As bond insurers drop objections, Detroit bankruptcy progresses

Graffiti is painted on the walls of the abandoned Packard Automotive Plant December 13, 2013 in Detroit, Michigan.
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Detroit's path through bankruptcy began to take shape on Tuesday, with a second bond insurance firm ready to drop its objections to a controversial city financing plan, joining another bond insurer, bondholders and a committee of retired city workers in reaching agreements with the city.

But other objectors remain, including bond insurers Syncora Guarantee and Financial Guaranty Insurance, which are continuing an effort to derail an expensive interest-rate swaps deal at a discount.

The two companies insured the swaps and $1.45 billion of pension debt associated with the swaps. Detroit needs the swaps deal in order to obtain a $350 million loan, some of which would be used to improve city services.

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A few holders of $375 million of Detroit's pension debt also said Tuesday they were dropping their objection to the swaps deal after reaching an agreement with the city that would not prevent them from pursuing future claims.

The various agreements are emerging against the backdrop of a scheduled three-day hearing in bankruptcy court. At the hearing, Detroit began defending a key complex transaction in which the city would terminate a crippling interest-rate swap deal while securing a $350 million loan, known as debtor-in-possession financing.

Bond insurers have argued that the swaps deal gives an advantage to the city's counterparties in the swaps contracts, at the expense of other creditors.

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U.S. Bankruptcy Judge Steven Rhodes questioned on Tuesday whether Detroit acted properly in agreeing to pay 75 percent of what it owed to UBS AG and Bank of America's Merrill Lynch Capital Services, the counterparties in the swaps.

"I want to understand as best you can help me to understand it what the considerations were that led to the agreement to buy out the swaps at 75 percent as opposed to some other percentage,'' Rhodes said.

Detroit attorney Corinne Ball said the deals were the "best feasible financing realistically available to the city in its current condition.''

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In her opening statement, Ball informed Judge Rhodes that bond insurer National Public Finance Guarantee Corporation was planning to withdraw its objections to the swaps deal.

National, the public finance subsidiary of MBIA, would be the second bond insurer to withdraw objections, following Assured Guaranty Municipal Corp, which on Monday dropped its objection to the swaps deal and DIP financing. A spokesman for National confirmed that the company's objections would be dropped.

Assured dropped its objection after Detroit in a court filing on Monday agreed not to use revenue that is pledged to pay off water and sewer bonds as collateral in the financing of its DIP loan.

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The city's filing further stated that if the bankruptcy judge finds that the city's unlimited-tax GO bonds are secured debt, property tax revenue earmarked for those bonds would be largely off limits for the DIP financing. The revenue would be used only if all other claims against the GO bonds are "satisfied in full.''

Assured, National and a third bond insurer, Ambac Assurance, have sued the city over its Oct. 1 default on the general obligation bonds. The city in a filing has asked Judge Rhodes to dismiss the lawsuits.

Assured guarantees payment on about $2.1 billion of Detroit debt made up mostly of water and sewer bonds, along with $146 million of unlimited-tax general obligation bonds. National also insures payment on city water, sewer and GO bonds.

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The court proceeding that began Tuesday is a key step as Detroit's emergency manager, Kevyn Orr, seeks to assemble a financial restructuring plan for Detroit that he has said he hopes to deliver to the court by early January. Without termination of the swaps deal, Orr cannot secure the $350 million loan that would be essential to his plan.

About $230 million of Detroit's loan, provided by Barclays PLC, would be used to terminate the swaps deal. The remainder would be used to finance quality-of-life improvements throughout the city.

Gaurav Malhotra, a financial analyst who has advised the city since 2011, testified on Tuesday that without the swaps termination and DIP financing, the city would likely run out of cash by the end of this year.

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The swaps termination and DIP financing plan have drawn objections mostly from bond insurers, Detroit pension funds, and German banks that were opposed to the city's proposed use of casino tax and other revenue to pay off the DIP financing, leaving less money to pay other creditors. Syncora and FGIC also objected to Detroit's plan on the basis that the elimination of the swaps could expose them to potential liability on the outstanding pension debt they insure.

The committee representing Detroit's retirees last month withdrew its objection to the interest-rate swap deal.

—By Reuters.