By Tom Hals
WILMINGTON, Delaware (Reuters) - The judge overseeing Detroit's historic bankruptcy filing has made clear he expects full disclosure of professional fees billed in the case. On Thursday the city will ask for an exception: fees paid to its banker.
Detroit has argued that Barclays Capital, a unit of Britain's Barclays PLC, needs to keep the fee structure of a $350 million loan confidential because it is commercially sensitive information. The city also argued that if the fee arrangement were public, it might drive up the cost of the loan.
Judges overseeing large bankruptcy cases demand detailed reports on the fees and expenses paid to lawyers, but they sometimes make an exception for Wall Street fees. That may change with Detroit, which is spending taxpayer money.
"Since it's a public entity with so many diverse stakeholders, it's important for the general public to feel that the process was fair," said John Penn, a bankruptcy attorney with Perkins Coie in Dallas. "I would not be surprised if the judge required disclosure."
The loan to Detroit is known as a debtor-in-possession or DIP loan, a common feature in corporate bankruptcies. Once a company enters Chapter 11, a lender can provide money to keep the business operating and the loan becomes the first debt the company must repay, making it a relatively safe bet for lenders.
Most DIP loans are a small fraction of the size of Detroit's, and the fees to arrange the smaller loans are routinely disclosed.
But in bigger bankruptcies, exceptions are made. Companies that have been allowed to keep confidential the fees for arranging a DIP loan have included Houghton Mifflin Harcourt Publishing Co, retailer Harry & David Holdings Inc and Metro-Goldwyn-Mayer Studios Inc.
Lenders that have received fees under seal have included Barclays, JPMorgan Chase & Co and Citigroup Inc.
Requests for the confidential fee arrangements with Wall Street often go unopposed.
In part, that may be because a fee letter that remains sealed is not entirely secret. Judges often require the total fee amount to be disclosed at a public hearing before they seal the letter detailing the underlying arrangement.
The letter is generally shared with the judge, an official creditors committee and the U.S. Trustee, who is a Department of Justice official who oversees the administration of bankruptcy cases. The fee letter could also be shared with other parties that sign confidentiality agreements, such as a court-appointed fee examiner.
Barclays' loan to Detroit is typical of loans that come with confidential fee letters. After the bank advances the money to the city, Barclays plans to carve up the loan and sell it to investors rather than hold onto it, a process known as syndication.
Barclays can adjust the interest rate on the loan to meet investor demand and if the maximum allowable interest rate were disclosed, investors would simply hold out for that rate, according to filings by Detroit.
"It is of the utmost importance to Barclays that the details of the fee structure set forth in the fee letter be kept confidential so that competitors may not use the information contained therein to gain a strategic advantage in the marketplace," the city said in a court filing.
Barclays declined to comment.
The U.S. Bankruptcy Court in Detroit is currently considering whether Detroit qualifies for Chapter 9, though most legal experts think protection will be granted. The Barclays loan appears to be the first DIP loan arranged for a municipality in bankruptcy.
Detroit plans to use $250 million to terminate a complicated swaps deal related to previous bonds issued to finance pension debt. The rest of the money will be used to fight blight and improve living conditions for Detroit residents.
Nancy Rapoport, a professor at University of Nevada Las Vegas Law School and a fee examiner in bankruptcy cases, said publishing fees allows them to be undercut. Even so, Rapoport said that's the price professionals pay to operate in bankruptcy court.
"The general presumption about fees is telling the public what they are is part of the quid pro quo of having the estate pay them," she said.
In the 2008 bankruptcy of media conglomerate Tribune Co, the U.S. Trustee's office objected to Barclays' seeking confidential fees. In that case, Mark Shapiro of Barclays testified that Tribune was paying a fee to arrange the loan, and then Barclays was in turn paying a fee to investors to buy it.
"If they know exactly what we've been paid, they will demand the full amount of that fee," said Shapiro. "To be incentivized in order to make the loan, we can't be disclosing that fee up front."
Judge Kevin Carey allowed the fee in Tribune to remain under seal.
Steven Rhodes, the judge overseeing Detroit's filing, wrote in his order scheduling Thursday's hearing that the city should come prepared with witnesses and evidence in support of the request to seal the fee letter.
Bankruptcy attorney Penn said he doubted the precedents of commercial bankruptcy cases would apply to Detroit in regards to the Barclays fee.
"In blackjack you have to show your cards before you get paid. Which is why I would not be surprised by the judge requiring disclosure."
(Reporting by Tom Hals in Wilmington, Delaware; Editing by Nick Zieminski)