Stockton, California’s, City Council will be asked next week to begin the process of becoming the largest U.S. city to file for bankruptcy, according to a person familiar with the council’s agenda.

Bob Deis, city manager of the farming center with 292,000 residents, set a press briefing today on its financial condition, without giving details. Deis told council members he’ll ask them to begin steps toward bankruptcy and to default on bonds in a meeting Feb. 28, according to the person, who wasn’t authorized to speak on the matter. The meeting’s agenda is to be released today.

“It’s kabuki theater,” James Spiotto, head of the bankruptcy practice at Chicago-based law firm Chapman & Cutler, said yesterday in a telephone interview. “They are saying to people, ‘Do you really want to see how bad it can get?’”

Stockton, with about $702 million of long-term bond debt, according to its financial statement, has fought to avert bankruptcy by shrinking its payroll, including a quarter of the roughly 425-member police force. The city has more than twice the population of Vallejo, California, which became a national symbol for distressed municipal finance in 2008 when it sought protection from creditors.

Stockton, about 80 miles (130 kilometers) east of San Francisco, had the eighth-highest violent crime rate in the country in 2010; the second-highest foreclosure rate in the U.S., behind Las Vegas; and the eighth-highest unemployment, at 15.9 percent in December, almost double the national average.

‘Most Miserable City’

Such factors helped earn Stockton the title of “most miserable city” in the U.S. twice in the past four years by Forbes.com, out of the 200 largest metropolitan statistical areas. In November, Moody’s Investors Service downgraded about $137.7 million of its debt to Baa1, the third-lowest investment grade, citing Stockton’s “precarious financial position.”

Deis will ask the council to approve mediation with creditors as the first step required under a new state law before the city can seek bankruptcy, according to the person familiar with the agenda. Deis will also ask permission to withhold $2 million of debt service due in March, to suspend cash payouts to employees for unused vacation and sick leave, and to begin an investigation into the causes of the city’s fiscal crisis, the person said.

A Stockton sewer bond rated A, sixth-highest, by Standard & Poor’s and maturing in April 2022 traded Feb. 21 at an average yield of about 6.2 percent, according to Bloomberg Bond Trader prices. That’s more than double the 2.9 percent for a similarly rated index of 10-year general-obligation municipal debt.

Scarce Dollars

“Management has had increasingly scarce dollars to spend, so their willingness to keep bondholder payments coming is being tested,” Matt Fabian, managing director of Concord, Massachusetts-based Municipal Market Advisors, said yesterday by e-mail. “The less they think they will need market access in the future, the more they may be inclined to push losses to debtholders.”

The city can expect to pay $20 million in legal fees if it pursues bankruptcy, Dale Fritchen, a member of Stockton’s City Council, said yesterday in a telephone interview.

“Municipal bankruptcy won’t just erase all your debt so we are still going to have to make cuts to balance the budget and on top of those cuts come up with the $20 million extra for legal fees,” he said.

Stockton has retained John Knox, a partner at Orrick, Herrington & Sutcliffe LLP in San Francisco who helped represent Vallejo in bankruptcy court. Knox declined to comment in an e- mail yesterday.

Neutral Evaluator

A state law backed by unions and passed last year in response to Vallejo’s bankruptcy requires cities to work with a “neutral evaluator” for at least 60 days before seeking bankruptcy court protection. The process is similar to mediation and gives creditors a right to participate. It can be bypassed if the city declares a fiscal emergency, according to the law.

“What the neutral evaluator does is set up a forum for people to sit down and try to negotiate a result,” Spiotto said. “You have the threat of bankruptcy -- the ‘or else’ -- staring you right in the face.”

Since 1937, 635 municipalities have filed for Chapter 9 bankruptcy protection, Spiotto said.