Morningstar DBRS Upgrades the Autonomous Community of Madrid to A (high), Changes Trend to Stable

DBRS Ratings GmbH (Morningstar DBRS) upgraded the Autonomous Community of Madrid's (Madrid) Long-Term Issuer Rating to A (high) from "A" and changed the trend to Stable from Positive. At the same time, Morningstar DBRS confirmed Madrid's Short-Term Issuer Rating at R-1 (low) and maintained the trend Stable.

KEY CREDIT RATING CONSIDERATIONS
The upgrade reflects the upgrade of Kingdom of Spain's Long-Term Foreign and Local Currency - Issuer Ratings to A (high) from "A" on 29 November 2024, in addition to Madrid's favorable fiscal outlook and continued improvement in debt affordability. Madrid's strong financial management combined with the return of fiscal rules should allow the region to continue making progress with its declining debt trajectory.

Madrid's credit ratings remain underpinned by (1) the region's large and diversified economy; (2) its strong fiscal results since 2018, which Morningstar DBRS expects to continue; (3) its sound debt structure and consistent access to financial markets; and (4) its strengthened liquidity profile. Despite lower economic growth prospects for 2025, Morningstar DBRS anticipates that the region's strong management will be able to control growth in expenditures and limit debt accumulation.

CREDIT RATING DRIVERS
The credit ratings could be upgraded if the region maintains strong financial fundamentals and the Kingdom of Spain's credit ratings are upgraded. Madrid does not have the constitutional protection to be rated above the sovereign credit rating and its credit ratings are therefore capped by the Kingdom of Spain's credit ratings.

The credit ratings could be downgraded if any or a combination of the following occur: (1) there is a structural reversal in the region's fiscal consolidation, leading operating deficits to widen over time; (2) there is a marked and lasting deterioration in Madrid's debt metrics, including larger and costlier annual maturities and higher leverage; or (3) the Kingdom of Spain's credit ratings are downgraded.

CREDIT RATING RATIONALE

Tailwinds From Regional Financing System Support Madrid's Financial Performance Improvement

Madrid's operating performance already improved in 2023 and is expected to strongly improve in 2024. After a stabilization of the financing deficit around 0.7% of GDP in 2023, the region expects to improve its fiscal performance in 2024 towards a deficit of 0.1% of GDP in 2024. The operating surplus is expected to reach around EUR 500 million or 2.0% of operating revenues from EUR 236 million in 2023 or 1.0% of operating revenues, thanks to higher tax revenues and the positive settlement from the regional financing system.

Morningstar DBRS view positively the improvement in financial performance and considers that Madrid has some budgetary flexibility that could be used against potential fiscal headwinds. This is also the case with the revenues recovered from wealth tax in 2024, this was a tax benefit in previous years, and there are more taxes where the region could activate in case of financing need. Moreover, the Independent Authority for Fiscal Responsibility (AIREF) expects a slight deterioration of financial performance in 2025 to a financing deficit of 0.3% of GDP but in its medium-term projections foresees the region reaching a balanced budget by 2029.

The region's plan to continue its capital investment effort will reinforce the importance of expenditure control in the near term. Most of the EU funds and extraordinary funds from the recovery and resilience fund have already been wound down and will represent a very low percentage of the 2025 budget. Tighter expenditure control will remain a key credit consideration given the lower economic growth context. A weakening of Madrid's financial results, reflecting a decrease in revenues that would not be mitigated by a reduction in or strong control over operating expenditures, therefore prompting a structural deterioration in the region's public finances, would negatively affect Madrid's credit profile.

Madrid's Debt Burden Continues to Decrease Whilst Maintaining a Strong Debt and Liquidity Profile

Madrid increased its debt stock in 2023, due to its own deficit but also due to the increase in the indebtedness of its government-related entities, mainly the public transport entity Metro de Madrid which financed rolling stock. During 2024 the debt stock of the autonomous community continue to grow but the debt of its government-related entities slightly decreased. At end of October 2024, Morningstar DBRS' adjusted debt stock increased to EUR 40.7 billion from EUR 39.7 billion at the end of 2023. However, Madrid's debt ratios improved, with adjusted debt-to-operating revenues expected to decrease to around 150% at year-end 2024 from 169% at the end of 2023. If we exclude the debt metrics seen in 2020 and 2021, which strongly improved thanks to extraordinary revenues from state support, the expected 2024 ratio will be the lowest value over the last ten years.

AIREF expects the debt ratio to decrease to 12.0% of GDP in 2024 and expects this ratio to keep declining over the medium term towards 10% of GDP in 2029. Moreover, Madrid's debt could potentially decrease further in the medium term if the national government keeps its commitment to provide debt relief to the regions.

Madrid's debt is very diversified and the region benefits from consistent access to financial markets. The regional debt structure is very prudent with a large share of debt stock at long-term fixed rates that enhance the average life of debt and smooth the debt repayment calendar, reducing refinancing risk. At the end of October 2024, Madrid's bond issuances represented 56% of its debt stock, or EUR 21.1 billion, and 43% of the total bonds outstanding for all Spanish regions.

