news & analysisweb1.amchouston.com/flexshare/001/cfa/moody's/mco 2015 04 09… · on 1 april,...

MOODYS.COM

9 APRIL 2015

NEWS & ANALYSIS Corporates 2 » Go Daddy's IPO Reduces Its Leverage and Enhances Its Ability

to Grow » Teva's Auspex Deal Boosts Pipeline Without Raising Leverage » Royal Philips Sells Stake in Lumileds, a Credit Positive » Country Garden Plans Credit-Positive Equity Issuance » Chinese Property Developers Will Benefit from Relaxed

Mortgage Lending Terms and Housing Tax Rules

Infrastructure 7 » US West Coast Ports Face Negative Credit Pressure from

Canada's Prince Rupert » Duke Energy Sells Competitive Generation Business, a

Credit Positive

Banks 10 » Russia Adds Tier 1 Instruments to Bank Recap Plan, a

Credit Positive » China's New Deposit Insurance Scheme Is Credit Negative for

Small Banks

Insurers 15 » US Health Insurers’ Final 2016 Medicare Advantage Rates Are

Credit Positive » US Insurance Regulator Targets Variable Annuity Captives, a

Credit Positive » Canada Mortgage and Housing Corporation's Premium Hike Is

Credit Positive

Sovereigns 21 » Nigeria's Peaceful Transition of Power Is Credit Positive

Sub-sovereigns 22 » Russian Regions Will Benefit from Restructuring of Soft Loans

US Public Finance 23 » New York Budget Is Credit Positive for the State and Its

School Districts

RECENTLY IN CREDIT OUTLOOK » Articles in the 30 March Credit Outlook 25 » Go to the 30 March Credit Outlook

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NEWS & ANALYSIS Credit implications of current events

2 MOODY’S CREDIT OUTLOOK 9 APRIL 2015

Corporates

Go Daddy’s IPO Reduces Its Leverage and Enhances Its Ability to Grow On 1 April, GoDaddy Inc., the indirect parent company of Go Daddy Operating Company, LLC (Go Daddy, Ba3 stable), completed an initial public offering (IPO), raising $520 million in gross proceeds by selling shares of its Class A common stock at $20 per share. The IPO is credit positive for Go Daddy because the company will use the proceeds to pay off $300 million in debt and increase its cash balances by about $125 million. This will reduce leverage and enhance the company’s ability to invest in its growth initiatives. After the IPO, we upgraded Go Daddy’s corporate family rating to Ba3 from B1 and changed the outlook on the rating to stable from negative.

We expect Go Daddy’s leverage, which we define as total debt to cash flow from operations plus interest expense, to decline to about 3.5x by mid-2016 from roughly 4.6x at the time of the IPO. We estimate that Go Daddy will produce free cash flow of approximately $180 million, or about 15% of total debt, over the 12 months ending 30 June 2016.

The company has only modest levels of net operating loss carryforwards. Under its tax receivable agreements (TRAs), Go Daddy will pay company founder Bob Parsons and financial sponsors Kohlberg Kravis Roberts, Silver Lake and Technology Crossover Ventures about 85% of the income tax savings it will realize from tax attributes created by the exchange of LLC units for shares of Class A common stock. As taxable income rises, tax benefits will create an increasing liability from the TRAs that will reduce Go Daddy’s free cash flow.

Following Go Daddy’s leveraged buyout in December 2011, the company has shown a high tolerance for financial risk, including debt-funded distributions to shareholders and acquisitions. With the completion of the IPO, Mr. Parsons and the company’s financial sponsors still collectively control more than 80% of the voting power of the common stock, increasing the likelihood that debt would rise to facilitate the future exit of sponsors.

Go Daddy is the market leader in Internet domain name registration, with approximately 21% of the global domains under its management. The company generates most of its revenue from selling lower-cost, highly commoditized domain name and web hosting services, which are characterized by low barriers to entry, modest pricing power and low average revenue per user (ARPU). However, the company operates in an industry characterized by rapid growth as small businesses and consumers seek to establish their online presence by acquiring domain names and ancillary services, such as domain-specific email services, website building, hosting and security tools, and e-commerce applications. The company’s total bookings increased at a compound annual growth rate of 16% between 2010 and 2014, driven by compound annual subscriber growth of around 12% and ARPU growth of about 4%. We project that Go Daddy’s organic bookings will grow by 12%-15% over the next 12-18 months, driven by a similar mix of customer and ARPU expansion.

