionalized and codified a lot of changes,” said assistant finance director Cathy Qureshi.

Pittsburgh, among other moves, reduced its debt principal by $243 million and crafted a debt policy; committed an additional $18 million to $26 million to its pension fund, which the Public Employee Retirement Commission no longer calls severely distressed; settled legacy claims; established a pay-as-you-go capital investment budget, and worked out a shared financial management system with Allegheny County. “I think that people, the unions, for instance, have worked very well with us, not that everything’s been very Pollyanna-ish,” Qureshi added. “But everyone understands that the long-term goal is for the city to be on good financial footing. Yes, we’ve been in a dark place but we’re looking to be in a better place.”

Elsewhere, distress is much messier. Harrisburg, Pa., has $340 million of debt related to incinerator bond financing excesses and is under state receivership. It has missed its last three GO bond payments. In bankrupt Jefferson County, Ala., the sewer system is the albatross, worsened by a court’s invalidation of a tax that supported its general fund.

Stockton, Calif., which also filed bankruptcy, is scheduled to wrestle in court later this month with major creditors over whether it is eligible under Chapter 9. San Bernardino and Mammoth Lakes also filed last year in the Golden State.

Detroit just became the largest city ever under a state takeover when Michigan moved to take control and Thursday named Jones Day LLP bankruptcy attorney Kevyn Orr as emergency manager.

Out near Pittsburgh, tiny Jeannette, Pa., with half the population of Central Falls, began “rolling layoffs” with police taking staggered two-week furloughs. The aim is to prevent bankruptcy or full-fledged admission into Act 47 and its expansive state control. 

Many paths can lead to municipal distress.

“The themes are different. The ills that face Jefferson County are different than in California,” said Natalie Cohen, a managing director and head of municipal research at Wells Fargo Securities. “You have a couple of cases of leverage, a couple of cases of mismanagement. In other cases you have an inability to right the ship. In Detroit and Harrisburg, you have an adversarial relationship of state versus local.”

It’s a “crisis of liquidity,” said John Hallacy, head of muni research for Bank of America Merrill Lynch. “There are a lot of different demands on cities to provide an array of services while carrying a fair amount of debt. Meanwhile, the economy is going the wrong way and revenues are not coming in as well as anticipated. How do you maintain the absolutely essential services and try to maintain payments to bondholders? There’s such a strain.”

According to William Lynch, the state-appointed receiver for Harrisburg since last May, numbers are straightforward, however stressing. The people factor, he said in an interview, is more complex.

“Some of this is a math problem, but the hardest part is the people problem,” said Lynch, a retired Air Force general who helped rebuild Baghdad and now works with a different kind of torn-up city, complete with sinkholes.

“There can’t be any significant winner,” Lynch said of negotiating. “You want a solution that avoids winners and losers.”

Harrisburg has been synonymous with political in-fighting that borders on slapstick, notably between Mayor Linda Thompson and the City Council. Thompson, on city website postings, called her opponents “unfit to hold office,” while Bill Cluck, president of the Harrisburg Authority public works agency, called her “mentally ill” in a recent local video spot.

Lynch, though, quickly pointed out that such friction is more widespread.

“I was watching a City Council president from a small town saying on TV that he wouldn’t vote for the mayor’s proposal ‘because I hate him,’ ” said Lynch.

He cites better cooperation between mayor and council in Harrisburg these days, but he stressed that is no panacea. “Harrisburg is unique in that it has the incinerator debt, staring at $300 million-plus. But even without that debt, the city is a distressed municipality. That set the stage for some of the Byzantine business that gave us the incinerator deal and other deals,” he said.

Lynch opposes bankruptcy, which some elected officials in Harrisburg favor.

“My instinct is that bankruptcy has not been beneficial to Central Falls or any of the California cities,” he said. “It’s expensive, the outcome is uncertain, and the cops and firefighters take big cuts on the pensions. I was astounded when people agreed to those cuts in Central Falls.”

But, Lynch added: “The threat or potential of a bankruptcy is a pretty strong incentive for people to work with us.” A Pennsylvania law banning Harrisburg from filing under Chapter 9 expired Nov. 30.

Assured Guaranty Municipal Corp. is a major creditor in Stockton, Jefferson County and Harrisburg, where it is the incinerator bond insurer.

In Stockton, Assured joined a consortium of bond market creditors that opposed the bankruptcy. “A municipality cannot budget itself into insolvency to gain access to Chapter 9 or use Chapter 9 to harass or target certain groups of creditors. Stockton has done both,” Assured said in its filing.

Neil Grover, the Harrisburg City Council’s attorney, worries about an across-the-board ruling in Stockton that could affect Harrisburg’s negotiations with major creditors.

“Chapter 9 does not have an identity, so to speak,” said Grover, who founded the taxpayer advocacy group Debt Watch Harrisburg. “What does eligibility mean? The definition of these words are incredibly important to central Pennsylvania.

“AGM has put a lot of time and thought into their strategy across the country and it seems very consistent, what they’re doing all over. And so far their strategy publicly, and now in these courts, has been every penny, every penny, every penny, and if they get a decision that’s written their way, it will be every penny,” Grover added.

According to Lynch, Harrisburg will assess its finances — and possibly ask for concessions from creditors — after closing on sales of the incinerator and parking garages. The Lancaster County Solid Waste Management Authority’s purchase of the lease may materialize within days. Harrisburg also plans to sell its sewer and wastewater systems.

“People ask what side I’m on. I’m on the side of a solution,” said Lynch.

Gary Lewis, a private-sector financial consultant and Republican candidate for mayor of another strained Pennsylvania city, Scranton, praised Rhode Island for its moves.

“The Rhode Island approach to distressed communities is very different from what we have in Pennsylvania, where the governor [Tom Corbett] has essentially taken a sink-or-swim attitude toward the municipalities,” he said in an interview.

Rhode Island’s Grande said the various stories about municipal distress serve as cautionary tales.

“The common thread is that the governments affected did not analyze and keep track of these formidable costs. Neither the municipal side nor the union side did anything like sensitivity analyses 15 years ago,” she said. “Municipalities have to keep track of what they owe and how much they can pay.”

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