OREANDA-NEWS. Fitch Affirms French Metropolis of Rennes at 'AA'; Outlook Stable Fitch Ratings has affirmed the French Metropolis of Rennes' (RM) Long-term foreign and local currency Issuer Default Ratings (IDRs) at 'AA' with Stable Outlooks and Short-term foreign currency IDR at 'F1+'.

The affirmation is based on RM's continued solid and stable performance, robust socio-economic profile and skilled management. The ratings also reflect Fitch's expectations of a significant, but manageable, increase in debt from 2015 to 2019 due to the construction of a new metro line. The Stable Outlook reflects RM's capacity to maintain its sound budgetary performance over the medium term, which should offset the expected debt increase.

KEY RATING DRIVERS

According to Fitch's baseline scenario, RM should maintain an operating margin averaging 28% until 2019. This will be achieved through steady tax base growth and be supported by the tax hike applied in 2015, contributing to a 1.9% yoy increase in operating revenue in 2015-2019, despite cuts in state transfers. With growing interest charges (linked to the expected debt increase), we expect the current margin to weaken to below 25% by 2019, from 33.8% in 2015, although it will remain sound.

Taking into account RM's financing of a second metro line's construction until 2020, we expect capital expenditure to average EUR420m per year until 2019, up from EUR226m in 2011-2015. We expect RM's self-financing of capital expenditure after debt repayment to weaken to 60% on average in 2016-2019, from a sound 88% in 2011-2015 (2008-2012: 111%). The overall cost of the new metro line's construction is estimated at EUR1.4bn over 2015-2022 (nominal value). The administration aims to self-finance at least 60% of the project (including co-funding received from other tiers of governments), while maintaining large current margins over the medium term.

Fitch expects RM's debt to rise sharply, to around EUR860m at end-2019, or 180% of current revenue, from 54% in 2015 (22% in 2011-2014), due to the significant capital expenditure programme. The debt payback ratio (direct debt-to-current balance) is therefore likely to increase to close to eight years 2019, from 1.6 years in 2015. Should it be sustained at this level, it could put pressure on the ratings. However, Fitch considers RM's track record for the construction of its first metro line in 1997-2002 as credit positive given the metropole's demonstrated tight control of debt and subsequent de-leveraging. Fitch will pay close attention to RM's capacity to limit the deterioration in debt ratios over the medium term.

Liquidity is underpinned by predictable cash flows. RM has recourse to committed bank lines totalling EUR30m as of June 2016. Liquidity management is likely to be enhanced with the expected launch of a French CP programme later in 2016.

Net overall risk at end-2015 was high at 258% of current revenue, mainly due to a large guaranteed debt stock (EUR860m). However, Fitch considers these guarantees as low risk as they relate almost entirely to long-term loans to state-monitored social housing entities. Debt of public sector entities is low.

RM benefits from a stable political framework and sound governance, with strong and improving integration with the inner city of Rennes (AA/Stable/F1+). RM's ability to implement its medium-term financial strategy is underpinned by its skilled administration and prudent financial management.

RM's economy remains healthy and well-diversified, and enjoys a structurally below-average unemployment rate (8% at end-4Q15, against 10% for Metropolitan France). Positive economic prospects are underpinned by a young, highly qualified population, low real-estate prices and strong public infrastructure.

RATING SENSITIVITIES

A deterioration of RM's budgetary performance and its self-financing capacity, leading to a worsening of debt ratios (e. g., debt payback of about eight years on a permanent basis), could lead to a downgrade.

An upgrade is unlikely even if the sovereign rating (AA/Stable/F1+) is upgraded, unless RM strengthens its debt metrics well above Fitch's expectations.