By Ed Mendel
Mondaya, November 25, 2013

A federal judge last week set a hearing on approval of Stockton’s plan to exit bankruptcy for next March 5. But the hearing could turn into a multi-day trial if the city can’t cut a deal with the last holdout creditor, two Franklin bond funds.

The plan to cut Stockton debt would pay Franklin $95,000 for a $35 million bond issue. A Franklin attorney, calling the cut “unprecedented,” unsuccessfully argued that the city had not disclosed enough information about settlements with other creditors.

U.S. Bankruptcy Judge Christopher Klein, ruling disclosure was adequate, gave Stockton permission to circulate the debt-cutting “plan of adjustment” to all creditors for a vote on Feb. 10. An objection from one creditor can force a trial.

The apparent failure of a court-approved plan of adjustment to solve structural financial problems in Vallejo is raising questions about whether the Stockton plan also might fail to close a long-term budget gap.

As in Vallejo, the Stockton plan does not cut pension debt. A Franklin attorney said last week an objection to the Stockton plan might point to the uncut pension debt as an example of unfair treatment of creditors.

Stockton contends that the plan does indeed cut retiree debt, mainly through the elimination of retiree health care, which is a large and growing cost in the troubled Vallejo budget.

Voters approved a 1-cent sales tax increase as Vallejo emerged from a 3½-year bankruptcy in November 2011. Now two years later Vallejo has a $5.2 million general fund deficit in the current fiscal year, projected to grow to $8.9 million next year.

Last week, Vallejo was not mentioned during the Stockton hearing. But the judge said the Stockton 30-year plan should disclose the “renewal risk” of a ¾-cent sales tax, approved by city voters this month but due to expire in 10 years.

“If I thought there was going to have to be another Chapter 9 (bankruptcy) case in 10 years, I probably would not confirm the plan,” said Klein. “I’m not sure any judge would.”

Large debt owed the California Public Employees Retirement System has been an issue in three city bankruptcies triggered by revenue losses during the recession. Whether public pensions can be cut in bankruptcy has yet to be tested.

Vallejo officials considered cutting pension debt, then chose not to try after CalPERS threatened a costly legal battle. San Bernardino skipped payments to CalPERS last fiscal year, running up a tab of about $17 million before resuming payments.

Stockton does not want to cut pensions, arguing they are necessary to remain competitive in the job market, particularly for police. Two bond insurers backing major Stockton bond issues unsuccessfully opposed the city’s eligibility for bankruptcy.

Assured Guaranty (backing $164 million in bonds) and National Public Finance Guarantee ($89 million) contended, among other things, that Stockton’s initial “ask” treated them unfairly because the largest creditor, CalPERS, was untouched.

Judge Klein asked the Franklin attorney last week if he similarly had CalPERS “in the crosshairs.” Jim Johnston said Franklin had been focusing on disclosure issues, but “CalPERS very well may be implicated” in objections to the Stockton plan.

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