Home Methodology General methodology Methodology to assess Municipal entities
Methodology to assess Municipal entities
Thursday, 30 May 2019

1. Scope

The methodology explains our global approach describing the key factors considered by ERA determining the creditworthiness of regional municipal subjects (hereinafter, sub-sovereigns). Sub-sovereigns include all types of municipal subjects (region, province, county, municipality or other sub-governmental unit) founded by sovereign governments, municipal enterprises excluded.

Sub-sovereigns are generally responsible for delivering public services, developing infrastructure and other public property, which is supported mainly by taxation, fees or transfers from other governments or entities. This Methodology shall be applied to those entities that posses the legislative power to have the right and ability to form and implement its own budget.

To observe all entrusted duties and continue with own development, the sub-sovereigns shall keep its budget either balanced or surplused. The main resources covering operational needs include local taxes and fees or transfers from higher-tier authorities. Development activities are usually covered by own surpluses, bank loans or other financial instruments (bonds) or by governmental transfers or grants.       

This Methodology shall be applied on an ongoing basis unless the new version is approved.

Credit ratings assigned under this Methodology are subject to revision in accordance with the requirements of EU regulation on CRAs and ERA internal documents.

To keep the Methodology up-to-date, ERA shall review and amend the Methodology in the following cases:

  • The Methodology Reviewer determines that the Methodology is to be revised, based on its application monitoring;
  • Any non-compliance with the Law is found.

ERA shall review this Methodology in accordance with its internal regulations but not later than one calendar year from the last review date. Following such review, the Methodology may be amended or not.

If an error is found in the Methodology that affects or may affect any credit rating and/or credit rating outlook, ERA shall review the Methodology in accordance with the procedures established by the Agency. A relevant notice and a new version of the Methodology shall be filed with ESMA in the manner established by ESMA.

If any error found in the Methodology affects any credit rating assigned previously, ERA shall disclose such information on its official website.

In case any rating factor and/or the Methodology is amended, the Agency shall, within six months, conduct a prospective and retrospective analysis to determine whether any credit rating is to be upgraded/downgraded. If it is necessary to hold a meeting of the Rating Committee and then change a credit rating, the Agency shall disclose that the credit rating is revised due to amendments introduced in the Methodology.

If any amendments expected to be introduced in this Methodology are significant (for example, affecting certain rating factors and the Methodology wording) and affect or may affect any credit ratings assigned, ERA shall:

  1. Notify ESMA accordingly and post the amendments on its official website, indicating the causes and consequences of such amendments, including those relating to credit ratings assigned earlier in accordance with this Methodology;
  2. Within six months from the amendment date, review all credit ratings assigned earlier in accordance with this Methodology to determine whether any such rating is to be revised;
  3. In case any credit rating is required to be revised in accordance with par. 2 above, revise such rating within six months from the amendment date.

 

2. Rating-relevant Information Sources

In its rating analyses, ERA relies upon information obtained from both the rated entity and relevant external sources. Below are the main sources of information used by ERA in its rating analyses under this Methodology:

  1. Information provided by a sub-sovereign:
  • Sub-sovereign´s budget execution reports and financial statements (including auditor’s report and notes to the financial statements) for the last three fiscal years;
  • Sub-sovereign´s adopted budget for the current period with its approved amendments;
  • Sub-sovereign´s budget forecast for the following year (+ next 2 years);
  • Sub-sovereign´s debt repayment schedule as of the latest available date;
  • ERA questionnaire;
  • Documents concerning certain issues of sub-sovereign´s securities (bonds) or other obligations, if any;
  • Sub-sovereign´s development/investment plan, including financial forecast;
  • Internal corporate governance and risk management regulations;
  • Data obtained during rating meetings with sub-sovereign´s representatives.
  1. Information from public domain:
  • State statistics;
  • Mass media reports;
  • Other information relevant, in ERA’s opinion, to rating analysis.
  1. ERA’s own data:
  • Rating analyses conducted earlier by ERA;
  • Aggregated financial and operating indicators of other rated entities, with relevant analytical adjustments;
  • ERA’s macroeconomic and industry forecasts.

The above list is not exhaustive.

 

3. Definition of Default

ERA identifies two types of default ratings for sub-sovereign:

  • SD (selective default) indicates that the rated entity is in default on one or more of its financial obligations. ERA has reasons to believe that the obligor will continue to service its other financial obligations in a timely fashion and in full amount.
  • D indicates that the rated entity is in default on most if not all of its financial obligations.

Default is defined by ERA as the rated entity’s current and/or future inability to service its financial obligations that are based on one of the following events or their combination:

  1. failure to make payment of principal and/or interest under the contractual terms to extent that ERA considers critical for keeping the business ongoing (with the exception of missed payments that fall within the contract-stipulated grace period);
  2. coming into effect of an acceleration of an obligation as a consequence of a required acceleration and/or due to a declared default on any other similar obligation(s) (cross-acceleration/cross-default);
  3. waiver or moratorium, which prompts the counterparty to refuse payment or dispute its legal obligations;
  4. entering into any regulated administration under supervision of a superior authority or legal receivership, restructuring, entering into bankruptcy filings, liquidation or other winding-up or cessation of the business;
  5. distressed exchange of an obligation, where the obligor offers the creditor a new restructured debt, and/or securities, and/or other assets with diminished value relative to the original obligation and/or the exchange may have the effect of allowing the obligor to avoid a probable payment default.

As the debt restructuring with losses of creditors or distressed exchange are those of default definition, ERA doesn´t consider defaults on non-market loans as defaults in only case of such debt restructuring or distressed exchange, when the loan is provided from higher-tier government to lower-tier government.

Credit risk in the context of sub-sovereign rated entities relates to both the ability and the willingness to repay its financial liabilities.

 

4. Framework

In assigning credit rating to a sub-sovereign, ERA considers both, the sub-sovereigns’s Baseline Assessment (BA) and Complementary Assessment (CA) indicating the degree of support from sovereign or higher-tier government.

Baseline Assessment is based on conducting an analysis assuming and confirming the ability and willingness of rated entity to ensure timely servicing and repayment of its financial liabilities. The analysis includes evaluation of institutional framework considering institutional stability, budget performance and predictability, quality of financial management and governance, influence of regional political environment and the willingness and ability of the rated entity to demonstrate its transparency. Together with institutional factors, key financial factors as debt profile, liquidity, budget performance and regional economy indicators are to be evaluated in the second part of baseline assessment.

Complementary Assessment enables the Agency to use an additional component of assessment, where an extraordinary support of higher-tier government or sovereign is evaluated. In qualitative assessment of extraordinary support, two aspects come into consideration: governance and higher-tier autohority subvention and in quantitative assessment of extraordinary support, budgetary federalism is assessed. The final rating assessment then encompasses the supporting government´s rating and the assessment of an extraordinary government support.

