PLAN “B” FOR DETROIT: 10 Reasons Why Detroit Could Have Avoided Bankruptcy

1. PLAN “B” FOR DETROIT:10 Reasons Why Detroit Could Have Avoided Bankruptcy Richard Larkin, HJ SIMS Director of Credit Analysis September 13, 2013 MUNICIPAL ANALYSTS GROUP OF NEW YORK

2. The material presented here is for information purposes only and is not to be considered an offer to buy or sell any security. This report was prepared from sources believed to be reliable but it is not guaranteed as to accuracy and it is not a complete summary of statement of all available data. Information and opinions are current up to the date of publication and are subject to change without notice. The purchase and sale of securities should be conducted on an individual basis considering the risk tolerance and investment objective of each investor and with the advice and counsel of a professional advisor.

3. Dick larkin, HJ SIMS director of credit analysis Joined SIMS in 2008 26 Years at 2 Rating Agencies, 38 Years Total Experience Former Chief Municipal Rating Officer at S&P Chaired or Co-Chaired Rating Criteria Committees at Both S&P and Fitch

4. YEAH, I KNOW HOW BAD IT IS Opinions are mine & mine alone, not necessarily shared by my employer, HJ SIMS, who has allowed me to speak on this subject Not a recommendation to buy, sell or hold Detroit municipal bonds Detroit has worst economic problems of any major city that I have seen in 38 years

5. misconceptions about Detroit's bankruptcy Detroit's long term liabilities are only $15.7 billion, not the oft-repeated $18 billion; may actually be less with the swap settlement Contrary to what some pundits would have you believe, Detroit does not have the worst funded pension system in the U.S.. And the existing actuarial assumptions are not unrealistic—in fact they are similar to most other public pension funds Detroit does not have the highest taxes of any major city in the U.S.. In fact, ‘A’ rated Philadelphia not only has a higher local tax burden, but its pension funding levels are lower than Detroit’s.

6. DickLARKIN’S TOP 10 LIST ON WHY DETROIT COULD HAVE AVOIDED BANKRUPTCY THE MYTH OF FULLY FUNDED PENSION PLANS FOR GOV’TS MORTGAGE IS PAID IN 15 YEARS…JUST CAN’T BUY GROCERIES “BROTHER, CAN YOU SPARE A PENNY?” YOU’RE WELCOME FOR OUR HELP..CAN YOU RETURN THE FAVOR? OUR CUP CAN RUNNETH OVER; LET’S HOIST ONE TOGETHER “JUST PAY ME WHAT YOU OWE..PAY THE GHOST”: Transvision Vamp “THE MORE I SPEND, THE MORE I SAVE” : Dawn Larkin I CAN BUY A HOUSE WITH JUST THIS YEAR’S SALARY (yeah, right) TIME TO REFI…BUT THIS TIME I PROMISE TO PAY YOU BACK “ERROR… A RESTART IS REQUIRED”

7. THE MYTH OF FULLY FUNDED PENSION PLANS FOR GOV’TS Public Pension Fund experts have stated that it is adequate for public pension plans to be 80% actuarially funded A fully 100% funded pension plan might have to lower contributions or increase benefits in years when investment returns are strong 8% investment returns may appear aggressive, but pension plans have plenty of liquidity and strong monthly cash flow, so they can invest for the long term 25 year average of annualized returns on the S&P 500 has not been below 8% since 1954 Annual returns on the S&P 500 have exceeded 15% for the last 4 years

8. 2. MORTGAGE IS PAID IN 15 YEARS… I JUST CAN’T BUY GROCERIES Current actuarial assumptions assume pay raises (which affect final pay for pension benefits) are overly conservative at a projected 4-9% annually…this RAISES the calculated UAAL Requiring Detroit to amortize UAAL in 15-18 years adopts a standard that fits for companies that can go out of business—unrealistic for state and local governments Setting this amortization as a standard would qualify just about any city or state for bankruptcy

9. 3. “BROTHER, CAN YOU SPARE A PENNY?” Giving the City of Philadelphia the ability to collect a 1 cent sales tax within city limits was an important piece of that city’s fiscal recovery in 1992 Allows the city to help itself Did not increase costs to the Commonwealth of Pennsylvania’s budget Would generate about $30 million annually Costs an estimated $43 per capita to city residents; realistically, would even be less than that because out of town visitors and business travelers would help foot the bill

10. 4. YOU’RE WELCOME FOR OUR HELP..CAN YOU RETURN THE FAVOR? It is ironic that within the year that Detroit lost its investment grade ratings, the State of Michigan saw its rating upgraded, mainly because of budget austerity including cuts in aid to municipalities Restoring aid to cities at prior levels would not be new “bailout” funds, but restoration to prior levels Was the State upgraded on the backs of its municipalities? Isn’t it normally the other way around?

11. 5. OUR CUP CAN RUNNETH OVER; LET’S HOIST ONE Together Many cities across the country use surplus utility revenues to help fund general fund expenses Detroit’s water and sewer systems are creditworthy; as the owner and builder, Detroit will always deserve a return on its investment in the system State agency can refinance debt to pay off existing bondholders (who are secured creditors anyway and will receive 100% on their bonds) Change the flow of funds on the new State-issued bonds to guarantee a payment to Detroit after expenses but before debt service. Insure this with a strong rate covenant Cost to the State? The costs of creating a new debt issuing conduit Share surplus with suburban customers; in return, enact a regional tax to help Detroit pay for truly regional assets like parks, museums, etc. Regional tax used successfully by Pittsburgh, PA

12. 6. “JUST PAY ME WHAT YOU OWE..PAY THE GHOST”: Transvision Vamp (not on my ipod but fits) One of two pieces of the Emergency Manager’s Plan for Detroit that I agree with—Improving tax and fee collections. It just makes sense.

