(The following statement was released by the rating agency)
Jan 29 - Fitch Ratings has affirmed the Italian City of Verona’s Long-term foreign and local currency ratings at ‘A-’ and Short-term foreign currency rating at ‘F2’. The Outlooks on the Long-term ratings are Negative. The rating action affects approximately EUR350m of outstanding debt, including EUR256m bonds issued in 2005, as well as future borrowing.
The ratings reflect the solid budgetary performance, tight control over spending and its declining debt burden. The ratings further factor in the city’s high tax leeway and its strong cash flow generation, which sustains its sound liquidity. The downgrade of Verona from ‘AA-’ to ‘A+’ in October 2011 and to ‘A-’ in February 2012 followed the corresponding downgrades of Italy.
Verona performed strongly in 2012 thanks to a rise in property tax and personal income tax (PIT) which pushed current revenues to EUR330m (EUR307m in 2011), amid a stable cost base (about EUR280m). The operating margin rose to 15% (EUR50m) from 8% in 2011, yet Fitch expects it to decline and hover at 10%-12% (EUR38m-EUR40m) from 2013, due to additional cuts of state resources of around EUR15m, according to Fitch’s preliminary estimates, and normalised dividend income. Thanks to tight monitoring on costs for goods and services, as well as a salary freeze and turnover control, opex should grow below inflation. Nonetheless, Fitch expects the approximately EUR40m debt service to remain fully covered over the medium term.
Verona has sound fiscal leeway, equivalent to about 10% of its revenue. It is largely concentrated on the PIT surcharge (up to EUR7.5m) and property tax (up EUR25m). Additionally, the 50% revenue coverage of municipal services (i.e. kindergartens, sports facilities and school meals) offers additional revenue raising capacity. Social spending, which absorbs ca. 10% of the budget, also offers room for flexibility. This supports the city’s credit profile as it provides room to absorb external shocks, such as an unexpected fall in taxes contingent to prolonged macroeconomic weakness.
Fitch expects a progressive recovery of GDP by about 1% in 2014-2015, also thanks to the growth of exports (2.5% of national exports), 80% concentrated in EU countries. Although the unemployment rate could rise to 9%-10% in 2013-2014 (Italy at 11% in 2012), Verona’s wealthy economy, as witnessed by a GDP per capita 25% above the EU27 average, helps shield local taxes from material fluctuations.
In a context of declining asset sales and subsidies from upper tiers of government, Fitch expects Verona to reduce the level of investments by one-third to about EUR30m a year in 2013-2015, compared with 2008-2012, with the bulk of it remaining centred on roads, transportation and extraordinary urban maintenance. Under Fitch’s baseline scenario, about 75% of the projected investments will be covered by non-debt resources. Verona’s good infrastructure network lessens the risk of pressure on capital spending. This flexibility and the constraints of the internal stability pact should allow the city to record an average 5% budget surplus over 2013-2015 and pay down debt.
The city’s outstanding debt declined to EUR345m in 2012 from about EUR400m in 2010 and Fitch expects it to move towards EUR300m by 2015. The debt/current balance ratio is expected to remain at around 12 years, below the average life of debt of 14 years. After consolidating the city’s fully-owned public companies, the debt/current balance ratio improves to 10 years, where Fitch expects it will remain in the medium term.
Verona continues to exhibit a strong balance sheet with a large portfolio of properties and stakes in municipal companies recorded at low historical cost. The latter, including the highly profitable multi-utility AGSM, assure recurrent dividend flows, expected to average EUR15m per annum in the medium term. High tax collection rates support Verona’s cash position of about EUR65m at end-2012, covering the annual debt service requirement by more than 1.5x and cushioning the city against potential cash inflow/outflow mismatches.
A downgrade of Italy’s rating would lead to negative rating action. Additionally, should negative macroeconomic conditions persist and impact Verona’s budgetary performance, a downgrade of Verona’s ratings could materialise. Conversely, a revision of Italy’s Outlook to Stable or substantive and effective financial autonomy for Italian municipalities, more reflective of Verona’s above national level wealth indicators, could be positive for the rating.
Fitch assumes that the city’s economic performance will remain solid in the medium term even in a framework of diminishing transfers from upper tiers of government. This will be conducive to modest growth of both revenues and spending, driven by the sluggish economy and austerity measures, and relatively stable interest rates as about 30% of Verona’s debt carries floating rates. Tighter borrowing limits from 2013 and the requirement of budget balance from 2014 will support decreasing debt level.