In assigning the final credit rating to a sub-sovereign, ERA´s rating analysis includes:

A. Baseline Assessment

1) Institutional Profile

  • Governance and Fiscal Flexibility
  • Budgetary and Management Performance
  • Regional Political Environment
  • Transparency

2) Financial Profile

  • Debt Profile
  • Liquidity
  • Operating Balance
  • Regional Economy

3) Complementary Assessment

  • Extraordinary Government Support Assessment
  • Rating of Sovereign

When conducting our analyses, ERA assumes that the rated entity strictly complies with all legal regulations and that all information and documentation provided to ERA are correct and do not contain any deliberate distortions.

Considering the creditworthiness of the rated entity, ERA evaluates the degree of importance and impact of institutional and financial factors on the rated entity. With regards to this evaluation, ERA quantified following credit rating criteria.

 

Table 1.  Credit Rating Factors of Baseline Assessment

Factor

Weight

Sub-factor  /  Score

Weight

Institutional Profile

50%

Governance and Fiscal Flexibility

45%

Revenue Dependency

50%

Expenditure Flexibility

50%

Budgetary and Management Performance

30%

Budgetary Performance

50%

Management Performance Indicators

50%

Political Environment

15%

Voice of Accountability

15%

Political Stability

20%

Government Effectiveness

15%

Regulatory Quality

15%

Rule of Law

20%

Control of Corruption

15%

Transparency

10%

Accounting Policy

50%

Timelines of Public Presentation

50%

Financial Profile

50%

Debt Profile

40%

Interest Burden

20%

Debt Burden

25%

Debt Service Ratio

25%

Qualitative Debt Assessment

30%

Liquidity

25%

Short-term Liquidity Ratio

50%

Qualitative Liquidity Assessment

50%

Operating Balance

20%

Operating Balance as % of Recurring Revenues

30%

Operating Balance to Debt Repayment

30%

Qualitative Operating Balance Assessment

40%

Regional Economy

15%

Gross Regional Product per capita

35%

Regional Unemployment Rate

30%

Regional Population Growth

35%

Source: ERA

Baseline Assessment =  (0.5 * Institutional Profile) + (0.5 * Financial Profile)

Complementary Assessment = (0.5 * Extraordinary Support) + (0.5 * Rating of Sovereign)

Final Credit Rating = (0.8 * BA) + (0.2 * CA)

 

5.  Rating Process Overview

Figure 1. Rating process steps

 1

 

Source: ERA

 

6.  Institutional Profile

When considering institutional profile, ERA considers the stability of the legal and regulatory environment, operational and financial authonomy of sub-sovereign and the level of control the central government has over the sub-sovereign.

In our assessments, we consider the regulatory regime of sub-sovereigns in the relevant country, as they are usually a subject to statutory regulation. Regulations usually concerns a sub-sovereign´s financial operations, debt volumes and/or debt-servicing limits, etc. ERA considers prudential regulation favourably, especially in countries with evolving economies and markets, as it can act as a control mechanism for responsible budgeting of a sub-sovereign. On the other hand, on developed markets some regulations may be replaced by capital market discipline. The more transparent the legislative rules and regulations, the more stable and predictable the institutional framework.

Hand in hand with legislative rules and regulation, there are the fiscal powers and responsibilities of a sub-sovereign (eg. revenue-raising power, budget expenditure allocation, investment stimulations, etc). The clearer and detailed the determination of fiscal powers and responsibilities, the more predictable and reliable the budgetary governance. ERA also analyses the level of sub-sovereign´s responsibilities and competences in fiscal powers, since it may have strong impact on development of the region in case, the sub-sovereign comes on verge of default.

6.1.  Governance and Fiscal Flexibility

6.1.1.   Revenue Dependency

In our assessments, we consider the self-sustainability of local budget revenues, which we understand as the share of own revenue streams in total budget. Own revenue streams of a local budget include both tax and non-tax revenue sources, that are of following natue:

  • Revenues legally assigned to rated entity´s budget;
  • Revenues based on the local economy development;
  • Revenues´ rates controlled by the regional government.

When considering the local budget self-sustainability, we mainly assess the local government´s ability to regulate the rates of local taxes and dues to stimulate the economy by increasing budget revenues or reducing the taxpayer burden. In some countries, the sub-sovereigns have powers to change the tax rates or they can establish special stimuls to raise higher revenues. We measure the level of sub-sovereign´s dependence on different taxpayers and its ability to adapt the volume of revenue resourses. In revenue structure, taxes and transfers are generally the base, with capital-market-raising or third-party-resources in addition. Transfers can be either remitted to sub-sovereign as a percentage of taxes collected by central government, or they can be made through revenue equalization, or both.

The rated entities with significant self-sustainability of budget revenues can be assigned a higher credit rating, when comparing to those, whose budgets show a stronger dependency on higher-level budget transfers. Nevertheless, when analyzing the degree of self-sustainability of budget revenues, subsidies and subventions from higher-level budgets related to the financing of delegated expenditure powers are not considering as a downward driwing factor for self-sustainability.

To measure the rated entity´s revenue risk exposure, we perform an assessment of the level of the taxpayers´ diversification. A strongly diversified structure of revenues stemming from a bunch of various taxpayers signals a very low level of revenue risk. On the other hand, the presence of one single large taxpayer is seen as a potential threat to budget revenue stability, especially in case, the large taxpayer´s core business is of cyclical nature.

 

Table 2.  Revenue Dependency Indicators

Indicator

Assessment

Score

Weight

Share of own revenue sources in budget

Very high level of revenue independence; ≥ 90%

5

0.50

High level of independence; in range <90%-80%≥

4

Moderate level of independence; in range <80%-60%≥

3

Low level of independence; in range <60%-40%≥

2

Very low level of independence; less than 40%

1

Risk concentration on mayor taxpayer

Very low level of risk.

Strongly diversified structure of revenues stemming from many various taxpayers. The share of the largest taxpayer does not exceed 20% of revenue.

5

0.50

Low level of risk.

Very high level of central government transfers, significant amount of revenue either through remissions or revenue equalizations. The share of the largest taxpayer equals 20% - 30% of revenue.

4

Moderate level of risk.

Revenues are combined proportionally by both, revenue diversification and central government transfers. The share of the largest taxpayer equals 30% - 60% of revenue.

3

High level of risk.

At about 60% - 80% of revenue concentrates on 1-2 taxpayers.

2

Very high level of risk.

More than 80% of revenue stemming from one taxpayer.

1

Source: ERA

 

6.1.2.   Expenditure Flexibility

Under the degree of expenditure flexibility, ERA understands the regional government´s ability to manage and have the control over the budget expenditure or cut back on budget spendings. The budget expenditures are primarily determined by its nature, as the substantial volume of expenditures cannot be reduced due to legal, social and other limitations.

