DBRS Morningstar Upgrades Autonomous Region of Madeira to BB (high), Stable Trend

DBRS Ratings GmbH (DBRS Morningstar) upgraded the Long-Term Issuer Rating of the Autonomous Region of Madeira (Madeira) to BB (high) from BB and changed its trend to Stable. At the same time, DBRS Morningstar confirmed Madeira’s Short-Term Issuer Rating at R-4. The trend on the Short-Term Issuer Rating remains stable.

KEY RATING CONSIDERATIONS

The rating upgrade is driven by the upgrade of the Republic of Portugal’s Long-Term Foreign and Local Currency – Issuer Rating to BBB (high) from BBB on 4 October 2019. The upgrade of the sovereign’s ratings reflected the persistent improvement in several of Portugal’s key rating indicators. The fiscal position is broadly in balance and the government debt-to-GDP ratio is declining at a healthy pace. Credit fundamentals among Portuguese banks’ have also strengthened and positive change to the structure of the Portuguese economy should support more balanced growth in the future. Given the economic and financial linkages between both government tiers, Portugal’s upgrade affects positively DBRS Morningstar’s analysis of Madeira’s creditworthiness and supports the region’s upgrade.

Madeira’s ratings remain underpinned by (1) the region’s stabilising financial performance over the last few years and its slowly improving debt metrics, which have been supported by favourable economic performance; (2) the financial oversight and support to the regional government from the Republic of Portugal; and (3) Madeira’s enhanced control over its indirect debt as well as its commercial liabilities through a gradual recentralisation of these liabilities onto its own balance sheet.

RATING DRIVERS

Upward rating pressure could materialise if any or a combination of the following occur: (1) Madeira substantially reduces its indebtedness; (2) the Portuguese sovereign rating is upgraded; (3) Madeira’s economic indicators continue to improve and the region enhances its economic resiliency; or (4) there are indications of a further strengthening of the relationship between the region and the central government.

Negative downward pressure on the ratings could materialise if any or a combination of the following occur: (1) there is a negative rating action on the Portuguese sovereign; (2) Madeira fails to stabilise its financial performance and debt metrics over the medium-term; (3) indications emerge that the financial support and oversight currently provided by the central government weaken; or (4) there is a reversal in the reduction of the region’s indirect and guaranteed debt.

RATING RATIONALE

Strengthening Fiscal Performance since 2013 and Steadily Declining But Still Very High Debt Metrics

Madeira’s overall fiscal performance has substantially improved in the last five years. Expenditure control and some growth in tax revenues, reflecting tax hikes and economic growth, have allowed the region to deliver a stronger financial performance. The region’s deficit represented 3% of operating revenues at the end of 2018, down from a very large 74% at the end of 2013 (2015: 16%). While the 2013 financial performance largely reflected one-off measures with sizeable capital injections into public companies, DBRS Morningstar notes that reduction in the region’s financing deficit has been steady although it has required continuous efforts from the regional government.

DBRS Morningstar highlights that Madeira’s financials remain subject to volatility, especially regarding its corporate income tax receipts. Although some changes can affect the region’s performance from one year to the next, Madeira’s overall fiscal position should remain sound going forward. As Madeira held regional elections in 2019, DBRS Morningstar considers the risk of fiscal slippage to have marginally increased this year and will therefore monitor the region’s overall expenditure control to assess for any impact on its finances.

Solid gross domestic product (GDP) growth, supported by a steady rise of the tourism sector in the region and stronger fiscal performance have allowed Madeira to decrease its extremely high debt ratios since 2012. From an international comparison, the region’s debt-to-operating revenues, at 498% at the end of 2018, remains very high. Madeira’s debt ratio continues to represent, in DBRS Morningstar’s view, the main drag on the region’s ratings. However, DBRS Morningstar views positively the downward trajectory of the ratio over the last few years.

Enhanced Oversight and Sovereign Guarantees Support the Rating

DBRS Morningstar acknowledges that the region has taken substantial steps to increase transparency and monitoring around its indirect and guaranteed debt, but also to reduce its DBRS Morningstar-adjusted debt stock. This metric includes direct, indirect and guaranteed debt, commercial obligations and Public Private Partnerships -PPPs- related obligations. In addition, the national government’s support via the Portuguese Treasury and Debt Management Agency (IGCP) is a positive credit feature for the region, as it strengthens its overall debt management.

The explicit guarantees provided by the central government for the refinancing of the regional debt and DBRS Morningstar’s expectation that this support will continue are positive credit features. The region’s refinancing needs have therefore fully benefited from the national government’s explicit guarantee in 2019 and should continue to do so going forward (if requested by the regional government). While the region’s financial performance should stabilise over the short-to-medium term, additional debt reductions of a significant scale will be critical for the region to strengthen its credit profile further.

RATING COMMITTEE SUMMARY

DBRS Morningstar’s European Sub-Sovereign Scorecard generates a result in the BBB (low) – BB range. The main points discussed during the Rating Committee include the relationship between the central government and the Autonomous Region of Madeira, the debt metrics, financial and economic performance of the region.

For more information on the Key Indicators used for the Republic of Portugal, please see the Sovereign Scorecard Indicators and Building Block Assessments: https://www.dbrs.com/research/351339/.

The national scorecard indicators were used for the sovereign rating. The Republic of Portugal’s rating was an input to the credit analysis of the Autonomous Region of Madeira.

Notes:
All figures are in euros (EUR) unless otherwise noted.

The principal applicable methodology is Rating European Sub-Sovereign Governments, which can be found on the DBRS website www.dbrs.com at http://www.dbrs.com/about/methodologies. The principal applicable rating policies are Commercial Paper and Short-Term Debt, and Short-Term and Long-Term Rating Relationships, which can be found on our website at http://www.dbrs.com/ratingPolicies/list/name/rating+scales.

The sources of information used for this rating include the Autonomous Region of Madeira, Bank of Portugal, Instituto Nacional de Estatística (INE). DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

This rating included participation by the rated entity or any related third party. DBRS Morningstar had no access to relevant internal documents for the rated entity or a related third party.

DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings GmbH are subject to EU and US regulations only.

Lead Analyst: Nicolas Fintzel, Vice President, Global Sovereign Ratings
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer – Global FIG and Sovereign Ratings
Initial Rating Date: June 15, 2018
Last Rating Date: April 12, 2019

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