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A vacant burned out house sits in an area that used to be filled with houses in Detroit's east end (Deborah Baic/The Globe and Mail)
A vacant burned out house sits in an area that used to be filled with houses in Detroit's east end (Deborah Baic/The Globe and Mail)

Business Briefing

Neglect, corruption, exodus: What drove Detroit to historic bankruptcy Add to ...

These are stories Report on Business is following Thursday, July 17, 2013.

Follow Michael Babad and The Globe's Business Briefing on Twitter.

Detroit seeks bankruptcy
Detroit, once one of the great power centres of North America, has collapsed, filing for what will be the biggest municipal bankruptcy in U.S. history.

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The city’s emergency manager, Kevyn Orr, today asked a court to put the municipality into bankruptcy protection, in what is known as a Chapter 9 filing, one that could lead to further cutbacks.

Detroit's move followed negotiations with creditors, including those asked to take a substantial haircut on their debts.

The filing by the city, the heart of the American auto industry, is being closely watched by other troubled municipalities to see what lessons can be learned from a restructuring. In this case, though, officials failed to pull off a massive restructuring outside of bankruptcy. Other cities and regions, notably Alabama’s Jefferson County, have also filed for bankruptcy.

"While many who love Detroit still live there, many other Detroiters at heart could not justify the sacrifice of adequate services," Michigan Governor Rick Snyder said in a letter authorizing Mr. Orr to pull the trigger.

"The city's population has declined 63 per cent from its peak, including a 28-per-cent decline since 2000," the governor added.

"That exodus has brought Detroit to the point that it cannot satisfy promises it made in the past."

(See separate story on what the bankruptcy filing could mean to Windsor, Ont.)

Detroit’s population has plunged to about 700,000 from 1.8 million in the heady manufacturing years of the 1950s, and its household income has declined to well below the state level. The auto industry, of course, was decimated by the financial crisis and recession, with both General Motors and Chrysler falling into bankruptcy, requiring a rescue by American and Canadian governments.

Mr. Orr has been extremely critical of how the city was run in past years, saying in a recent report that its operations “have become dysfunctional and wasteful after years of budgetary restrictions, mismanagement, crippling operational practices and, in some cases, indifference or corruption.”

The governor said today that he municipality cannot meet its "basic obligations" to its citizens and creditors.

"The scale and depth of Detroit's problems are unique," he added.

"The city's unemployment rate has nearly tripled since 2000 and is more than double the national average. Detroit's homicide rate is at the highest level in nearly 40 years, and it has been named as one of the most dangerous cities in America for more than 20 years."

Among the points he cited:

  • Citizens wait an average of 58 minutes for police to respond, and just 8.7 per cent of cases are solved. "The city's police cars, fire trucks and ambulances are so old that breakdowns make it impossible to keep up the fleet or properly carry out their roles."
  • Only one-third of the city's ambulances were in service in the first quarter.
  • Some 40 per cent of the street lights were dead in the first three months of the year.
  • Some 78,000 abandoned structures are creating public safety problems.
  • The city has more than $18-billion (U.S.) in financial obligations, and even if it could raise taxes, the people can't afford to pay them.

"The citizens of Detroit need and deserve a clear road out of the cycle of ever-decreasing services," the governor said.

"The city's creditors, as well as its many dedicated public servants, deserve to know what promises the city can and will keep."

According to Reuters, creditors are expected to dispute the filing in U.S. Bankruptcy Court for Michigan’s eastern district. Reuters also quoted a bankruptcy lawyer as saying the landmark case could take between one and three years to resolve.

General Motors, for one, said it would stand by the municipality.

“GM is proud to call Detroit home and today’s bankruptcy declaration is a day that we and others hoped would not come,” the auto maker said. “We believe, however, that today also can mark a clean start for the city.”

Mr. Orr, who was appointed by Michigan’s governor, has met with creditors and other stakeholders. In a recent report, he painted an exceptionally bleak picture of the city.

