Fitch Ratings has affirmed the Moscow Region's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'BB+' with Stable Outlooks and Short-Term Foreign Currency IDR at 'B'. The agency has also affirmed the region's National Long-Term Rating at 'AA(rus)' with a Stable Outlook.
The affirmation reflects Fitch's unchanged base case scenario regarding the region's stable budgetary performance, high self-financing capacity and low debt.
KEY RATING DRIVERS
The 'BB+' ratings reflect Moscow region's strong operating performance, an expected moderate capex-driven deficit, low net overall risk and wealth and economic indicators that are above the national median. The ratings also factor in the extensive public sector, which raises contingent risk to the region's budget, the weak institutional framework for Russian sub-nationals, and deteriorated economic environment.
Fitch projects the region will record a strong operating balance at about 10% of operating revenue over the medium term, which is in line with its average level in 2013-2015. This balance will be sufficient for direct debt servicing to cover both interest and principal repayments. The stable performance will be supported by the region's developed and well-diversified tax base, which we expect will support annual tax revenue growth of 3%-6% in 2016-2018.
In 8M16, Moscow region recorded RUB24bn surplus and its cash balance improved to RUB64bn (2015: RUB56bn) as the large budgeted annual capital expenditure was postponed until the end of 2016. Fitch forecasts cash balance to moderately erode over the medium term as the region will incur material capex of about RUB70bn per year (15%-18% of total expenditure) to fund the construction of local social facilities and transport infrastructure. We project the region's annual result will be in deficit of 3%-5% of total revenue in 2016-2018 after a balanced budget in 2015.
Fitch forecasts the region's self-financing capacity will remain strong and its current balance, capital revenue and cash balance will cover about 90% of capex. Therefore, new borrowings will be moderate and we project direct risk will stabilise at 30% of current revenue over the medium term (2015: 27%). In 8M16, Moscow region repaid about RUB30bn bank loans, which led a 30% reduction in direct risk to RUB69bn. At 1 September, direct risk comprised 55% bank loans and 45% budget loans. However, Fitch projects direct risk will return to its 2015 level of about RUB100bn by end-2016 as the region will issue bonds and contract bank loans to fund capex.
Moscow Region directly and indirectly controls an extensive public sector, consisting of more than 100 companies. This creates contingent risks for the regional budget through administrative expenses, current subsidies and potential demand on extraordinary support to the sector. At present, Fitch does not consider risk from the sector to be significant due to the large size of the region's budget and its prudent debt practice, with no material guarantees provided to the public sector.
The region's credit profile remains constrained by the weak institutional framework for Russian local and regional governments (LRGs), which has a shorter record of stable development than many of its international peers. Weak institutions lead to lower predictability of Russian LRGs' budgetary policies, which are subject to the federal government's continuous reallocation of revenue and expenditure responsibilities within government tiers.
Moscow region has a well-diversified economy based on services and processing industries that provide stable tax proceeds to the region's budget, which account for about 90% of its operating revenues. The region's proximity to the City of Moscow (BBB-/Negative/F3) supports its wealth and economic indicators being above the national median. In 2014, GRP per capita was 29% above the national median and in December 2015 the average salary was 55% over the national median.
Fitch expects the region's economic indicators should remain strong in the national context, although GRP growth will likely to be low in 2016-2017, after a 3.3% contraction in 2015. Fitch projects a GDP decline of 0.5% for Russia in 2016 and a moderate 1.3%-2.0% restoration in 2017-2018. We expect this mild improvement will support Russian sub-national economies' growth.
Restoration of the operating margin to the historical high of 15% or above, accompanied by sound debt metrics with a direct risk-to-current balance (2015: 2.1 years) below the weighted average debt maturity profile (2015: 2.5 years) and a Russian economic recovery, could lead to an upgrade.
Sharp growth of direct risk to above 50% of current revenue, coupled with deterioration of operating performance resulting in weak debt coverage, could lead to a downgrade.