show that (a) the labor agreement
burdens the estate (i.e., continued
performance under the agreement
impairs the debtor’s ability to formulate
a plan of adjustment); (b) the equities
balance in favor of contract rejection;
and (c) “reasonable efforts to negotiate
a voluntary modification have been
made and are not likely to produce a
prompt and satisfactory solution.”
While these requirements provide some
protection for unions and employees,
following the Bildisco decision unions
succeeded in lobbying Congress to
add much more extensive protections
to CBA rejection under 1113/1114. Such
protections have not been carried
over to Chapter 9, however, partially
in light of constitutional concerns
regarding federal interference with
state and local governments’ powers
to run their municipalities as they see
fit. Thus, the possibility of significant
CBA modifications/changes exists in
Chapter 9, but without the extensive ask/
negotiation process and information
sharing required prior to CBA/OPEB
modifications in the Chapter 11 context.
Finally, with respect to OPEB, given
the explicit limitations on the power
of Bankruptcy Courts to interfere with
the political or governmental powers,
property, revenues, or use or enjoyment
of income-producing property of
municipalities ( 11 U.S.C. Section 904),
those in Chapter 9 cannot be forced or
compelled to honor retiree obligations.
Thus, litigation to prevent drastic
OPEB cuts faces an extreme uphill
battle, and in both the Stockton and
Detroit Chapter 9 cases, municipalities
succeeded in unilaterally reducing OPEB,
including retiree health benefits.14
Incentives to Negotiate
Given the apparent ability for large
municipalities to file for bankruptcy
without having truly negotiated prefiling,
together with the looser standards
applicable to CBA, OPEB, and pension
modification/rejection once these
municipalities are in bankruptcy,
what opportunities remain to avoid a
non-negotiated Chapter 9 process?
Given the current landscape, labor, like
other constituents, must consider the
serious risks it faces in the Chapter 9
process, which do not exist to the
same extent in Chapter 11. This may
seem counterintuitive because, as
noted earlier, municipalities with
many hundreds of creditors may be
able to establish their eligibility for
Chapter 9 without engaging in any
bona fide good faith negotiations.
Thus, municipalities can likely enter
Chapter 9 without displaying any
willingness to negotiate prefiling.
However, it is critical to understand
that the damage of a Chapter 9 filing
to a municipality’s reputation and
credit rating may be long-term, if not
irreversible, and that the sheer cost of
municipal bankruptcy and its drain on
city resources remains high and in some
cases prohibitive. Thus, municipalities
will likely consider prebankruptcy
negotiations to avoid Chapter 9—as
not every municipality is Detroit.
With this likely prefiling negotiation
window, particularly in light of the
powers municipalities possess in
Chapter 9, all parties should evaluate
whether it makes sense to consider
making difficult decisions to avoid the
costs and even steeper forced cuts that a
municipal bankruptcy would likely entail.
Finally, even if a municipality is forced
to enter Chapter 9, all hope is not lost.
After all, a municipality still needs
its workforce to help it emerge from
Chapter 9. This is where mediation,
a critical aspect of Chapter 9, looms
large. 15 Restructuring advisors to unions
must prepare for long and difficult
mediation sessions, particularly when a
municipality has stated goals of cutting
labor, pension, and OPEB costs.
To confirm a plan of adjustment,
municipalities still must satisfy the “best
interests of creditors” test and meet other
obligations, including plan feasibility and
cramdown requirements, if applicable.
The best interests of creditors test has
its own unique definition in Chapter 9,
namely that creditors that vote against a
plan receive as much as they would have
if no bankruptcy had been filed and they
were left to state law alternatives. Unlike
a company in Chapter 11, a municipality
cannot liquidate if it cannot pay its debts.
Thus, any unpledged assets of a
municipality may play a crucial role in
mediation negotiations as a source for
increased creditor recoveries, including
those of unions and retirees. Ultimately,
municipalities in Chapter 9
likely want to get a deal done. Were
a Chapter 9 dismissed and the
municipality could not satisfy all of its
debts, chaos could ensue if thousands
of creditors raced to the courthouse.
Given that there really is little alternative
to confirming a plan of adjustment in
Chapter 9, restructuring advisors should
seek to build consensus in as many areas
as possible, while remaining keenly
aware of the potential eventuality of
a cramdown plan, including the risks
such a plan would hold for pensions
and OPEB. While accepting negotiated
cuts to pensions and OPEB may be
a potentially difficult pill to swallow,
municipal creditors must understand
the risks they face in the current
reality of the Chapter 9 process. J
1 This threat is made more likely given the
(i) unfunded pension and other benefit liability
of key U.S. cities (see Pew Report, “A Widening
Gap in Cities: Shortfalls in Funding for Pensions
and Retiree Health Care,” available at pewstates.
cities-85899442341) and (ii) the Bankruptcy
Court’s determination that Detroit was eligible
for Chapter 9 protection and that accrued
vested pension benefits may be impaired in
Chapter 9 despite explicit protections for such
benefits under the Michigan Constitution.
See In re City of Detroit, Mich. 504 B.R. 97
(Bankr. E.D. Mich. 2013) (explaining that
“pension rights are contractual rights . . .
subject to impairment in a federal bankruptcy
proceeding”). Note that the Detroit decision,
and specifically the issue of the permissibility of
pension impairment in Chapter 9, is currently
on appeal before the 6th U.S. Circuit Court of
Appeals. See, e.g., Michigan Council 25 of the
American Fed. of State, County and Municipal
Employees, AFL-CIO et al. v. City of Detroit,
Michigan, et al. (6th Cir., Case No. 14-1211).
2 This argument is particularly appealing in
the seven states that currently provide state
constitutional pension protection, including
Alaska, Arizona, Hawaii, Illinois, Louisiana,
Michigan, and New York. See Center for
Retirement Research, “Legal Constraints on
Changes in State and Local Pensions,” available
slp_ 25.pdf; see also manhattan-institute.
3 Unlike in Chapter 11, where the filing of
the bankruptcy petition constitutes the
order for relief, “Congress consciously
sought to limit accessibility to the
bankruptcy court by municipalities.” In re
Cottonwood Water & Sanitation Dist., 138
B.R. 973, 979 (Bankr. D. Colo. 1992).
4 The negotiation requirement is also
excused in one discrete circumstance under
Bankruptcy Code Section 109(c)( 5)(D) when
the municipality believes that a creditor is
attempting to obtain a prepetition preferential
transfer prohibited by Section 547.
5 See 11 U.S.C. § 1113(b)( 1); see also In re Pinnacle
Airlines Corp., 483 B.R. 381 (Bankr. S.D.N. Y. 2012).
6 In re Walway Co., 69 B. R. 967, 973 (Bankr.
E.D. Mich. 1987) (citing Cap Santa Vue Inc.
v. NLRB, 424 F.2d 883 (D.C. Cir. 1970)).
7 In re Delta Air Lines, 342 B.R. 685,
697 (Bankr. S.D.N. Y. 2006).
8 City of Detroit, Michigan, 504 B.R. at _ (citing
In re Sullivan Cnty. Reg’l Refuse Disposal
Dist., 165 B.R. 60, 78 (Bankr.D.N.H.1994) and
5 Norton Bankr. L. & Prac. 3d § 90: 25 (“It
is the policy of the Bankruptcy Code that