“Current levels of municipal services of all types to residents and businesses within city limits, including public safety services, are inadequate,” he said in the mid-May document.

“With high crime rates and poor public services in many areas, the health, safety and quality of life of Detroiters has suffered materially,” he added.

“Tax revenues have decreased over time as the population of the city has dwindled to less than half of its postwar peak and the local economy has suffered, with unemployment tripling since 2000.”

According to Mr. Orr, spending by the city outpaced revenue by an average $100-million (U.S.) a year between 2008 and 2012, with a deficit at the end of the last fiscal year of $326.6-million.

 “The city of Detroit continues to incur expenditures in excess of revenues despite cost reductions and proceeds from long-term debt issuances,” Mr. Orr said in his first report to Michigan’s government.

“In other words, Detroit spends more than it takes in – it is clearly insolvent on a cash flow basis.”

In 224 square kilometres, Detroit is now home to at least 60,000 parcels of vacant property and 78,000 vacant buildings, some 38,000 deemed as potentially dangerous.

“This surplus land presents enormous socio-economic challenges and affects public health, crime rates, economic development and property values.”

Late-breaking earnings
Shares of Google Inc. and Microsoft Corp. sank in after-hours action today after quarterly results disappointed investors.

Calling its results a “great quarter,” with revenues up 19 per cent in the second quarter, Google sent a troubling message on advertising prices.

Google’s profit climbed in the second quarter to $3.2-billion (U.S.), or $9.54 a share, from $2.8-billion or $8.42 a year earlier.

“The shift from one screen to multiple screens and mobility creates tremendous opportunity for Google,” said chief executive officer Larry Page.

“With more devices, more information, and more activity online than ever, the potential to improve people’s lives even more is immense.”

Microsoft’s fourth-quarter profit, in turn, jumped to just shy of $5-billion or 59 cents, from a loss of $492-million or 6 cents.

“While our fourth quarter results were impacted by the decline in the PC market, we continue to see strong demand for our enterprise and cloud offerings, resulting in a record unearned revenue balance this quarter,” said chief financial officer Amy Hood.

Bernanke on bullion
Ben Bernanke no doubt got the tongues of gold bugs wagging today with this comment: “Nobody really understands gold prices, and I don’t pretend to really understand them, either.”

The Federal Reserve chairman was in his second day of congressional testimony in Washington, discussing how some investors hold gold as a type of disaster insurance. Gold prices, he added, have declined because there's less need for that among investors.

“One reason gold prices are lower is people are less concerned about extreme outcomes, particularly negative outcomes, and therefore they feel less need for whatever protection gold affords,” he told the Senate banking committee when asked about prices.

“A lot of people hold gold as an inflation hedge but the movements of gold don’t predict inflation very well."

Mr. Bernanke also again buoyed markets on reassurances from the central bank chief that the Fed would be cautious in any move to wind down quantitative easing, its asset-buying program worth $85-billion (U.S.) a month.

Gold, funny enough, also gained on the second day of Mr. Bernanke’s testimony.

Poloz 'perky'
Bank of Montreal’s chief economist believes the Bank of Canada is rather “perky” when it comes to the economic outlook beyond 2013.

That, Douglas Porter says, is because the central bank is betting consumers will do their part for the recovery given that we’re saving more and getting a better handle on our record levels of personal debt.

“The Bank of Canada is consistently more optimistic on the growth outlook than most others, especially when looking beyond the current year,” Mr. Porter said today.

“Why so perky? The bank is counting on the consumer to contribute more than half the growth in coming years, and they may have something there.”

As The Globe and Mail’s Sean Silcoff reports, the Bank of Canada now believes the economy expanded by a weak 1 per cent in the second quarter of the year, but projects a pickup in the current quarter.

“While growth will be chopping in the near term as a result of unusual temporary factors, underlying momentum in the economy is expected to build into 2014,” the central bank said in its monetary policy report yesterday.

“After picking up sharply in the first quarter of 2013, exports are projected to continue to recover, which should boost confidence and lead to increasingly solid growth in business fixed investment,” it added.

