Detroit made history yesterday by becoming the largest city in American history to file for Chapter 9 bankruptcy. The move was ultimately made by David Orr, a bankruptcy lawyer appointed by Governor Rick Snyder to bring order to the city's finances in a once sprawling metropolis where police response to 911 calls averages almost an hour.
Repercussions of the filing are likely to be huge, as the market discerns just what the news will mean for the municipal bond industry, Detroit's resurgent automobile companies, and ailing local governments nationwide – who are already grappling with their own money problems.
Many residents are optimistic about the potential for the filing to restore growth and put the city back on a path to fiscal stability, citing the recent success stories of local companies like General Motors (GM) and Chrysler, which were able to recover and post huge profits in the wake of their own chapter 11 bankruptcy filings during the financial crisis. Detroit's 100,000 creditors hold as much as $20 billion in debt, according to Orr, and are unlikely to accept repayment in pennies on the dollar, which is all the city could afford. Not making good on the debt however, could throttle the municipal bond industry, historically one of the nation's most reliable investments.
The prevailing hope is that Detroit will finally be able to restructure its pension funds, and refinance its loans enough to give the city a fresh start. However, it's important to consider a number of differences between the corporate bankruptcy filed by auto-makers, and municipal bankruptcy which is being filed by the city itself and could take a year or more to resolve in Federal courts.
A major difference lies in the United States Constitution. Judges have far more authority to restructure companies than they do states or cities, as the 10th Amendment provides state legislatures with number of protections against the Federal Government when making their budgets. As a result, Federal judges will mostly have to defer to Orr's recommendations, whereas they had much broader authority in reorganizing Chrysler and GM. A further complication is that Detroit will not have access to the same kind of capital injection as the auto companies, who were able to rely on the Troubled Asset Relief Program (TARP) and $82 billion in cash that came with it in order to weather the storm.
Car companies are prone to booms and busts, and historically tend to succeed whenever the United States economy succeeds, for the simple reason that Americans love cars and have viewed them as household necessities since the invention of the Model T. When the government loaned to the auto industry, they expected to be paid back as the economy recovered, and they were. The same companies that were flailing in 2009 have since posted huge profits, and trounced foreign competition. Detroit can make no such assurances. Furthermore, unlike smaller municipalities that have declared bankruptcy, Detroit's problems did not arise from a single bad investment, or a single identifiable problem. Instead they have accrued over years of mismanagement, corruption, and a dwindling tax base.
And yet there are many signs that indicate the optimists are right. Ford (F) didn't even need a bail-out as the company already had billions saved to hedge against a potential bust. Detroit-based companies have invested $10 billion in the city over the last five years. Rock Ventures/Quicken Loans, WellPoint, Inc. (WLP), and Compuware (CPWR) have helped re-build and revitalize Detroit's downtown, putting in new office complexes to spur development. Detroit's three major sports teams all boast close to 100% attendance, an impressive feat for a city that is significantly smaller than it was when some of the teams were created. Downtown has added green-space, reduced its crime rate, and added new, higher paying jobs. It's a reminder of the city's golden age, and a possible indicator of what's to come.
Will Detroit and its other industries follow in the path of its automakers? Use the charts below to begin your own analysis.
1. Compuware Corporation (CPWR, Earnings, Analysts, Financials): Provides software and Web performance solutions, professional services, and application services. Market cap at $2.23B, most recent closing price at $10.51.
(List compiled by James Dennin. All data sourced from Finviz.)
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