December 22, 2017 / 9:12 PM / in 5 months

Fitch Affirms Autonomous Community of Madrid at 'BBB'; Outlook Stable

(The following statement was released by the rating agency) BARCELONA, December 22 (Fitch) Fitch Ratings has affirmed the Autonomous Community of Madrid's (Madrid) Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'BBB' with Stable Outlooks. Fitch has also affirmed the region's Short-Term Foreign Currency IDR at 'F2'. The ratings on the senior unsecured outstanding bonds have been affirmed at 'BBB'. The affirmation reflects Madrid's still weak but improved fiscal performance in 2016, high direct debt, but also a strong economy that is supportive of the ratings. The Stable Outlook reflects Fitch's expectations that the region's fiscal performance will gradually improve, direct debt will moderately decline to 170%-175% of current revenue by 2019 and that the regional economy will remain strong. KEY RATING DRIVERS Expected Budgetary Performance Improvement Taking into consideration the regional government's presentation of the 2018 draft budget, Fitch's base case scenario forecasts the region's operating margin will continue to improve to between 3% and 6% in 2017-2019, from 0.65% at end-2016. This is based on expected average operating revenue growth of 5%, on the back of economic growth. We expect operating expenditure to continue rising in the medium term by 2.5%-3%, compared with 6.5% in 2016. Overall, Fitch also expects the current balance as a share of current revenue will turn positive in 2017 (-2.4% in 2016) and will be between 2% and 4% in 2018-2019. According to the 2016 accounts, the region achieved a positive operating margin after two consecutive years of negative operating balances (2015: -1.1% of current revenue; 2014: -3.5%). This was boosted by larger revenue of EUR894 million from the funding system. Madrid posted a smaller-than-expected overall deficit before net financing, equivalent to 10% of total revenue (17% in 2015), due to a significant reduction of financial investments of EUR591 million. Madrid also met its 0.7% fiscal deficit financial goal for the year, posting an overall fiscal deficit of 0.63%. Madrid's current weak fiscal performance is attributed to the current funding system to which the region is a net contributor. This resulted in its funding per capita being below the average of the other 14 regions under the common regime in 2015. Strong Regional Economy Madrid has a strong economic profile, with a GDP per capita that was 36.5% above Spain's average in 2016. It is the main political, administrative and economic centre of Spain (BBB+/F2/Positive). Its strong economy is also illustrated by a higher-than-average employment rate of 55.1% in 3Q17 versus 49.2% nationally. Madrid's economy is recovering as regional GDP grew 3.9% yoy in 2016 to an estimated nominal EUR210.8 billion. It was one of six autonomous communities with faster nominal GDP growth from 2015. Madrid created 14% jobs between December 2013 and October 2017, after having shed 9.4% jobs between December 2008 and December 2013, reflecting the economic recovery underway in the region. High Direct Debt Ratio Fitch estimates direct debt will continue rising in 2017 to EUR29 billion-EUR31 billion. However, its relative weight to current revenue is likely to decline to 170%-175% until 2019 from 176.2% in 2016 (EUR28.7 billion), due to an expected improvement in current revenue. Debt servicing-to-current revenue also declined in 2016 to 15.9% (26% in 2015) but should increase to 17%-18% in 2017. Overall debt repayments for the next three years will total EUR6.6 billion, or 23% of outstanding direct debt at end-2016. However, this is mitigated by Madrid's strong access to external liquidity. Strong Access to External Liquidity Madrid has strong access to capital markets and banks to fund its annual deficit, even during adverse periods. Consequently, it is one of the few Spanish regional governments rated by Fitch that has not utilised the Regional Liquidity Fund (FLA), the state support mechanism. In 2017, Madrid funded its annual deficit and debt redemption through capital market debt and bank loans with moderate interest rates averaging 1.54% and a long amortisation period. Madrid's debt redemption and budgetary needs in 2018 will continue to be funded by capital markets and banks. RATING SENSITIVITIES The ratings could be upgraded if the regional government reports a consistently positive current balance and if its direct debt-to-current revenue declines sharply on a sustained basis. A negative operating balance would result in a negative rating action. Direct debt structurally exceeding 200% of current revenue could also trigger a negative rating action. KEY ASSUMPTIONS Fitch assumes that the state will continue providing support to the Spanish autonomous communities over the medium term, in particular, through the liquidity mechanism. Discussions on the regional financial system are ongoing in Spain, and changes are in prospect over the medium term. Although Fitch does not factor such changes into Madrid's IDRs, the agency believes revenue is unlikely to decrease as a result of the reform. Contact: Primary Analyst Julia Carner Analyst +34 93 323 8401 Fitch Ratings Espana, S.A.U. Av. Diagonal, 601, Barcelona 08028 Secondary Analyst Guilhem Costes Senior Director +34 93 323 8410 Committee Chairperson Christophe Parisot Managing Director +33 1 44 29 91 34 Summary of Data Adjustments Fitch has made an adjustment to the official accounts to make Madrid comparable internationally for analytical purposes: -Negative cash in 2014, 2015 and 2016 from cash, liquid deposits, and sinking fund was re-classified as short-term direct debt. 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