The city of Stockton, California, is eligible for bankruptcy protection, a federal judge ruled on Monday, turning aside creditors' arguments that the city was not truly insolvent when it sought protection and had improperly failed to seek concessions.
U.S. Bankruptcy Court Judge Christopher Klein's ruling permits Stockton to proceed with its Chapter 9 bankruptcy protection filing from last June in a case with precedent-setting potential for other cash-strapped U.S. cities.
In a lengthy preamble to his ruling, Klein said Stockton's bondholders had failed to negotiate in good faith with the city prior to its filing for protection. He added the city was "by any measure insolvent" prior to its filing.
Stockton is the largest U.S. city to have ever filed for bankruptcy. Its case is being closely watched in the $3.7 trillion municipal bond market as it is likely to have key implications for other struggling municipal and county governments, their employees and their bondholders.
The city's capital market creditors had argued the city could have done more to cut costs and raise revenues.
Since at least the 1930s, bondholders in most major municipal bankruptcies consistently have been repaid their entire principal. But Stockton is expected - along with Jefferson County in Alabama and San Bernardino in California - to break with that tradition.
Bond insurers Assured Guaranty Corp, Assured Guaranty Municipal Corp and National Public Finance Guarantee Corp were joined by Wells Fargo Bank, the Franklin California High Yield Municipal Fund and Franklin High Yield Tax-Free Income Fund in contesting Stockton's bid for bankruptcy eligibility.