Fitch affirms City of Porto at 'BBB'; Outlook Positive

Fitch Ratings has affirmed the City of Porto's Long-Term Foreign- and Local Currency Issuer Default Ratings (IDR) at 'BBB' with a Positive Outlook.

With an estimated population of 214,000, Porto is the second-largest cultural, administrative and economic Portuguese centre, providing services to a greater metropolitan area of around 1.7 million inhabitants. GDP resumed growth in 2014, and is expected to grow around 1.5%-1.7%% per year in 2019 2020, and domestic demand will drive headline GDP.

Fitch Ratings marks up Porto's financial requirements in two levels. The International Fitch Agency rates the municipality lead by Mayor Rui Moreira with a good budgetary performance, this being one of the reasons why Porto is upgraded from "BB+" to "BBB". 

Porto's Standalone Credit Profile (SCP) is 'aa+', reflecting a combination of a risk profile assessed at 'Midrange' and strong debt sustainability metrics assessed in the 'aaa' category under Fitch´s rating case scenario.

Porto´s Long-Term IDRs are capped by the sovereign ratings (BBB/Positive). Following the revision of the Outlook on Portugal's IDRs to Positive, Fitch revised the Outlook on the City of Porto's IDRs to Positive on 31 May 2019.

Fitch assesses Porto`s risk profile at Midrange, reflecting a Stronger assessment for Expenditure Sustainability and Liabilities and Liquidity Key risk factors. The Midrange assessment is derived from Porto's well diversified basket of taxes, with property tax and transfers from central government representing a large part of operating revenues.

Operating revenue has historically grown more slowly than nominal GDP.

Fitch also assess Porto's ability to generate additional revenue in response to possible economic downturns as limited. Porto's fiscal flexibility is legally moderate and concentrated on the property tax with a ceiling at 0.5%.

The city has introduced a tourist tax in 2018, which already contributes 4% of operating revenue, and is expected to grow at a moderate pace.

The bulk of Porto's responsibilities fall under non-cyclical expenditure items, such as general services to citizens, street cleaning, maintenance of basic equipment. Its operating expenditure per capita is significantly higher than surrounding cities.

As Porto is the economic centre of a metropolitan area of the same name, and needs to provide services to a high number of daily commuters. The bulk of Porto's responsibilities fall under non-cyclical expenditure items, such as general services to citizens, street cleaning, maintenance of basic equipment. This is the reason why operating expenditure per capita is significantly higher than surrounding cities.

The city's management has demonstrated tight control of expenditure, including the ability to reduce it in times of contraction of revenue.
Also, Porto has strong access to liquidity in various forms, and while it does not have any committed bank lines of credit, and Fitch views that if the city needs liquidity it would access it from institutional lenders. 

Debt Sustainability Assessed in the 'aaa' Category Under Fitch's rating case scenario, Porto´s debt sustainability is assessed in the 'aaa' category.

This assessment reflects an expected debt payback ratio of 1.6 in 2023. This ratio was negative over 2016 -2018 as the cash reserve exceeded the level of debt. The 'aaa' assessment also reflects very strong debt servicing coverage, which we expect to be well above 10x, as a consequence of the steep debt reduction in 2018.

Porto's operating performance strongly improved in 2018 to EUR60 million (EUR24 millon-EUR40 million range in 2014-2017). This was largely due to the very good performance of real estate transactions. The city took advantage of this to reduce its debt, which was already considered low at end-2017 at EUR31 million.

Porto maintained a very high level of reserves at end-2018 (EUR88 million) relative to its debt of EUR13 million. Net debt (debt minus cash reserves) has been negative since 2016.

Porto's SCP is assessed at the 'aa' category, reflecting a combination of a Midrange risk profile and a 'aaa' debt sustainability assessment.

Fitch's rating case scenario is through the cycle and integrates a combination of revenue, cost and financial stresses in case of economic slowdown. Following the very good performance of the real estate transfer tax, this scenario factors in an adjustment, so that operating revenue growth will average only 0.8% yoy.

Fitch describes Porto as the second largest cultural, administrative and economic Portuguese city, an affluent and striking city, with a lot of potential, namely in tourism thanks to its unique features in its historical centre that was classified by the UNESCO as World Cultural Heritage in 1996.

The city's business centre comprises 14 municipalities with 1.5 million inhabitants.