DBRS Morningstar Confirms the Autonomous Community of Madrid at A (low), Trend Remains Positive

DBRS Ratings GmbH (DBRS Morningstar) confirmed the Long-Term Issuer Rating of the Autonomous Community of Madrid (Madrid) at A (low) and its Short-Term Issuer Rating at R-1 (low). The trend on the Long-Term Issuer Rating remains Positive while the trend on the Short-Term Issuer Rating remains Stable.

KEY RATING CONSIDERATIONS

The Positive trend continues to reflect the Positive trend on the Kingdom of Spain´s Long-Term Foreign and Local Currency – Issuer Rating of "A". The trend reflects DBRS Morningstar’s view that risks to Spain’s ratings continue to be skewed to the upside and that the conditions that supported the country’s solid economic growth and steady improvements in public finances in recent years should continue going forward. Given the economic and financial linkages between the national government and the region of Madrid, Spain’s Positive trend affects DBRS Morningstar’s analysis of Madrid’s creditworthiness and supports the Positive trend on the region's rating.

Madrid´s ratings remain underpinned by (1) the region’s large and diversified economy; (2) Madrid’s improving fiscal performance over the last four years; and (3) the region’s sound debt structure and continued access to the bond market. DBRS also views positively the financing backstop from the Kingdom of Spain, which could support the region, should financing conditions deteriorate. Conversely the region’s steady debt stock increase over the last decade and its corresponding high debt metrics continue to weigh on Madrid’s ratings.

RATING DRIVERS

Upward rating pressures could materialise if any or a combination of the following occur: (1) the Kingdom of Spain is upgraded; (2) Madrid delivers sustained fiscal surpluses; or (3) the region’s debt metrics improve faster than anticipated and it strengthens its liquidity profile.

Although less likely given the Positive trend on the rating, downward rating pressure could materialise if any or a combination of the following occur (1) the Kingdom of Spain’s ratings return to Stable; (2) there is a reversal in the region’s fiscal consolidation leading to widening fiscal deficits; or (3) there is a marked deterioration in Madrid’s debt metrics.

RATING RATIONALE

Madrid’s Economic Size and Performance Are Key Credit Strengths for the Region

Madrid’s economic size and performance are key credit strengths. The region represents 19% of Spain’s gross domestic product (GDP) and has consistently outperformed the national average on most economic indicators in recent years. These include much stronger real GDP growth at 3.1% in 2018 compared with 2.4% for the national average. In addition, Madrid has a markedly higher GDP per capita than Spain's other regions, representing 136% of the national average and more favourable unemployment figures of 10.0% versus a national average of 13.8% at the end of 2019.

The possible consequences of the new Coronavirus Disease (COVID-19) on the Spanish and regional economy will remain a focus point for DBRS Morningstar in coming months. The rating agency currently considers that any impact would largely be concentrated over one or two quarters, but should they occur, lasting effects on tourism or the industrial sector that translate into weaker fiscal outcomes would be credit negative.

Fiscal Consolidation is Slowing Down but Should Continue, Supported by Above-Average Economic Growth

Strong annual economic growth of 3.4% on average since 2015 has underpinned Madrid’s improving fiscal position. Higher economic growth has led to a pick-up in tax revenues which coupled with expenditure control have enabled Madrid to rapidly reduce its headline deficit from -2.49% in 2011 to -0.24% of regional GDP in 2018. In 2019, regional economic growth of around 2.6% is likely to have remained supportive of the region's fiscal position. DBRS Morningstar currently anticipates Madrid's fiscal position to have stabilised in 2019, with a deficit close to the -0.1% of GDP target, once taking into account the one-off revenue shortfall related to lower VAT receipts for approximately 0.15% of regional GDP.

In 2020, meeting the deficit target, yet to be formally agreed, of -0.2% of GDP will remain challenging, particularly in the context of decelerating economic growth in the region and in Spain. DBRS Morningstar also points out that the region is currently operating under a protracted budget, reflecting the delay in passing the 2020 budget at the national government level. Upon approval of the national budget, expected around the summer, Madrid will likely update its own 2020 budget. Maintaining control over regional expenditure will remain key for DBRS Morningstar's credit analysis.

DBRS Morningstar also considers that Spanish regions’ fiscal consolidation pace is directly affected by the level of taxes redistributed by the national government. As a result, the long overdue revision of the regional financing system appears critical and will be monitored as it is likely to have relevant credit implications for Madrid as well as other Spanish regions

High Debt-to-Revenue Ratio but Risks are Mitigated by Sound Debt Structure

The rapid increase in the region’s debt over the past decade continues to be a negative credit feature for the region. Even if the debt-to-operating revenue ratio has gradually declined since its 2015 level, Madrid’s debt (DBRS Morningstar’s adjusted debt figure) represented 197% of its operating revenues at the end of 2018, a high level in a national and international context. DBRS Morningstar expects Madrid’s debt sustainability position to remain strong going forward given its wide economic base, but debt reduction will remain key for the region to strengthen its credit profile further.

Madrid’s debt structure, on the other hand, is sound, with a smooth amortisation profile, an average debt maturity of 7.67 years at the end of 2019, affordable debt costs at 2.19 % of the debt stock, and continued access to the bond market since the financial crisis. In DBRS Morningstar’s view, bank loans and bond financing, including sustainable bonds, as well as a very limited recourse to the national government’s financing facilities that represent 4% of Madrid’s debt stock as of Q3 2019, underpin the region’s diversified financing sources. On the liquidity side, the central government’s financing facilities are viewed as potential backstop facilities, which reduce Spanish regions’ refinancing risks.

DBRS Morningstar continues to consider that a strengthening of Madrid’s liquidity profile would represent a positive credit development, as it would allow the region to weather potential exogeneous shocks more appropriately. In that context, DBRS Morningstar points out that the region is launching in 2020 a commercial paper programme (programa de pagarés) sized at EUR 500 million and is planning on extending its credit lines, which should broaden its liquidity toolkit. The use of such programme and credit lines as well as the possible change in the region's commercial debt in 2020 will be monitored to assess for any strengthening in Madrid's liquidity profile.

RATING COMMITTEE SUMMARY

The DBRS Morningstar European Sub-Sovereign Scorecard generates a result in the A (high) – A (low) range. The main points discussed during the Rating Committee include: the relationship between the central government and the Autonomous Community of Madrid. The region’s economic performance and the potential impact of the COVID-19, Madrid’s fiscal results, its debt metrics and debt structure were also discussed.

For more information on the Key Indicators used for the Kingdom of Spain, please see the Sovereign Scorecard Indicators and Building Block Assessments: http://www.dbrs.com/research/357700

The national scorecard indicators were used for the sovereign rating. The Kingdom of Spain’s rating was an input to the credit analysis of the Autonomous Community of Madrid.

Notes:

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

The principal methodology is the Rating European Sub-Sovereign Governments, which can be found on the DBRS Morningstar website www.dbrs.com at http://www.dbrs.com/about/methodologies. The principal 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 Community of Madrid, Bank of Spain, Independent Authority for Fiscal Responsibility (AIReF), 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.

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 Financial Institutions and Sovereign Ratings Group
Initial Rating Date: February 1, 2019
Last Rating Date: September 27, 2019

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