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Research Update: Marlborough District Council Outlook Revised To Negative On Rising Projected Debt Burden; 'AA+/A-1+' Ratings Affirmed

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Research Update: Marlborough District Council Outlook Revised To Negative On Rising Projected Debt Burden; 'AA+/A-1+' Ratings Affirmed

Overview

  • Marlborough's group debt burden will rise, and its after-capital-account deficits widen, as it delivers a larger infrastructure program at both council and subsidiary level.
  • We are consequently revising our outlook on Marlborough to negative from stable and affirming our 'AA+/A-1+' issuer credit ratings.
  • Marlborough's strong management and New Zealand's excellent institutional settings continue to support the ratings.
  • The weakening budgetary metrics are partly counterbalanced by the performance of a local economy that has proven resilient through the COVID-19 downturn.

Rating Action

On Nov. 30, 2021, S&P Global Ratings revised the outlook on its long-term ratings on Marlborough District Council, a New Zealand local government, to negative from stable. At the same time, we affirmed our 'AA+' long-term and 'A-1+' short-term issuer credit ratings on Marlborough.

Outlook

The negative outlook reflects our view that the council's rising debt burden could weaken its credit metrics.

Downside scenario

We could lower our ratings on Marlborough within the next two years if large after-capital-account deficits result in its total tax-supported debt rising beyond our forecasts, or debt-service coverage weakens.

We would also lower our ratings on Marlborough if we were to take similar action on the New Zealand sovereign.

Upside scenario

We could revise our outlook on Marlborough to stable within the next two years if its budgetary performance, debt trajectory, or debt-service coverage were to exceed our base-case expectations.

Rationale

The outlook revision reflects our view that Marlborough's rising group debt burden could weaken its credit metrics. We have updated and extended our forecasts for Marlborough through fiscal 2024 (ending June 30, 2024) following the release of its triennial 10-year long-term plan in June 2021 and recent information on other major initiatives, such as the proposed Waitohi-Picton Ferry Precinct redevelopment project. We expect Marlborough to post wider after-capital-account deficits during the next few years as capital expenditure (capex) at the council and subsidiary levels grows.

Our 'AA+/A-1+' ratings on Marlborough remain underpinned by its robust financial management and the country's excellent institutional settings. New Zealand has been relatively successful in containing the local spread of the coronavirus to date, allowing most parts of its economy to rebound strongly.

Our base case excludes the potential effect of the Crown government's proposed "three waters" reforms. The reform program, as currently envisaged, could see responsibility for drinking water, wastewater, and stormwater assets taken away from councils and amalgamated into four new regional water service entities from mid-2024. The reforms are still under development.

Capex, including at Port Marlborough, to drive borrowing higher; access to New Zealand Local Government Funding Agency enhances liquidity

We expect Marlborough to post moderate after-capital-account deficits during the next two years after a recent stretch of surpluses. The recent 2021-2031 long-term plan budgets for annual capex at the core council level of about NZ$69 million to NZ$79 million during the next three years, a material step-up from the NZ$31 million delivered in fiscal 2020. Average property rates will increase by a slightly larger-than-usual 5.1%-6.4% per year, excluding the effect of growth in the ratepayer base, over the same timeframe. Like many of its domestic peers, the direct financial effect of COVID-19 restrictions has been marginal.

We see capital investment rising at the subsidiary level, too. The largest project on the horizon is the Waitohi-Picton Ferry Precinct redevelopment, which will drive the group deficit to exceed 20% in fiscal 2024. The project is a partnership between KiwiRail, Waka Kotahi NZ Transport Agency, Port Marlborough New Zealand Ltd. (PMNZ), and the council. We understand that PMNZ will contribute to the project by borrowing via the council. Construction will occur over fiscal years 2024 and 2025. Once complete, the upgraded Picton Harbor will support two new, enlarged Interislander ferries that connect New Zealand's north and south islands. PMNZ will earn a commercial rate of return on its investment, and the project may support long-run economic prospects as the new ferries should boast significantly larger passenger and rail freight capacity.

The council owns 100% of Marlborough District Council Holdings Ltd. (MDCHL), which in turn is the sole owner of PMNZ and Marlborough Airport Ltd. The council also provides NZ$70 million of uncalled capital to MDCHL. Our financial metrics incorporate all the group's revenues and expenses, and our debt metrics include all its debt, including funds that are borrowed by the council and advanced to MDCHL and its subsidiaries.

Operating surpluses are likely to remain strong, averaging about 22% of operating revenues during fiscal years 2020 to 2024. We believe that Marlborough has a high degree of short-run fiscal flexibility compared with domestic and international peers. Its largest single source of revenue is property rates, which can be readily adjusted from year to year and are relatively stable through economic cycles. Unlike international peers, New Zealand councils generally receive little by way of intergovernmental transfers. Marlborough's ability to delay or reschedule nonessential capital spending is further evidence of its flexibility. In New Zealand, most health and social welfare responsibilities fall on the Crown government (i.e., the New Zealand sovereign) rather than on councils.

