Interest Rates

Detroit faces new speedbump in bankruptcy process

A key component in Detroit's plan to exit bankruptcy will either be renegotiated over the next week or possibly face litigation, an attorney for the city told a federal judge on Friday.

If the city cannot reach an agreement over costly interest-rate swap deals with banks and objecting parties, attorney Thomas Cullen of law firm Jones Day said, Detroit would retain its rights to litigate an end to the swaps.

"In the interim, we are doing whatever is necessary to protect the city, its residents and its interests and preserve the city's ability to take whatever course of action it deems necessary," Cullen told U.S. Bankruptcy Court Judge Steven Rhodes, who is overseeing the historic case Detroit filed in July.

The city of Detroit awaits their bankruptcy decision expected on Dec. 3, 2013.
Justin Solomon | CNBC

Rhodes on Wednesday postponed the remainder of a three-day hearing on the swaps and a plan to finance their termination that started Tuesday. He urged the parties to renegotiate the agreement.

The original deal had Detroit securing a $350 million loan from Barclays, of which about $230 million would be used to end the expensive interest rate swap agreements with UBS AG and Bank of America's Merrill Lynch Capital Services at a 25 percent discount. The remainder of the money would be earmarked to improve services in the cash-strapped city.

(Read more: Detroit bankruptcy moves toward bond recovery)

The swaps deal drew objections from numerous city creditors, including its pension funds, which face debt recovery of just pennies on the dollar. Some objectors raised questions about the legality of the swaps themselves, which were used to hedge interest rate risk for a portion of $1.4 billion of pension debt Detroit sold in 2005 and 2006.

The parties will continue discussions next week as U.S. District Judge Gerald Rosen, the chief mediator in the case, ordered mediation sessions on Monday and Tuesday, insisting that they occur even on Christmas Eve.

(Read more: CFTC sued by Wall St trade groups over swaps rules)

If an agreement is reached, the city's attorneys said they will submit the revised deal to the court by Friday, Dec. 27. Detroit Emergency Manager Kevyn Orr would then be deposed on Dec. 31 by the parties that still object to the deal. The hearing to consider the agreement would recommence on Jan. 3, with the possibility that it would continue to Saturday, Jan. 4.

Meanwhile, Michigan officials voted Friday afternoon to approve up to $350 million in financing with Barclays despite the court delays.

The Local Emergency Financial Assistance Loan Board acknowledged that negotiations were ongoing, and though it has approved a deal, the final arrangement still must be approved by Rhodes.

—By Reuters