13. 7. “tHE MORE I SPEND, THE MORE I SAVE” Dawn J. Larkin The second piece of the current Detroit Plan that I agree with There is no debate that some of Detroit’s most important essential services need to be restored or even bolstered In order to maximize revenue collection, the city needs to invest more operating expense Improve and install new computerized financial management systems & programs: a page out of the 1978 New York City Fiscal recovery playbook Also included in Mayor Rendell’s plan for Philadelphia

14. 8. I CAN BUY A HOUSE WITH JUST THIS YEAR’S SALARY (yeah, right) Perhaps the single worst feature of the current Detroit Plan Eliminating blight is the most important thing that Detroit needs to do Using annual tax revenue to pay for such a large non-recurring expense is like trying to pay cash to buy a house-CAN ONLY BE DONE IF YOU HAVE THE MONEY (Detroit does not). Why do it in six years when it might be able to be done in two? The nature of the expense lends itself to use of long term bonds Tax increment bonds would not add to Detroit’s balance sheet liabilities; City could also consider selling blighted properties after they are cleared City’s major taxpayers could invest, and in the process improve the value of their current investment in the city An avenue for Detroit to revive and lead american manufacturing again? Best short-term stimulus that Detroit could have to reduce its high un-employment rate until new permanent jobs are created in the “Renaissance”

15. 9. TIME TO REFI…BUT THIS TIME I PROMISE TO PAY YOU BACK City’s tax-supported debt is retired much more rapidly than the average city: 63% in 10 years If you refinance existing tax-supported debt with a 30-year level debt service structure, it will add costs to the back end of Detroit’s finances, but would generate about $257 million to the 10 year plan If either the current plan or my Plan B is successful, economic activity should revive, generating more resources beyond the 10 year forecast, which could be used to rebuild pension fund assets and/or pay back tax-supported debt early (perhaps using California’s Economic Recovery Bond structure with a “turbo” feature)

16. “ERROR… A RESTART IS REQUIRED” Stop adding to Detroit’s existing expensive pension plans Shift to new defined contribution pension plans, similar to 401K plans Puerto Rico achieved this 13 years ago in a major change to its pension plans This is the current “vogue” for both public entities as well as private corporations Has the Emergency Manager looked into the possibility of a “buyout” for current employees’ pension plans?

17. DOES PLAN B ELIMINATE ALL FUTURE DEFICITS? NO, BUT IT MAKES THEM MANAGEABLE

18. WHAT MORE NEEDS TO BE DONE TO ERASE A $591 MILLION 10 YEAR DEFICIT? HISTORY YOU WANT TO REPEAT ITSELF: “THE PHILADELPHIA STORY” SET AN AGGRESSIVE SPENDING REDUCTION/SAVINGS PLAN RENDELL ONLY NEEDED TO ACHIEVE 40% OF HIS TARGETS FOR HIS PLAN TO SUCCEED POSSIBILITIES: PRODUCTIVITY BANK: SPEND MORE TO SAVE MORE CONSOLIDATING SERVICE DELIVERY PRIVATIZATION OR “COMPETITIVE BIDDING” BETWEEN PRIVATE SECTOR AND CURRENT CITY DEPARTMENTS FOR THE BEST SERVICE AT THE LOWEST COST SHARED SERVICE AGREEMENTS WITH COUNTY AND/OR SURROUNDING SERVICES E.G.: CENTRALIZED POLICE/FIRE/EMERGENCY DISPATCH CENTER COMPETITIVE BIDDING FOR HEALTH CARE CONTRACTS CONSOLIDATION OF MYRIAD FRINGE BENFIT PLANS INTO A SINGLE PROVIDER TO OBTAIN EFFICIENCIES OF SCALE

19. THE MISSING INGREDIENT: LEADERSHIP THE MAJOR DISTRESSED CREDITS OF THE PAST 40 YEARS WOULD NOT HAVE SUCCEEDED WITHOUT STRONG POLITICAL LEADERSHIP: N.Y.C. IN 1975 & 1993: ED KOCH & RUDY GIULIANI PHILADELPHIA IN 1992: ED RENDELL WASHINGTON D.C. IN 1995: CFO ANTHONY WILLIAMS (LATER TO BECOME MAYOR) THE NEXT MAYOR OF DETROIT WILL BE IN THE HANDS OF THE VOTERS THIS NOVEMBER DETROIT’S WOUNDS WERE HEAVILY “SELF-INFLICTED”, CREATED BY THE PEOPLE THAT DID (OR DID NOT) LEAD THE NEXT MAYOR MUST HIRE A “DEMOLITIONS EXPERT” TO ELIMINATE THE BLIGHT DETROIT DOES NOT NEED A “DEMOLITIONS EXPERT” TO MANAGE THE CITY’S FINANCIAL AFFAIRS

20. FOR MORE INFORMATION: Email Me at r.larkin@hjsims.com Access all of Dick Larkin’s reports and commentaries on the HJ SIMS website under SIMS INSIGHTS: http://www.hjsims.com/news-and-views/sims-insights/