To finance its group capital investment program, we forecast that Marlborough's tax-supported debt burden, as a proportion of operating revenues, will rise to 112% by the end of fiscal 2024, up from 68% at the end of fiscal 2020. This debt ratio remains among the lowest of all rated New Zealand councils and has historically been a key credit strength. Marlborough's group borrowings at the end of fiscal 2021 stood at NZ$109 million, just 3x its annual cash operating surplus.

If the "three waters" reforms proceed, it is possible that Marlborough will offload a significant proportion of its debt (and related water assets and revenues) to one of the proposed water service entities. This could improve its group debt burden. It isn't yet clear if the reforms will be enacted in their current form, or when they may take effect. The reform program faces hurdles in the form of resistance from many council sector representatives and the national opposition party.

Marlborough's liquidity is midrange. We estimate that total free cash--inclusive of term deposits, discounted financial assets, and access to a NZ$20 million undrawn standby facility with Westpac--is sufficient to cover about 88% of debt maturities and interest payments during the next 12 months. This ratio is likely to drop below 80% as the after-capital-account deficit widens. We expect Marlborough's debt-servicing needs to include NZ$10 million of term debt maturing in April 2022; NZ$30.2 million in short-dated commercial paper, which is regularly rolled over; and about NZ$4 million in annual interest expenses.

In addition to its internal liquidity, we consider that the New Zealand Local Government Funding Agency (LGFA) provides Marlborough with strong access to a well-established source of external liquidity. In our view, LGFA benefits from an extremely high likelihood of extraordinary central government support, and it has helped councils to both lengthen their maturity profiles and reduce borrowing costs.

Marlborough's quantifiable contingent liabilities are small. Although the council lies within the highest earthquake risk zone in New Zealand, its insurance coverage is adequate. Most above-ground assets are insured commercially, and underground assets are insured through a cost-sharing arrangement between the Local Authority Protection Programme and the Crown. Marlborough is one of 65 local authorities that are joint-and-several guarantors of LGFA's borrowings. We consider the likelihood of this guarantee being activated to be remote.

Strongly performing economy, robust financial management, and New Zealand's excellent institutional framework support Marlborough's creditworthiness

Marlborough, like most of New Zealand, emerged from a brief lockdown in August 2021. Since mid-2020, New Zealand has been relatively successful in suppressing the coronavirus across most parts of the country, allowing its economy to rebound strongly. We recently revised up our GDP growth projections for New Zealand to 5.4% for calendar 2021 (see "Economic Outlook Asia-Pacific Q4 2021: Growth Slows On COVID-19 And Rising China Uncertainty," published Sept. 27, 2021). In October 2021, the Reserve Bank of New Zealand lifted its policy rate for the first time in seven years, signaling the start of a tightening cycle.

We expect Marlborough's local economy to continue to perform soundly. Local real GDP grew an estimated 4.5% in the year to September 2021. District GDP per capita is a little higher than the national average of US$46,200. Marlborough produces about 80% of New Zealand's total wine output and has relative strengths in agriculture, viticulture, and associated manufacturing industries. Its population was about 50,200 in 2020. The district has the highest proportion of elderly people in New Zealand, with about 23% of the local population aged over 65. These demographics could pressure the council's ability to raise revenues over the longer term.

Marlborough's fiscal processes are credible and well established, with the council preparing 10-year long-term plans every three years, annual plans in the intervening years, and audited annual reports, in line with New Zealand requirements. The council's treasury management policies set prudent limits on external borrowing and interest rate risk, and all borrowing is in local currency. Like all New Zealand councils, Marlborough is governed by an elected group of councilors, led by a mayor. The councilors delegate day-to-day management to a full-time chief executive. The next triennial elections are scheduled for October 2022.

The institutional framework within which New Zealand local governments operate is a key factor supporting Marlborough's credit profile. We believe this framework to be one of the strongest and most predictable globally. It promotes a robust management culture, fiscal discipline, and high levels of transparency and disclosure.

Key Statistics

Table 1

Key Statistics
--Year ended June 30--
(mil. NZ$) 2020 2021 2022bc 2023bc 2024bc
Selected Indicators
Operating revenues 147 155 158 172 177
Operating expenditures 117 119 126 133 133
Operating balance 31 37 32 39 45
Operating balance (% of operating revenues) 20.8 23.6 20.2 22.5 25.1
Capital revenues 7 24 31 16 10
Capital expenditures 34 64 79 75 108
Balance after capital accounts 4 (3) (16) (21) (53)
Balance after capital accounts (% of total revenues) 2.6 (1.7) (8.6) (11.3) (28.4)
Debt repaid 1 8 21 18 16
Gross borrowings 2 15 37 39 69
Balance after borrowings 5 4 0 0 0
Tax-supported debt (outstanding at year-end) 101 109 125 146 199
Tax-supported debt (% of consolidated operating revenues) 68.4 70.1 78.9 85.1 112.4
Interest (% of operating revenues) 2.6 2.3 2.6 2.8 3.7
National GDP per capita (single units) 62,711 66,472 69,155 72,556 75,518
The data and ratios above result in part from S&P Global Ratings' own calculations, drawing on national as well as international sources, reflecting S&P Global Ratings' independent view on the timeliness, coverage, accuracy, credibility, and usability of available information. The main sources are the financial statements and budgets, as provided by the issuer. bc--Base case reflects S&P Global Ratings' expectations of the most likely scenario. N/A--Not applicable. N.A.--Not available. N.M.--Not meaningful.