When considering expenditure responsibilities, ERA considers the public services that are in mandatory competence of the sub-sovereign. The expenditure allocation depends on the type of public services the sub-sovereign provides, whereby current expenditure is more resource demanding and less flexible in contrary to capital expenditure, particularly when the sub-sovereign is responsible for education or health-care services. As the capital expenditure is more flexible, ERA assesses higher proportion of capital expenditure to total expenditure as more positive for credit quality. ERA understands that the sub-sovereign´s responsibilities may evolve over time. If a newly decentralized responsibility is covered by similar-sized revenue source, it is considered positive. When decentralized from central government without adequate funding, it may have strongly negative impact on sub-sovereign´s budget stability.

 

Table 3.  Expenditure Flexibility Indicator

Indicator

Assessment

Score

Weight

Mandatory Expenditure to Total Revenue Ratio

Very high level of expenditure flexibility and very high flexibility to change the level and nature of spending; ratio in range < 50%

5

1.00

High level of expenditure flexibility and high flexibility to change the level and nature of spending; ratio in range 50% - 60%

4

Moderate level of expenditure flexibility and moderate flexibility to change the level and nature of spending; ratio in range 60% - 70%

3

Low level of expenditure flexibility and low flexibility to change the level and nature of spending; ratio in range 70% -80%

2

Very low level of expenditure flexibility and very low flexibility to change the level and nature of spending; ratio in range ˃ 80%

1

Source: ERA 

6.2.  Budgetary and Management Performance

6.2.1.   Budgetary Performance

Internal Control and Financial Planning

The internal controls and financial planning are considered a valuable tool for keeping prudential financial management of sub-sovereign. Some entities may be constantly lacking in internal fiscal and budgetary control and discipline, as they are unable to adjust expenditure to revenue and provide a realisticaly balanced budget.

In our assessments, we search for evidence-based internal control mechanisms, confirming that  the budget is approved before new fiscal year starts, the budget execution is monitored and prompt adjustments are made, the management makes effective use of multi-annual planning of spendings and investments. ERA also considers the ability of management to create the multi-annual fiscal and capital plans with regard to electorial cycle, whether it allows the elected managers to posess with the function for the period long enough for having the ability of long-term planning (early elections or unexpected changes in managing functions are taken into consideration).

Another way of how to improve in financial management is the ability and willingness of the rated entity to establish a specific kind of reserve funds or funds for debt repayments, multi-annual budget forecasts, prudent investment policy and capital planning, debt management guidelines, revenue and spending limitations or cash flow projections. If such tools are available and applied, ERA assesses it credit positive.

 

Table 4.  Budgetary Performance Indicators

Indicator

Assessment

Score

Weight

Internal Control and Financial Planning

Rated entity applies annual and multi-annual fiscal planning. Managing authorities perform at least semi-annual budget updates. Updates of multi-annual fiscal plans are performed on annual base.

Rated entity established and regularly applies the comprehensive guidelines with mechanism of prudent budgeting (reserve funds, funds covering debt repayments, debt management guidelines, multi-annual budget planning, etc.)

Internal controller or internal auditor is appointed and provides his duties on regular base.

5

0.50

Rated entity applies annual and multi-annual fiscal planning. Managing authorities perform regular budget updates (quarterly at least). Updates of multi-annual fiscal plans are performed on annual base.

Rated entity established the comprehensive guidelines, but irregularly applies mechanism of prudent budgeting.

Internal controller or internal auditor is appointed and provides his duties on regular base.

4

Rated entity applies annual and multi-annual fiscal planning. Managing authorities perform very frequent budget updates (once a month or more). Managing authorities may not be able to update multi-annual plans on annual base, but irregularly do.

Rated entity doesn´t have any guidelines for prudent budgeting. Nevertheless, rated entity applies one or more mechanisms enabling to keep the budgeting prudent.

Internal controller or internal auditor is appointed and provides his duties on regular or somewhat regular base.

3

Rated entity applies only annual fiscal planning. Managing authorities perform very frequent budget updates (once a month or more) Updates of multi-annual plans are rare or absent.

Rated entity established the comprehensive guidelines but applies none of mechanisms enabling to keep the budgeting prudent.

Internal controller or internal auditor is appointed and provides his duties on irregular base.

2

Financial planning performance of the rated entity is in a bad condition, with irregular budget updates and absence of multi-annual fiscal planning.

Some evidence of imprudent budgeting (debt overload, non-target funding: long-term projects funded by short-term loans, etc.)

Internal controller or internal auditor is not appointed.

1

Source: ERA

 

6.2.2.   Management Performance Indicators

Keeping all, budgeting, debt and financial policies consistent is evaluated very positively. In some countries, the sub-sovereigns are enabled by the legislative framework to provide public services in a very effective manner. The sub-sovereigns may posess the powers to influence its revenues by either changing/varying tax rates, or by offering stimulative schemes to keep the region in progress, or regulate its expenditures very effectively, which are all considered as a valuable managing tool and evaluated with high scores.

The quality of financial management has significant impact on revenue, expenditure and appetite for debt. When assessing the effectivity of financial management policy, ERA uses a set of key management performance indicators to measure the level of improvement.

 

Table 5.  Key Management Performance Indicators

Indicator

Assessment

Score

Weight

Management Performance Indicators

Operating Margin; ≥ 10%

Capital Expenditure to Total Expenditure Ratio; ≥ 21%

Operating Balance to Debt Repayment Ratio; ≥ 250%

Operating Balance as % of Recurring Revenues; ≥ 35%

5

0.50

Operating Margin; < 10% - 7.5% ≥

Capital Expenditure to Total Expenditure Ratio; <21%-16%≥

Operating Balance to Debt Repayment Ratio; <250% - 200% ≥

Operating Balance as % of Recurring Revenues; <35% - 25% ≥

4

Operating Margin; < 7.5% - 5% ≥

Capital Expenditure to Total Expenditure Ratio; <16% - 11% ≥

Operating Balance to Debt Repayment Ratio; <200% - 150% ≥

Operating Balance as % of Recurring Revenues; <25% - 15% ≥

3

Operating Margin; < 5% - 2.5% ≥

Capital Expenditure to Total Expenditure Ratio; <11%-6%≥

Operating Balance to Debt Repayment Ratio; <150% - 100% ≥

Operating Balance as % of Recurring Revenues; <15%-5%≥

2

Operating Margin; < 2.5%

Capital Expenditure to Total Expenditure Ratio; < 6%

Operating Balance to Debt Repayment Ratio; < 100%

Operating Balance as % of Recurring Revenues; < 5%

1

Source: ERA

 

6.3.  Political Environment

When assessing the regional political environment, ERA takes the World Bank´s WGI indicators as the base.


Voice of Accountability (weight 0.15 %)

Voice and accountability estimate by WGI capture perceptions of the extent to which a country´s citizens can participate in selecting their government, as well as freedom of expression, freedom of association and a free media.


Political Stability and Absence of Violence (weight 0.2 %)

Political stability and absence of violence estimate by WGI captures perceptions of the likelihood of political instability and/or politically motivated violence. Indicator contains measures of government stability, intensity of internal and/or external conflicts, ethnic tensions, and intensity of violent activities of underground political organisations or probability of social conflicts.


