28 October 2008

DBRS releases detailed NL rating report

Dominion Bond Rating Service released its detailed report on Tuesday to back the changed rating for the Government of Newfoundland and Labrador.

On October 22, DBRS upgraded the province's long-term debt rating to "A from A(low)" but adjusted the trending assessment from "Positive" to "Stable".  The short-term debt rating remained at "R-1(low)" with "Stable" trending.

The detailed report cites strengths, such as the reduced debt burden, growth of the offshore and a competitive tax position.

At the same time, DBRS cites several challenges. 

Consistent with comments by the province's auditor general, DBRS notes the heavy reliance of the provincial budget on oil revenues which, DBRS says "introduces volatility to the fiscal results".

DBRS also noted unfunded pension liabilities and potential dependence on federal government transfers as issues of concern:

(3) Unfunded pension liabilities remain sizeable, projected at just over $2 billion in 2007-08. The Province has made considerable efforts to reduce these liabilities, largely as a result of the 2005 Atlantic Accord and other special contributions to help improve the funding position of both the teachers’ and public servants’ pension plans. However, declining interest rates and the recent deterioration in equity markets are likely to further add to unfunded liabilities.

(4) Through growing resource revenues, the Province has seen its reliance on federal transfers fall from greater than 40% in the 1990s to roughly 23% in 2007-08 but is nonetheless susceptible to significant changes in federal transfer programs. Any drop in resource revenues could result in a reversal of this trend and return to greater dependence on federal wealth redistribution programs.

DRBS is forecasting small surpluses through to 2010-2011 when it anticipates expenditures will outpace revenue growth. The surplus for 2008, given in the earlier release as $291 million, is actually exactly the surplus forecast by the finance minister.  DBRS appears to have included an anticipated under-expenditure on capital account which makes up the difference.

However, it is important to note the difference in the accounting method used for the DBRS report and the finance minister's statement about a surplus compared to the figures presented in The Estimates.  The premier alluded to this in an interview last week but didn't explain it.

DBRS' revenue projections report money in the year in which it was earned.  Hence, it includes revenue from the 2005 offshore deal.  However, that money was already received in 2005 and has been spent.  It can't be received and spent twice.

The provincial budget documents (particularly The Estimates) account for this by deducting that amount in its calculation of borrowing requirements. The unaudited report on the Consolidated Revenue Fund (issued in August for Fiscal Year 2007) makes a similar adjustment as it reconciles a simple statement of revenues and expenditures with the actual cash flows.  Thus, an apparent increase in revenues of $1.4 billion becomes a borrowing requirement of $110 million once all the financial transactions have been accounted for.