Stockton (3654MF), California, moved closer to bankruptcy with a City Council vote to default on some bonds and begin a process that’s required under state law prior to seeking court protection.
The council voted 6-1 yesterday to enter mediation with its biggest creditors, such as bond insurers and labor unions, to seek concessions aimed at helping the community of 292,000 avoid becoming the largest U.S. city by population to enter bankruptcy.
“We still are working to try to avoid the ultimate bankruptcy,” Mayor Ann Johnston said near the end of an almost six-hour City Council meeting yesterday. “If the players don’t come together and agree to a fix that everybody can live with, we’re in deep trouble because then we have no more choices left.”
Stockton, a farming center about 55 miles (90 kilometers) south of Sacramento, has fought to avert a court filing. Rising employment costs such as retiree health benefits as well as debt tied to economic growth have consumed larger amounts of the city’s general fund, while the local economy hasn’t recovered from the recession. Twice since 2010, Stockton has declared fiscal emergencies.
“There are no other alternatives,” City Manager Bob Deis said. More service reductions, pay cuts for city employees and tax increases aren’t viable, he said.
New State Law
The vote invokes a law signed by Governor Jerry Brown in October that requires cities to either rely on an outside mediator to help resolve disputes with creditors and unions, or to declare a fiscal emergency prior to seeking bankruptcy. After 60 days without a resolution through mediation, or if the city runs out of money, it can then seek court protection.
The law was sought by public-employee unions after Vallejo, a city of 120,000 in the San Francisco Bay Area, went bankrupt in 2008 and asked a court to help it void labor contracts.
The council also voted to skip $2 million of payments on $320 million of bonds sold by the city and its public-finance and redevelopment agencies. Deis has said most of the debt is covered by insurance. Insurers agree to pay investors if the city can’t or won’t.
“In the event that debt service payments by the city are interrupted, National will ensure that its policyholders will receive all of their principal and interest payments on time and in full,” Kevin Brown, a spokesman for National Public Finance Guarantee Corp., said before the council meeting. The company, along with Assured Guaranty Corp. and Ambac Assurance Corp., backs the debt.
“Labor has already given, and given significantly,” Marc Levinson of the Sacramento-based law firm Orrick, Herrington & Sutcliffe LLP, which represents the city, said in a presentation to the council.
“The bond holders have not, they’ve not been asked to,” said Levinson, who assisted Vallejo in its bankruptcy. “If the council passes its resolution tonight, they’re going to, on March 1. They will start feeling the pain that labor in this city and the citizens have felt for a long time.”
The council voted to cut its fiscal 2012 budget by $15 million to deal with what Deis called bookkeeping and accounting errors. The fiscal year ends June 30. The deficit made the default and mediation necessary to prevent insolvency before that point.
A Stockton parking-revenue bond sold in June 2004 and maturing in September 2014 traded today at an average yield of 5.31 percent, about 32 basis points lower than yesterday, according to data compiled by Bloomberg. A basis point is 0.01 percentage point.
The council agreed to extend its fiscal emergency declaration, suspend payouts to retiring employees and to enlist an independent investigator to identify those responsible for the city’s financial issues.
“I would think that they are material enough to our situation that red lights would have popped on,” Deis said when asked why auditors hadn’t reported the bookkeeping errors.
Soaring home prices spurred a real estate boom in Stockton in the past decade, with single-family home construction tripling to 7,500 units a year from 2003 to 2005, compared with most of the 1990s, according to Robert Denk, senior economist at the National Association of Home Builders in Washington. Homebuilding collapsed in 2009, with fewer than 1,000 completed, Denk said.
By last year, Stockton had the second-highest foreclosure rate in the U.S. among cities with a population of more than 200,000, trailing only Las Vegas, according to RealtyTrac Inc. in Irvine, California. In Stockton’s San Joaquin County, assessed property values tumbled almost 11 percent in fiscal 2010, followed by 3.9 percent in 2011 and 4 percent in the current year, according to the county’s website.
Stockton had the nation’s eighth-highest violent crime rate in 2010 and the eighth-highest unemployment rate in December, at 15.9 percent, almost double the national average. Stockton was named the “most miserable city” in the U.S. twice in the past four years by Forbes.com, out of the 200 largest metropolitan statistical areas.
While the city has reduced spending by $60 million in the past two years, including cutting a quarter of the roughly 425- member police force, Deis said he expects a shortfall of as much as $20 million in fiscal 2013. That amount might balloon to $39 million if union concessions are blocked by the courts, he said.
Deis blamed part of the financial troubles on previous City Council decisions to boost retiree health-care benefits without determining how to pay for them. As a result, the city has an unfunded liability of $417 million for retiree health services.
“Normally, when you make entitlements like that, you fund it like an entitlement that lasts a lifetime,” Deis said. “We set aside nothing for these programs. That’s why we are having the problems we are having.”
Standard & Poor’s, which last week lowered Stockton to BB, two steps below investment grade, cut its rating again today by another eight levels, to CC, with a negative outlook.
Fitch Ratings on Feb. 27 downgraded $252.4 million in Stockton water-revenue bonds to BBB-, its lowest investment grade, from AA-. Moody’s Investors Service cut Stockton to two levels below investment level last week, to Ba2.
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