OREANDA-NEWS. January 26, 2016. Fitch Ratings has affirmed the Italian City of Naples' Long-term foreign and local currency Issuer Default Ratings (IDR) at 'BBB-' with Stable Outlook and Short-term foreign currency IDR at 'F3'. The issue ratings on Naples' senior unsecured bonds have also been affirmed at 'BBB-'.

The affirmation and Stable Outlooks reflect our view that Naples' stock of debt and its equivalent (such as subsidised loans) will remain in line with our expectations due to spending control and more accurate budgeting. The ratings also reflect our expectations that the city's operating performance will stabilise in the medium term, while the national preferential payment mechanism will continue to ensure timely debt servicing repayment.

KEY RATING DRIVERS
Fiscal performance: Fitch expects Naples will maintain stable operating performance in 2015-2017 with an operating balance of around EUR120m or 10% of operating revenue, just covering the city's debt service obligations.

Fitch expects current revenue to have declined by about 10% in 2015, mainly due to more accurate budgeting, by removing certain uncollectible items. Fitch believes the city's cost control initiatives would generate savings in 2015-2017 to partially offset the expected revenue decline. Under Fitch's forecasts, the city's EUR900m capex in 2015-2017, which will mostly focus on extraordinary maintenance of roads, transport and urban renovation, will be funded by non-debt resources such as transfers of about EUR800m, as well as by sales of real estate assets for about EUR100m. This will help contribute to a balanced budget.

Debt: In its central scenario, Fitch estimates Naples' stock of debt at EUR2.6bn for 2015-2017 (or 210% of operating revenue), including EUR1.3bn of subsidised borrowing in 2013-2015 from the national government via Cassa Depositi and Prestiti (CDP; BBB+/Stable) to pay down commercial liabilities. Naples has 98% of its loans at fixed interest rates while debt service requirements absorb 10% of its revenue

Management: Following an extraordinary clean-up of outstanding receivables and payables, the fund balance yielded an adjusted deficit of EUR0.5bn over the summer 2015. This is not expected to add significant pressure to Naples' budget, given the long-term timeframe allowed by law to restore the fund balance.

Fitch takes a positive view of the administration's commitment to streamline its cost structure, and to restructure its subsidiaries, which should help alleviate the contingent liabilities burden. Tax and fees collection remains problematic, although the replacement of part of the property tax on primary homes with national subsidies drafted by the 2016 Stability Law will partly provide relief to municipalities facing low tax collection rates. Fitch will continue to monitor Naples' cash flow generation, particularly since improving tax and fee collection (80% in 2014) is one of the administration's priorities.

Economy: Fitch expects GDP to have remained stagnant in 2015, with an employment rate close to 40% (56% at national level). As the capital of the Region of Campania it is one of the largest municipalities in southern Italy. Construction and real estate markets remain weak and Fitch does not expect a recovery before 2017, while traditionally strong tourism flows, structural funds for economic development (EU), and increasing exports (mainly metal, clothing and agricultural products and channelled trades from its port) should stimulate the local economy over the medium term, albeit without significant impact on tax revenue collection.

Institutional Framework: Fitch considers inter-governmental relations as neutral. While Naples is a contributor to Italy's consolidation efforts to balance the national accounts, the city benefits from support, such as equalisation transfers (EUR320m in 2015, or about 25% of forecasted revenue) from the central government to offset its weaker-than-national average fiscal capacity. It also benefits from the implementation of a 10-year recovery plan under the national audit body, Corte dei Conti, to replenish the statutory fund balance deficit posted in 2011.

RATING SENSITIVITIES
The ratings could be downgraded if debt and equivalents rise towards 2.5x of operating revenues. A downgrade could also stem from a failure to increase tax and fees collection rates towards 95% over the medium term. Adverse changes to the preferential payment mechanism protecting financial lenders could lead to a downgrade, possibly by multiple notches.

Factors that may result in positive rating action include a fall in financial debt back towards 1x of the budget and a recovering economy that would support stronger fiscal performance with an operating margin rising towards 20%.