Detroit bankruptcy trial: City says it got ‘a lot of no’ in negotiation tries

An attorney for the City of Detroit told a federal judge Wednesday that the city received “a lot of no” when it tried to negotiate with creditors and the city’s labor organizations in the weeks leading up to its decision to file for Chapter 9 bankruptcy protection.

That issue – whether the city tried in good faith to establish an alternative to a bankruptcy filing – was central to the arguments made on both sides during the opening day of a week-long trial that will determine Detroit’s eligibility for bankruptcy protection. In court filings, Detroit says it has been weighed under by $18 billion in debt and long-term liabilities, but the opposition says the city’s data are incorrect. The opposition also says the city had little interest in negotiating but was instead determined to plunge the city into bankruptcy.

US bankruptcy judge Steven Rhodes, who is presiding over the trial, heard opening statements by both sides Wednesday. City attorney Bruce Bennett characterized the labor organizations as “insensitive to the overall problems the city faced,” refusing to discuss potential cuts to liabilities that emergency manager Kevyn Orr outlined in a June proposal and failing to submit counterproposals. It was impractical, Mr. Bennett said, to engage in continued discussion with the unions because of what the city saw as an uncooperative stance.

To determine Detroit’s eligibility for bankruptcy protection, Judge Rhodes will also be deciding if the city is, indeed, insolvent. There, Bennett described a “mountain of evidence,” including a legacy of interrupted services and failed financial deals. He promised witnesses who will testify to the city’s limited cash flow, which he said would have dwindled to nothing if it did not decide to stop paying its debts, including $44 million in pension obligations.

To emphasize the depth of financial mismanagement, the city called Ernst & Young financial consultant Gaurav Malhotra to testify in the late afternoon. Mr. Malhotra reviewed the city’s financial records and said that if Detroit continued to pay its pension obligations, its budget shortfall would balloon to $254 million.

In a five-year period that ended in 2012, he testified, retiree health-care costs increased from nearly 30 percent of the city budget to nearly 40 percent. Without bankruptcy protection, the city was looking at a budget deficit of $9 billion over the next 10 years.

To create cash flow, the city commingled about $92 million in funds from different departments – solid waste, streets, and risk management, for example – and dumped it into the general fund.

“At the end of 2012, if the city had to go ahead and un-pool almost $92 million, that cash available to the general fund would have been significantly lower,” Malhotra said.

The Michigan Council 25 of the American Federation of State, County and Municipal Employees (AFSCME) and the United Auto Workers Union (UAW) represent the two largest labor organizations opposing the bankruptcy. The city’s two pension funds and a committee representing the city’s 23,500 retirees are also part of the opposition.

Anthony Ullman, an attorney representing the retired public workers, blasted Mr. Orr for saying the pension funds represent a $35 billion shortfall.

That figure “is not a fact,” Mr. Ullman said. “At the time the [bankruptcy] petition was filed, the city did not know the size of the unfunded pension liability.”

Ullman also presented Rhodes with an internal document from Orr’s office, dated more than a week before the city filed for bankruptcy on July 18, which included a talking point that said the high number of creditors made concessions impossible.

“While they were telling the world they wanted to have more meetings [with creditors], they had already internally and secretly decided it would claim impracticability,” Ullman said.

Babette Ceccotti, an attorney for the UAW, said that Orr gave the union only 30 days to negotiate before he filed the bankruptcy petition. Because the state constitution protects retiree pensions, Ms. Ceccotti suggested that Orr, working under the direction of Michigan Gov. Rick Snyder (R), is using the bankruptcy petition to override the constitution to slash legacy costs.

“What it all adds up to is a fairly deliberate plan to use Chapter 9 to find a way to undermine the state constitution through bankruptcy,” Ceccotti said.

The trial is expected to continue through next Tuesday. Governor Snyder is expected to testify for two hours on Monday.