Fitch Rates Russian City of Tula 'BB-'; Outlook Stable
OREANDA-NEWS. Fitch Ratings has assigned the Russian City of Tula Long-term foreign and local currency Issuer Default Ratings (IDRs) of 'BB-' with Stable Outlooks and a Short-term foreign currency IDR of 'B'. The agency has also assigned the city a National Long-term rating of 'A+(rus)' with Stable Outlook.
KEY RATING DRIVERS
The ratings reflect Tula's projected structural imbalances, weaker than historical average fiscal performance in the medium term and Russia's weak institutional framework amid a deteriorated macro-economic trend. The ratings also consider the city's low debt with moderate exposure to refinancing risk along with continued support from Tula Region (BB/Stable).
In its base case scenario, Fitch expects satisfactory fiscal performance with modest deterioration of the city's operating margin to close to zero level in 2016-2018 (2011-2015: average 1.9%). We also expect Tula to run a modest deficit before debt variation of about 5%-6% of total revenue in 2016-2018, after the city's deficit widened to 8% of total revenue by end-2015 from 6.6% a year earlier, underpinned by opex growth.
Fitch expects continued opex pressure on Tula's fiscal performance to prevail at least in 2016, with the rate of opex growth surpassing that of operating revenue. The city's operating expenditure was on 80% composed of inflexible staff costs and current transfers of various kinds in 2012-2015.
On the revenue side, Tula receives current transfers from the regional budget, which increased to 42% of operating revenue in 2015 from 19% in 2011. In the medium term, current transfers could further increase up to 45% of the city's operating revenue. This follows a reshuffling of revenue allocation and expenditure assignment between the city and the region in 2014-2015. Conversely, taxes decreased to 49% of operating revenue in 2015 from 75% in 2011, as the region assumed responsibilities for pre-school teachers' 2013-2014 salaries, changing tax sharing on personal income tax and tax levied in accordance with the simplified tax system in its favour.
Fitch views Russia's institutional framework for local and regional governments (LRGs) as a constraint on the city's ratings. It has a shorter track record of stable development than many of its international peers. Weak institutions lead to lower predictability of Russian LRGs' budgetary policies, narrow their planning horizon and hamper long-term development plans. The city's policies tend to be shaped by frequent changes in allocation of revenue and expenditure responsibilities between the tiers of government.
Fitch expects Tula's direct risk to remain moderate in the medium term, despite estimated growth to about 28% of current revenue in 2016 and further to about 35%-37% in 2017-2018 from the historical low average of 15% in 2011-2015. We expect the city to retain use of bank loans as the prime source of budget deficit financing in 2016-2018. The city's 2015 indebtedness was 65% composed of short-term bank loans, followed by budget loans from Tula Region (35%).
Fitch assesses the city's exposure to refinancing risk on market debt as moderate due to a reasonable amount of outstanding maturities in 2016 (RUB1.5bn). We also expect the city's debt servicing capacity to become fragile in the medium term. This will result from a projected drop in operating balance to a level consistently insufficient to cover increased interest payments, which are expected to increase 6x in 2016-2018 against the historical five-year average. The increase in interest costs is likely to reflect volatile interest rates in Russia as well as projected growth in the city's debt in 2016-2018.
Tula's exposure to contingent risk is low, as its public sector is very compact with few public sector entities, which had no outstanding debt in 2014-2015. Additionally the city currently has no outstanding guarantees and is unlikely to issue new ones according to our base case scenario.
With a population of 551,270 inhabitants, the city is Tula Region's capital and its largest metropolitan area. The region's economy is fairly well diversified with strong industrial profile; industries composed 37% of gross value added (GVA) in 2013. Economically Tula benefits from close proximity to the city of Moscow (BBB-/Negative), the country's capital and its largest market.
The region's wealth metrics were close to the median Russian figures, as its average salary was in line with the national median while GRP per capita was 12% below in 2014. In 2015, the estimated growth rate of the region's economy was 2.4% in real terms in contrast to estimated 3.7% decline of national GDP reflecting the deterioration of the macroeconomic environment in Russia.
Sustainable fiscal performance with operating surplus at about 5% of operating revenue and maintenance of moderate direct risk below 50% of current revenue, conducive for sufficient coverage of interest payments would lead to an upgrade.
Material growth of direct risk above 50% of current revenue, along with deterioration in fiscal performance leading to weak operating balance insufficient to cover interest payments would lead to a downgrade.