Morningstar DBRS Confirms the City of Lyon at AA (high), Stable Trend

DBRS Ratings GmbH (Morningstar DBRS) confirmed the City of Lyon's Long-Term Issuer Rating at AA (high) and its Short-Term Issuer Rating at R-1 (high). At the same time, Morningstar DBRS confirmed the City of Lyon's AA (high) Rating of the EUR 500 million Euro Medium Term Note Programme (EMTN Programme) and its R-1 (high) Rating of the EUR 150 million Negotiable European Commercial Paper Programme (NEU CP Programme). The trend on all ratings remains Stable.

KEY CREDIT RATING CONSIDERATIONS
Lyon's credit ratings are underpinned by (1) the city's good financial performance and very moderate debt level; (2) the quality of its governance and fiscal management, which offers a high degree of financial transparency and is marked by a continuous strengthening of its budget control and the implementation of innovative budgeting tools; (3) a sound, diversified and efficient debt structure and a comfortable liquidity situation; and (4) a diversified and growing economy which constitutes the second major economic hub of France. Morningstar DBRS also includes in its analysis the exceptional support from the Republic of France (rated AA (high), Stable) that French sub-sovereign governments have benefited from in the past. In particular, through the exceptional financing envelopes set up by Caisse des Dépôts from November 2008, when market conditions were unfavourable.

The Stable Trend reflects Morningstar DBRS' view that risks to the credit ratings are balanced. The city's clear financial strategy and fiscal flexibility should enable it to implement its EUR 1.312 billion Multi-Year Investment Plan ("Investment Plan"), while maintaining a favourable budgetary profile and a moderate debt level. This is despite the impact of inflation on its operating expenditure in recent years, the decrease of the property transfer tax, due to the price and volume correction of the real estate market, and the potential contribution of French sub-sovereign governments to the national budgetary consolidation efforts.

CREDIT RATING DRIVERS
The long-term credit rating could be upgraded if the Republic of France's credit ratings were upgraded.

The credit ratings could be downgraded if one or a combination of the following occur: (1) the Republic of France's credit ratings were downgraded; (2) a deterioration in the budgetary performance of the city, leading to a rapid and significant increase in the debt level.

CREDIT RATING RATIONALE
Lyon Benefits from Its Good Governance and Fiscal Management as well as its High Budgetary Flexibility

The strategic objectives of the City of Lyon in terms of public policies have been clearly defined in the 2020-2026 Mandate Plan, with the ecological transition as the common thread of all policies. The implementation of this Mandate Plan was based on a EUR 1.25 billion Investment Plan, adjusted to EUR 1.312 billion in March 2024. The financial framework of the mandate was validated by the Executive in September 2020 and was based on: (1) a target of achieving EUR 800 million of incurred expenditure related to the Investment Plan over the period 2021-2026; (2) a maximum allowed average annual growth of 2% for operating expenditure, of which 3% annually on average for staff expenditure. The target concerning the evolution of operating expenses is revised upwards because of the budgetary effects of the cost of energy and the increase in staff costs related to the central government decisions on compensations as well as the city's own decisions as part of its policy of human resources attractiveness and recruitment. Nevertheless, debt targets remain unchanged with a debt-to-operating surplus of less than 10x in 2026. Morningstar DBRS takes the view that the city should be able to meet this financial goal.

The city's governance and fiscal management are good. Lyon has set up close surveillance of the execution of its Investment Plan, with dedicated monitoring committees and comprehensive annual project reviews, operation-by-operation. The city has prudent and detailed long-term financial forecasts, which are updated at least twice a year. The city also benefits from tools allowing it to ensure close and continuous monitoring of financial execution throughout the year, with regular reporting at the level of the Executive and the Head of Administration. The city is strengthening in an innovative manner its budgetary tools in order to benefit from budget control based on a public policy approach and implements a medium-term budget plan, especially regarding operating expenditure. The latter reinforces the link between annual budgets and long-term financial forecasts.

