(The following statement was released by the rating agency)
Fitch Ratings-Milan-October 04:
Fitch has affirmed Nigeria's Kaduna State's Long-Term Foreign- and
Local-Currency Issuer Default Ratings (IDRs) at 'B' with a Stable Outlook. A
full list of rating actions is below.
The affirmation reflects Fitch's assessment of Kaduna's risk profile as
Vulnerable, with a revenue structure highly dependent on oil transfers amid
internally generated revenues (IGR) that are increasing below expectations. The
ratings also factor in the state's growing debt to fund necessary capex for the
development of basic infrastructures and social services.
The 'A+(nga)' rating reflects Kaduna's low risk relative to the country's best
risk, given strong financial and revenue support from the central government.
The Stable Outlook reflects our expectation that Kaduna will improve its tax
administration while maintaining a flexible expenditure framework, which will
leave some margin to adjust to macroeconomic or social downturns.
Key Rating Drivers
Revenue Robustness: Weaker
Kaduna's revenue sources are sensitive to oil prices swings, since 50% of
operating revenue depends on allocations of oil revenue transferred monthly from
the Federal Accounts Allocation Committee (FAAC). Waning FAAC transfers amid the
oil sector down-cycle have provided a stimulus to improve local tax collection
of IGR including fees, for which the states bear full responsibility for
settlement and collection, but structural benefits may only be visible with
time.
Within a national context, Kaduna's fast-growing 8.2 million residents and a
traditionally strong primary sector contribute to weak socio-economic standards,
including a growing unemployment rate of around 30% and a poverty rate above
60%. The public sector is a key employer in the state, directly and through its
planned investment programmes. A large informal economy hinders private sector
development, which ultimately affects the IGR tax base.
Revenue Adjustability: Weaker
Kaduna's revenue potential depends on the state's ability to expand its tax
bases, both in terms of broadening the pool of taxpayers and enforcing tax
compliance. The main fiscal revenues are pay-as-you-earn taxes, on which Kaduna
cannot set the tax rate, and land charges. The ability to enlarge the
pay-as-you-earn tax base is limited by the low level of income of the
population, with over 50% living below the poverty line.
Expenditure Sustainability: Weaker
Kaduna's main responsibilities include education, healthcare, economic
development, energy and environment. Past expenditure dynamics show a good track
record of cost control, with operating revenue and expenditure growing on
average at the same pace in 2010-2018, around 7.5%-8.0%. However, Fitch expects
expenditure to grow above revenue in the medium term due to planned minimum wage
increase for public employees, squeezing the operating margin to 20% from last
years' 30%, further declining below 15% in case of economic downturns.
Expenditure Adjustability: Midrange
Kaduna's cost structure is moderately flexible, as an average 40% of expenditure
is capex, which are largely financed with operating balance and can be delayed
in case of need. Kaduna has significantly strengthened the legal framework for
fiscal accountability and it is committed to achieving a 60:40 balance between
capex and opex. In Fitch's view, expenditure reduction is moderately affordable
given the high potential to increase the existing level of healthcare and
infrastructural services, while improvements in the procurement process could
improve expenditure allocation.
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. Over 90% of Kaduna's debt is served through deductions from
the statutory allocation, including loans with local banks for salaries
bailouts, while the remaining part is made of intergovernmental loans.
At end-2018, 65% of Kaduna's NGN160 billion debt, when included pension arrears,
was in foreign currency and the figure is expected to increase towards 80% for a
debt burden hovering around NGN300 billion in 2023, after the disbursement under
the USD350 million loan from the World Bank. The historical average cost of debt
is below 1% for multilateral foreign debt, while domestic debt carries interest
rates around 10%. Kaduna's debt amortisation profile is smooth with long
maturities and a sustainable debt service well below 1x the operating balance.
Liabilities and Liquidity Flexibility: Weaker
Kaduna's liquidity is weak and Fitch prudentially considers cash as restricted
for payables. Emergency liquidity may come from the federal government, as
happened in 2015-2016 with the Budget Support Facility helping states to tackle
pressures due to liquidity shortfalls, supporting payments of salaries and
pensions. Liquidity may also come from domestic banks rated in the 'B' category,
which tend to limit final maturities to a few years.
Debt Sustainability: 'bb'
According to Fitch's rating case, Kaduna's debt payback ratio (net
debt-to-operating balance) - the primary metric of debt sustainability
assessment - could deteriorate to 23.4 years in the medium term, incorporating
the effects of an economic downturn, corresponding to a 'bb' assessment.
Secondary metrics - fiscal debt burden measured by net adjusted
debt-to-operating revenue - could move above 300% and is assessed at 'b', while
its actual debt-servicing coverage ratio of 1.6x is assessed at 'a'. This
justifies the state's overall debt sustainability assessment at 'bb'.
Derivation Summary
Fitch assesses Kaduna's standalone credit profile (SCP) at 'b', reflecting a
combination of a vulnerable risk profile assessment and a 'bb' assessment of
debt sustainability. The SCP also factors in Kaduna's high debt burden compared
with international peers, in particular South-American states and provinces.
Fitch does not apply any asymmetric risk or ad-hoc support from the central
government and assesses intergovernmental financing as neutral to Kaduna's
ratings. The 'B' IDR reflects Kaduna's own payment capacity, while debt-service
support from the central government through deductions from the statutory
allocation is factored into the debt framework.
Key Assumptions
Fitch's key assumptions within our 2019-2023 base and rating case for the issuer
include:
- Operating revenue growing on average below the 11% nominal national GDP growth
rate both in the base case (7%) and the rating case (2%);
- Operating expenditure growth at 8% in base case and 4% in the rating case
(below inflation rate), with the exception of 2019 and 2020 due to salary
increases;
- Average cost of debt expected to remain around 1.5%, with debt growing towards
NGN300 billion by 2023.
RATING SENSITIVITIES
A weakening debt amortisation profile or financial debt growth leading to
consistently higher debt-to-current revenue ratios and an operating balance
insufficient to cover debt service with respect to Fitch's expectations could
result in a downgrade. Unrest damaging economic prospects or undermining
oil-related revenue could also trigger a downgrade.
Fitch deems an upgrade of Kaduna's ratings as unlikely given the Nigerian
sovereign rating (B+/Stable). However, a higher overall assessment of its risk
profile and a payback below five years would be positive for Kaduna's ratings.
Kaduna State ; Long Term Issuer Default Rating; Affirmed; B; RO:Sta
----; Local Currency Long Term Issuer Default Rating; Affirmed; B; RO:Sta
----; National Long Term Rating; Affirmed; A+(nga); RO:Sta
Contacts:
Primary Rating Analyst
Chiaramaria Mozzi,
Associate Director
+39 02 879087 231
Fitch Italia Società Italiana per il rating, S.p.A.
Via Morigi, 6 Ingresso Via Privata Maria Teresa, 8
Milan 20123
Secondary Rating Analyst
Guido Bach,
Senior Director
+49 69 768076 111
Committee Chairperson
Christophe Parisot,
Managing Director
+33 1 44 29 91 34
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. 13 Sep
2019)
https://www.fitchratings.com/site/re/10087140
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/10091697
Solicitation Status
https://www.fitchratings.com/site/pr/10091697#solicitation
Endorsement Policy
https://www.fitchratings.com/regulatory
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