OREANDA-NEWS. June 17, 2015. Fitch Ratings has affirmed the Romanian City of Brasov's Long-term foreign and local currency Issuer Default Ratings (IDRs) at 'BBB-' and its Short-term foreign currency IDR at 'F3'. The Outlooks on the Long-term IDRs are Stable.

The affirmation reflects Brasov's sound, albeit volatile operating performance, which benefits from a supportive national policy framework for local governments. Its performance supports a strong self-funding capacity and healthy debt ratios. The ratings also factor in the city's ambitious investment plan, which may require debt financing after 2016, and substantial indirect risk stemming from the high debt of Centrale Electrica de Termoficare SA, the city-owned former heating service provider, which is currently undergoing reorganisation.

KEY RATING DRIVERS
Fitch's base case forecasts Brasov's operating balance to remain sound in 2015-2017, averaging 20% of operating revenue. These results correspond to about RON100m in nominal terms and should be sufficient for maintaining healthy debt ratios.

In 2014 the city's operating margin fell to 13%, due to additional support subsidy of RON34m to the loss-making municipal company SC Tetkron SRL as a result of a low number of end-users (currently 11,500 vs. capacity of 80,000). Nevertheless, the city's operating balance of RON66m was sufficient to cover debt service (including debt repayments and interest) by 3x.

We estimate the city's capital expenditure will peak in 2015 at RON280m (40% of total expenditure; 2012-2014: average RON123m or 23%), as the city is determined to maximise the utilisation of EU grants made available for co-financing investments, during the EU programming period that has ended, as well as in the new one for 2014-2020. Due to the availability of EU and state grants, as well as Brasov's high self-financing capability, debt growth should remain limited in the medium term.

Fitch forecasts the city's debt to continue its declining trend until end-2016, with direct risk falling below RON100m or below 20% of current revenue (2014: RON128m or 25%). Although in its financial planning for 2015-2018 Brasov does not include any new borrowing, Fitch assumes that Brasov may resort to debt from 2017, once investments under the 2014-2020 EU financial perspective are rolled out.

Debt growth should remain moderate, and direct risk relative to current revenue is unlikely to exceed 25%. Fitch expects the city's debt-service and debt-payback ratios to remain healthy. Debt service, projected to average PLN22m, is likely to be covered 4x-5x by the operating balance. The debt to current balance ratio is likely to hover below two years.

Brasov operates five public sector entities (PSE), which together had RON517m of debt outstanding at end-2014. The majority relates to Centrale Electrica de Termoficare SA, which is currently undergoing reorganisation due to insolvency proceedings. Fitch assumes the city is liable for the debt of its companies. However, according to Romanian law, the owner is only liable to the extent of its joint capital.

Romania's highly centralised budgetary system ensures adequate support and control from the central government. Under the austerity measures implemented during national economic contraction in 2011 and 2012, the state ensured budgetary rebalancing in local government finances through subsidies and regulatory measures, including expenditure control.

Brasov, in central Romania, is the capital of and the largest city in Brasov County and has over 290,000 inhabitants. The city is a popular tourist destination and has a strategic location in the heart of the country. In addition to locally generated tax revenue, the city's budget also benefits from central government transfers.

RATING SENSITIVITIES
Sustainable improvement and stabilisation of the city's operating performance, along with direct risk not exceeding 50% of current revenue would be rating positive. However, an upgrade of the foreign currency IDR would additionally rely on an upgrade of the sovereign's foreign currency IDR, as local and regional governments' ratings cannot be above the sovereign's.

A downgrade could result if the city's operating performance falls below 10%-12%, leading to sustained weaker debt payback and debt service above 50% of the operating balance and/or if there is a significant rise in Brasov's net indirect debt. Any negative action on Romania's ratings will be reflected on Brasov's ratings.

KEY ASSUMPTIONS
Our base case scenario relies on the following assumptions:
- A supportive Romanian institutional framework remains in place
- VAT transfers in line with previous levels
- The city will comply with all the EU regulations and procedures when implementing investments projects co-financed by the EU, so to avoid the penalty of returning high amounts of previously received EU grants
- Prudent funding scheme of the city's ambitious investment plan remains in place