Government Effectiveness (weight 0.15 %)

Government effectiveness estimate by WGI captures perceptions of the quality of public services, the quality of civil service and the degree of its independence from political pressures, the quality of policy formulation and implementation and the credibility of the government´s commitment to such policies.


Regulatory Quality (weight 0.15 %)

Regulatory quality estimate by WGI captures perceptions of the ability of the government to formulate and implement sound policies and regulations that permit and promote private sector development.


Rule of Law (weight 0.2 %)

Rule of law estimate by WGI captures perceptions of the extent to which agents have confidence in and abide by the rules of society, and the quality of contract enforcement, property rights, the police and the courts, as well as the likelihood of crime and violence. Stable juridical and transparent institutional environment provides sufficient protection of property rights and investors´ interests.


Control of Corruption (weight 0.15 %)

Control of corruption estimate by WGI captures perceptions of the extent to which public power is excercised for private gain, including both petty and grand forms of corruption, as well as “capture” of the state by elites and private interests.

 

Table 6.  ERA and WGI scores conversion

ERA score

WGI of sovereign

5

81%  -  100%

4

61%  -  80%

3

41%  -  60%

2

21%  -  40%

1

0%  -  20%

Source: ERA

Considering the assessment of regional differentiations, ERA makes analytical adjustments in accordance with the modifiers set in the table below. The formula for Regional Political Environment is as follows:

Regional Political Environment = ERA score * Modifier

 

Table 7.  ERA modifiers for Political Environment of regions

ERA modifier

Assessment

1.5

Very high level of political environment in the rated entity.

In the most of WG Indicators, the rated entity reaches extremely higher scores on regional level compared to the sovereign.

1.2

High level of political environment in the rated entity.

In the most of WG Indicators, the rated entity reaches higher scores on regional level compared to the sovereign.

1.0

Moderate level of political environment in the rated entity.

In the most of WG Indicators, the rated entity reaches equivalent or comparable scores on regional level compared to the sovereign.

0.8

Low level of political environment in the rated entity.

In the most of WG Indicators, the rated entity reaches lower scores on regional level compared to the sovereign.

0.5

Very low level of political environment in the rated entity.

In the most of WG Indicators, the rated entity reaches critically lower scores on regional level compared to the sovereign.

Source: ERA

The decision of modifier-choice will be the subject of expertise opinion of analytical team based on knowledge of the region, regional news or other relevant information sources.

 

6.4.  Transparency

As the sub-sovereigns are subjects of providing public services, ERA considers it very important for investors and other users to have financial and other relevant information publicly available. In this context, considering the sub-sovereign of high transparency encompasses an assessment of whether there are available transparent accounting policies and financial guidelines established and adopted by the rated entity, financial statements presented and published in periodic timelines, financial statements audited by an independent accounting firm or public auditor, disclosures published in broader extent to allow the investors to understand the financial and fiscal position of the rated entity in much wider context.

The accounting policies adopted by the sub-sovereigns usually vary and depend on jurisdiction. In some countries, international public sector accounting standards may be adopted. Adherence of sub-sovereign to this standards is assessed by ERA in very high scores as it is considered to be highly transparent, with strong reliability, as well are the full accrual accounts with cash flow projections and balance sheet. On the contrary, cash based accounting policy is considered more risky and assessed in low score levels.

In our assessments, we continue considering the periodicity of entity´s financial statements presentation. As financial statements and disclosures mirror the financial and fiscal condition of the rated entity, the timeliness of presentation is crucial, not only for investors. If there is a significant gap (over 6 months) between fiscal year-end (or closing date) and financial statement public presentation, it is considered as weak transparency of rated entity. Semi-annual or quarterly budget reports are considered as best practice.

To assess, whether the rated entity´s accounts represent a true and fair view of financial situation, ERA takes into account the independent auditor´s report. In some countries, having the year-end financial statements audited may not be compulsory, for this case we also accept the nationally-appointed auditor´s report, if publicly available in appropriate timeline. The delay for more than number of years is inacceptable and evaluated in very low score levels.

 

Table 8.  Transparency Indicators

Indicator

Assessment

Score

Weight

Accounting Policy

Rated entity adopted and adheres to either international public sector accounting standards or full accrual accounting standards.

Financial statements of rated entity are audited either by an independent auditing firm or nationally-appointed auditor.

In auditor´s opinion, the accounts represent a true and fair view of rated entity´s financial position.

5

0.50

Rated entity adopted and adheres to either international public sector accounting standards or full accrual accounting standards.

Financial statements of rated entity are audited either by an independent auditing firm or nationally-appointed auditor.

In auditor´s opinion, there are some immaterial exceptions, that the accounts represent a true and fair view of rated entity´s financial position.

4

Rated entity adopted and adheres to either international public sector accounting standards or full accrual accounting standards.

Financial statements of rated entity are not audited.

However, in ERA´s opinion, the accounts represent a true and fair view of rated entity´s financial position.

3

Rated entity adopted and adheres to either international public sector accounting standards or full accrual accounting standards.

Financial statements of rated entity are audited either by an independent auditing firm or nationally-appointed auditor.

In auditor´s opinion, there are several material exceptions and risks, that the accounts represent a true and fair view of rated entity´s financial position.

2

Rated entity adopted and adheres to another type of accounting policy, e.g. cash-based accounting policy.

1

Timelines of Public Presentation

Financial statements of rated entity are published not later than 3 months after fiscal year-end or closing day.

5

0.50

Financial statements of rated entity are published not later than 6 months after fiscal year-end or closing day.

4

Financial statements of rated entity are published in a lag time of several months, but not later than one year after fiscal year-end or closing day.

3

Financial statements of rated entity are published in lag time for more than number of years after fiscal year-end or closing day.

2

Rated entity´s financial statements are not publicly available.

1

Source: ERA

 

7.  Financial Profile

7.1.  Debt Profile

The major part of our analytical assessment is the debt burden of the sub-sovereign. We take into consideration the structure and repayment schedule of lending instruments, where debt amounts due in both the current and forecasted time periods are measured. Refinancing of the loan principal is not necessarily regarded as a negative credit rating factor, but it requires an additional analysis of the reasons that led to refinancing.

ERA typicaly analyzes the rated entity´s ability to cover all debt portfolio commitments (principal and interest) from operating revenue. Bank loans, bond issues and higher-level budget loans are available lending instruments for covering budget deficits. Debt repayment schedule and the share of short-term loans in the portfolio are important criteria for assessing overall debt portfolio quality. A large amount of loans due within the same repayment period shall have a negative effect on the credit rating, as it results in a heavier budget burden. We naturally keep in mind, that certain expenditures incurred by the rated entity (social security benefits, wages etc.) may have priority over debt repayments.

