DBRS Assigns New Rating of AA (low) with a Stable Trend to the Government of Nunavut

DBRS Limited (DBRS) assigned an Issuer Rating of AA (low) with a Stable trend to the Government of Nunavut (Nunavut or the Territory). The strong institutional framework is foundational to the credit profile. Enshrined in federal legislation, the institutional framework decouples the government’s finances from a weak underlying economy and results in stable government finances and a low debt burden. The Stable trend reflects DBRS’s view that the framework is unlikely to fundamentally change through the medium term. As such, DBRS expects budgetary results to remain strong and the debt burden low.

Canadian territories are created by the federal government through legislation. Under the framework, territories are delegated powers similar to those granted to provinces by the Constitution. The federal government retains significant control and influence over the territories, both financially and operationally. The federal government (1) can disallow any law passed by the territorial legislature within one year of its passage by simple order in council, (2) imposes limits and requirements on financial management practices (e.g., debt limit, Canada’s Auditor General is the territorial auditor, etc.) and (3) effectively controls the overall size of the government through its Territorial Formula Financing. The federal government also plays a greater role in service delivery in areas that would typically be a provincial or territorial jurisdiction (e.g., health care). This framework has resulted in a history of strong fiscal performance and limits the likelihood that leverage will grow excessively.

For the year ended March 31, 2018, Nunavut reported a surplus of $160.8 million. DBRS makes adjustments to recognize capital spending as incurred rather than as amortized and to remove non-recurring items. This results in a DBRS-adjusted surplus of $7.2 million, or 0.3% of GDP. For 2018–19, the budget (non-consolidated) points to an operating deficit of $54.3 million (including net results of revolving funds). On a DBRS-adjusted basis, before contingencies, this equates to a deficit of $27.8 million, or 0.9% of GDP. Nunavut also prepares a multi-year forecast (excluding Qulliq Energy Corporation (QEC) and the revolving funds), which forecasts modest surpluses for 2018–19 through 2020–21.

Nunavut has a small, volatile economy that is dominated by the public sector. The economy has grown strongly over the past decade (5.5% p.a.), with growth exceeding the national average in most years. Growth is volatile, however, as private- and public-sector investment projects are often lumpy and have a pronounced impact on the small economy. The economy is gradually beginning to diversify, with mining accounting for an increasing share of economic activity. The industry now accounts for 21.5% of economic activity, up from 3.9% a decade ago. The increasing amount of mining and construction activity, however, has given rise to greater volatility in nominal GDP.

Economic growth is expected to remain strong though volatile through the medium term. Strong population growth, increased public infrastructure and continued investment in the resource sector will support steady growth in economic output. Economic forecasts by the Conference Board of Canada point to real GDP growth of 4.4% in 2018 and 9.1% in 2019. Nominal GDP is projected to rise by 6.7% in 2018.

Nunavut’s total debt, as measured by DBRS, is low but has been rising. At March 31, 2018, total debt was $457.4 million, up from $345.2 million a year earlier. The majority of Nunavut’s debt is composed of long-term debt used to finance the QEC and the public-private partnership liability related to the Iqaluit International Airport Improvement Project. Under the Nunavut Act, the federal government has set the Territory’s maximum amount of borrowings at $650 million. With no material borrowing requirements in the near term, the Territory’s debt burden is likely to fall modestly as debt amortizes. Over the next two years, DBRS projects the debt-to-GDP ratio will fall modestly to 13.5%. However, the Territory has significant infrastructure requirements, as infrastructure is a priority for the government. Over the medium to longer term, DBRS believes these requirements could lead to more borrowing, though the institutional framework will limit overall leverage.

RATING DRIVERS
No rating action is likely in the near to medium term. Downward rating pressure could arise from a weakening of the institutional framework, while positive rating action would require further economic diversification, a broadening of the tax base and continuation of strong fiscal performance.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology is Rating Canadian Provincial Governments, which can be found on dbrs.com under Methodologies.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at info@dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

The full report providing additional analytical detail is available by clicking on the link under Related Documents below or by contacting us at info@dbrs.com.