Fitch Affirms Russia's Republic of Khakassia at 'BB-'; Outlook Stable
October 24, 2016
Fitch Ratings has affirmed Russian Republic of Khakassia's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'BB-', Short-Term Foreign Currency IDR at 'B' and National Long-Term Rating at 'A+(rus)'. The Outlooks on the Long-Term ratings are Stable.
The republic's outstanding senior unsecured domestic bonds have been affirmed at 'BB-' and 'A+(rus)'.
The affirmation reflects Fitch's unchanged base case scenario regarding the republic's satisfactory operating performance and weak but stabilised current balance over the medium-term. It also reflects our expectation that Khakassia will narrow its high deficit, in turn leading to decelerated growth of direct risk.
KEY RATING DRIVERS
The ratings reflect Khakassia's satisfactory operating balance, which however remains insufficient to cover increased interest payments due to the high direct risk accumulated on the back of a significant budget deficit. The ratings also take into account a concentrated local economy, which is declining in line with the national economic downturn and a weak institutional framework for Russian sub-nationals.
Fitch expects the operating margin will be close to the republic's historical average of 5%-6% over the medium term. However, it will not be sufficient to cover increasing interest payments, leading to a negative current balance (2015: 0.6%). In 1H16, Khakassia reported a 50% outflow of corporate income tax revenue due to tax returns to coal and aluminium producers, which resulted in a RUB4.9bn intra-year budget deficit. We expect a moderate restoration of tax revenue in 2H16 as the coal sector benefits from higher prices on international markets, which should shrink the full-year deficit to RUB2.3bn.
Fitch projects the republic will shrink its budget deficit to 8%-10% of total revenue in 2016-2018 from a high 21% in 2015. This will be driven by a fall in capex to about 15% (2015: 30%) of total expenditure as the administration completes social infrastructure projects and housing construction for victims of large fires that occurred in the spring of 2015.
Fitch forecasts the on-going deficit to result in direct risk further increasing towards 100% of current revenue by end-2018 (2015: 84%). This will lead to higher interest expenditure at more than 6% of operating revenue (average 4.5% in 2013-2015). The region is also exposed to market interest rate volatility given its reliance on market debt (bond placements and bank loans) as 78% of outstanding debt was in the form of bank loans and bond issues as at 1 September 2016.
Khakassia is exposed to sizable refinancing pressure with 71% of direct risk maturing in 2016-2018. As of 1 September 2016 debt maturities this year totalled RUB3.7bn (17% of direct risk), which the republic will mostly fund with new bank loans. The republic also plans to issue a five-year domestic bond before end-2016 to refinance expensive bank loans maturing in 2017 (RUB2.4bn) and 2019 (RUB1.6bn), which should reduce its refinancing risk over the medium term.
Khakassia's wealth metrics are in line with the national median. However, the republic's economy is concentrated in the hydro-power generation, mining and non-ferrous metallurgy sectors. The top 10 taxpayers contributed 49.5% to the republic's tax revenue in 2015 (2014: 44.5%). Taxes accounted for 71% of operating revenue in 2015, which makes the region's budget prone to volatility. Fitch forecasts Russia's national economy to contract 0.5% in 2016, which in turn will spill over to Khakassia's economy and tax base.
Russia's institutional framework for sub-nationals is a constraint on Khakassia's ratings. It has a shorter record of stable development than many of its international peers. The predictability of Russian local and regional governments' budgetary policy is hampered by the frequent reallocation of revenue and expenditure responsibilities within government tiers.
An upgrade may result from direct risk decreasing below 60% of current revenue, coupled with a positive current balance on a sustained basis.
A downgrade may result from the republic's inability to curb direct risk growth towards 100% of current revenue, accompanied by growing refinancing pressure.
Company — Republic of Khakassiya
Full nameKhakassiya Republic Ministry of Finance