“The economy will also be supported by continued growth in consumer spending, while further modest declines in residential investment are expected.”

While economic growth is forecast at just 1.8 per cent for all of 2013, the central bank projected that that would climb nicely to 2.7 per cent in each of 2014 and 2015 as the U.S. economy picks up steam and business confidence rises.

“As a share of GDP, Canadian consumer spending is not particularly high – in fact, at 54.1 per cent of nominal GDP, it’s now slightly below the 30-year average,” Mr. Porter said.

“And, with the personal savings rate at 5.5 per cent and debt/income easing, there may be some scope for consumers to make a nice contribution in 2014/15.”

Telus wants 'parity'
Telus Corp.’s top executive says the federal government’s quest to “manufacture” more competition in the $19-billion wireless industry is creating a tilted playing field that is poised to give unfair advantages to deep-pocketed foreign carriers like Verizon Communications Inc. at the expense of Canadian incumbents.

Ottawa is courting Verizon, which under current rules could buy smaller Canadian carriers that other incumbents would not be allowed to acquire. Verizon would also have an advantage in the coming spectrum auction because it would be treated as a new entrant and allowed to buy more wireless licences that telecom executives consider to be the industry’s lifeblood.

“All I am asking for is parity in the way Verizon is treated,” Telus chief executive officer Darren Entwistle told The Globe and Mail’s editorial board today, Rita Trichur and Boyd Erman report.

In doing so, he called on Ottawa to create a level playing field for the industry.

Separately today, Verizon, which is in talks to acquire Canadian wireless upstart Mobilicity, said it sees potential in the Ontario and Quebec wireless markets, reiterating its interest in crossing the border into Canada.

"We continue to explore and have discussions," chief financial officer Francis Shammo told analysts after the U.S. wireless giant posted its quarterly results today.

Mr. Shannon sees potential in Ontario and Quebec, specifically, The Globe and Mail's Bertrand Marotte reports, given the concentration of the country's population.

Shoppers posts gains
Canada’s biggest drugstore chain today cited a “challenging economic, competitive and regulatory environment” as it posted gains in profit and sales for the second quarter.

Shoppers Drug Mart Corp., which just this week agreed to a $12.4-billion takeover by the country’s biggest grocer, posted a jump in profit to $147-million or 73 cents a share, compared to $145-million or 69 cents a year earlier, The Globe and Mail's Bertrand Marotte reports.

Sales rose 3.3 per cent to $2.5-billion, while same-store sales, a key measure in retailing, rose 3.1 per cent.

“Together with our associate-owners and their teams at store level, we continue to execute on our strategic priorities and growth initiatives which are driving sales and market share gains in our core health, beauty and convenience categories,” said chief executive officer Domenic Pilla.

“At the same time, we remain diligent in our efforts to reduce costs and drive efficiencies across the business. Our efforts thus far have us well-positioned heading into the back half of the year in what remains a challenging economic, competitive and regulatory environment.”

Dell meeting postponed
The proposed takeover of Dell Inc. has suffered a setback, the company adjourning its meeting today.

No sooner had the meeting begun in Texas, it was put over to next week.

“Dell Inc. announced that today’s special meeting of stockholders was convened and adjourned to provide additional time to solicit proxies from Dell stockholders,” the company said in a short statement, putting the meeting over to July 24, presumably because it faced an uncertain outcome.

Founder Michael Dell is leading a bid to take the company private for $13.65 (U.S.) a share.

Morgan Stanley profit climbs
Another day, another U.S. bank topping expectations.

Morgan Stanley today posted a hefty jump in second-quarter profit, following in the footsteps of several other U.S. banks that have reported results over the past several days.

The bank’s profits climbed to $802-million (U.S.) or 41 cents a share from $564-million or 29 cents a year earlier, as revenue rose to $8.5-billion from $6.9-billion.

Income from continuing operations rose to $1-billion or 43 cents from $562-million or 28 cents.

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