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Group Urges Bankruptcy Law Reforms

Investing: Orange County's case moves committee to seek stronger voice for bondholders in Chapter 9 proceedings.

February 14, 1996|DEBORA VRANA | TIMES STAFF WRITER

Wall Street bond specialists, citing concerns that arose when Orange County filed the largest municipal bankruptcy in U.S. history, called Tuesday for reforms in the municipal bankruptcy law.

The reforms are designed to give bondholders a stronger voice in bankruptcy proceedings. A municipality, for example, would be required to notify the state before it filed for bankruptcy. A municipality in bankruptcy also would have to pay bondholders if it has the resources.

"This would generally strengthen the rights of municipal bondholders versus a troubled municipality," said Bruce Bennett, lawyer for bankrupt Orange County, who did not help draft the recommendations. "It would make it more difficult for a troubled municipality to continue to provide services at a time when it's in default on debt."

Under Chapter 9 of the U.S. Bankruptcy Code, which governs municipal bankruptcies, debtors such as a county retain most authority in a bankruptcy. In corporate bankruptcies, a judge and creditors have more power than the company does to determine policy.

The municipal bankruptcy chapter is out of date, said Joseph V. Salzano, the head of public finance with Ambac Inc., a bond insurer in New York that participated in the study.

The municipal section of the Bankruptcy Code was written in the 1930s and last was updated in the 1970s.

Orange County filed for bankruptcy on Dec. 6, 1994, in a move that sent shock waves through the municipal bond market and made it more costly for other local governments here to borrow money. It even temporarily hampered the U.S. Treasury bond market.

The proposed reforms were prompted by concerns that Orange County unfairly penalized bond investors by declaring bankruptcy when it had the ability to raise taxes to pay its debts.

The reforms would help keep intact the workings of the municipal bond market and allow local governments to continue selling low-cost debt.

Charles Forest, an investment banker with A.G. Edwards & Sons, Orange County's underwriting firm and a member of the committee offering the reforms, said it was time to amend the law.

"So many things bought and sold in the municipal market today are very different than what was in the market even 20 years ago," Forest said.

The Ad Hoc Committee on Municipal Bankruptcy Law Reform, which prepared the recommendations, plans to issue a final report in May. The group also is talking to legislators who might sponsor new legislation that would include the reforms.

"It would raise the comfort level of bond investors and that would lower costs for cities, counties and schools, who would not be required to pay higher borrowing costs," said John Cathey, spokesman for Ambac, which had insured Orange County bonds.

If the county had defaulted on its debt, Ambac Inc. would have been forced to pay $17 million annually to bondholders for at least 10 years.

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