By Jim Christie
SACRAMENTO, Calif., March 27 A verbal ruling on
whether Stockton, California, is eligible for bankruptcy
protection will likely come next Monday, a federal judge said on
the third and final day of a trial that the U.S. municipal debt
market is closely watching.
U.S. Bankruptcy Judge Christopher Klein said he would need
more time than anticipated to make a ruling over whether
Stockton should be allowed to press on with its bankruptcy case,
which could result in bondholders and bond insurers of the city
swallowing losses while leaving pensions of city workers and
"I'm pretty confident I will not be in a position to make my
findings by Friday," Klein told attorneys for Stockton and its
so-called capital markets creditors at the third hearing of the
trial that started on Monday.
Stockton aims to aggressively impair its bond debt if found
eligible for bankruptcy court protection, a strategy other
cash-strapped municipalities could follow, breaking a tradition
in the $3.7 trillion municipal bond market, which provides
financing for various public capital projects, from school
construction to sidewalk repairs.
Since at least the 1930s, bondholders in major municipal
bankruptcies have consistently repaid their entire principal.
If Stockton establishes it is eligible for bankruptcy
protection, other financially troubled municipalities could
follow its example and try to adjust debts through bankruptcy.
A city of nearly 300,000 in California's Central Valley,
Stockton filed for bankruptcy last year, becoming the biggest
U.S. city to declare bankruptcy.
Bond insurers Assured Guaranty Corp, Assured Guaranty
Municipal Corp and National Public Finance Guarantee Corp have
been joined by Wells Fargo Bank, the Franklin California High
Yield Municipal Fund and Franklin High Yield Tax-Free Income
Fund in contesting Stockton's bid for bankruptcy eligibility.
The insurers have more than $300 million of exposure to the
city's debt and have said that Stockton's decision to keep
making payments to its largest creditor, the California Public
Employees' Retirement System, showed lack of good faith during
the initial stages of the city's bankruptcy plan.
The $254 billion pension fund manages pension accounts for
Stockton's current and retired employees.
A lawyer for the capital markets creditors during the
trial's closing arguments said Stockton officials gave the
creditors a "take-it-or-leave-it" offer instead of negotiating
in good faith, adding that the city's decision to exempt Calpers
from impairment was "tainted" because city officials involved in
the decision had a conflict of interest due to having retirement
accounts with the pension fund.
"The process was hopelessly flawed," attorney Matthew Walsh
Norman Hile, a lawyer for Stockton, characterized the
capital markets creditors as resisting negotiations, adding that
most of the city's creditors have already agreed to concessions.
Hile added that Calpers should be viewed as a trustee for
Stockton's employees and retirees rather than as a creditor,
adding that the city has met the requirements in federal law for
eligibility for bankruptcy court protection.
Guy Neal, another lawyer for the capital markets creditors,
said Stockton's financial future is bleak unless it tackles its
pension obligations and brings the state pension fund into
"The evidence demonstrates that Stockton cannot afford these
liabilities," Neal said.
If Klein finds Stockton eligible for protection from
creditors under Chapter 9 of the U.S. bankruptcy code, the city
could begin drafting a so-called plan of adjustment for its
The process could take some time and creditors can object.
Any plan of adjustment would eventually require a court finding
it is fair and equitable to all creditors.
Stockton's capital markets creditors will also be able to
appeal a finding of eligibility to U.S. District Court or a
bankruptcy appellate panel.
If Klein finds Stockton is not eligible for bankruptcy
protection, the city could operate under its current spending
plan while negotiating concessions with creditors, who could at
the same time press their claims against the city in state or