To evaluate whether the sub-sovereigns´s debt load does not exceed its budget capabilities, and whether its debt financing and refinancing are justified, ERA analyzes the fiscal effect the debt financing has on the sub-sovereign´s budget. Generally, the effect the debt financing has on credit rating is considered positive, if priority is given to investment projects covered by borrowed funds application, as they ensure incremental growth of the local tax base or reduction of incremental budget losses. In contrast, mandatory expenditure financing by means of borrowed funds that does not result in an increased tax base or reduced expenses is considered of having an adverse effect on credit rating.

When evaluating the size of debt load, in addition to direct indebtedness, ERA also accounts for issued guarantees and other off-balance sheet liabilities. Guarantees issued on behalf of the rated entity are accounted in full when calculating the rated entity´s debt load indicators. The key parameter required to include the issued guarantees into the rated entity´s loan principal are the chances of guarantee repayment by means of own budget funds. ERA analyzes the terms and purposes of issued guarantees, their economic rationales, and the original borrower´s financial solvency with regards to guaranteed debt. ERA may make analytical adjustments to debt obligations with regard to off-balance and balance sheet items, if ERA believes that they bear the main characteristics of debt.

In our debt assessments, we relate the sub-sovereign´s debt level to measures of the ability to pay, primarily the sub-sovereign´s revenue flow. We analyze the legal framework for debt issuance and payment, as well as any limits set on the amount or structure of the debt in individual countries. ERA also considers the credit history of rated entity, focusing on its failures to fulfill obligations with regard to debt instruments (bonds, bank loans, etc.). Instances when the rated entity had to revert to debt restructuring or requested extraordinary transfers from a higher-level budget to repay or service its debt, are not considered by ERA as default, but regarded as signs of a significant deterioration in the rated entity´s creditworthiness with high probability of a negative credit rating.

Interest Burden ratio is measured as interest payments to operating revenues of the most recent year. The lower the ratio, the lower the risk. The ratio must be measured in context with legislative limitations in given country.

Debt Burden ratio is measured as net direct and indirect debt to operating revenues of the most recent year. The lower the ratio, the lower the risk. Debt Burden is compared to recurrent resources available to cover debt service. The ratio must be measured in context with legislative limitations in given country.

Debt Service Ratio measures the ability of rated entity to cover the principal and interest from operating revenues (net of high-level transfers for the most recent year). The lower the ratio, the better the ability of debt service repayment.

 

Table 9. Debt Profile Indicators

Indicator

Range

Assessment

Score

Weight

Interest Burden

≤ 1%

very low risk

5

0.20

≤ 3% - 1% ˃

low risk

4

≤ 5% - 3% ˃

moderate risk

3

≤ 7% - 5% ˃

high risk

2

˃ 7%

very high risk

1

Debt Burden

≤ 35%

very low risk

5

0.25

≤ 55% - 35% ˃

low risk

4

≤ 80% - 55% ˃

moderate risk

3

≤ 100% - 80% ˃

high risk

2

˃ 100%

very high risk

1

Debt Service Ratio

 

≤ 5%

very low risk

5

0.25

≤ 10% - 5% ˃

low risk

4

≤ 20% - 10% ˃

moderate risk

3

≤ 25% - 20% ˃

high risk

2

˃ 25%

very high risk

1

Qualitative Debt Assessment

 

Category I

very low risk

5

0.30

Category II

low risk

4

Category III

moderate risk

3

Category IV

high risk

2

Category V

very high risk

1

Source:  ERA

 

Table 10.  Qualitative Debt Assessment

Assessment category

Characteristic

Score

I

Debt portfolio structure is balanced in terms of maturities and repayment schedule and in terms of exchange and interest rates.

Creditor structure is balanced.

Significant off-balance sheet liabilities are absent.

5

II

Debt portfolio structure is balanced in terms of maturities and repayment schedule and in terms of exchange and interest rates.

Creditor structure is balanced, although slight dependence on largest creditor may arise.

Off-balance sheet liabilities exist, but their volume is insignificant.

4

III

Debt portfolio structure is overall balanced, although some insignificant disproportions may arise in terms of maturities, repayment schedule, exchange or interest rates.

Significant concentration or excessive diversification of creditors, refinancing risks are acceptable.

Off-balance sheet liabilities are large, but their repayment risk is very low.

3

IV

Certain imbalances in debt portfolio structure may exist. Debt repayment and servicing schedule is characterized by peak periods coming in the medium term.

Significant concentration or excessive diversification of creditors, refinancing risks are high.

Large off-balance sheet liabilities exist, with a high default risk.

2

V

Significant imbalance exists between incoming cash flows and debt structure, with the presence of non-target funding (long-term projects funded by short-term loans). Most of funding is short-term.

Significant dependence on a single creditor.

The volume of liabilities with high default risk is extremely large.

1

Source:  ERA

 

7.2.   Liquidity Profile

In the liquidity analysis, we focus on assessing the quality and timing of receivables and payables or any committed bank lines. The liquidity position indicates whether the rated entity has enough funds for a timely implementation of its planned expenditures, as well as for creating resources that may be used for unscheduled payments. Budget liquidity is characterized by the ability of the rated entity to balance incoming and outgoing cash flows and synchronize the accumulation of funds and make payments in line with the budget, including debt obligations.

Available short-term loans (issued by a bank or transferred from a higher-level budget) that allow to cover cash shortages provide the sub-sovereign´s budget with an additional liquidity source. The use of short-term borrowings is not considered as a negative credit rating factor. However, an excessively frequent use of this instrument indicates poor budget planning and accumulating interest, which, of course, is viewed negatively.

Another aspect that must be taken into consideration are the objectives of debt financing related to the duration of debt instruments used. Investment projects that are of long-term operating life (buildings, infrastructure, etc.) when financed by long-term debt instruments is considered of having a positive fiscal effect and are assessed as credit positive. Mandatory expenditures financed by long-term debt instruments are considered of having a very negative impact on the sub-sovereign´s ability to cover its commitments on due time, if not supported by additional tax base increase, which is assessed as credit negative. ERA also considers the amount of any overdue payables and the use of increasing commercial liabilities to meet the sub-sovereign´s liquidity needs.

Short-term Liquidity Ratio is a measure of how well the rated entity can meet its short-term financial liabilities; also known as the acid-test ratio. It is calculated as cash on accounts plus short-term receivables to short-term liabilities (last fiscal year). The higher the ratio, the better the short-term liquidity position of the rated entity.

 

Table 11. Liquidity Indicators

Indicator

Range

Assessment

Score

Weight

Short-term Liquidity Ratio

 

≥ 1,5

very high

5

0.50

< 1.25 – 1.5 ≥

high

4

< 1.0 – 1.25 ≥

moderate

3

< 0.8 – 1.0 ≥

low

2

< 0.8

very low

1

Qualitative Liquidity Assessment

Category I

outstanding liquidity level

5

0.50

Category II

high liquidity level

4

Category III

moderate liquidity level

3

Category IV

low liquidity level

2

Category V

extremely low liquidity

1

Source:  ERA

 

Table 12.  Qualitative Liquidity Assessment

Assessment category

Characteristic

Score

I

Outstanding liquidity level

  • Comfortable debt portfolio repayment schedule in the long term.
  • Diversified internal and external funding sources that include placement on debt and equity markets (local or international).
  • Strong safety cushion provided by covenants in loan agreements.

