Detroit Tries ‘Culture Shock Therapy’ to Woo Investors
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The Fiscal Times
July 9, 2013

Generally speaking, municipal officials trying to curry favor with investors and creditors do so by rolling out the red carpet and showing off their city’s best face.

In the case of down-on-its-luck Detroit, that might mean slipping bankers box-seat tickets to Comerica Park to watch the first-place Tigers play ball, or taking their creditors out for an evening of dinner and entertainment in Greektown, or leading a stroll down the glitziest stretch of Woodward Avenue past the iconic Fox Theater and pricey condominium apartment buildings.
 
But Kevyn Orr, Detroit’s emergency financial overseer, has come up with a  novel approach to win the hearts and wallets of the legion of Detroit creditors: He plans to take them on a bus tour of the city’s most blighted and depressed residential and commercial areas.

RELATED: DETROIT NEEDS A MIRACLE AS IT SINKS DEEPER IN DEBT

On Wednesday, Orr will load as many as 50 bankers and businessmen on a city bus and show them arguably the worse side of the cash-strapped and crumbling Motor City.

The tour will begin downtown on Grand River Avenue and cover some of the most run-down, abandoned and burdened out sections of the city. The tour will likely conclude with a visit to the Brightmoor neighborhood, a roughly four square mile area near the city’s northwest border, where hundreds of abandoned homes and businesses stand like ghosts in this once vibrant area. 

"If they can see what it's like for Detroiters, what they endure every day in this city, I think they'll begin to understand what's at stake," Orr told reporters last week in announcing the blight tour. "Imagine what it's like to be a mother riding that bus with no air conditioning that shows up late and takes an hour and a half to get you where you need to go."

Last month, Orr unveiled a restructuring plan to shave billions of dollars off what the city owes many of its creditors and to divert those debt-service savings to improving city services for hundreds of thousands of distressed residents.

The idea, noted Detroit Free Press editorial page editor Stephen Henderson, is to “prick the consciences of the city’s creditors, and raise some empathy capital with them in hopes that they’ll avoid forcing Detroit into bankruptcy.”

“It was the first time in my memory that any leader in Detroit has suggested putting residents’ needs first – before the interest of the banks or, for that  matter, public employees whose cost have also drained city coffers,” Henderson wrote.

RELATED: DETROIT’S ABANDONED HOUSES

Orr, a bankruptcy expert from Washington, D.C., was hired by Republican Gov. Rick Snyder in March to take over control of Detroit's finances. Detroit is running a $380 million deficit this year, and Orr has said long-term debt could top $17 billion.

Last month, Orr unveiled a highly controversial 134-page debt restructuring proposal as a prelude to negotiations with creditors. The report revealed Orr’s intention to halt payments on “unsecured debt,” including $530 million of general obligation bonds that traditionally were considered immune from such action.

Until now, municipal general obligation bonds held by banks and investors have been considered secured and have been given preferential treatment in payouts. But Orr now contends that since tax revenue serves as security for general obligation bonds and Detroit has bumped up against its maximum allow tax rates, those debts are now unsecured -- at least as far as Detroit is concerned.

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“If we are able to restructure and get a deal in place, then we start paying on the new regime,” Orr told reporters after announcing his plan.  “We can’t continue paying with the debt service we have going forward.”

But for the plan to work, the city’s creditors would have to eat substantial losses – something many of them are not happy to do. Orr has proposed issuing $2 billion of notes to pay off holders of $11.4 billion of unsecured debt on a pro-rata basis -- a move that would generate less than a dime on the dollar for investors.

Orr’s efforts have sent shock waves through the municipal bond market, putting investors on high alert and potentially raising the cost of future borrowing by Detroit and other municipalities.

Lisa Washburn, Managing Director at Municipal Market Advisors Inc. in Concord, Mass., told The Fiscal Times Monday that Orr’s maneuver will make investors “much more discriminating” in considering future investments in municipal general obligation bonds and nailing down their protections if a city goes bankrupt.
 
“For sure it could end up reducing or eliminating any monetary benefit or reduction in cost of funds” that Detroit and other Michigan municipalities might reap by issuing GO bonds in the future if Orr’s plan is adopted, she said. “Right now I think it is just that – a proposal – and nothing has been decided yet,” Washburn added.

“It seems safe to say that municipal investors will buy bonds with their eyes wide open and know what the security features are,” Michael Ross, managing director at the investment firm Raymond James, recently told The Bond Buyer, a trade publication that tracks the municipal bond market.

The once-proud city of Detroit – the “arsenal of democracy” during World War II and the car capital of the world – has languished for decades. Hundreds of thousands of manufacturing jobs were lost to other states and other countries; a once-vibrant population of 1.85 million in the 1950s dwindled to a mere 700,000 by last year; and riots and freeway construction over the past four decades rendered huge swaths of the city a moonscape of abandoned and burned out houses and garbage-strewn vacant lots.

The city’s economic outlook only weakened during the Great Recession and a seemingly relentless series of political scandals and government spending outrages. And even with the recent recovery of the auto industry and economic revival downtown and along the riverfront, the city continues to face difficult economic conditions. That includes a nearly 10 percent unemployment rate, a significant reduction in state revenue sharing, and decreases in income and property taxes.

Orr warned earlier this year that Detroit’s expenditures have exceeded revenues by an average of $100 million a year between 2008 and 2012, and these operating deficits have been covered with long-term borrowing. This year alone, the city issued $137 billion in bonds to cover revenue shortfalls.  The city will run out of cash unless it defers payments on its obligations, including contributions to city employee pension programs. As of April 26, the city had just $64 million in cash on hand but $226 million in obligations in loans, property tax distributions and deferred pension contributions.

RELATED: WILL A NEAR-BANKRUPT DETROIT MAKE A HUGE MISTAKE ?

Snyder’s appointment of Orr to try to salvage the city has been very controversial in the heavily Democratic Motor City and has drawn fire from city officials, labor leaders and advocates for the poor. Early last month, Orr triggered an uproar by ordering an audit of all the city’s most valuable assets – including invaluable paintings hanging in the Detroit Institute of Art – in assessing what might be sold off to help retire the city’s mounting debt. But he has won some grudging admiration for clearly defining the city’s financial problems and taking steps to try to prevent bankruptcy.

“I don’t know if I’d say people have warmed up to him,” Henderson of the Free Press told The Fiscal Times. “I think people are used to it now. And at least they can say he didn’t come here and sell everything that wasn’t nailed down – at least in the first 90 days.”

“I think it’s clear he did himself a lot of favors by coming out with a plan that at least on paper appears to put residents’ concerns really high up on the list, and bankers really low,” Henderson added. “That was the strong criticism when they appointed him: ‘Oh, he’s coming here to look out for the banks, to make sure the banks don’t lose their money.’ When in fact, what he is offering them is a lot of nothing.” 

Washington Editor and D.C. Bureau Chief Eric Pianin is a veteran journalist who has covered the federal government, congressional budget and tax issues, and national politics. He spent over 25 years at The Washington Post.