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California’s San Bernardino Votes to Declare Bankruptcy

San Bernardino, whose government is under criminal investigation, will become the latest California municipality to seek court protection from creditors after the City Council voted for an emergency bankruptcy.

A Chapter 9 petition may be entered in the U.S. Bankruptcy Court in Riverside soon, City Attorney James Penman said yesterday after the 5-2 vote. He didn’t provide a specific time. The council declared a fiscal emergency to hasten the process.

“This has been a time of immense crisis,” Mayor Patrick Morris said. “The city faces insolvency.”

San Bernardino would join California’s Stockton, an agricultural center of 292,000 east of San Francisco, and Mammoth Lakes, a mountain resort town of 8,200 south of Yosemite National Park, by entering bankruptcy proceedings. The mandated 60- to 90-day mediation with creditors undertaken by both cities failed to produce agreements needed to keep them out of court.

“We might see more in California, but it is not indicative of the rest of the market,” said Peter Hayes, a managing director at New York-based BlackRock Inc. (BLK), on Bloomberg Television. BlackRock oversees about $105 billion of municipals.

Defaults Down

Forty-two issuers nationwide have defaulted for the first time this year, down from 68 in the same period of 2011, according to Municipal Market Advisors.

Declining tax revenue, growing worker costs, accounting discrepancies and an almost 12 percent unemployment rate in the San Bernardino area helped drive the insolvency of the city of 209,000 about 60 miles (100 kilometers) east of Los Angeles.

San Bernardino confronts a deficit that has reached $45.8 million on a general fund of $129.4 million and would probably run out of money before the end of the state-required 60-day negotiation period, Andrea Travis-Miller, the interim city manager, said July 16. The emergency declaration lets the city skip mediation under California law.

San Bernardino has depleted its general-fund reserves, lost access to capital markets, has had its credit lines frozen by Wells Fargo & Co. (WFC) and must pay cash for goods and services, according to Morris and Travis-Miller. Also, the city faces a $3.4 million payment for employee pensions on July 20.

Coffee Credit

Councilwoman Virginia Marquez said even the company that provides coffee to City Hall is no longer accepting credit. She joined the majority in authorizing the court filing, which councilmen Chas Kelley and John Valdivia voted against.

About $152 million of San Bernardino’s $223 million in long-term bonds “should be unimpaired” by a bankruptcy filing, Municipal Market Advisors said July 16 in a note to investors, citing revenue backing the debt from dedicated sources such as water and sewer services.

“At greater risk of adjustment” during the legal process are about $48 million in pension-obligation securities, $12.4 million in lease-revenue bonds and $11.5 million in certificates of participation, according to the note from the Concord, Massachusetts-based research company.

Municipal bankruptcies in the U.S., while still rare compared with corporate filings, became more common after the housing market and financial crisis began in 2007. Almost a quarter, 10 out of 42 since 1981, were started in the past four years, according to court records. Jefferson County, Alabama, entered the biggest case last year with $4.2 billion in debt mostly tied to corruption-tainted bond deals.

Coffers Bare

The votes in San Bernardino yesterday on the emergency and a bankruptcy filing were postponed two days earlier, even as Travis-Miller and Morris said the municipal coffers were almost bare. Council members said they needed more information about multiple cash accounts, and also agreed to start contract talks with labor unions. Those negotiations haven’t produced results.

On July 13, the San Bernardino County Sheriff’s Department said a probe of possible criminal activity in City Hall had begun several months earlier. No further details have been provided by investigating agencies, which include the police department and district attorney’s office.

Penman said last week that he had turned over to outside officials in February “evidence of suspected wrongdoing” involving years of city accounting. Morris, who took office in 2006, said it was the first time he had heard such allegations.

Special Accounts

For years, Travis-Miller said, the city masked the magnitude of its fiscal problems by using the special accounts to supplement the general fund. The manager, who began her job in May, said she knew of no intentional misdeeds related to the money movements. Stockton, which became the biggest U.S. city to enter bankruptcy, cited accounting errors as well.

San Bernardino almost failed to cover its payroll last month after depleting both its general fund and special accounts for workers’ compensation, legal judgments, redevelopment and other purposes, Travis-Miller said in a July 12 interview.

The next step for the city is to set a short-term budget, which will be the subject of a July 24 council meeting, Travis- Miller said in a statement following the votes. She said that talks with creditors and unions may continue before a bankruptcy petition is delivered to the court, which may take 30 days.

Penman, the city’s lawyer, said a list of creditors must be compiled, including identifying potential lawsuits.

“We’ll file as soon as everything is ready,” Penman said in an interview. “There’s no definite time.”

The council first voted to seek bankruptcy protection for the city at a July 10 meeting.

To contact the reporter on this story: James Nash in Los Angeles at jnash24@bloomberg.net

To contact the editor responsible for this story: Stephen Merelman at smerelman@bloomberg.net

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