5

II

High liquidity level

  • Comfortable debt portfolio repayment schedule in the short term.
  • Diversified internal and external funding sources.
  • Relatively strong safety cushion provided by covenants in loan agreements.

4

III

Moderate liquidity level

  • Peak debt repayment periods are expected in the medium or long term.
  • Internal funding sources exist, but among external funding sources only bank loans are available.
  • Lack of safety cushion provided by covenants in loan agreements. Absence of the need to raise new debt.

3

IV

Low liquidity level

  • Peak debt repayment periods are expected in the short term.
  • Dependence exclusively on bank financing.
  • Lack of safety cushion provided by covenants in loan agreements, coupled with the need to raise new debt.

2

V

Extremely low liquidity

  • Peak debt repayment periods are expected in the short term.
  • Dependence exclusively on bank financing, with a significant risk of being denied.
  • Covenants in loan agreements being violated.
  • Probability of liquidity improvement in medium term is very low.

1

Source:  ERA

 

7.3.   Operating Balance

The principal source for debt servicing and repayment is the rated entity´s operating balance. A negative operating balance is viewed as an extremely adverse indicator in terms of its overall creditworthiness.

Net operational income (operational balance) is determined by idle budget funds net of mandatory expenditures, which may be resource base for the following:

  • Debt repayment
  • Capital investment financing / Economic development program financing
  • Unforeseen expenditures.

Net operational balance represents the maximum permissible size of capex financing when no debt financing is available and is reserved for unforeseen expenditures. This indicator signals the ability of the entity to repay its debt. Recurring revenues are those coming from taxes and dues, as well as from planned transfers from higher-level budgets. The operational balance level compared to the rated entity´s recurring revenues is one of the defining credit rating factors. A high operational balance surplus is instrumental in financing capital expenditures and repaying debt without refinancing, which is an indicator of high credit rating.

 

Table 13.  Operating Balance Indicators

Indicator

Range

Assessment

Score

Weight

Operating Balance as % of Recurring Revenues

≥ 35%

very high

5

0.30

< 35% - 25% ≥

high

4

< 25% - 15% ≥

moderate

3

< 15% - 5% ≥

low

2

< 5%

very low

1

Operating Balance to Debt Repayment

≥ 250%

very low risk

5

0.30

< 250% - 200% ≥

low risk

4

< 200% - 150% ≥

moderate risk

3

< 150% - 100% ≥

high risk

2

< 100%

very high risk

1

Qualitative Operating Balance Assessment

 

Category I

very low risk

5

0.40

Category II

low risk

4

Category III

moderate risk

3

Category IV

high risk

2

Category V

very high risk

1

Source:  ERA

 

Table 14.   Qualitative Operating Balance Assessment

Assessment category

Characteristic

Score

I

  • Operating Balance surplus exceeds capital expenditure twice or more.
  • New external funding sources for capex financing are not needed.
  • Significant portion of Operating Balance surplus available for unforeseen expenditures.

5

II

  • Operating Balance surplus exceeds capital expenditure once or more.
  • New external funding sources for capex financing are not needed.
  • Operating Balance surplus is not available for unforeseen expenditures.

4

III

  • Operating Balance surplus approximatelly equals to capital expenditure.
  • New external funding sources for capex financing may be needed.
  • Unforeseen expenditures must be funded from external sources.

3

IV

  • Operating Balance surplus is less than capital expenditure.
  • External funding sources for capex financing are needed.
  • Unforeseen expenditures must be funded from external sources.

2

V

  • Operating Balance is in deficit.
  • Cut-downs of capital expenditure.
  • No funding sources for unforeseen expenditures are available.

1

Source:  ERA


Operating balance as the main resource for covering debt and debt service is measured as operating balance net of interest expenses to debt repayments of the most recent year.

When calculating financial indicators of debt profile, liquidity and operating balance, some reporting discrepancies may arise. All cross-country differences in accounting standards, budgetary practices, organizational structures or other data sources, that are not comparable on an international basis, will be considered by ERA and measures will be adjusted. Furthermore, calculation methods may be different across the sub-sovereigns, such as the calculation and consolidation of revenues. ERA will consider different alternatives and evaluate the most appropriate measure on a case-by-case basis.

 

7.4.      Regional Economy

When assessing the regional economy, ERA compares following indicators:

  • Gross Regional Product per capita (%);
  • Regional Unemployment Rate (%);
  • Population Growth Regional (%).

The evaluation of regional economy begins with determination of the economic activity that is typical for the area, the rated entity operates in. The most reliable indicator that indicates the economic position of a sub-sovereign on regional base is GRP per capita. A high GRP per capita signifies a well-developed tax base and consequently, an inflow of funds from corporate profit tax revenues, which gives the rated entity much broader cost funding and debt financing possibilities.

The unemployment rate enables ERA to analyze the trends in context of labour force changes. This parameter influences the regional government´s creditworthiness, since the level of employment affects the amount of taxable local population´s earnings. The most important demographic measure is population growth and its trends, as it may also influence the tax base and revenues of the rated entity, either positive or negative. Population growth is usually considered a positive factor however, it may have a strong impact on expenditure demands as social services, health care and education. On the other hand, population decline may heavily affect the tax base and revenues of rated entity as well.

 

Table 15.  Regional Economy Indicators

Indicator

Assessment

Score

Weight

GRP per capita (%)

index in range ≥ 120%

5

0.35

index in range <120% - 110%≥

4

index in range <110% - 100%≥

3

index in range <100% - 80%≥

2

index in range <80%

1

Unemployment Rate Regional (%)

decline of rate ≥ 50%

5

0.30

decline of rate in range 20% - 50%

4

decline of rate in range 1% - 20%

3

increase of rate in range 1% - 50%

2

increase of rate in range ≥ 50%

1

Population Growth Regional (%)

index in range ≥ 120%

5

0.35

index in range <120% - 110%≥

4

index in range <110% - 100%≥

3

index in range <100% - 80%≥

2

index in range <80%

1

Source: ERA

 

8.  Analytical Adjustments

8.1  Floating Weights

In Debt Load assessment, ERA applies the measure of floating weights in case, the value of selected relevant indicators exceeds critical limits.

The indicators of the most importance are as follows:

a) Debt Burden

b) Debt Service Ratio

c) Short-term Liquidity Ratio.

