Fitch Ratings assigned to the city of Yerevan long-term ratings of the issuer's default ("RDE") in foreign and national currency at the B + level with a "stable" forecast.
Ratings reflect the creditworthiness of the city on an independent basis "BB-", which is due to a combination of risk-profile assessment as "vulnerable" and evaluating the resistance to the debt burden "AAA". RDE is limited to the sovereign ratings of Armenia ("B +" / Forecast "Stable").
"Yerevan is the capital of Armenia, the largest city and the economic center of the country. As of 2020, the population of Yerevan was about 1.1 million people. In the economy of the city, the services sector prevails, and welfare indicators are low compared to international comparable issuers. The budget of the city is based on the cash desktop and is drawn up for one year, "the report says.
Key rating factors
Risk-profile: Evaluation "Vulnerable"
This reflects the estimate of the five key risk factors "weaker level" (revenue stability, income adaptability, adaptability of expenses, stability and flexibility of debt obligations and liquidity) and one key risk factor "average level" (predictability of expenses).
The risk-profile risk-profile also takes into account the very high risk of an unexpected weakening of the city's ability to cover its debt service needs during the scenario horizon (2021-2025) or in view of the income collected below expectations, or due to expenses exceeded expectations, or Due to the unforeseen increase in obligations or demand for debt service.
Revenue stability: Evaluation "Weaker Level"
The operational income of Yerevan is mainly formed at the expense of transfers from the central government budget, which averaged 70% in 2016-2020. A small part of transfers is represented by subsidies aimed at improving the budget security of the city, while the majority of transfers are targeted and intended to carry out specific expenditure or delegated powers. Tax revenues on average accounted for 16% of operating income in 2016-2020, and the tax base consists of various types of property taxes.
Although these taxes are economically stable, they have limited growth opportunities, especially in the context of a low level of income per capita, which is lagging behind international comparable issuers. An assessment of the sustainability of Yerevan's revenues, according to the agency, corresponds to a "weak level", since the source of the main part of the income is the sovereign counterparty with the "B +" rating. Prospects for income growth are limited due to weak economic conditions and negative trends associated with the coronavirus pandemic. According to Fitch, Armenian GDP decreased by 6.2% in 2020, and then restored by 3.2% in 2021.
Adaptability of income: Evaluation "Weaker Level"
The flexibility of the city's budget is limited by institutional mechanisms, according to which budget powers are concentrated at the level of the central government. The latter has a monopoly right to set tax rates or introduce new taxes. In addition to revenues from property taxes, Yerevan also collects various duties and fees, some of which can be adjusted by the city. The share of fees and duties was 12% of all income in 2020, and some of them are already set at the maximum level. This means that the potential increase in income would cover less than 50% of the reasonably expected decline in income, which indicates the limited flexibility of the city in the event of a negative development of events in the economy.
Predictability of expenses: Evaluation "Middle Level"
Yerevan carries out suspended cost control, as a result of which the cost of expenses correlated closely with the dynamics of income. The obligations of the city are relatively stable during the economic cycle. The largest expenditure article is the formation for which 42% of all expenses accounted for in 2019. Further followed the utilities sector, which accounted for 22% of expenses. Most expenses are funded by transfer from the budget of the central government, which makes the budget policy of the city dependent on its decisions.
Adaptability of expenses: Evaluation "Weaker Level"
Fitch evaluates the adaptability of Yerevan's expenses as low. The main part of the consumables of the city is mandatory, and inflexible expenditure articles are dominated in the cost structure. As a result, the main part of the costs can be difficult to reduce in the event of a potential reduction in income. The share of capital expenditures is low, on average at 9% of all expenses in 2016-2020, which does not provide additional flow flexibility. Significant infrastructure needs will not allow the city to further reduce capital expenditures.
Stability of debt obligations and liquidity: Evaluation "Weaker Level"
The development of the capital market in Armenia is at the initial stage, and the city has no real debt management practices, since at the beginning of 2021 he maintained a wonderful status. National legislation establishes strict restrictions on debt policies and does not allow you to attract a new debt until existing debt will be fully repaid. At the same time, it is allowed to attract debt in foreign currency. The ability of the city to manage a debt can be in a short time verified in practice if it will use funding attracted from an international financial organization. The conditional risk is limited by the moderate duty of the municipal sector companies, since the city does not provide any guarantees.
Flexibility of debt obligations and liquidity: Evaluation "Weaker Level"
The largest source of liquidity in the city is a battery reserve. The total liquidity volume is not limited to use, and the city may first use it to finance operating expenses, and the rest may be directed to financing capital expenditures. Yerevan keeps funds on treasury accounts, since the placement of funds on deposits in commercial banks is prohibited by national legislation. For additional liquidity, the city may involve loans from the Central Treasury. Since only limited liquidity forms are available and the potential risk of counterparty is limited to the level of "B +", our assessment of this factor is "weaker level".
Debt resistance: AAA category
In its rating scenario, Fitch proceeds from the fact that the city that currently has no debt will begin to attract borrowing already in 2021. At the same time, the debt level will remain moderate, and this will not lead to a serious deterioration in debt stability indicators in 2021-2025 Fitch expects the security of the operational balance of the city - the main indicator for assessing the debt stability for subnational formations of type B - will remain strong, less than 5x, which corresponds to the assessment of AAA. Strong secondary indicators also reinforce this rating.
The actual duty service coverage rate (operating balance to debt service, including repayment of short-term debt) will remain above 4x for all years as part of the rating scenario. The indicator of the fiscal debt load, which will gradually grow for 2021-2025. Regarding the current zero level, it will remain moderate, less than 50% during the rating horizon. Assessment of all three indicators "Strong level" causes a final assessment of resistance to the debt burden "AAA" by the city.
Brief justification
According to the classification of the Agency, Yerevan refers to subnational formations of the type in which it is necessary to cover the debt service at the expense of cash flows on an annual basis. Fitch assesses the creditworthiness of Yerevan on an independent basis as an appropriate level "BB-", which reflects the combination of risk profile "Vulnerable" and debt stability indicators in the AAA category as part of the Agency's rating scenario. The creditworthiness of the city on an independent basis "BB-" also reflects its position relative to comparable issuers. The asymmetric risk or factor of emergency support from the central government does not affect the RDE, but they are still constrained by the sovereign RDE of Armenia at the level of "B +".