The acquisitions of Locu, Media Temple and AfterNic in 2013 broadened Go Daddy’s product portfolio. This expanded portfolio, along with improved execution through product upgrades and an enhanced customer experience on its websites, should boost ARPU growth. In addition, the company in 2013 realigned its brand messaging away from provocative advertising aimed at individual consumers to efforts targeting small and midsize businesses, which have greater up-sell potential.

The Ba3 corporate family rating incorporates our expectation that total debt will decline gradually. Go Daddy’s strong free cash flow relative to its debt and cash balances allow ample capacity to fund growth plans. We expect the company to use surplus cash to bolster its product portfolio through tuck-in acquisitions and to fund growth initiatives such as mobile applications and international expansion.

Raj Joshi Assistant Vice President - Analyst +1.212.553.2883 [email protected]

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on www.moodys.com for the most updated credit rating action information and rating history.

https://www.moodys.com/credit-ratings/Go-Daddy-Operating-Company-LLC-credit-rating-822667857https://www.moodys.com/research/Moodys-upgrades-Go-Daddys-CFR-to-Ba3-stable-outlook--PR_322271http://www.moodys.com/



Teva’s Auspex Deal Boosts Pipeline Without Raising Leverage On 30 March, Teva Pharmaceutical Industries Ltd. (A3 stable) announced plans to acquire Auspex Pharmaceuticals Inc. (unrated) for $3.2 billion. The acquisition, which Teva will fund with cash on hand, is credit positive because it will improve Teva’s product pipeline without significantly increasing its leverage.

Auspex is squarely in line with Teva’s strategy of building its branded pharmaceutical business by acquiring assets in its key therapeutic areas of central nervous system (CNS) and respiratory disorders. Auspex’s leading drug candidate is SD-809 for the treatment of movement disorders such as Huntington’s disease and tardive dyskinesia. We had expected Teva to make acquisitions of this type when we changed the company’s rating outlook to stable from negative in February.

Teva will fund the deal largely with cash on hand and possibly some borrowings against its $3 billion revolver. Teva had $2.2 billion of cash at December 2014. Year to date, the company has repaid $1.3 billion of US dollar debt and issued $2.2 billion of euro-denominated debt, resulting in a net increase of about $900 million of cash. Assuming the acquisition closes late in the second quarter of 2015, we estimate that Teva will have generated about $1.5 billion of incremental cash, bringing cash up to an estimated $4.5 billion by mid-year.

In addition to the $3.2 billion acquisition, Teva will also have to fund a $1 billion debt maturity in June. Depending on the timing of the acquisition’s close and Teva’s cash flows, we expect that Teva may draw between $500 million and $1 billion on its $3 billion revolver. We expect that Teva would repay any revolver borrowings later in 2015 with cash flow.

Auspex will likely be a modest drag on Teva’s EBITDA in 2015 and 2016 because the company will continue to fund R&D for its pipeline (Auspex spent $38 million on R&D in 2015). But the acquisition will not materially change Teva’s leverage, which we expect will remain around 2.0x, based on our projected 2015 EBITDA.

The acquisition is not without risk: Teva is making a significant bet on a company that does not have any products approved by the US Food and Drug Administration (FDA). Auspex has reported positive Phase III data for SD-809 to treat chorea (abnormal involuntary movements) associated with Huntington’s disease and plans to submit its application to the FDA by mid-2015. Although the positive clinical data somewhat reduces Auspex’s risk, the timing of drug approvals and ramp-up of new drug sales are unpredictable.

That said, Auspex fits in very well with Teva’s strategy and existing pipeline, which includes two drug candidates to treat Huntington’s disease (Laquinimod and Pridopidine) in Phase II trials. There are currently few options for patients with movement disorders, and, if successful, Teva could become a leader in what is currently an uncrowded field. Additionally, Teva has a strong sales and marketing infrastructure aimed at neurologists given that its blockbuster drug Copaxone treats multiple sclerosis. Over time, Teva could also launch SD-809 outside the US, given its strong global footprint. Auspex has patents on SD-809 until 2031 in the US and 2029 in Europe.

If approved, SD-809 could launch commercially in the US in 2016. Building out its mid-term CNS pipeline is crucial for Teva, given the potential for generic competition on Copaxone (currently 21% of revenue) later in 2015. Teva could also face generic competition on Azilect (2% of revenue), which treats Parkinson’s disease, in late 2016 or early 2017. Although SD-809 will not likely generate enough revenue in 2016 to offset the declines in Copaxone and Azilect, it could help position Teva for growth in 2017 and beyond. Moreover, salespeople and resources currently used for Azilect can be redirected toward SD-809 with little incremental investment since the drugs would be prescribed by the same set of physicians.

