-- We assigned our 'BBB-' global scale and 'brAAA' national scale issuer credit ratings to the Brazilian state of Minas Gerais.
-- The ratings reflect the state's well-diversified economic base that favors its ability to levy taxes, and maintain an adequate fiscal performance and a track record of solid financial management.
-- The stable outlook reflects the state's ability to continue reporting satisfactory fiscal metrics in 2012 and 2013 amid significant expenditures.
On July 2, 2012, Standard & Poor's Ratings Services assigned its 'BBB-' global scale and 'brAAA' national scale issuer credit ratings to the state of Minas Gerais. The outlook on both ratings is stable.
The state's creditworthiness reflects its strong and well-diversified economic structure, which is one of the main drivers of Brazil's economy. We estimate that the state's GDP makes up 9% of Brazil's GDP. Favorable macroeconomic prospects for Brazil will continue to support the state's economic development over the medium term. Despite the increasing global economic uncertainty, we expect Brazil's and the state's GDP to increase 3% in 2012 and about 3.9% in 2013. As a result, we expect the state's own sources to generate more than 76% of its operating revenues over the next couple of years, which is significantly higher than the estimated national average of 56%.
The state has benefited from the continuation of administrations under the same political party for almost a decade, which helped strengthen management procedures and internal systems. The intergovernmental framework in Brazil will continue to drive the state's fiscal and financial performance, which we consider a credit strength. This framework has led to a strong track record of improving fiscal performance among Brazilian states, given the strict guidelines to avoid deficits and/or allow debt increases. Additionally, Minas Gerais' financial management compares favorably with those of other states in terms of medium-term financial planning, forward-looking perspective on its cash flows, and debt management. We expect the state to continue strengthening its fiscal position along with efforts to improve debt profile.
We expect the state's credit quality to continue benefiting from the institutional framework that guides Brazilian state governments through the 1997 deal between the central government and the states concerning debt payments and the national Fiscal Responsibility Law (2000).
Minas Gerais' debt has gradually declined through the continuation of balanced budgets over several years, despite its debt being indexed to the country's inflation indicator (Indice Geral de Precos - Disponibilidade Interna), which is currently higher than Brazil's general consumer price index. The state's debt level remains high at about 146% of total revenues at the end of 2011; however, it declined from about 156% in 2007. Debt to revenue levels are expected to continue to decline over time but only modestly due to the state's plans to increase borrowing to finance infrastructure development. At the end of fiscal 2012, we expect debt levels to account for approximately 143% of operating revenues. The composition of the debt significantly reduces rollover risk: the central government, as a creditor, holds about 95% of the state's debt with favorable terms. Brazil's intergovernmental framework limits the ratio of debt service to net revenues (a specific formula that subtracts transfer to municipalities, among other things) to 13%. Debt renegotiations with the central government are expected to moderate Minas Gerais' debt service obligations in the coming years, which we consider positively from the credit point of view.
The state's low dependence on federal funds for revenues translates into a greater degree of flexibility to deal with its own fiscal challenges. However, its expenditure flexibility remains narrow, given the large proportion of operating expenses such as for education, healthcare, and other social programs. However, Minas Gerais' spending on capital expenditures is higher than of its national peers. For instance, the state has consistently reported capital expenses of more than 11% of operating expenses, higher than for Rio de Janeiro and Sao Paulo, during the past four years, and is expected to maintain similar levels in 2012 and 2013. Still, due to constraints on its spending-given the increasing demands for infrastructure and social program spending--we think that it will be required to maintain strong management skills to deal with these challenges.
The state's free cash as of the end of 2011 is relatively limited for the debt service obligations for the following 12 months, though adequate liquidity planning keeps predictability on the cash flow performance. As of December 2011, free cash accounted for approximately 60% of 2012 estimated debt service. Given the cash flow performance as of April 2012 and the state's projection, we estimate that its liquidity will continue to be relatively limited, though stable, at the end of 2012. Due to the National Fiscal Responsibility Law, the state's autonomy to set its own liquidity policy is somewhat restricted. Under Brazil's intragovernmental scheme, states face significant restrictions to borrow in order to offset any cash shortfall in their budgets. They can only do so with the federal government's authorization under certain specific rules and compliance with fiscal targets, and they cannot maintain contingent credit lines with banks.
The stable outlook balances the expectations of continued strengthening of the state's financial metrics--thanks to a skillful management and the institutional framework in Brazil--with the ongoing challenges of delivering on both the infrastructure and social programs in the coming years. Over time, greater fiscal flexibility through higher capital expenditures and a declining debt and debt service levels would improve the state's credit fundamentals and could lead to an upgrade. Conversely, signs of consistent deterioration of the fiscal performance in the next couple of years could lead to a downgrade.
Related Criteria And Research
Methodology For Rating International Local And Regional Governments, Sept. 20, 2010
Ratings Assigned Minas Gerais (State of)
Issuer Credit Rating
Global Scale BBB-/Stable/--
National Scale brAAA/Stable/--