Fitch Ratings has affirmed Puy-de-Dome'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 euro medium-term programme and EUR100m commercial paper programme have been affirmed at 'AA' and 'F1+'.

The 'AA' ratings and Negative Outlook reflect our unchanged expectation that Puy-de-Dome's budgetary performance and debt metrics will weaken in the medium term following cuts in state transfers that will not be fully compensated by operating spending restraint.

KEY RATING DRIVERS

The ratings reflect the department's track record of sound operating performance, moderate debt, strong governance and balanced socio-economic profile.

According to our baseline scenario, we expect the operating margin to slightly weaken over the medium term, to 11% by 2019 from a comfortable average of 13.5% in 2011-2015. This is due to flat revenue as a result of state transfer cuts. Additionally, as with other French departments, Puy-de-Dome is exposed to economic cycles and faces budgetary pressures from faster growth of expenditure over revenue.

Revenue prospects are sluggish due to declining state transfers and expected moderate tax base growth, including of property transfer duties (10% of operating revenue) which tend to evolve erratically. As with other French departments, Puy-de-Dome's revenue mix offers limited flexibility as 75% of operating revenue is based on non-modifiable taxes and state transfers. Puy-de-Dome has direct tax leeway, although the administration is not contemplating any tax increases.

Puy-de-Dome's executive assembly and administration have outlined an additional package of savings and control measures for 2016 and 2017 totalling EUR35m. This has been partially factored into our projections and we therefore expect operating spending growth to slow to 1.1% a year until 2019 (at constant scope of competencies), from 2.4% in 2010-2015. We expect the planned budget tightening to mitigate the impact of the most rigid spending items, especially social spending which will continue to follow an upward trend over the medium term, other things being equal.

Puy-de-Dome's ability to implement the budget tightening plan is underpinned by the department's strong governance based on a skilled administration, a stable local political environment, and a track record of prudent financial management. The administration aims to keep the department's operating margin above 10% and the debt payback ratio below nine years over the medium term.

Over the medium term, Puy-de-Dome aims to scale back capital expenditure to slightly below EUR100m, from an average EUR122m in 2010-2015. According to Fitch's base case scenario, this would not be sufficient to fully offset the expected decline in its current balance. Therefore the department's self-financing rate of capital expenditure (current balance and capital revenue, net of debt repayment, over capital expenditure) is likely to weaken to 52% in 2016-2019 from 61% in 2011-2015.

Direct debt is moderate, at EUR400.2m or 63% of current revenue at end-2015 (including short-term debt). The debt payback ratio remained comfortable at 5.5 years. However, this ratio may deteriorate to an average of seven years in 2016-2019 with the expected weakening of the department's self-financing capacity of capital expenditure. Puy-de-Dome's debt structure is sound and does not include high-risk products.

Liquidity is underpinned by strong predictable cash flows and by easy access to short-term funding. The latter is regular issuance of Billets de Tresorerie (BT) under a EUR100m programme, backed by adequate revolving and committed bank credit lines. Liquidity forecasts are detailed and updated regularly.

Despite the department's significant contingent liabilities, Fitch considers contingent risks as low due to borrowers' solid credit profiles (mostly social housing institutions) and their sound debt structure. The administration's sophisticated monitoring framework and strict eligibility guidelines should limit the growth of guaranteed debt over the medium term.

Puy-de-Dome's socio-economic indicators are in line with the national average, although the department has a structurally lower unemployment rate (8.9% in 4Q15, against 10% for France). Puy-de-Dome benefits from dynamic industries and hosts most of the research facilities and corporate headquarters of former region Auvergne (merged with region Rhone-Alpes since 1 January 2016).

RATING SENSITIVITIES

Deterioration in operating performance leading to a weaker operating margin towards 10% or a debt payback ratio towards eight years could result in a negative rating action.