Fitch Rates Kogi State ‘B-‘ with Positive Outlook
Fitch Ratings has assigned Kogi State a ‘B-‘ Long-Term Issuer Default Rating (IDR) with a Positive Outlook and a ‘AA-(nga)’ National Long-Term Rating. Fitch assesses Kogi’s Standalone Credit Profile (SCP) at ‘b’. A full list of ratings is below.
The ratings reflect Kogi’s revenue dependency on volatile transfers from the federal government of Nigeria, Fitch said. The global ratings agency explained that the ‘b’ standalone credit profile reflects Kogi’s stable operating balance but also vulnerability to oil prices changes and rising adjusted debt.
The IDRs are capped by Nigeria’s ‘B-‘ ratings. The positive outlook on the IDRs, according to Fitch, mirrors that on the sovereign as Kogi’s SCP is currently above the sovereign.
Kogi’s ‘Vulnerable’ risk profile reflects a very high risk that the state’s ability to cover debt service with its operating balance may weaken unexpectedly over our forecast horizon (2024-2028).
This may be due to lower-than-expected revenue, higher-than-expected expenditure, or an unexpected rise in liabilities or debt-service requirements.
Kogi’s revenue robustness is influenced by the state’s overall weak socio-economic profile by international standards and reliance on volatile transfers from the federal government.
Fitch said about 80% of Kogi’s revenue is made of federal allocated revenue, i.e. VAT and statutory transfers (over half of operating revenue) that are highly dependent on the sale of hydrocarbons.
The rating note explained that the proportion of internally generated revenue (IGR) of total operating revenue is less than 20%, below the Nigerian states’ average.
It also said Kogi’s revenue potential depends on its ability to broaden its tax base and enforce tax compliance. The main fiscal revenue is pay-as-you-earn taxes, on which Kogi cannot set the tax rate.
Other IGR sources, including fees, are marginal for Kogi and could offer some potential room for increase. However, Fitch views the ability to expand the tax base as limited by the presence of a wide informal economy and the population’s low-income level.
Fitch noted that Kogi has a broad set of responsibilities and high spending needs to support its population and the local economy.
Analysts explained that spending responsibilities range from social sector (about a third, including education and healthcare) and economic development (about 24%).
Kogi is exposed to a deteriorating operating environment, which weakens its control over total expenditure growth, influenced by high inflation, rising commodity prices, and supply constraint amid naira depreciation.
Fitch expects spending growth to outpace revenue growth in the medium term, in its rating case of a prolonged economic downturn, driven by increasing workforce costs and high inflation on purchases.
It said federal government has no mandatory balanced budget rules for states, which are required to keep their deficits below 3% of national GDP.
Fitch considers Kogi’s cost structure as rigid, with salaries representing about 40% of total costs and operating expenses overall amounting to over 65% of expenditure.
“In our view, capex flexibility is hampered by the limited share of capex in total expenditure and the territory’s high need for investment in energy, infrastructures, information technology to support a more favourable environment to attract business”.
The national framework for debt is evolving so borrowing limits are quite wide, Fitch rating said noting that Nigerian states have no restrictions on debt maturities, interest rates or foreign currency exposure.
Kogi’s NGN165 billion direct debt at the end of 2023 is made up of domestic debt with local counterparties, a bond issuance, and several facilities sponsored by the federal government making up over 50% of its direct debt. External debt represents about 25% of direct debt in 2023, encompassing the effect of steep depreciation of the naira.
Kogi’s debt is largely served through deductions from the statutory allocation. The state’s reported arrears are minimal at less than NGN4 billion and we report them under adjusted debt.
Fitch deems Kogi’s liquidity as weak as the state has no committed liquidity lines, and domestic banks rated in the ‘B’ category tend to extend credit lines either with short maturities or with back-up from the federal government through direct deductions from federal allocations for longer maturities.
Kogi’s liquidity sources include cash and the sinking fund set aside for bond repayments. We generally do not consider financial assets in our calculation as they usually represent non-sellable or illiquid stakes in local entities.
Emergency liquidity may also come directly from the federal government with dedicated facilities helping states meet liquidity shortfalls and covering payments of salaries and pensions.
Under Fitch’s rating case of a prolonged economic downturn, Kogi’s debt payback ratio – the primary metric of debt sustainability assessment – could deteriorate to over 18 years by 2028, corresponding to a ‘bb’ assessment.
Fitch said Kogi’s fiscal debt burden could increase to above 200%, equivalent to a ‘bb’ assessment, while its actual debt servicing coverage will be less than 1x, consistent with a ‘b’ assessment.
Kogi’s fiscal performance improved in 2023, backed by increasing FAAC allocation.
“We expect federal transfers to further increase in 2024 under all scenarios”, Fitch said, adding that Kogi’s operating margin are quite low in the range of 10% to 15%, with a negative operating balance in 2019 due to a peak in personnel costs arrears.
“We expect Kogi’s net Fitch-adjusted debt to increase around NGN500 billion in the medium term, close to 240% of the state’s revenue.
“The debt stock encompasses the effect of the naira’s devaluation on external debt that will support Kogi’s extensive capex plan of over NGN400 billion in 2024-2028 to fund infrastructure construction and upgrade”, Fitch Ratings stated. #Fitch Rates Kogi State ‘B-‘ with Positive Outlook
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