The city's fiscal room for manoeuvre remains high and available to mitigate the potential impacts of external shocks on the sustainability of its financial trajectory. This is despite the abolition of the housing tax on principal residences as decided by the State. The property tax is the main revenue leeway and accounts for 57% of Lyon's operating revenues in its 2024 budget. It comprises a resilient tax base, relatively immune to the economic cycle. Moreover, despite a 9% increase of the tax rate in 2023, the city's property tax rate of 31.89% is significantly lower than the national average for municipalities (39.42% in 2023). In addition, the city also has room for manoeuvre on fees.

Lyon's Budgetary Performance is Strong and Its Debt Level Very Moderate

The city's budgetary performance is good and it has been relatively resilient despite multiple headwinds such as the COVID-19 pandemic, the energy shock and the context of high inflation. The operating surplus-to-operating revenues ratio continued to improve in 2023 and stood at 15.5% versus 14.5% on average during 2018-2022, which was already a favourable level. The city's energy purchasing strategy has enabled it to mitigate the fiscal impact of rising energy prices for gas in 2022 and 2023. Morningstar DBRS takes the view that Lyon should be able to maintain an operating surplus-to-operating revenues ratio above 9% up to 2026, despite lower property transfer tax revenues which decreased by 23.3% in 2023 and could decline again by 20% in 2024. However, the city's fiscal trajectory could also be impacted by the potential contribution of French sub-sovereign governments to the national budgetary consolidation efforts.

In the last five years, the city has generated an average annual financing surplus of 2.5% of its operating revenues, with capital expenditure amounting to EUR 111.5 million per year on average. The gradual implementation of the Investment Plan with incurred capital expenditure, expected to reach at least EUR 150 million annually on average by 2026, will likely lead the city to record financing deficits in the coming years.

Since 2017 and again in 2023, Lyon has been able to continuously reduce its debt stock and to improve its debt ratios, except in 2020 because of the COVID-19 pandemic. At the end of 2023, Lyon's adjusted debt-to-operating revenues and debt-to-operating surplus ratios were very favourable, standing at 40.6% and 2.7x respectively. These ratios are expected to deteriorate moderately over the next few years with the implementation of the Investment Plan but the adjusted debt-to-operating revenues and debt-to-operating surplus ratios will likely remain at favourable levels, respectively below 60% and 7x by 2026.

Lyon Enjoys Efficient Debt Management and a Comfortable Liquidity Situation

The city's debt structure is plain vanilla and efficient. Its exposure to the rise in interest rates is limited - as of June 30, 2024, 81.2% of the debt was fixed rate, after hedging. The average debt interest rate is low at 1.6%. The city's diversified and optimized debt management allows it to contain its net interest expenses at a very low level, accounting for less than 0.6% of operating revenues over the last 3 years and likely to remain below 1.5% of operating revenues by 2026. The city has continued to diversify its debt instruments in 2022 by issuing its first green and sustainable bonds.

The city's liquidity management is prudent and diversified. The cash position of Lyon is comfortable with an average cash balance of close to EUR 90 million in 2024. In addition, the city has one liquidity line for an amount of EUR 20 million and a commercial paper "NEU CP" program of EUR 150 million. Due to the city's excess cash position, available liquidity instruments have not been used since 2022. Nevertheless, Morningstar DBRS notes that Lyon has in the past been able to use its NEU CP program with favorable financial terms, at times even benefiting from negative interest rates. Morningstar DBRS takes the view that the City of Lyon will have, at any time, sufficient liquidity available (cash and/or liquidity lines) to cover its CP program outstanding amounts.

The city's internal procedures for monitoring contingent liabilities are effective. Lyon is the majority shareholder of two social and affordable housing providers, Société Anonyme de Construction de la Ville de Lyon (SACVL) and Société Anonyme d'Habitations à Loyer Modéré pour l'Action Sociale (SAHLMAS). Morningstar DBRS considers that SACVL and SAHLMAS had respectively a solid and satisfactory financial profile as of end-2023.

