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When Worlds Collide

By Karen Grande, John Whitlock, Steven B. Smith and Theodore Orson

It is unlikely that when Philip Wylie and Edwin Balmer co-authored “When Worlds Collide” 80 years ago, they were envisioning the growing wave of distressed municipalities and publicly financed projects, and the resulting collision between two heretofore separate and distinct worlds: that of public finance (where collection was simply not much of a consideration) and the insolvency world (where collection is the primary consideration). Until recently, the public finance world simply did not experience significant defaults. In financings where a municipality had agreed to pay for a publicly financed facility from that municipality's general funds, although detailed default and remedies provisions were included, repayment was considered sacrosanct because a default would render the municipality virtually unfinanceable.

Where it was contemplated that repayment of a publicly financed revenue-generating project would come from revenues and/or the assets comprising the project, repayment was considered safe because the bond trustee would be assigned a lien on project revenues and/or the assets compromising the project to secure bondholders' investments. Indeed, it was taken for granted that governmental debtors “always” pay, or have paid, at least since the 1870s, when cities and towns defaulted on bonds issued to facilitate the construction of transcontinental railroads. According to Moody's Investors Service, the average default rate for all rated municipal bonds between 1970-2011 was 0.13%, while during the same period the default rate for rated corporate bonds was 11.17% (Moody's Investors Service, Special Comment, U.S. Municipal Board Defaults and Recoveries, 1970-2011, accessed on April 12, 2013, http://bit.ly/12OHNWi). The collision of these two worlds has given rise to a whole host of issues related to, among others, the drafting of pledges, the interplay between special revenue bonds and state law creditor remedies, and challenges to lease revenue bonds, each of which was on public display in the bankruptcy cases of In re Las Vegas Monorail, In re City of Stockton, California, and In re Jefferson County, Alabama. We will discuss each of these cases in turn.

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