Stockton, California, employees breathed a sigh of relief on Thursday as a judge ruled the city could exit bankruptcy, leaving benefits administered by public pension giant Calpers untouched.
The ruling, however, left investors and analysts confused about how pension funds stacked up in terms of their priority of treatment in a bankruptcy proceeding.
Public employees had worried about their pensions after U.S. Bankruptcy Judge Christopher Klein ruled earlier in October that the city's contract with the California Public Employees' Retirement System (Calpers), the largest public pension fund in the United States, could be rejected.
"I don't know if I'm going to dance or cry," said retired Stockton police officer Anthony Delgado.
The plan proposed by the city negotiated the reduction of more than $2 billion of debts. Holdout creditor Franklin Templeton was one of those taking a haircut from its collateral of golf courses and a park, as the judge ruled it would get just over $4 million from an original debt of $36 million.
"It's a good day," said Stockton City Manager Kurt Wilson. "Today really reinforces to the citizens of Stockton that we're going to be in a stable place."
The Stockton case was riddled with questions about whether public employee pensions should be cut along with debts held by bondholders. The city vehemently opposed the idea of cutting pensions, fearing it would be hit by a $1.6 billion termination fee from Calpers and that employees would lose their jobs.
Analysts said those questions about the status of different stakeholders remain to be conclusively answered.
"We need a black and white ruling on this matter," said David Tawil, a former bankruptcy attorney and president of New-York based hedge fund Maglan Capital, which invests in distressed situations.
"At some point we will get to a municipal situation where a city will not be able to function without a compromise of its pension obligations," Tawil said. "This question has been punted on once again."
Calpers welcomed the judge's decision and the city's plan to exit bankruptcy, which it said "protects the pension promises made to its public employees".
A haircut to Calpers pensions would have been unprecedented in municipal bankruptcy, although pensions elsewhere are under pressure in such situations. The judge presiding over Detroit's exit from bankruptcy ruled that pensions could be impaired although cuts were eased by court-ordered mediation.
Klein said he made his decision after examining the alternative of going "back to square one and running up many more millions of dollars for the city."
"I've looked long and hard at the history of this case and the decisions that have been made and considered the alternative," Klein said in court. "This plan, I'm persuaded is the best that can be done in terms of restructuring the debts of the city of Stockton."
Credit ratings agency Standard & Poor's said Stockton's experience showed bankruptcy was unlikely to be an attractive route for other municipalities due to the high legal costs and the "negative campaign" that a city has to make to argue that it is unable to sustainably operate without defaulting.
