By Joseph Lichterman
DETROIT, Jan 13 (Reuters) - The agreement struck with twobanks by Detroit to end toxic interest rate swap agreements wasnot in the best interest of the city, the groups objecting tothe deal said during closing arguments in a bankruptcy courthearing on Monday.
The bond insurers, banks, pension funds and others objectingto Detroit's Dec. 24 deal to terminate interest-rate swaps withUBS AG and Merrill Lynch Capital Services, a unit ofBank of America Corp, presented arguments on Mondayduring a hearing set to determine whether the deal should beapproved.
The hearing was postponed twice last week due to inclementweather.
If U.S. Bankruptcy Judge Steven Rhodes approves theagreements, Detroit will pay the banks $165 million plus fees toend the agreements at a 43 percent discount to their originalcost to the city. Detroit entered into the interest-rate swapsin a failed attempt to hedge, or limit the risk, on some of the$1.4 billion in pension debt that it sold in 2005 and 2006.
But Caroline English, the attorney representing bond insurerAmbac Assurance Corp from the law firm Arent Fox, argued thecity had strong legal arguments to support a full termination ofthe swaps agreement and should not have settled with the banks.
"This deal should have the swap counterparties paying thecity, not the city paying the swap counterparties," saidEnglish.
Detroit Emergency Manager Kevyn Orr testified previouslythat the city settled with the banks because it only had a 50-50chance of succeeding in litigation and it did not want to risk alengthy and expensive legal process. He also testified that thecity did not want to lose access to its casino tax revenue,which was used as a lien in the swaps deal.
But the objectors argued that the use of casino revenue as alien violated Michigan law because the funds were not used todirectly provide services to Detroit residents.
Detroit and the banks initially agreed to terminate theswaps for $230 million, or 75 cents on the dollar, but Rhodesencouraged the city to renegotiate the deal to secure betterterms. The city reached its agreement with UBS and Merrill aftertwo days of mediation on Dec. 23 and Dec. 24 of last year.
Detroit also has reached an agreement with Barclays Plc for a $285 million loan to end the swaps. Detroit plansto use about $120 million of the loan to fund improvements tocity services.
But Vincent Marriott, who represents Detroit creditorsHypothekenbank Frankfurt AG, Hypothekenbank FrankfurtInternational SA and Erste Europäische Pfandbrief-undKommunalkreditbank Aktiengesellschaft in Luxembourg SA, arguedthat the court should not approve the post-petition financing.
He said the city should have provided the Detroit CityCouncil with more information about the loan and also pursued anunsecured loan.
"By beginning the solicitation process by offeringcollateral, the city ensured substantial collateral would begranted to the lender," Marriott said.
The lawyer representing Merrill Lynch, Marc Ellenberg,however, argued that the deal was in the best interest of boththe city and the banks.
"There is such a thing as a win-win transaction," he said inresponse to a question from Rhodes about Merrill's motivationfor reaching its agreement with the city.
"There is such a thing as the lesser evil and that's whatwe've tried to reach," said Ellenberg.
Detroit was declared legally bankrupt on Dec. 3, making itthe largest U.S. city ever to go bankrupt. The city has morethan $18 billion in debt and other obligations.
Orr had said he planned to file the city's plan to deal withits debt to the court in the first week of January, but that hasbeen delayed until the issues surrounding the swaps are dealtwith, spokesman Bill Nowling said in an email last week.
"If it looks like mediation efforts are bearing fruit, itcould push back the release date as we look to include anymediated agreements in the plan," Nowling said.
Barclays (BARC)