Province of British Columbia Long-Term Rating Affirmed At 'AAA'; Outlook Remains Stable

  • After two years of rule in the Province of British Columbia (B.C.), the New Democratic Party's minority government has continued the tradition set by its predecessor of posting modest operating surpluses.
  • Continued fiscal resolve, a wealthy economy, ample liquidity, and material budgetary flexibility remain the hallmarks of B.C.'s credit strength, counterbalancing the province's high debt-to-revenue ratio at the 'AAA' rating.
  • As a result, we are affirming our ratings on B.C., including our 'AAA' long-term issuer credit rating.
  • The stable outlook reflects our expectation that B.C.'s after-capital deficits and debt will rise moderately over the next two years, but the province's operating surpluses will remain sound. We also expect the local economy to expand moderately, with past policy measures continuing to gradually ease housing sector imbalances.

Rating Action

On April 15, 2019, S&P Global Ratings affirmed its ratings, including its 'AAA' long-term issuer credit rating, on the Province of British Columbia (B.C.). At the same time, S&P Global Ratings affirmed its 'AAA' issue rating on British Columbia Hydro & Power Authority's (BC Hydro) provincially guaranteed senior unsecured debt. The outlook is stable.

Outlook

The stable outlook reflects our expectation that B.C. will continue to enjoy sound economic growth in the next two years, providing incremental revenue that will give the government flexibility to increase real program spending, while still posting modest operating surpluses. We also expect the government to implement an ambitious capital spending program that will lead to a modest increase in its after-capital deficits and related debt.
Even with favorable economic prospects, B.C.'s debt-to-revenue ratio metric is set to grow steadily over the next two years, reversing the declining trend in fiscal 2014-2018 (year-end March 31). All else being equal, if fiscal slippage or other policy decisions cause this ratio to rise notably above current expected levels, it could begin to erode B.C.'s resiliency to the next economic downturn. We could lower the rating by one notch as a result.

Rationale

In its 2019 budget, the government upheld its practice of fiscal conservativism, embedding significant contingencies and a revenue forecast predicated on below-consensus private-sector economic projections. Its updated fiscal projections point to further modest surpluses over the next two years. However, the government also announced an ambitious capital plan that, along with on-lent financing related to BC Hydro, will fuel growth in B.C.'s tax-supported debt-to-revenue ratio to 134% by fiscal 2022, from 117% in fiscal 2019 (S&P Global Ratings-adjusted).
The ratings on B.C. continue to reflect its sustained outperformance versus that of peers in many respects, including its financial management, budgetary flexibility, liquidity, and contingent liabilities.
  • A robust economy, superior financial management, and a supportive institutional framework bolster the province's creditworthiness.
Chief among the province's credit strengths is B.C.'s robust and diversified economy. Large resource endowments, high-ranking livability, and close proximity to Asian markets underpin its affluent tax base. B.C.'s nominal GDP per capita is estimated at US$43,735 (based on a three-year average). We expect the province's GDP per capita to continue modestly rising in the next two years, thanks largely to domestic activity. Key sectors include forestry, mining, and natural gas; financial and real estate services; construction and manufacturing; and a large public sector. The liquefied natural gas sector has also experienced some positive momentum with LNG Canada's recent announcement of a C$40 billion investment for new upstream natural gas exploration and development and the construction of a new pipeline and new processing terminal that will service Asian markets.
For key indicators such as housing starts, employment, retail sales and exports, we expect that the economy will grow by 2.4% and 2.3% in 2019 and 2020, respectively. In 2018, B.C.'s economy continued to outperform compared to forecasts, with real GDP growth estimated at 2.2%. Stronger-than-anticipated employment and exports, with moderate consumer spending and housing activity, were significant contributors to economic growth last year. We believe that higher interest rates, tighter mortgage rules, and the taxes the province introduced to curb speculative buying last year will weigh on housing starts and that imbalances within the sector (which comprises about 12% of GDP) will continue to ease.
B.C.'s financial management practices remain very strong. The government continues to embed prudence in its fiscal plan, maintaining a balanced budget. The civil service remains experienced and qualified to effectively deliver fiscal policies. We believe that the province has well-defined financial policies and a well-documented financial plan that provides visibility. We also believe that management of debt and liquidity is prudent. We will continue to monitor the government's ability and willingness to make politically difficult decisions if required.
The ratings also benefit from the very predictable and well-balanced institutional framework for Canadian provinces. The Canadian constitution is the cornerstone of federal-provincial intergovernmental arrangements, which we view as mature and stable. The federal government provides revenue support through a number of agreements and transfer arrangements including the Canada Health Transfer and Canada Social Transfer payments. For fiscal 2019 (year ended March 31), total federal government transfers constituted an estimated 16% of provincial operating revenues. Most of the agreements covering these transfers are long-term, formula-driven, and predictable, but can be subject to change. Typically, the federal and provincial governments discuss proposed changes to major transfer programs well ahead of their implementation.
  • Strong economic performance will partially mitigate higher spending commitments, leading to somewhat weaker budgetary performance and moderately increasing debt.
Within its updated fiscal plan, the government has reaffirmed its commitment to maintaining modest operating surpluses. Favorable economic prospects will provide new provincial revenues. However, we believe the government will allocate much of this toward new spending priorities. As a result, we expect its operating surpluses to remain modest, at about 3% of operating revenues over the next two years. We also expect these windfalls will only partly finance B.C.'s large capital program, causing its after-capital deficits to widen to about 5%-10% of total revenues over the same period.
Given these after-capital deficits, we are forecasting B.C.'s tax-supported debt burden (including debt borrowed in the province's name and on-lent to BC Hydro) will increase to about 134% of operating revenue in fiscal 2022, from 117% in fiscal 2019. We expect that, in line with historical results, B.C.'s interest expense will average about 5% of revenues in the next two fiscal years. We consider the province's pension liabilities very manageable and not a risk for B.C.'s finances.
B.C.'s robust liquidity bolsters its creditworthiness. We estimate the province's free cash and liquid investments to be nearly C$10.6 billion (S&P Global Ratings-adjusted), covering about 180% of the next 12 months' debt service. This excludes its sinking fund balances; however, these too would be accessible if required. B.C. also benefits from exceptional access to external liquidity. In addition to issuing in the domestic market, the province maintains liquid benchmark issues in Canada, and has active borrowing programs in the U.S., Europe, and China, providing important diversification. It uses swaps to fully mitigate currency risk on its foreign currency bond issues and targets minimal exposure to floating rate risk.
B.C. has high budgetary flexibility compared with that of other Canadian provinces and international peers. The province has very high autonomy over its revenue base, with modifiable (own-source) revenues accounting for about 84% of operating revenues. Capital expenditures, on average, are projected to represent about 9% of total expenses. Further contributing to B.C.'s robust budgetary flexibility is the province's leeway to reduce operating and capital spending when needed.

B.C.'s contingent liabilities are low. This largely reflects limited postemployment benefits, as well as litigation, environmental clean-up, and the portion of public-private partnership contracts still in the construction phase, which amounted to about 9% of provincial operating revenue. We view B.C. Hydro and BC Ferries Services Ltd. as self-supporting and expect that financial support would be unlikely, given the companies' strong demand profile and supportive regulation.