Fitch Affirms Nigeria's Lagos State at 'B+'; Outlook Stable

(The following statement was released by the rating agency)


Fitch Ratings-Milan/London-June 07: Fitch Ratings has affirmed Lagos State's
Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDRs) at 'B+' with
Stable Outlook and Short-Term Foreign-Currency IDR at 'B'. The National
Long-Term Rating has been affirmed at 'AA+(nga)', with a Stable Outlook. The
ratings on Lagos's medium-term note (MTN) programme and senior unsecured bonds
have also been affirmed at 'B+'/'AA+(nga)'.

Under Fitch's new criteria for LRGs, Lagos's IDR is capped by the sovereign
(B+/Stable). The ratings reflect the state's weak risk profile by international
standards against Fitch's expectations of sound debt sustainability driven by
internally generated revenue (IGR), which underpins Lagos's capacity to serve
its financial obligations. The ratings also reflect rising but sustainable
adjusted debt. These assessments incorporate counterparty risks and the
sovereign rating. The Stable Outlook on the IDRs mirrors that on the sovereign.

Lagos is Nigeria's economic powerhouse with per capita GDP above USD4.000, or
double the national average, but is weak by international standards. Fuelled by
public and private investment and a population over 20 million, Lagos's diverse
economy is supportive of the wide tax base that generates IGRs.

KEY RATING DRIVERS

Revenue Robustness: Midrange

Lagos benefits from a diversified revenue structure led by IGR, which
represented over 70% of its NGN560 billion operating revenue at end-2018. IGR is
driven by moderately cyclical taxes such as PAYE (personal income tax). The
stable tax revenue is counterbalanced by the dynamic oil-related transfers from
the central government (representing less than 10% of operating revenue) and
some volatility of other operating revenue sources such as sales proceeds,
rents, land use charges, fees and fines.

Revenue Adjustability: Weaker

Given that Lagos has no tax-setting power on its main IGR item, PAYE, Fitch
believes that Lagos's fiscal flexibility relies on the wide but not fully
exploited tax base of PAYE, as well as other potential revenue sources such as
land use charges. In Fitch's view, additional revenue streams should cover the
peak-to-trough revenue fall of -5.52% (NGN22 billion) experienced in 2015 by at
least 50%. Lagos is a net contributor to Nigeria's equalisation system enacted
through the Federal Account Allocation Committee (FAAC).

Expenditure Sustainability: Midrange

Lagos's opex growth averaged 9.6% in 2010-2018, in line with operating revenue
growth of 9.9%, allowing for a stable operating margin of around 50% on average.
In its rating scenario, Fitch expects operating costs to increase by 9% or less
than the country's double-digit inflation, factoring in a tighter grip on
current expenditure and compliance with expenditure targets, while coping with
the expected 33% rise in staff costs by 2020 due to the minimum wage increase
set by the national government.

Expenditure Adjustability: Midrange

There are no mandatory balanced budget rules defined by the central government
for states, which are required to keep their deficits at 3% of national GDP. In
its rating scenario of slow economic growth, Fitch expects Lagos to continue to
post large operating margins at 40%. Capex makes up 55% of Lagos's expenditure
before debt service, keeping the share of inflexible expenditure well below 70%.
Fitch believes that the high level of capex is necessary to maintain the local
attractiveness amid demographic pressures calling for more services on
infrastructure, health and education.

Liabilities and Liquidity Robustness: Weaker

The national framework for debt is evolving and thus borrowing limits are quite
wide. There are no restrictions concerning debt maturities, interest rates or
currency exposure. Lagos applies a prudential rule of debt service not exceeding
30% of operating revenues and aims at reducing its currency exposure at 55% of
its NGN850 billion outstanding debt at end-2018. To ensure timely debt service,
its internal debt is assisted by a state-level irrevocable standing payment
order while external debt is served with deductions from FAAC.

Liabilities and Liquidity Flexibility: Weaker

Lagos has consolidated access to financial markets with repeated bond issuances,
while domestic counterparties can provide liquidity lines and short-term credit.
Counterparty risk on credit lines is in the 'B' category, triggering a 'Weaker'
assessment for this factor. Lagos cashes in a sinking fund to support its debt
service on bonds and Fitch prudentially considers its year-end cash as earmarked
to offset payables.

Debt Sustainability Assessment: 'aa'

In Fitch's rating scenario, Lagos's debt sustainability is assessed in the 'aa'
category as reflected by a sound payback ratio (net adjusted debt to operating
balance) at around three years in our 2019-2023 rating case scenario. Fitch
incorporates Lagos's weak fiscal debt burden of around 140%, which is high
compared with the peer group, and debt service coverage at around 2x.

RATING DERIVATION

Lagos's standalone credit profile (SCP) is assessed at 'bb+', reflecting a
combination of a weak risk profile and debt sustainability in the 'aa' category.
The notch-specific rating positioning is assessed at the higher end of the
rating category to reflect the strong payback ratio below five. Fitch does not
apply any asymmetric risk or extraordinary support from the central government.
The SCP is capped at the sovereign level. The 'B' short-term rating is derived
from Lagos's Long-Term IDR.

KEY ASSUMPTIONS

Fitch's key assumptions within our base and rating case for the issuer include:

- Operating revenue growing below nominal GDP growth rate around 15%;

- Operating expenditure growth at 11% in base case and 9% in rating case (below
inflation rate), with the exception of 2019 and 2020 due to salary increases;

- Average cost of debt expected to remain around 10% on average;

- Capital expenditure is expected to be financed with operating margins, minor
capital grants and new debt.

RATING SENSITIVITIES

Any positive rating action on Nigeria will be reflected on Lagos's ratings,
provided that Lagos maintains its strong debt sustainability metrics.

A downgrade of the sovereign's ratings would lead to corresponding action on
Lagos's IDR. A sustained deterioration of the payback ratio above five years in
Fitch's rating case scenario, or a reassessment of the key risk factors due to
unfavourable changes in the economy beyond Fitch's expectations, could also
trigger a downgrade.

Contact:

Primary Analyst

Chiaramaria Mozzi

Associate Director

+39 02 87 90 87 231

Fitch Italia SpA

Via Morigi 6 - Ingresso Via Privata Maria Teresa, 8

20123 Milan

Secondary Analyst

Christophe Parisot

Managing Director

+33 1 44 29 91 34

Committee Chairperson

Vladimir Redkin

Senior Director

+7 495 956 2405

Adjustments on 2018 financial statements

Fitch estimates NGN150 billion contingent liabilities stemming from PPP
contracts.

Net adjusted debt incudes NGN37 billion pension liabilities.

Media Relations: Athos Larkou, London, Tel: +44 20 3530 1549, Email:
athos.larkou@thefitchgroup.com.

Additional information is available on www.fitchratings.com

Applicable Criteria

Rating Criteria for International Local and Regional Governments (pub. 09 Apr
2019)

https://www.fitchratings.com/site/re/10067640

Short-Term Ratings Criteria (pub. 02 May 2019)

https://www.fitchratings.com/site/re/10073011

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/site/dodd-frank-disclosure/10077857

Solicitation Status

https://www.fitchratings.com/site/pr/10077857#solicitation

Endorsement Policy

https://www.fitchratings.com/regulatory

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