July 5 (Reuters) - Detroit’s announcement that it is suspending payments on its unsecured debt as a likely prelude to bankruptcy pushed the amount of defaulted debt in the U.S. municipal bond market up to $6.96 billion in the first half of 2013, according to a report on Friday by Distressed Debt Securities Newsletter.
That surpasses the national total of $4.8 billion of defaulted munis in full-year 2012.
Defaults totaled only $277.5 million in the first quarter of 2013 then soared to $6.68 billion in the second quarter when Kevyn Orr, a corporate bankruptcy lawyer selected by the state of Michigan to run Detroit as an emergency manager, announced on June 14 a moratorium on payments for certain debt he classified as unsecured.
The publisher of the newsletter, Richard Lehmann, said his report included all of Detroit’s $6.4 billion of outstanding bonds even though some of it is considered secured and the city has officially only defaulted on $1.45 billion of insured pension obligation certificates of participation by skipping a June payment.
Orr, who is in the process of negotiating with bondholders, bond insurers, city unions and others, has classified as unsecured about $641 million of outstanding general obligation bonds, including some approved by voters and backed by a property tax levy.
Another $439.8 million of GO bonds were classified as secured. The next debt service payment date for the GO bonds is Oct. 1. Detroit also has more than $5.4 billion of water and sewage revenue bonds outstanding that could be subject to restructuring, according to a June 14 proposal Orr presented to the city’s creditors.
Lehmann said that given Detroit’s dire financial and mismanagement problems, its filing of what would be the biggest Chapter 9 municipal bankruptcy ever is inevitable.
“When you look at the number of parties and objections that are going to be raised there is no way this thing is going to be resolved outside of bankruptcy court,” he said, adding that all bond payments would likely be suspended once the city enters bankruptcy.
Orr’s decision to default has raised concerns in the $3.7 trillion muni market that he has overstepped the authority granted him under a 2012 Michigan law governing emergency managers running fiscally stressed cities.
The law, which took effect in March, requires the managers to produce a financial and operating plan that must provide for “the payment in full of the scheduled debt service requirements on all bonds, notes and municipal securities of the local government.”
Orr’s plan, released on May 12, stressed the need for “significant and fundamental debt relief.”
It outlined options such as restructuring outstanding debt to push principal payments into future years, permanently reducing the amount of principal, lowering interest rates or issuing new debt to provide cash recoveries to creditors.
Bill Nowling, Orr’s spokesman, has said the emergency manager was acting within the letter and the spirit of the 2012 law and that the city, which has suffered from a severe drop in population and revenue, lacks the cash to pay off its debts.