St. Gallen’s debt is very low compared with peers at the same rating level. Standard & Poor’s Ratings Services estimates tax-supported debt to be about 18% of operating revenues in 2012, which is fairly constant compared with previous years. Under our base-case scenario we assume that the government will resume gross borrowings in 2013 to refinance maturing debt and we expect debt to remain at about the current level over the next two years until 2014.
The ratings are further supported by the cantonal management’s very positive track record of financial policies, which has demonstrated an ongoing commitment to fiscal consolidation, besides the very prudent debt management. We expect budgetary consolidation over the next two years to be challenging as a consequence of pressures arising from higher health and social costs and low growth in tax revenues. In the short term, the canton will also face challenges from lower revenues from the intercantonal equalization system. In 2011, the operating cash balance was negative 2.8% of adjusted operating revenues (a further decrease from negative 0.9% the previous year) and the cash balance after capital accounts fell to negative 6.8% of total adjusted revenues from negative 3.5% in 2010. Under our current base-case scenario, we expect the government will be able to implement cost cuts and increase revenues as proposed in its savings package II and budgetary proposal for 2013. Despite these consolidation measures, it may prove difficult for the canton to improve its performance beyond our current base-case scenario over the forecast horizon.
Unlike our former expectation that the budgetary deficits could recover faster than projected under our former base-case scenario, the past year has shown that St. Gallen’s path to structurally balanced accounts is more difficult than we previously anticipated. While our base-case scenario already includes the savings measure proposed by management, in our view further savings or revenue-generating measures might be needed to finally return to fully balanced budgets. As a result, in our new base-case we expect the canton’s operating balance as a percentage of operating revenues to average a weak negative 1.6% over our forecast horizon 2010-2014, compared with negative 0.7% for 2009-2013. We nevertheless predict a positive trend toward a balanced operating budget in 2014. Similarly, the deficit after capital accounts remains negative at over 5% on a five-year average, albeit also on a positive trend. However, we do not think that a consistently negative balance after capital accounts in this scenario will trigger a debt accumulation because the canton will likely use its large cash reserves to cover the budgetary deficits in 2012-2014.
In addition, the ratings take into account St. Gallen’s guarantee for its cantonal bank, which is the canton’s largest contingent liability. The canton is the major shareholder and carries most of the bank’s liabilities. In the event of the bank’s financial distress, the canton’s creditworthiness could be considerably burdened. However, we view the likelihood of this risk materializing as very low over the forecast period, owing to our estimate of a strong underlying credit profile for SGKB.
We assess St. Gallen’s liquidity position as very positive for the rating. Although we anticipate a gradual weakening of the canton’s liquidity position to cover budget deficits, in our base-case scenario we expect the canton’s cash to exceed 8x its debt service falling due in over the next 12 months. As of year-end 2011, the canton had over Swiss franc (CHF) 950 million in unrestricted cash and short-term assets (over 26% of 2011 operating expenditures), which we expect to decrease to about 8% of operating expenditures by 2014.
Furthermore, the canton has one committed bank line of CHF150 million available. St. Gallen’s liquidity position is also based on excellent market access and expected further availability of cash due to its ownership of the cantonal bank. The next financial debt maturities are in 2013, and are thereafter concentrated in 2018 and 2020. We expect debt service to remain below 2.0% of operating revenues over the next three years.
The stable outlook reflects our view that St. Gallen’s currently affluent liquidity position will help cover its temporarily wider deficits without debt accumulation before cost-containing measures gradually improve budgetary performance.
We could take negative rating action on St. Gallen within the next two years if, in line with our downside-case scenario, the canton’s budgetary performance were to deteriorate beyond currently forecast levels, for example as a result of discontinuation of savings measures or not implementing tax increases. A situation in which SGKB were to face financial distress, thereby triggering support measures by its owner, could contribute to negative pressure on the rating on the canton. However, we view these events as highly unlikely given the canton’s prudent management and SGKB’s strong credit profile.
We currently do not see a realistic upside-case scenario that would lead to a positive rating action on St. Gallen within the next two years.
Related Criteria And Research
-- Methodology For Rating International Local And Regional Governments, Sept. 20, 2010
-- Methodology and Assumptions For Analyzing The Liquidity Of Non-U.S. Local And Regional Governments And Related Entities And For Rating Their Commercial Paper Programs, Oct. 15, 2009
-- Public Finance System Overview: Swiss Cantons, July 30, 2009
-- Institutional Framework Assessments For International Local And Regional Governments, Dec 19, 2011