Ratings Score Snapshot

Table 2

Rating Score Snapshot
Key Rating Factors
Institutional framework 1
Economy 2
Financial management 1
Budgetary performance 3
Liquidity 3
Debt burden 2
Standalone credit profile aa+
Issuer credit rating AA+
Note: S&P Global Ratings bases its ratings on non-U.S. local and regional governments (LRGs) on the six main rating factors in this table. In the "Methodology For Rating Local And Regional Governments Outside Of The U.S.," published on July 15, 2019, we explain the steps we follow to derive the global scale foreign currency rating on each LRG. The institutional framework is assessed on a six-point scale: 1 is the strongest and 6 the weakest score. Our assessments of economy, financial management, budgetary performance, liquidity, and debt burden are on a five-point scale, with 1 being the strongest score and 5 the weakest.

Key Sovereign Statistics

Sovereign Risk Indicators. An interactive version is available at http://www.spratings.com/sri.

Related Criteria

Related Research

  • Local And Regional Governments Outlook 2022: Long-Term Challenges Resurface As The Pandemic Eases, Nov. 18, 2021
  • Institutional Framework Assessments For International Local And Regional Governments, Nov. 4, 2021
  • Global Ratings List: International Public Finance Entities 2021, Oct. 13, 2021
  • Economic Outlook Asia-Pacific Q4 2021: Growth Slows On COVID-19 And Rising China Uncertainty, Sept. 27, 2021
  • Default, Transition, and Recovery: 2020 Annual International Public Finance Default And Rating Transition Study, Sept. 15, 2021
  • Comparative Statistics: Asia-Pacific Local And Regional Government Risk Indicators, Sept. 1, 2021
  • Non-U.S. Local Governments: To What Extent Did Sovereign Support Offset The Pandemic Downdraft? July 19, 2021
  • Local And Regional Governments Midyear Outlook 2021: Sovereign Support And Market Access Anchor Credit Quality, July 15, 2021
  • New Zealand Councils' Infrastructure Spending Could Erode Rating Headroom, April 12, 2021
  • Local Government Debt 2021: Infrastructure Needs Will Boost Borrowing In Developed Markets, March 25, 2021
  • Local Government Debt 2021: Global Borrowing To Hit $2.25 Trillion, March 25, 2021
  • Public Finance System Overview: New Zealand's Institutional Framework For Local And Regional Governments, Oct. 28, 2020
  • Ratings History List: Asia-Pacific Local And Regional Government Ratings Since 1975, May 29, 2020

In accordance with our relevant policies and procedures, the Rating Committee was composed of analysts that are qualified to vote in the committee, with sufficient experience to convey the appropriate level of knowledge and understanding of the methodology applicable (see 'Related Criteria And Research'). At the onset of the committee, the chair confirmed that the information provided to the Rating Committee by the primary analyst had been distributed in a timely manner and was sufficient for Committee members to make an informed decision.

After the primary analyst gave opening remarks and explained the recommendation, the Committee discussed key rating factors and critical issues in accordance with the relevant criteria. Qualitative and quantitative risk factors were considered and discussed, looking at track-record and forecasts.

The committee's assessment of the key rating factors is reflected in the Ratings Score Snapshot above.

The chair ensured every voting member was given the opportunity to articulate his/her opinion. The chair or designee reviewed the draft report to ensure consistency with the Committee decision. The views and the decision of the rating committee are summarized in the above rationale and outlook. The weighting of all rating factors is described in the methodology used in this rating action (see 'Related Criteria And Research').

Ratings List

Ratings Affirmed; Outlook Action
To From

Marlborough District Council

Issuer Credit Rating AA+/Negative/A-1+ AA+/Stable/A-1+

Certain terms used in this report, particularly certain adjectives used to express our view on rating relevant factors, have specific meanings ascribed to them in our criteria, and should therefore be read in conjunction with such criteria. Please see Ratings Criteria at www.standardandpoors.com for further information. Complete ratings information is available to subscribers of RatingsDirect at www.capitaliq.com. All ratings affected by this rating action can be found on S&P Global Ratings' public website at www.standardandpoors.com. Use the Ratings search box located in the left column.

Primary Credit Analyst:Martin J Foo, Melbourne + 61 3 9631 2016;
martin.foo@spglobal.com
Secondary Contact:Sharad Jain, Melbourne + 61 3 9631 2077;
sharad.jain@spglobal.com

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