Lyon is the Second Major Economic Hub of France

With a population of 522,250 inhabitants in 2021, Lyon is the third municipality in France in terms of population. It is the city-centre of the Metropolis of Lyon which includes 59 municipalities and is the second economic hub of France after the Paris metropolitan area. The City of Lyon accounts for 37% of the inhabitants of the Metropolis of Lyon but includes 45% of its employees. Lyon's population is comparatively wealthier than the national average and benefits from an unemployment rate that is structurally slightly lower.

Lyon's economy is diversified, although mainly focused on business services and services to individuals. While industry now accounts for only 7% of jobs in Lyon, it stands out for its dynamism, particularly in the fields of health and life sciences. In the field of health, the construction underway of the World Health Organization's academy, which could gather 16,000 students, should strengthen Lyon's position as a global health hub.

Morningstar DBRS takes the view that Lyon's economy will continue to grow at a pace close to the French economy as a whole, while showing a slightly stronger resilience to potential external shocks than the national average, as was the case when the economic impacts of the Covid-19 pandemic were most significant, in 2020.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS

There were no Environmental/Social/Governance factor(s) that had a significant or relevant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings (13 August 2024) https://dbrs.morningstar.com/research/437781

RATING COMMITTEE SUMMARY
Morningstar DBRS's European Sub-Sovereign Scorecard generates a result in the AAA - AA range. The main points discussed during the Rating Committee include the city's financial performance and debt metrics in 2023, its 2024 budget execution, its financial forecasts, its debt and liquidity profile, the institutional and financial relationship with the central government.

For more information on the Key Indicators used for the Republic of France, please see the Sovereign Scorecard Indicators and Building Block Assessments:
https://dbrs.morningstar.com/research/439775/france-republic-of-scorecard-indicators-and-building-block-assessments

The national scorecard indicators were used for the sovereign rating. The Republic of France's rating was an input to the credit analysis of the City of Lyon.

Notes:
All figures are in Euros unless otherwise noted.

The principal methodology is the Rating European Sub-Sovereign Governments (09 August 2024) https://dbrs.morningstar.com/research/437618. In addition Morningstar DBRS uses the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings https://dbrs.morningstar.com/research/437781 in its consideration of ESG factors and Morningstar DBRS Global Corporate Criteria (15 April 2024) https://dbrs.morningstar.com/research/431186 in its consideration of commercial paper liquidity backup.

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

The sources of information used for this credit rating include the City of Lyon for 2018-2023 financial statements, 2021-2024 budgets, 2020-2026 Mandate Plan, financial forecasts, multi-year investment plan, debt and liquidity situation, Euro Medium Term Note Programme Prospectus, Negotiable European Commercial Paper Information Memorandum, city-owned entities accounts for 2023, municipal information report on major risks (DICRIM), Observatory of Local Finance and Public Management (OFGL), National Institute of Statistics and Economic Studies (INSEE), EUROSTAT, Urban Planning Agency of the Lyon Metropolitan Area (UrbaLyon), Minister of Economy, Finance and Industrial and Digital Sovereignty. Morningstar DBRS considers the information available to it for the purposes of providing these credit ratings to be of satisfactory quality.

Morningstar DBRS 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.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS' outlooks and ratings are under regular surveillance.

For further information on Morningstar DBRS historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://registers.esma.europa.eu/cerep-publication. For further information on Morningstar DBRS historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

The sensitivity analysis of the relevant key credit rating assumptions can be found at: https://www.dbrsmorningstar.com/research/440121.

These credit ratings are endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: Mehdi Fadli, Senior Vice President, Sector Lead, Global Sovereign Ratings
Rating Committee Chair: Nichola James, Managing Director, Global Sovereign Ratings
Initial Rating Date: October 07, 2022
Last Rating Date: March 29, 2024

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