Auspex’s drug is also being tested in Phase II/III clinical trials to treat tardive dyskinesia, a disorder resulting in involuntary body movements, and is in early-stage testing for Tourette’s syndrome and other respiratory and CNS indications.

Jessica Gladstone Vice President - Senior Credit Officer +1.212.553.2988 [email protected]

https://www.moodys.com/credit-ratings/Teva-Pharmaceutical-Industries-Ltd-credit-rating-600022073



Royal Philips Sells Stake in Lumileds, a Credit Positive On Tuesday, Royal Philips N.V. (Baa1 stable) announced that it had agreed to sell an 80.1% interest in its combined LED components and automotive lighting business (to be named Lumileds) to a consortium led by GO Scale Capital (unrated). The sale for an enterprise value of approximately $3.3 billion will result in cash proceeds, before tax and transaction-related costs, of approximately $2.8 billion, and a deferred contingent payment of up to $100 million. Subject to closing conditions, including customary regulatory approvals, Philips expects to complete the sale in the third quarter of this year.

The divestment is credit positive for Philips because it will more than offset the recent acquisition of Volcano Corp. (unrated), purchased for $1.3 billion including acquired net debt. The proceeds will bring Philips’ Moody’s-adjusted debt to EBITDA ratio toward the 2.5x-3.0x range we expect for its Baa1 rating, compared with our estimate of 3.3x at the end of 2014. The sale will also reduce Philips’ exposure to profitable but volatile and capital-intensive activities that have dented its operating results and cash flows in recent years.

These benefits are partly offset by the inclusion in the divested operations of the profitable and more stable automotive lighting business. Lumileds will be one of the industry’s leading players.

Lumileds supplies lighting components to the general illumination, automotive and consumer electronics markets and generated revenues of around $2.0 billion with double-digit EBITA margins in 2014. Philips reported these activities as discontinued operations last year, hence the sale will not affect its profit measures such as its EBITDA as reported in 2014, but it will affect Moody’s-adjusted metrics because we added back the contribution from discontinued operations to estimate Philips’ key credit metrics. Lumileds will continue to supply LED components to Philips in the future through long-term contracts.

Philips will also retain the remaining 19.9% interest, including a 34% interest in Lumileds’ US operations.

Roberto Pozzi Vice President - Senior Credit Officer +44.20.7772.1030 [email protected]

https://www.moodys.com/credit-ratings/Royal-Philips-NV-credit-rating-600008438



Country Garden Plans Credit-Positive Equity Issuance Last Wednesday, Country Garden Holdings Company Limited (Ba2 review for upgrade) announced that it plans to issue about 2.24 million new shares (approximately 9.9% of the enlarged share capital of the company) to Ping An Insurance (Group) Company of China, Ltd. (unrated). The company estimates total net proceeds of around HKD6.3 billion. The share placement to Ping An would be credit positive because it would improve Country Garden’s capital base, lower its leverage, and strengthen its liquidity. Country Garden expects to complete the placement by the end of the month, pending approval from the Hong Kong Stock Exchange.

The equity issuance would lower Country Garden’s debt leverage as measured by adjusted debt/total capitalization. We estimate that the company’s pro forma adjusted debt/total capitalization will decline to about 55.4% from 57.5% as of 31 December 2014, as shown in the exhibit below.

Country Garden’s Debt/Capitalization, 2011-14

Source: Moody’s Financial Metrics

The share placement will also enhance Country Garden’s already-strong liquidity. Cash to short-term debt was about 182% at year-end 2014. Net proceeds from the equity issuance will be around 18% of its total cash balance of about RMB27.2 billion as of 31 December 2014, bringing pro forma cash to short-term debt to around 216%.

Country Garden completed a number of financing activities last year. In October, the company completed a rights issue and raised around HKD3.18 billion, with most of the net proceeds used to repay a maturing senior note. It also issued two new senior notes for $800 million and obtained its first offshore syndicated loan for HKD4.5 billion in 2014. As a result, the company lengthened the average tenure of its debt portfolio and reduced its weighted average cost of borrowing to around 8.16% in 2014 from 8.54% in 2013.

This planned equity issuance demonstrates Country Garden’s proactive management of its capital structure and its debt leverage, as well as its commitment to rely less on debt funding for its expansion.

Country Garden also said the share placement will establish strategic cooperation between it and Ping An and the potential development of more than 200 existing property projects. However, we believe it will take time to create meaningful synergies given the early stage of their strategic partnership.

