OREANDA-NEWS. Fitch Ratings has affirmed the Department of Bouches-du-Rhone's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) at 'AA' with Negative Outlook, and Short-term foreign currency IDR at 'F1+'. The Department's EUR500m medium-term programme has been affirmed at 'AA'.

The affirmation reflects the department's track record of sound operating performance and low indebtedness. The Negative Outlook reflects our expectations that the department's budgetary and debt ratios will deteriorate in the medium term to levels that may not be compatible with the ratings.

KEY RATING DRIVERS

According to Fitch's base case scenario, Bouches-du-Rhone's operating margin should slightly decline to 11.0% in 2019 from a sound 13.3% in 2015. We expect operating revenue to remain flat in 2015-2019 as the growth in tax revenue (1% a year assumption) should be offset by sharp cuts in state transfers in 2016 and 2017 (EUR35m a year, or 1.8% of 2015 operating revenue). Our projections include a prudent assumption of flat proceeds from property transfer duties (representing 14.2% of operating revenue in 2015) as this tax item may evolve erratically.

We estimate that operating expenditure will increase by less than 1.0% a year on average in 2015-2019, compared with 1.6% in our last projections, as the department is implementing EUR35m of cost-cutting measures adopted in the 2016 budget. Budgetary performance will be negatively impacted by the upward revision of civil servants wages (1.2% over 2016-2017) and of Revenu de solidarite active (RSA) allowance (2.0% a year in 2016 and 2017) decided at the national level.

In line with the department's investment programme, we expect capital expenditure to remain at a sustained level in the coming years, slightly above EUR450m on average in 2016-2019 or 18% of total spending, compared with a high EUR491m in 2015 (19.7% of total expenditure). We estimate that the self-financing capacity (before debt repayment) will slightly decrease towards 65% in 2019 (2015: 71.5%), which will lead to an increase in debt.

With EUR639m outstanding at end-2015, the department's level of debt is still moderate at 29% of current revenue, significantly below the average of French departments (around 50%). However, according to our base case scenario, debt could double to EUR1.3bn at end-2019 (around 60% of current revenue). Combined with the expected deterioration in the current balance, this would result in a deterioration of the debt payback ratio close to six years in 2019, from a low 2.3 years in 2015. However, debt service (capital plus interest) should remain well-covered and represent less than 40% of operating balance in the medium term.

Bouches-du-Rhone benefits from strong governance, evidenced by accurate budget planning and debt management. The department's administration, which has been in place since April 2016 has clear financial objectives. These include a reduction in operating spending in 2016, to offset the cuts in state transfers, and the upkeep of sustained capital expenditure in order to boost local economy. The department's management has also committed not to use its tax leeway.

Bouches-du-Rhone's socio-economic indicators are below the national average. The poverty rate was 18.1% in 2012, compared with 14.3% in metropolitan France. The unemployment rate is also above-average (11.9% in 4Q15 vs. 10% for metropolitan France), which translates into higher social expenditure than other departments, in light of the responsibility for social benefits. However, the department's economy is sound, underpinned by high level research centres and good international communication networks. The department's tax base is strong and diverse.

RATING SENSITIVITIES

The Outlook could be revised to Stable if improvements in budgetary performance results in an operating margin at the current level (above 12%) in the medium term associated with a direct debt payback ratio below five years. Further improvement of the local economy giving an additional boost to internally generated revenue would also be positive for the ratings

A deterioration of Bouches-du-Rhone's fiscal performance leading to a debt payback ratio weakening to around six years could result in a downgrade. A downgrade of the sovereign would also be reflected by Bouches-du-Rhone's ratings.

KEY ASSUMPTIONS

Since our last review (11 March 2016), our base case scenario has been revised upward to take into account the cost-cutting measures adopted in the 2016 budget.

Our base case scenario does not factor the transfers of transportation competencies to Metropolis of Aix Marseille Provence (A+/F1/Stable) and region of PACA (AA-/Stable/F1+) in 2017.