Regarding liquidity, Madrid has historically recorded a relatively low cash position, as its liquidity needs are predictable and mainly depend on the calendar of settlements from the regional financing system. Nevertheless, Morningstar DBRS takes the view that Madrid's setup and successful launch of a pagarés (commercial paper) programme in 2020 and the extension of the credit lines available to the region to EUR 1.8 billion, bringing the region's liquidity toolkit to EUR 2.8 billion, have overall strengthened its liquidity profile. Going forward, Morningstar DBRS will continue to monitor the use of those liquidity instruments to assess their impact, if any, on the region's liquidity profile.

High Employment and EU funds Support Madrid's Strong Economic Performance

Madrid's real GDP grew by 7.2% in 2022, better than Spain's growth rate of 5.8%, and AIREF expects Madrid's real GDP to have grown by 3.0% in 2023 and to grow by 3.1% in 2024. At the end of 2023, the services sector was driving growth with contributions from hospitality, transportation, and tourism. Morningstar DBRS expects the regional economy growth to be supported by the region's high employment level and strong tourism performance. The financial resources expected from NGEU, including the RRF and REACT-EU funds, should continue to support reforms and investments. Additionally, Madrid is the largest recipient of foreign investment funds in Spain, with almost 50% of the national total, which should positively influence the regional economy's prospects.

Tourist arrivals at hotels (domestic and foreign) grew by approximately 9% year over year as of October 2024, and cumulative arrivals in 2023 were already 0.2% above 2019 levels. The post-pandemic recovery in tourism has been stronger nationally than in Madrid, but high value-added sectors such as information, technology and the financial sector supported growth. Indeed, by the end of Q3-2024, Madrid recorded an all-time employment level record with around 3.8 million workers, with a vast majority of them working in the service sector showing an increase of 11% in September 2024 in comparison to the start of 2021, after strong annual employment growth of 3.6%. The level of employment has remained elevated during the last two years and could partially explain why the region benefits from the highest GDP per capita in the country, estimated at EUR 42,383 in 2023, or 39% above national average.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
ESG Considerations had a relevant effect on the credit analysis.

Social (S) Factors

The following Social factor had a relevant effect on the credit analysis: Passed-through Social considerations.

The Passed-through Social credit considerations had a relevant effect on the credit ratings, as the social factors affecting the Kingdom of Spain's credit ratings are passed-through to Autonomous Community of Madrid.

There were no Environmental or Governance factors that had a significant or relevant effect on the credit analysis.

Credit rating actions on Kingdom of Spain are likely to have an impact on this credit rating. ESG factors that have a significant or relevant effect on the credit analysis of Autonomous Community of Madrid are discussed separately at https://dbrs.morningstar.com/issuers/15664.

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' European Sub-Sovereign Scorecard generates a result in the AA (low) - "A" range. The main points discussed during the Rating Committee included the fiscal and financial impacts of the upgrade of Kingdom of Spain's rating, the fiscal and debt evolution in 2024, the economic situation in the region and its outlook, and its financial forecasts.

For more information on the Key Indicators used for the Kingdom of Spain, please see the Sovereign Scorecard Indicators and Building Block Assessments: https://dbrs.morningstar.com/research/444000

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

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.

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 these credit ratings include Autonomous Community of Madrid for financial and budgetary position and debt structure from 2016 to 2024, Madrid's Investor Presentation, Bank of Spain for the debt stock during the period between 2016 and 2023, Independent Authority for Fiscal Responsibility (AIREF) for its 2025 Macroeconomic Forecasts for the Autonomous Community of Madrid (October 2024), and for its 2025 Fundamental Budget Lines for Autonomous Community of Madrid (November 2024), Instituto Nacional de Estadistica (INE), Ministry of Finance, General State Comptroller (IGAE), and the 2020 European Social Progress Index from the European Commission. national statistical agency, central bank, Ministry of Finance, IMF, World Bank, Haver Analytics. 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 credit 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 credit 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/444669.

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

Lead Analyst: Jorge Espinosa, Assistant Vice President, Global Sovereign Ratings
Rating Committee Chair: Thomas R. Torgerson, Managing Director, Global Sovereign Ratings
Initial Rating Date: 1 February 2019
Last Rating Date: 14 June 2024

DBRS Ratings GmbH, Sucursal en España
Paseo de la Castellana 81
Plantas 26 & 27 28046 Madrid, Spain
Tel. +34 (91) 903 6500

DBRS Ratings GmbH
Neue Mainzer Straße 75
60311 Frankfurt am Main Deutschland
Tel. +49 (69) 8088 3500
Geschäftsführer: Detlef Scholz
Amtsgericht Frankfurt am Main, HRB 110259

For more information on this credit or on this industry, visit dbrs.morningstar.com.