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Detroit warns of risk of bankruptcy

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03/06/2010 06:42 AM
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Detroit warns of risk of bankruptcy
March 5 (Bloomberg) -- Detroit, the largest U.S. city whose debt is rated below investment grade, warned investors of the risk of bankruptcy as it prepares to sell $250 million of bonds to help close its budget deficit.

The city told bondholders in a March 2 preliminary offering statement that while it hasn’t taken steps to reorganize under Chapter 9, it may have few other options if its financial condition worsens. Detroit officials also detailed the steps they would have to take should bankruptcy become necessary.

“If the city’s financial status were to deteriorate further the city’s options to improve its fiscal health may be limited,” Detroit said in the statement. Bondholders “should not expect that their rights to payment and remedies will not be adversely affected by filing under the bankruptcy code.”

Bond lawyers “who oversee the preparation of disclosure statements typically include language on risk of bankruptcy if it’s an exception in their opinion, although many do not because they consider the risks to be understood by investors,” said Paul Maco, a Washington attorney with Vinson & Elkins and former director of the Securities and Exchange Commission’s office of municipal securities, who helped write a book on disclosure practices in the market.

‘Financial Crisis’

“We are still in a financial crisis but insolvency isn’t on the horizon or on the agenda at this time,” Mayor Dave Bing said in an e-mail from his spokesman, Dan Lijana. The total deficit this year is estimated at $280 million.

Local governments have been seeking concessions from creditors to cut deficits as state tax collections last year through September fell the most since at least 1963, according to the Nelson A. Rockefeller Institute of Government in Albany, New York. They are struggling with depressed property values and sales, a national unemployment rate of 9.7 percent and a slowdown in consumer spending that has cut tax revenue.

Last year, 183 tax-exempt issuers defaulted on $6.35 billion of securities, according to Miami Lakes, Florida-based Distressed Debt Securities Newsletter. That’s up from 2008, when 162 municipal borrowers failed to meet obligations on $8.15 billion of debt. In 2007, 31 of them defaulted on $348 million of bonds.

Only two cities -- Menasha, Wisconsin, and Vallejo, California -- have sought bankruptcy protection during the past two years. Vallejo, which filed in May 2008, is seeking to suspend principal and interest payments on debt for three years. The Detroit School District and Harrisburg, Pennsylvania, have said bankruptcy is a possibility.

Bond Sale

Detroit plans to sell the bonds, backed by payments the city receives from the state, as soon as next week through investment banks led by Goldman Sachs Group Inc. Proceeds will finance part of its operating deficit, according to a report from Moody’s Investors Service.

Detroit’s general obligations, insured by Ambac Financial Group Inc. and maturing in 2023, traded at about 84 cents on the dollar on March 4, to yield 7.08 percent, which compares with 82 cents on the dollar in early November.

The city’s revenue has deteriorated because of job losses in the automotive industry and foreclosures tied to the recession. Detroit has developed a plan to eliminate its deficit, according to its financial statement.

The city turned to short-term borrowing as the deficit reached $219.2 million in June 2008, according to the bond documents. The new debt will reduce the need for short-term borrowing, the city said.

The securities being sold won an A1 rating from Moody’s and AA- from Standard & Poor’s because of the pledge of state payments. The city’s underlying general obligation rating from Moody’s is B1, its fourth-highest non-investment grade, with a negative outlook. Standard & Poor’s ranks the city’s general obligation debt BB, its second-highest non-investment grade.

[link to www.bloomberg.com]
By faith he sojourned in the land of promise, as in a strange country, dwelling in tabernacles with Isaac and Jacob, the heirs with him of the same promise:For he looked for a city which hath foundations, whose builder and maker is God. Hebrews: 11