External consultants that guided Detroit through its bankruptcy saga were paid more than $184 million in fees. The majority of the fees was spent on legal advisors and restructuring experts, with four firms – Jones Day, Miller Buckfire, EY and Conway Mackenzie – receiving more than sixty per cent of the total, reveals an analysis from Consultancy.uk.
In March 2013 the Michigan governor declared a financial emergency in Detroit. On July 18, 2013, the city filed the largest municipal bankruptcy case in US history. It was declared bankrupt by Judge Steven W. Rhodes of the Bankruptcy Court for the Eastern District of Michigan on December 3, 2013, citing the $18.5 billion debt burden and no outlook on repayment as the key reasons. The images beamed around the world of the once vibrant Detroit – for decades the city was the flourishing and bustling jewel of the American car manufacturing industry – were shocking.
The bankruptcy sparked a massive restructuring operation, one of the first and largest of its kind in the public sector. After a lengthy process, the City of Detroit successfully left municipal bankruptcy with all finances handed back to the city beginning at midnight on December 11, 2014. In the 16 month period the long term debt burden was reduced to a more manageable $7 billion with $3 billion restructure.
Despite the success of the restructuring, recently much criticism has surfaced in the U.S. on the fees paid to external consultants who facilitated the process. In first instance the exact height of the costs were unclear, and after much wrangling over the sum, the judge responsible for overseeing the bankruptcy, Steven W. Rhodes, ordered a clear breakdown of the costs. The overview reveals that in total, $184 million was paid to lawyers, financial and tax advisors, management consultants, bankers and other related advisors. The fees were paid by a range of parties, including Detroit itself, but also the state, the US government and private sector parties contributed.
Of the big private firms hired to oversee the bankruptcy and transition, law firm Jones Day headed the pack, and was paid $57.9 million. Consulting firms too appear to have done well from the 16 month process, financial consulting firm Conway Mackenzie were paid $17.28 million and accountancy and consulting firm EY earned $20.22 million. Overall, official records show that 43 external firms were hired to oversee (parts of) the transformation.
Reasonable or not?
Judge Rhodes ordered the disclosure of the fees to review the reasonableness of the costs, following turmoil earlier this year in the city’s political ranks. Detroit’s Mayor Mike Duggan for example a few months ago expressed concern that exuberant lawyer and consulting fees were cutting into the money available for the city to revitalise its essential public services. In the coming week Rhodes will assess the delicate matter, weighing the costs versus the benefits from a societal and economic perspective, and is expected to make a ruling by the second week of January. “We look forward to Judge Rhodes' ruling on the reasonableness of these fees," says Melvin Butch Hollowell of Detroit’s Mayor Office.
Although restructuring operations are never good news for governments and companies affected, for partners of private sector firms the opportunity represents a potential gold mine. As the tasks require deep financial and legal knowledge – expertise that in-house teams typically lack – and for a large part need to be run independently, a restructuring sparks a wave of inbound consultants and bankers to manage complex aspects of the transition. The most notable example is without a doubt the bankruptcy case of Lehman Brothers. By September 2010, two years following the bank’s collapse, external consultants had globally been paid more than $1.5 billion on fees, and by September 2013 the amount had risen to $2.3 billion. The counter is still running, however the activities have been scaled down significantly, and are expected to be completed somewhere between 2018 and 2022.
From a consulting viewpoint, PwC and Alvarez & Marsal were the largest fee burners. The latter consultancy is estimated to have collected more than $700 million to date, mainly in the US, while in Europe PwC is the largest consultancy involved, having charged more than $800 million so far. Across the globe more than 200 private sector were hired. The consulting spend has sparked wide scale criticism in politics and the media, involved consultants have though repeatedly stated to feel little embarrassment about the fees given the complexity of the task and the associated benefits. According to Bryan Marsal, co-founder of Alvarez & Marsal, the bankruptcy professionals have in the case of Lehman Brothers increased the value of the total estate by around $50 billion, suggesting that the operation was and still is money well spent.
Restructuring is not the only context in which the fees charged by consulting firms has been said to be exuberant. In a recent story Consultancy.uk reported about the external consulting spending of the NHS, where professional services firms were said to be profiteering from the uncertainty and chaos associated from a large scale and forced top down process. In 2014, the British health agency spent £640 million on management consultants.