SAN FRANCISCO — Stockton, Calif.’s proposal to slash debt payments by more than $350 million gained no ground with bond creditors during its failed negotiations to try to prevent bankruptcy.
According to previously confidential documents released by Stockton as part of its bankruptcy case, bondholders and bond insurers mostly would not negotiate with the city on its proposal during the 90 days of mediation.
Experts said it’s unsurprising bondholders wouldn’t negotiate a deal considering the little damage they’ve experienced in previous Chapter 9 cases; they were surprised by the size of the concessions that Stockton sought.
“If Stockton does get relief from bondholders, if that were to happen, that would be disturbing to the muni bond market and I think would send a shock wave through the market,” said Dan Heckman, senior fixed-income strategist at U.S. Bank Wealth Management. “Bondholders have not had to take significant haircuts in the past.”
The mediation process, set forth in a recent state law, Assembly Bill 506, was confidential. But Stockton won permission from its bankruptcy judge to release its proposals.
Notably, the city’s proposal calls for a five-year holiday on all payments from the general fund toward debt service.
Several series of bonds would be restructured under the Stockton proposal, while the city permanently would cease making payments from the general fund toward $124 million in outstanding Assured Guaranty insured pension obligation bonds.
The portion of debt service assigned to restricted enterprise funds such as water and wastewater would continue, but the general fund supports the majority of the debt service for pension obligation bonds.
“The fact of the matter is that there were very real risks associated with all the debt the citty took on,” Stockton’s proposal says. “These risks were outlined in the official statements associated with each debt issue. Unfortunately, the risks have now become reality, and the city is no longer able to pay the debt as originally structured.”
Of the municipal bond interests represented during mediation, only Franklin Advisers provided a counteroffer to the city’s proposal to change payments or backstops on seven different bonds tied to the general fund, according to the city’s documents.
Neither insurers Assured Guaranty and National Public Finance Guarantee Corp. nor bond trustee Wells Fargo NA negotiated with the city over its proposal, which would have resulted in a 45% net present-value loss to bondholders.
“While the city was able to reach agreement with the majority of our employee organizations, we were not able to do so with respect to our largest creditors, such as bond insurers and representatives of city retirees that receive fully paid, lifetime medical insurance premiums for the retiree plus a dependent,” city manager Bob Deis said in a statement.
National has said it is exposed to $89 million of debt linked to Stockton’s general fund and Assured has said it is exposed to $150 million of bonds net par.
Assured issued a statement when the city filed for bankruptcy saying Stockton did not do everything it could to avoid bankruptcy, which resulted in a strong rebuttal from city officials.
“It is unusual,” said Natalie Cohen, senior analyst with Wells Fargo Securities, which operates separately from the trustee, about Stockton’s offer to bondholders. “For the most part, bondholders, security holders, even lease financing have not been harmed” by Chapter 9 bankruptcy protection.
The city said its annual debt service will grow to more than $24 million in fiscal 2024 from about $18 million in fiscal 2013 if not restructured.
The city’s adopted budget calls for Stockton to withhold a $2.58 million payment on its 2007 variable-rate lease revenue bonds and a $5.7 million payment on its 2007 pension obligation bonds during the next fiscal year. It would also continue to miss payments on its 2004 lease revenue bonds.
The earlier defaults by Stockton have already cost it control of three parking garages tied to the 2004 bonds along with an office building that had been slated to become the next city hall, which was linked to its 2007 variable-rate lease revenue bonds.
Stockton lost possession of the properties after trustee Wells Fargo sued for control of the related revenues.
The city’s proposal calls for it to walk away from the parking garages, but to try and keep the office building.
The city had more than $702 million of bonds outstanding as of the end of June 2010, including debt issued for restricted enterprise funds such as water, sewer and parking enterprise debt, according to the city’s most recent audited financial statements.
Stockton officials have said the debt tied to restricted funds would be protected from the bankruptcy process.
The next hearing in the case is set for Aug. 23 in the Eastern District of U.S. Bankruptcy Court in Sacramento.