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Chris Wong Associate Analyst +852.3758.1531 [email protected]

Franco Leung, CFA Vice President - Senior Analyst +852.3758.1521 [email protected]

https://www.moodys.com/credit-ratings/Country-Garden-Holdings-Company-Limited-credit-rating-820537613https://www.moodys.com/research/Moodys-Country-Gardens-first-offshore-club-loan-is-credit-positive--PR_315513https://www.moodys.com/research/Moodys-Country-Gardens-first-offshore-club-loan-is-credit-positive--PR_315513mailto:[email protected]:[email protected]



Chinese Property Developers Will Benefit from Relaxed Mortgage Lending Terms and Housing Tax Rules On 30 March, the People’s Bank of China (PBOC), China’s Ministry of Finance, and China’s State Administration of Taxation announced measures that ease mortgage lending conditions for homebuyers and relax tax rules. The new measures are credit positive for China’s property developers because they will support demand for properties and alleviate downside pressure on property sales by making it easier for homebuyers to obtain mortgages and by lowering the cost of property transactions for borrowers who meet certain criteria.

Among our rated developers, those with high exposure in first- and second-tier cities and a focus on home upgraders will benefit most from these measures. These companies include China Overseas Land & Investment Limited (Baa1 stable), Longfor Properties Co. Ltd. (Ba1 stable), Gemdale Corporation (Ba1 negative), Shimao Property Holdings Limited (Ba2 stable) and KWG Property Holding Limited (Ba3 negative).

These supportive policy moves followed weak January and February national contracted sales, which combined declined by 16.7% from a year earlier. The nation’s housing prices remained under pressure early this year owing to a high level of housing inventory. The number of cities in which home prices declined by more than 5% year on year increased to 52 in February from 38 in January.

The PBOC said that commercial banks can now lower their minimum down-payment requirement to 40% from 60% for buyers of second homes who have outstanding mortgages on their first homes. The Ministry of Finance and State Administration of Taxation, in a separate statement, said individuals selling an ordinary home would be exempt from business taxes if they had owned the home for more than two years, down from five years previously. The relaxed mortgage terms and housing taxes will support home sales for own use and for investment. Although the current policy relaxation will boost sales volume in the near term, developers’ pricing power remains limited because inventory remains high and developers with weak liquidity will take this opportunity to offer promotions to boost sales.

The central bank’s latest moves reinforce the government’s intention to support homeownership. We expect that mortgage lending will continue to grow modestly, supporting demand for our rated developers’ properties, rather than a material, immediate increase in mortgage lending.

Also, we believe that banks prefer lending to buyers who purchase homes from reputable developers with strong track records and financial positions, especially in challenging market environments. These developers have greater access to funding than weaker developers, which increases their ability to complete and deliver projects on time.

Various supportive government policies announced 30 September 2014 that eased mortgage lending conditions helped boost the contracted sales in fourth-quarter 2014, narrowing the full-year sales decline to 7.8%, compared with a 10.8% decline for the first nine months of 2014. The September 2014 policy was the first relaxation of mortgage lending rules by the central bank since property sales began slowing in January 2014.

Franco Leung, CFA Vice President - Senior Analyst +852.3758.1521 [email protected]

https://www.moodys.com/credit-ratings/China-Overseas-Land-Investment-Limited-credit-rating-600012308https://www.moodys.com/credit-ratings/China-Overseas-Land-Investment-Limited-credit-rating-600012308https://www.moodys.com/credit-ratings/Longfor-Properties-Co-Ltd-credit-rating-822418382https://www.moodys.com/credit-ratings/Gemdale-Corporation-credit-rating-823078915https://www.moodys.com/credit-ratings/Shimao-Property-Holdings-Limited-credit-rating-809824105https://www.moodys.com/credit-ratings/KWG-Property-Holding-Limited-credit-rating-820629567



Infrastructure

US West Coast Ports Face Negative Credit Pressure from Canada’s Prince Rupert On 2 April, DP World Limited (Baa3 stable), the Dubai government-owned container terminal operator, announced that it would buy the Fairview Container Terminal in Prince Rupert, British Columbia, Canada. Three weeks earlier, the port announced plans to expand its container capacity by 500,000 twenty-foot equivalent units (TEUs) annually. The terminal’s purchase by one of the largest global terminal operators, combined with the Prince Rupert port’s planned expansion, will likely divert cargo from US West Coast ports, particularly from Washington’s Seattle and Tacoma ports.

