Marlborough District Council Outlook Revised To Positive After Similar Action On New Zealand; 'AA/A-1+' Ratings Affirmed

OVERVIEW
  • On Jan. 31, 2019, we revised the rating outlook on New Zealand to positive from stable.
  • Consequently, we are revising our outlook on the long-term ratings on Marlborough District Council to positive from stable because the ratings on the council are constrained by the long-term foreign-currency rating on New Zealand.
  • At the same time, we are affirming our 'AA/A-1+' long- and short-term issuer credit ratings on Marlborough.
  • Although Marlborough's stand-alone credit profile is currently higher than New Zealand's, we believe the council could not withstand a distress scenario better than the sovereign, and that the council's credit metrics would deteriorate in line with those of the sovereign in a distress scenario.
RATING ACTION
On Feb. 1, 2019, S&P Global Ratings revised its outlook on New Zealand's 
Marlborough District Council to positive from stable. At the same time, we 
affirmed our 'AA/A-1+' long- and short-term issuer credit ratings on 
Marlborough.


OUTLOOK
The positive outlook on Marlborough reflects that on the sovereign because the 
ratings on the council are constrained by the long-term foreign-currency 
rating on New Zealand. We could raise the ratings on Marlborough within the 
next two years should the same occur for New Zealand.

Downside scenario
We would revise the outlook on Marlborough to stable if we were to take a 
similar action on New Zealand, or if Marlborough's own creditworthiness 
deteriorates substantially from our current expectations. The latter could 
occur if Marlborough's after-capital deficits widened significantly and over a 
longer time frame than we currently forecast, resulting in a sharp rise in 
debt. Such developments might also cause us to reassess our view of 
Marlborough's financial management.


RATIONALE
The outlook revision reflects a similar action on the New Zealand sovereign 
(see "New Zealand Outlook Revised To Positive On Improving Fiscal Position; 
'AA+' LC And 'AA' FC Ratings Affirmed," published Jan. 31, 2019). Although 
Marlborough has a stand-alone credit profile higher than the sovereign's, we 
cap our ratings on Marlborough at that of the sovereign because Marlborough 
does not meet the conditions to be rated above the sovereign in accordance 
with our criteria. We do not believe any New Zealand local council, including 
Marlborough, could maintain stronger credit characteristics than the sovereign 
in a stress scenario.

We expect capital expenditure levels during fiscal years 2019 to 2021 to be 
larger than they have been in past years, leading to modest after-capital 
deficits. Marlborough's liquidity metrics, while still strong, are weaker than 
we previously assessed because of some short-term borrowing to fund its 
subsidiaries. We still expect Marlborough's robust financial management, 
moderate debt burden relative to peers', and New Zealand's excellent 
institutional settings to support its credit profile.

--Robust financial management and New Zealand's excellent institutional 
framework support Marlborough's creditworthiness--
Marlborough's fiscal processes are credible and well established, with the 
council preparing long-term plans every three years, annual plans in the 
intervening years, and audited annual reports, in line with New Zealand 
requirements. The council's treasury management policies set prudent limits on 
external borrowing and interest rate risk, and all borrowing is in local 
currency. 

Like all New Zealand councils, Marlborough is governed by an elected group of 
councilors, led by a mayor. The councilors delegate day-to-day management to a 
full-time chief executive. The council owns 100% of Marlborough District 
Council Holdings Ltd. (MDCHL), which in turn is the sole owner of Port 
Marlborough New Zealand Ltd. and Marlborough Airport Ltd. Our analysis is 
based on the consolidated financials of the entire group.

We expect Marlborough's local economy to continue to perform soundly. The 
district had an average GDP per capita of about US$42,100 during 2015-2017, 
according to figures from New Zealand's Ministry of Business, Innovation and 
Employment. This is high by international standards and on par with New 
Zealand's three-year average of about US$42,000. Marlborough produces about 
80% of New Zealand's total wine output, and its economy is somewhat 
concentrated in agriculture, viticulture, and associated manufacturing 
industries. This exposes the district to greater risk of economic volatility, 
in our view. Visitor spending has been subdued during the past year as a 
result of damage from the Kaikoura earthquake of November 2016, though we 
expect it to recover now that the main highway has reopened. Marlborough's 
population was about 46,200 in 2017. The district has the highest proportion 
of elderly people in New Zealand, with about 23% of the local population aged 
over 65.