Analytical Adjustments via floating weights are to be applied as follows:

1. upward adjustment of the section Debt Profile plus 15 % in case

  • Debt Burden reaches the range 80% - 100%
  • Debt Service Ratio reaches the range 20% - 25%

2. upward adjustment of the section Debt Profile plus 30% in case

  • Debt Burden exceeds 100%
  • Debt Service Ratio exceeds 25%

3. upward adjustment of the section Liquidity plus 15 % in case

  • Short-term Liquidity Ratio reaches the range 1.0 – 0.8

4. upward adjustment of the section Liquidity plus 30% in case

  • Short-term Liquidity Ratio exceeds 0.8

When floating weights are applied, the rest of indicators´ weights shall be than adjusted proportionally. ERA considers the cases of other indicators´ worsening under critical limits for not having material impact on sub-sovereign´s budget performance and no other adjustments are needed.

 

8.2. Adjustments to Credit Risk Assessment

In our consideration, we assess the additional credit risk that adds the estimated net cost to the existing debt load of the sub-sovereign. The amount of direct and indirect debt shall be enlarged by estimated costs that may arise out of debt obligations linked to sub-sovereign´s enterprises. ERA considers, whether it fits to our score ranges for the debt burden indicator. This approach allows us to consider the varying absorption capacities of sub-sovereigns.

ERA typically considers debt obligations of sub-sovereign enterprises, even without any guarantees issued by the rated entity. The amount of debt carried by the sub-sovereign´s enterprises shall be considered when calculating the sub-sovereign´s debt load, as social or other considerations may force the sub-sovereign to repay debts of such enterprises in case of their financial standing deteriorates. The debt incurred by sub-sovereign´s enterprises is incorporated into the sub-sovereign´s total debt regarding their financial standing, ability to service and repay debt, and social impact. Therefore, the actual additional amount of debt that may fall under the responsibility of a sub-sovereign´s budget shall be determined based on these factors.

First, ERA assesses the importance of a sub-sovereign´s enterprise and second, it assesses the potential impact of sub-sovereign enterprise´s debt when incorporated in total debt load of rated entity.

ERA distinguishes the following levels of a sub-sovereign enterprise´s importance:

  • Very high – the sub-sovereign´s enterprise is an integral part of the national or regional economy or performs socially important functions.
  • High – the sub-sovereign´s enterprise is an important part of the national or regional economy or performs socially important functions.
  • Medium – the sub-sovereign´s enterprise, when terminating its operations, will entail limited economic, social or other consequences for the national or regional economy.
  • Low – the sub-sovereign´s enterprise when terminating its operations, will not entail negative economic, social or other consequences for the national or regional economy.

 

Table 16. Sub-sovereign enterprise´s importance

Factor of importance

Weight

Assessment

Financial stability

0.35

3 – default of sub-sovereign enterprise may trigger serious financial crisis and instability

2 – default of sub-sovereign enterprise may cause instability in financial markets, which may be cured by regulatory measures

1 – default of sub-sovereign enterprise may cause a short-term volatility in financial markets, but it would not impair financial stability in general

0 - default of sub-sovereign enterprise will have no impact on stability in financial markets.

Social functions

0.35

3 – the sub-sovereign enterprise is monopolist or dominant in segment and performs a socially important or unique functions; its default may have very strong social consequences

2 – the sub-sovereign enterprise is key player in segment and performs a socially important functions that however may be substituted by other entity; default of sub-sovereign entity may have strong social consequences

1 – the sub-sovereign enterprise is one of the players in segment and performs a socially important functions that however may be substituted by other entity; default of sub-sovereign entity may have moderate or none social consequences

0 - the sub-sovereign enterprise performs no socially important functions

Employment

0.30

3 – the sub-sovereign enterprise is a very large employer on the national scale

2 – the sub-sovereign enterprise is the largest employer on the regional scale

1 – the sub-sovereign enterprise is the largest employer in a large city

0 – the sub-sovereign enterprise is the largest employer in a small city

Source:  ERA

When the importance score is in range 3.0 – 2.5 pts, additional credit risk shall be considered and estimated costs (interest and principal stemming from the termination of the sub-sovereign enterprise´s business) shall be calculated and incorporated in total debt load of rated entity multiplied with coefficient 1.35. When the importance score is in range 2.49 – 2.0 pts, additional credit risk with estimated costs shall be calculated with coefficient 1.25 and when the importance score is in range 1.99 – 1.0 the estimated costs shall be calculated with 1.0 coefficient. When the importance score is less than 1.0 the estimated costs shall be calculated with 0.9 coefficient. The coefficients contain (i) the estimated costs that the rated entity shall be burdened with (100%) and (ii) additional credit risk that arises from potential termination of sub-sovereign enterprise´s business and its potential social consequences (+35%, +25%, +0%, -10%). As a result of weighting of all the importance scores, a sub-sovereign enterprise importance level shall be assigned to one of the above four levels: “Very high”, “High”, “Moderate” and “Low”. In specific cases, when the importance score is not as clearly to be assessed and evaluated, the level of coefficients may be specified by analytical expert opinion.

Second step of our assessment is the sensitivity analysis of indicator Debt Burden in projection of a three-year weighted average. The formula shall be extended by the estimated costs and it will be measured as follows:

(Net Direct and Indirect Debt + Estimated Costs) / Operating Revenues

In calculation, a projection of a three-year weighted average is used, with the highest weight to the most recent/current year, i.e. 0.5y0 + 0.35y+1 + 0.15y+2 (y0 = most recent year; y+1 = next year; y+2 = after next year). The projection shall be calculated based on sub-sovereign´s three-year budget forecast (y+2). Depending on the result of extended indicator, in case it worsen for more than 30% compared to Debt Burden indicator calculated in section Debt Profile, the total score of factor Debt Profile can be adjusted downward (minus 2 points), in case it worsen in range from 15% - 30%, the total score of factor Debt Profile can be adjusted downward (minus 1 point).  ERA considers other cases (less than 15% of worsening) for not having material impact on sub-sovereign´s budget performance and in such cases, no adjustments are needed. 

 

9.  Assessment of Extraordinary Support (CA)

An additional component of our Baseline Assessment is the Complementary Assessment (CA) that encompasses the evaluation of the likelihood of extraordinary support provided by a higher-tier government (eg. sovereign) as the first factor and we also consider the supporting government´s rating as the second factor.

ERA defines an extraordinary support as the likelihood that a higher-tier government would provide financial support or other contractual protection to the sub-sovereign that is exposed to acute liquidity stress, or to avoid a default of sub-sovereign´s debt obligation. The most usual example of extraordinary support is when the higer-tier government (sovereign, state government, etc.) unconditionally guarantees the debt obligations of lower-tier government (city, municipality, etc.)[1]. We evaluate the extraordinary support via indicator of governance and probability of higher-level government subvention in qualitative assessment and quantitatively, we consider the indicator of budget federalism. Under the budget federalism ERA understands the degree of sub-sovereign´s dependence on higher-level government´s subsidies.

