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San Bernardino, Stockton took different routes to bankruptcy

July 11, 2012 |  1:29 pm

A tale of two cities is about to play out in California, giving a real-time look at vastly different routes through financial ruin and rebuilding.

Stockton became the nation's largest city to file for bankruptcy in late June after three months of state-mandated negotiations with creditors under a new California law designed to slow municipal bankruptcies and reduce lawsuits should the city eventually fail.

San Bernardino unexpectedly ran out of operating revenue, revealing Tuesday that the city had less than $150,000 and couldn't meet August payroll. They are expected to declare a fiscal emergency triggering an "emergency exit" clause in the mediation bill, AB 506, and immediately file for bankruptcy protection.

PHOTOS: California cities in bankruptcy

Karol Denniston, an attorney who helped draft AB 506, said the emergency exit had been designed for cases such as that of Orange County, which had made risky investments that unexpectedly gutted its budget. San Bernardino's situation had not been forecast.

"The real horrible question here is 'How do you end up with 30 days of liquidity?' " she said. "You have creditors looking at a city that went from 0 to 100 miles to bankruptcy. You have city leaders saying fiscal information was not accurate or reliable. This could create multiple layers of litigation that hurts creditors, employees and taxpayers for a very long time to come."

By contrast, the city of Stockton had countless meetings with dozens of financial attorneys and union representatives before filing. A paper analyzing the process called it "Death by a Thousand Meetings."

Jon Holtzman, one of Stockton's lead attorneys, said the city did consider using the emergency clause. "Stockton was on the brink. San Bernardino is obviously further on the brink. But Stockton chose to use their remaining resources on the mediation process," he said.

"It was a very expensive process, but I'm really of the view that it was somewhat successful. It got everyone on the same page and there was a clear detailed view of the city's finances. Most of the unions got it."

Stockton was the first city to resort to the new law. San Bernardino will be the first city to use a loophole to get out of it.

"We are going to see exactly how these parallel bankruptcies play out," Denniston said. "I think we'll find Stockton did a lot of things right and that San Bernardino will have a much longer, protracted road to recovery."


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-- Diana Marcum