The institutional framework within which New Zealand local governments operate 
is a key factor supporting Marlborough's credit profile. We believe this 
framework is one of the strongest and most predictable globally. It promotes a 
robust management culture, fiscal discipline, and high levels of transparency 
and disclosure.

--We expect capital spending to be higher and liquidity weaker; moderate debt 
burden underpins strong credit profile--
Like all New Zealand councils, Marlborough prepares a triennial long-term plan 
setting out its priorities for the years ending June 30, 2019 to 2028. The 
long-term plan calls for higher capital spending over the next few years, in 
part to comply with new national standards for water supply and improve 
resilience to natural hazards. We also expect higher capital expenditure at 
the group level, particularly as Port Marlborough begins work on an extension 
of the Waikawa Marina in 2019. Revenue from rates and council fees and charges 
meanwhile should grow at a moderate pace during the next 10 years. 

As a result, we expect Marlborough to record a small after-capital deficit in 
fiscals 2018 and 2019. We expect operating surpluses to remain solid, 
averaging about 24% during fiscal years 2016 to 2020. Marlborough's budgetary 
position is buoyed by asset sales, including the ongoing sale of sections at 
its Boulevard Park on Taylor subdivision, and the expected sale of the old 
Civic Theatre building for around NZ$10.8 million in fiscal 2019.

Marlborough's total tax-supported debt as a proportion of consolidated 
operating revenue is likely to grow to 84% by the end of fiscal 2020, up from 
63% at the end of fiscal 2017, because some of the capital works program will 
be funded by new borrowing. This debt burden is moderate compared with many of 
Marlborough's domestic peers'. Our financial metrics incorporate all of the 
group's revenues and expenses, and our debt metrics include all of its 
borrowings, including funds that are borrowed by the council and on-lent to 
MDCHL and its subsidiaries. Similar to many of its peers, Marlborough 
typically under-delivers on its capital plans each year. As such, our 
base-case forecasts incorporate a 20% haircut to budgeted capital expenditure.

The group's high level of fiscal flexibility continues to support the ratings. 
We estimate that about 71% of Marlborough's operating revenues are modifiable, 
which means they can be raised or lowered at the council's discretion. We do 
not count revenues from MDCHL and its subsidiaries as modifiable because we 
believe these revenue streams are more susceptible to market forces than the 
council's more stable sources of income, such as property rates.

We expect Marlborough's debt servicing needs during the 12 months from May 
2018 to comprise NZ$17.4 million of commercial paper (which is regularly 
rolled over), a Local Government Funding Agency (LGFA) bond of NZ$4 million 
maturing in March 2019, and around NZ$5.1 million in interest payments. We 
also expect the council to maintain an average of about NZ$10.5 million in 
cash and term deposits and NZ$2.9 million in investment-grade bonds. In 
addition, the group has access to NZ$30 million in undrawn commercial bank 
facilities with Westpac Banking Corp. and ASB Bank Ltd. 

As a result, we estimate that Marlborough's free cash, liquid assets (after 
standard S&P Global Ratings' haircuts), and available committed bank lines 
stand at about 161% of debt service needs during the 12 months from May 2018. 
Our assessment of Marlborough's debt service coverage is weaker than it was 
previously. Nevertheless, Marlborough's internal liquidity is better than many 
of its peers' because it maintains a higher level of cash reserves, which it 
can use to meet short-term expenses in the event of a natural disaster.

We consider Marlborough's access to external liquidity to be satisfactory. 
While New Zealand's capital markets are comparatively liquid, they lack depth 
because of their relatively small size. During the severe market dislocation 
of 2008 and 2009, some New Zealand councils had difficulty issuing unrated 
commercial paper. Similar to most of its domestic rated peers, Marlborough 
sources the majority of its external debt through New Zealand's LGFA.

Marlborough's quantifiable contingent liabilities are small. The council has 
provided financial guarantees of loans to community organizations totaling 
NZ$2.9 million as of June 30, 2017. Marlborough lies within the highest 
earthquake risk zone in New Zealand, and the district sits on a series of 
fault lines. Insurance coverage is adequate, with most above-ground assets 
insured commercially and underground assets insured through a cost-sharing 
arrangement between the Local Authority Protection Programme and the central 
government. Marlborough is one of 31 shareholders and 48 joint guarantors of 
the LGFA's borrowings. We consider it very unlikely that this guarantee will 
be activated in the near future.
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