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Fred Leeb

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Detroit's Old Games Are Over

Posted: 12/29/11 03:11 PM ET

Those of us in the turnaround world have been waiting for decades for the City of Detroit to be in its current dismal financial condition with no easy way out. This is called "hitting the wall" when there is no cash available any longer to continue business as usual. We have been waiting for this because it is finally the time when people must step up and take positive actions -- there are no alternatives. When you are about to hit the wall, the old games are over. People are not impressed any longer with:

• Speeches full of promises,
• Macho tough-guy tactics,
• Elaborate analytical studies,
• Infinite variations of blaming others,
• Fancy job titles and sound bites from celebrities, or
• Refusing to compromise and being negative without proposing workable solutions.

Leaders cannot continue to put their own positions of power above the needs of the community. Now they must put the needs of the community above their own vested interests and entrenched positions. If not, the Detroit Titanic actually will sink and they will go down with the ship like everyone else. The time for taking constructive actions has finally come to Detroit.

Andy Dillon, Michigan's State Treasurer, stated very clearly how Detroit is hitting the wall. He said on December 21st that Detroit is projected to run short of cash by April, 2012. He also said that Detroit has total long-term liabilities estimated at more than $12 billion, that City officials have not filed an adequate or approved deficit elimination plan, and that Detroit's general fund deficit is likely to increase to $196 million for 2011. Treasurer Dillon also said that deficits in the general fund have fluctuated between over $155 million and over $300 million each year from 2005 through 2011 (estimated) and that one of the primary methods the City has used to reduce the deficits has been to issue more debt. Total general fund debt and other liability proceeds have been over $600 million for 2005 through 2010. This doesn't even include the additional financial problems of the Detroit Public Schools (which separately borrowed $200 million recently). There is no more money for this to go on any longer.

Now Is the Time to Implement New Short- and Long-term Strategies But the Costs Will Be High

Leaders must make drastic cuts in costs now but they also must develop and implement new far-reaching but practical strategies. They must take the personal risks necessary to take action or they must get out of the way. Turnaround professionals know this is the most critical and precious time to bring forward new ideas, settle on new short and long term strategies, organize teams, and implement change. A tremendous amount can be accomplished when all the stakeholders finally recognize that they are in the same boat, that the boat is in a severe storm, and that they all most row in the same direction if they are to have any chance of success in saving themselves. Every day that goes by without this positive process working at full speed is a day that speeds up the downward spiral for the City of Detroit. This is because, until the new plans are implemented, the community's resources must be used merely to buy time by subsidizing Detroit's deficits. These resources are likely to come from difficult asset sales and additional borrowings.

If the City's major assets are sold to generate short term cash for this purpose but no plans are implemented, the asset sales will have been wasted. Once the city's major assets are sold they are not available to be sold again. Asset sales are a one-shot proposition. Another problem is that Detroit's real estate values are extremely depressed due to the poor regional economy. This means that many more assets will have to be sold to generate the same amount of cash that could have been generated much more easily only a few years ago. An indicator of this is that the median single family home price in Detroit as of December 25, 2011 was only $23,000 (according to AltosResearch). Even the recently appraised value of my own house in the Detroit suburbs is 10% less than our purchase price for this house from 20 years ago. The community has no resources or time to waste.

Alternatively, if Detroit just continues to borrow more money to finance its deficits, its interest rates will go up making the cash shortfall even worse. Bond rating agencies such as Fitch and Moody's Investors Service already have put some of Detroit's bonds on review for downgrade. The Wall Street Journal stated on December 13, 2011, "Already, Detroit's 10-year water and sewer debt trades with yields around 1.80 to 2.00 percentage points more than the market's benchmark triple-A scale...." Fitch Ratings also was quoted in the Wall Street Journal, as follows: "Fitch is concerned about the limited progress in addressing fiscal imbalances. Fitch believes that the city's options for addressing these imbalances will continue to decrease as time passes without resolution.... Furthermore, the magnitude of cuts that appear necessary could meaningfully reduce services that affect taxpayers' quality of life."

Changing the Downward Spiral to an Upward Spiral

On the other hand, turnaround experts know that when there is a sound plan in place, hard work and small successes quickly lead to greater credibility and larger successes. This is because people want to do well and want to be a significant player on a winning team. When the new team fulfills its commitments and generates major achievements, the downward spiral reverses direction and becomes an upward spiral. The new leaders begin to gain personally as the entire community benefits as well. It becomes a win-win situation again and there is a tremendous sense of fulfillment.