OREANDA-NEWS. Fitch Ratings has affirmed the French Department of Savoie's Long-term foreign and local currency Issuer Default Ratings (IDRs) at 'AA' and Short-term foreign currency IDR at 'F1+'. The Outlook is Negative.

The affirmation reflects the department's performance over the last six months being in line with our assumptions as well as Savoie's track record of sound operating performance, debt restraint, strong governance and balanced socio-economic profile. The Negative Outlook reflects Fitch's expectation that the department's budgetary performance and debt metrics will weaken in the medium term. This is mainly due to cuts in state transfers that will not be fully compensated by operating spending restraint, and will thus result in a deterioration of the department's budgetary profile and debt payback.

KEY RATING DRIVERS
Our baseline scenario expects the department's operating margin to weaken over the medium term, to 11.5% by 2019, from a sound average of 18% in 2010-2014. This is due to the impact of state transfers cuts (of 16.5% p.a. on average in 2016-17) not being fully compensated by operating spending restraint, leading to a decline in the current balance. We expect operating spending to grow at a slower pace (1.1% p.a. over 2016-2019 against 2.1% p.a. in 2011-2014) as various cost-cutting measures are implemented.

Despite strong management and cost-cutting measures, Savoie's budget has limited flexibility, with 85% of operating expenditure driven by rigid items such as staff costs and mandatory transfers -notably social transfers, which are dynamic. However, the department has some leeway on property land tax rates, although this option is not currently being contemplated. Some tax items, especially property transfer duties (16% of estimated 2015 operating revenue), tend to evolve erratically and are less predictable than other tax revenues.

Although debt is expected to have reduced by a nominal EUR9.2m in 2015, to EUR271.2m, we expect the debt payback ratio to rise in the medium term, from a comfortable 3.3 years estimated at end-2015. The department has committed to a gradual scaling-back of capital expenditure to below EUR90m p.a. on average between 2016 and 2019 (against an average EUR108m per year over 2011-2014).

Savoie benefits from significant real estate assets in ski resorts as well as financial assets, which could be monetised over the medium term to improve its debt coverage ratios. These disposals, if realised, could lead to a higher self-financing capacity of investments as well as lower indebtedness over the medium term.

Savoie's socio-economic indicators are better than the national average, with notably lower unemployment (8% at end-2Q15, against regional and national averages of 8.9% and 10%, respectively) and slightly higher average wealth. It benefits from a dynamic tourism industry, driven by some of Europe's leading ski resorts.

The department benefits from a stable political framework with a clear political majority and a cross-party consensus on key issues (especially financial strategy).

Debt guarantees are high, estimated at EUR464.5m (97% of current revenue) at 1 January 2015. However, Fitch considers contingent risk as low due to borrowers' solid credit profiles (mostly regulated social housing institutions) and their sound debt structure. Dependent public-sector entities are fully self-funded and well-capitalised.

RATING SENSITIVITIES
A weak operating performance leading to a debt payback ratio around eight years could result in a downgrade.

The Outlook may be revised to Stable on a sustained improvement in the operating margin towards 14%-15% leading to considerably stronger debt metrics, for instance a debt payback ratio consistently below four years.