by Danielle Kennedy
Round one of the fight between the City of Stockton,
California and its creditors is finally over. On April 1, 2013, Bankruptcy
Judge Christopher M. Klein held that Stockton satisfied the eligibility requirements
for a Chapter 9 debtor.
Back on June 28, 2012, Stockton filed a petition seeking
to adjust its debts under Chapter 9 of the United States Bankruptcy Code.
Stockton's bond insurers (who guaranteed
payment of pension obligation bonds) objected to Stockton's petition. The bond
insurers (joined by the indenture trustee for the Stockton Public Finance
Authority bondholders) argued that Stockton failed to satisfy its burden of
demonstrating that it: (i) is insolvent, (ii) complied with its pre-filing negotiation
obligation, (iii) negotiated in "good faith," and (iv) filed its bankruptcy
petition in good faith. After conducting discovery, the bond insurers filed
supplemental objections claiming that the "evidence demonstrated that the City
entered bankruptcy intending to spread losses disproportionately among a subset
of creditors so that it could protect its largest creditor, CalPERS, and the
related pensions of the very City employees making this improper decision."
In reply, Stockton argued that it had satisfied all of
the requirements for bankruptcy protection and that the conclusions of the bond
insurers' experts were based upon flawed assumptions and sloppy methodology.
Stockton further argued that its staffing, compensation and benefits reductions
demonstrated its good faith, as did the agreements it reached with its unions,
and that any further cutbacks or reductions would have jeopardized Stockton's
ability to provide needed services to its citizens.
CalPERS, touted as Stockton's largest creditor, filed a
brief in support of Stockton's petition explaining that Stockton is in good
standing and current on its payments to the system. According to CalPERS,
"there is no debt to CalPERS that will be adjusted in the City's plan."
At the April 1, 2013 hearing, Judge Klein held that
Stockton satisfied the eligibility requirements under Bankruptcy Code Section
109 because it: (i) is a municipality within the meaning of § 109(c); (ii) is
authorized under California law to be a debtor; (iii) was insolvent at the time
of the filing of its petition because it was unable to pay debts as they became
due; (iv) is desirous of effecting a plan to adjust its debts, as demonstrated
by its "Ask" at the court-ordered mediations; and (v) negotiated in good faith
with its creditors in satisfaction of § 109(c)(5)(B), as demonstrated by the
substantial agreements reached on the collective bargaining agreements.
The ruling makes Stockton the largest U.S. city to seek
bankruptcy protection. Nonetheless, Judge Klein's decision will not end the
fight between Stockton and its bond insurers, as round two invariably will
involve a major battle over the terms of Stockton's forthcoming plan of
adjustment. Stay tuned...
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