Fitch Upgrades City of Yerevan to `BB-` with "Oulook Stable"

ArmInfo.Fitch Ratings has upgraded the City of Yerevan's Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDRs) to 'BB- ' from 'B+'. The Outlook is  Stable. The upgrade follows that of Armenia (see 'Fitch Upgrades  Armenia to 'BB-'; Outlook Stable' dated 22 November 2019 on  www.fitchratings.com) as we view the city's ratings as constrained by  the sovereign.

Under EU credit rating agency (CRA) regulation, the publication of  International Public Finance reviews is subject to restrictions and  must take place according to a published schedule, except where it is  necessary for CRAs to deviate from this in order to comply with their  legal obligations. In this case the deviation was caused by the  upgrade of Armenia, the press release of Fitch reads. 

Fitch interprets this provision as allowing us to publish a rating  review in situations where there is a material change in the  creditworthiness of the issuer that we believe makes it inappropriate  for us to wait until the next scheduled review date to update the  rating or Outlook/Watch status.  The next scheduled review dates for  the City of Yerevan to be held in 2020 will be determined by end-2019  once the calendar comprising the next reviews is published.  

KEY RATING DRIVERS Fitch has re-assessed Yerevan's risk profile as  'Weaker' from 'Vulnerable', following the sovereign upgrade of  Armenia and reflecting four Weaker and two Midrange attributes on the  six key risk factors, unchanged since last review.

Revenue Robustness: Weaker Yerevan's budget revenue is mainly  composed of central government transfers (2018:  66% of total  revenue), followed by taxes (15%), non-tax revenue (13%) and asset  sales (6%). Intergovernmental transfers enhance the city's fiscal  capacity to a level sufficient to cover expenditure, which is evident  from the track record of balanced budgets in 2014- 2018. Nonetheless,  as the transfers stem from a 'bb' rated counterparty we assess the  city's overall revenue robustness as Weak.

Revenue Adjustability: Weaker Yerevan's ability to generate  additional revenue in response to possible economic downturns is very  limited, therefore we assess the city's revenue adjustability as  Weak.  The central government holds overwhelming fiscal authority,  which significantly limits the city's fiscal autonomy. The city's  autonomy to set rates or introduce new taxes is limited by the  country's legal framework. Yerevan collects taxes on property and  vehicles, which together represent 15% of the city's total revenue.  The city also collects various fees, fines and payments (non-tax  revenue), which accounted for 13% of its total revenue in 2018.

Expenditure Sustainability: Midrange The city exerts prudent control  of its expenditure. This is evident from the track record of the  decrease in spending being greater than that of declining revenue in  2016-2018 (4.6% and 3.9%, respectively). We expect these practices to  be continued in the medium term. Yerevan has responsibilities in  education, healthcare, some social benefits, general public  administration, environmental protection, culture and recreation, and  housing, utilities and construction. Education and healthcare  spending, which is of a counter- or non-cyclical nature, accounted  for 32% of the city's expenditure in 2018.  Yerevan is not required  to adopt anti-cyclical measures, which would inflate expenditure  related to social benefits in a period of downturn. At the same time,  the city's budgetary policy is dependent on the decisions of the  central government, which could negatively affect the expenditure  dynamic.  Expenditure Adjustability: Weaker Fitch assesses Yerevan's  expenditure adjustability as low. Most of its spending  responsibilities are mandatory, with inflexible items dominating the  expenditure structure.  Therefore the bulk of expenditure could be  difficult to cut in response to potential revenue shrinking. Although  the city retains some flexibility to cut or postpone capex in case of  stress, capital outlays were already reduced to an average of 7.7% of  total spending in 2015-2018 from the higher level of 24.7% in 2014,  following a prolonged economic slow-down in Armenia. The city's  ability to materially cut expenditure is also limited by relatively  low per capita expenditure (2018: USD130) compared with international  peers.

Liabilities and Liquidity Robustness: Midrange According to national  budgetary regulation, Armenian local and regional governments (LRG)  are subject to strict debt limitations. Therefore the city has been  free of any debt or guarantees since forming a community in 2008.  Statutory provisions of the national legal framework guiding debt or  guarantees issuance restrict the city from incurring significant debt  and new borrowing restrictions as well as limits on annual interest  payments.

Liabilities and Liquidity: Weaker Yerevan's liquidity position  improved in 2018 to AMD7.8 billion from AMD1.9 billion in 2017, as  the city posted a surplus budget with excess cash retained in  reserves.  Yerevan holds its cash in treasury accounts as deposits  with commercial banks are prohibited under the national legal  framework for LRGs. For extra liquidity the city could borrow from  the national treasury. As the liquidity profile remains exposed to  volatility, while counterparty risk associated with the liquidity  providers is 'BB-', which limits the assessment of this risk factor  to Weaker.

Debt Sustainability Assessment: 'aaa' Fitch classifies Yerevan as a  type-B local and regional government (LRG), as it covers debt service  from cash flow on an annual basis. According to our rating case,  Yerevan's debt payback ratio (net direct risk-to-operating balance) -  the primary metric of debt sustainability assessment - will remain  strong over the next five years due to sufficient cash and very low  expected debt, stemming from the city's public sector. The secondary  metrics - fiscal debt burden measured as net adjusted  debt-to-operating revenue and actual debt-servicing coverage ratio -  are assessed at 'aaa'. This leads to the city's overall debt  sustainability assessment at 'aaa'.  

DERIVATION SUMMARY Yerevan's Standalone Credit Profile (SCP) of  'bbb-' is based on a combination of a 'Weaker' risk profile and a  debt sustainability assessment of 'aaa'. The SCP also factors in  international peer comparison. Finally, the city's IDR remains  constrained by that of the sovereign

To recall, on November 22, 2019, Fitch Ratings upgraded the long-term  issuer default ratings (IDRs) in foreign and national currency for  Armenia by one scale - to the level of with the forecast  "Stable".  In addition to the sovereign rating, Fitch also raised the  upper limit of Armenia's ratings for long-term sovereign bonds in  foreign and national currency to "BB" (country ceiling), due to which  Armenian private companies and financial institutions can get a  rating (BB-) for bonds in foreign and national currency. Fitch  Ratings kept short-term IDRs of Armenia in foreign and national  currencies at . The decision to upgrade Armenia's sovereign rating  is based on Fitch's assessment that the institutions of Armenia  contributed to a peaceful and smooth political transition and will be  further strengthened through structural reforms. The government has  reaffirmed its commitment to pursuing sustainable macroeconomic  policies and structural reforms, including the fight against  corruption and monopolies, as well as strengthening institutions and  governance.