Detroit Schools on the Brink

A decision on whether to file for protection under federal bankruptcy laws will be made by the end of summer, according to Robert Bobb, Detroit Public Schools’ emergency financial manager. Such a filing would be unprecedented in the U.S. Although a few major urban school districts have come close, none has gone through with a bankruptcy, according to legal and education experts.

But in Detroit–where U.S. Education Secretary Arne Duncan dubbed the school system a “national disgrace” this spring–lawmakers and bankruptcy experts see few alternatives, given the deep financial challenges confronting the district and the state.

“Am I optimistic that they can avoid it . . . ? I am not,” says Ray Graves, a retired bankruptcy judge who has been advising Mr. Bobb in recent weeks.

As with General Motors Corp. and Chrysler LLC, bankruptcy may not be the worst thing for Detroit’s schools. A filing under Chapter 9 of the Bankruptcy Code, which covers public entities like school districts and municipalities, would allow the district to put major creditors such as textbook publishers, private bus operators and DTE Energy, the local gas-and-electric utility, in line for payment. It also would give Mr. Bobb broad latitude to tear up union contracts without protracted negotiations.

But a filing also could hurt the district’s debt rating and ability to float bonds.

Some experts say the Detroit case could be the first in a string of Chapter 9 bankruptcies among school districts and other public entities battered by the economic crisis, and it could help shape that area of the law. {snip}

{snip}

Behind DPS’s predicament are many of the same problems that have haunted the city’s auto industry for years: excess capacity, high labor and pension costs, fleeing customers, ineffective management, outside competition and–except for a handful of respected programs–a reputation for low quality.

Even after millions of dollars in budget cuts in the spring, including 29 school closings and thousands of layoffs, the district started the fiscal year this month with a $259 million deficit. To meet payroll and pension obligations, the district has had to seek advances on state funding and other stopgap measures.

DPS’s enrollment–which largely determines its allotment of state funding–is about half what it was in 2001, as suburban districts and charter schools have siphoned off tens of thousands of students. By this fall, DPS will have 172 schools open and more than 100 vacant. Meanwhile, the high-school-graduation rate is 58%; coupled with the enrollment losses, only about one-quarter of students who start high school in the district graduate from it in four years, according to outside estimates.

But DPS’s problems go beyond the type that sank GM and Chrysler. Wide-scale corruption has depleted district coffers, which held a $103.6 million surplus as recently as 2002. In June, Mr. Bobb’s new team of forensic accountants found DPS paychecks going to 257 “ghost” employees who have yet to be accounted for. A separate Federal Bureau of Investigation probe in May led to the indictment of a former payroll manager and another former employee on charges of bilking the district out of about $400,000 over four years.

{snip}