 

[1] For EU countries, see the list of EU regional governments and local authorities treated as exposures to the central government under Art. 115 CRR; https://eba.europa.eu/supervisory-convergence/supervisory-disclosure/rules-and-guidance

 

Table 17.  Extraordinary Support Indicators

Indicator

Assessment /Range

Score

 

Governance

 

weight 25%

Real governance. The sovereign possesses full powers and competences over the sub-sovereign. Regionally, the sub-sovereign is an integral administrative part of the sovereign, juridical linkage to the sovereign is transparent and clearly defined.

5

Qualitative
assessment

Moderate governance. The sovereign´s authority over the sub-sovereign is limited or competes with another power. Regionally, the sub-sovereign is an integral administrative part of the sovereign, but there may exist some formal or informal disruptions in powers or competences.

3

Formal governance. The sovereign may possess only formal control and competences over the sub-sovereign.

1

Higher-tier-authority Subvention

 

weight 25%

Historical evidence or high probability of subvention to sub-sovereign in case, that the sub-sovereign is in verge of default or unable to fulfill its debt obligations. Subvention shall be granted by higher-tier authority in full or almost full.

5

Historical evidence or high probability of subvention to sub-sovereign in case, that the sub-sovereign is in verge of default or unable to fulfill its debt obligations. Subvention shall be granted proportionally by higher-tier authority and private sector.

3

No historical evidence of subvention to sub-sovereign from higher-tier authority. No probability, that the higher-tier-authority would give any subvention to sub-sovereign in case, that the sub-sovereign is in verge of default or unable to fulfill its debt obligations.

1

Budgetary Federalism

 

weight 50%

High dependence

≥ 70%

5

Quantitative
assessment

Moderate dependence

<70%-50%≥

3

Low dependence

< 50%

1

Source:  ERA

 

Where:

Budgetary Federalism = dependence on governmental subsidies.

 

Formula for Budgetary Federalism calculated as follows:  

 

(Total Amount of Regional Share Taxes [as %-share on PIT/CIT/VAT transfered by the sovereign] + Total Amount of Current Balance Subsidies [transfered by the sovereign]) / Total Amount of Regional Revenues

 

 

Final rating formula =

 

0.2 *[(0.5*X)+(0.5*R)] +  0.4*financial profile  +  0.4*institutional profile

 

 

where X = Extraordinary Support:

X = (0.5*Budget Federalism + 0.25*Governance + 0.25*Higher-tier-authority Subvention)

and

R = rating of sovereign

 

10. Credit Rating Outlook

Calculating financial indicators, ERA considers not only the historical data, but also analytical forecasts for these indicators.

When forecasting cash flows and calculating forecasts for financial ratios, ERA applies several key assumptions that form a subjective internal source of information used for rating purposes. These assumptions can be based on both ERA´s internal estimations and information obtained from the rated entity. Credit rating may be sensitive to changes in such assumptions, including instances, when new information about the rated entity´s operation is no available. During the rating assessment, ERA also identifies key rating assumptions and threshold levels of the coefficients, the breach of which can result in a change of a credit rating. A credit rating outlook reflects ERA´s opinion about a likely credit rating change within a certain time period, usually 12 to 18 months.

In accordance with the Procedure for Disclosure of Credit Ratings and Other Related Communications ERA discloses the following information relating to its rating action:

  • Key rating assumptions used in estimations;
  • Key rating sensitive indicators and factors and their threshold values.

During the forecasting, ERA may also adjust qualitative indicators if it anticipates that any changes in internal and/or external risk factors may result in a change in any assessment categories applicable to one or more qualitative indicators.

A change in a credit rating outlook is typically associated with ERA´s estimates of possible changes in quantitative and qualitative factors along with key institutional or financial risk factors affecting baseline assessment (BA). On the other hand, credit rating outlook also depends on changes in relationships between the rated entity and higher-level budgets. Furthermore, when determining the credit rating outlook, ERA considers the operating environment of the sovereign, region and current economic trends.

 

Key rating sensitive indicators and factors are as follows:

A. Institutional Profile (descending in order of importance; ≥ 5 % of total weight on model)

  • Revenue Dependecy
  • Expenditure Flexibility
  • Budgetary Performance
  • Management Performance Indicators

B. Financial Profile (descending in order of importance; ≥ 5 % of total weight on model)

  • Debt Profile
  • Liquidity Assessment

 

Credit rating outlook is not necessarily a precursor to credit rating changes.

ERA may also adjust qualitative indicators if the Agency anticipates that any changes in institutional and/or financial risk factors may lead to a change in any assessment categories applicable to one or more qualitative indicators. A change in the credit rating outlook is typically associated with ERA´s estimates of possible changes in qualitative and quantitative factors and key institutional and financial risk factors that may affect the baseline assessment or complementary assessment.

 

11. ERA´s Municipal Rating Scale

 

Table 18.  ERA´s Municipal Rating Scale

Scale

Range

Definition

Grade

AAA

 (5.00-4.80)

Minimum Investment Risk.

The symbol indicates the highest credit rating. The rated entity marked with this symbol is estimated of the highest ability to service its current and future liabilities in full and on time.

Investment grade

AA+

 (4.79-4.60)

Very Low Investment Risk.

The rated entity marked with this symbol is estimated of a very high ability to service its current and future liabilities in full and on time.

AA

 (4.59-4.40)

AA-

 (4.39-4.20)

A+

 (4.19-4.00)

Low Investment Risk.

The rated entity marked with this symbol is estimated of a high ability to service its current and future liabilities in full and on time.

A

 (3.99-3.80)

A-

 (3.79-3.60)

BBB+

 (3.59-3.40)

Moderate Investment Risk.

The rated entity marked with this symbol is estimated of a moderate ability to service its current and future liabilities in full and on time.

BBB

 (3.39-3.20)

BBB-

 (3.19-3.00)

BB+

 (2.99-2.80)

High Investment Risk.

The rated entity marked with this symbol is estimated of a low ability to service its current and future liabilities in full and on time.

Speculative grade

BB

 (2.79-2.60)

BB-

 (2.59-2.40)

B+

 (2.39-2.20)

Very High Investment Risk.

The rated entity marked with this symbol is estimated of a very low ability to service its current and future liabilities in full and on time.

B

 (2.19-2.0)

B-

 (1.99-1.80)

CCC+

 (1.79-1.60)

Extremely High Investment Risk.

The rated entity marked with this symbol is estimated of a high inability to service its current and future liabilities in full and on time.

CCC

 (1.59-1.40)

CCC- 

 (1.39-1.20)

CC+

 (1.19-1.0)

High Risk of Default.

The rated entity marked with this symbol is estimated of a very high inability to service its current and future liabilities in full and on time.

CC

 (0.99-0.80)

CC-

 (0.79-0.60)

C+

 (0.59-0.40)

Very High Risk of Default.

The rated entity marked with this symbol is estimated of a very high probability to be in a verge of default.

C

 (0.39-0.20)

C-

 (0.19-0.0)

 

Source:  ERA



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