The Port of Prince Rupert is located approximately 500 miles north of Vancouver and is the closest North American port to Asia. Cargo from China reaches Prince Rupert port a day ahead of the US West Coast ports. Importantly, the US federal Harbor Maintenance Tax (HMT) is not imposed on ocean-going cargos that move through non-US ports but afterwards move to the US over land. The Port of Tacoma, Washington (senior revenue backed Aa3 stable) reported that HMT is responsible for approximately half of the US-bound cargo that passes through Canadian ports. As Prince Rupert’s operational capacity grows, it will be increasingly competitive with the all US West Coast ports.

However, at 540,000 TEUs in 2013, the Fairview Terminal at Prince Rupert currently lacks the scale to handle a significant portion of US demand. Once the capital improvements are completed, Prince Rupert will have similar scale to the Port of Seattle, Washington (senior revenue backed Aa2 stable), which handled 1.6 million TEUs in 2013, and the Port of Tacoma, which handled 1.9 million TEUs in 2013 (see exhibit). If the current US HMT regime remains in place, Prince Rupert will likely be both cheaper and faster than its US competitors, and more attractive for discretionary cargo headed for points inland.

Ports of Seattle, Tacoma and Prince Rupert Cargo Throughput Prince Rupert plans to scale up and will challenge the US Pacific Northwest ports.

Source: American Association of Port Authorities

DP World will purchase the terminal for CAD580 million from Deutsche Bank, which acquired it in 2007. DP World expects the acquisition to close in the second half of this year, after regulatory approval in Canada. The concession period runs through 2034, with an extension to 2056 after the expansion is completed.

The Prince Rupert Port Authority expects the expansion project to begin in the second half and be completed in mid-2017. The project will increase the terminal’s maximum operating capacity to approximately 1.3 million TEUs annually. The project includes an extension to create a seamless 765-meter

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Myra Shankin Analyst +1.212.553.2814 [email protected]

https://www.moodys.com/credit-ratings/DP-World-Limited-credit-rating-820257283https://www.moodys.com/credit-ratings/Port-of-Tacoma-WA-credit-rating-600037991https://www.moodys.com/credit-ratings/Port-of-Tacoma-WA-credit-rating-600037991http://portoftacoma.com/sites/default/files/HMT%201%20Pager.pdfhttps://www.moodys.com/credit-ratings/Port-of-Seattle-WA-credit-rating-800031266



wharf, installation of crane rails to support an eight-crane, two-berth operation, an additional mooring structure and additional cargo storage space. Rail capacity will also be upgraded with three additional working tracks to be supported by up to six rubber tire gantry cranes.

The Fairview Terminal at Prince Rupert was converted from a general and break-bulk cargo facility to a container terminal in 2007, with funding from the Government of Canada, Province of British Columbia, Maher Terminals of Canada, Canadian National Railway and the Prince Rupert Port Authority. It has an operational capacity of approximately 850,000 TEUs annually, 61 feet of water depth, three super Post-Panamax cranes and on-dock service from Canadian National intercontinental railway.



Duke Energy Sells Competitive Generation Business, a Credit Positive On 2 April, Duke Energy Corporation (Duke, A3 stable) sold its non-regulated, competitive generation business to Dynegy, Inc. (B2 stable) for $2.8 billion in cash. The sale of its ownership interest in 11 merchant coal and natural gas-fired power plants in Ohio, Illinois and Pennsylvania is credit positive. The sale eliminates a more risky, volatile business from Duke’s predominantly regulated utility operations and completes the transition of its Ohio utility subsidiary, Duke Energy Ohio, Inc. (Duke Ohio, Baa1 stable), into a lower-risk transmission and distribution utility.

Duke will use $1.5 billion of the sale proceeds to repurchase shares, and use the remainder to pay down holding company debt and fund 2015 capital investments. Duke’s 2015 financing plan includes reducing holding company debt by $1.05 billion. The pay down will target outstanding commercial paper ($1.5 billion at year-end 2014) and $450 million of senior notes that were redeemed on 1 April 2015. Major 2015 capital projects include new regulated utility generating plants, transmission and distribution investments, renewable energy growth and environmental controls. The $2.8 billion sale price was higher than Duke’s originally estimated fair market value and it recognized a $500 million pre-tax reversal of a $1.4 billion impairment that Duke had taken in the first half of 2014.

The 6,100 megawatts of generating assets sold were the only non-regulated, merchant operations in the Duke organization, the largest regulated utility system in the US. The assets sell power at competitive rates in the wholesale energy market, which has been characterized by low power prices in recent years and has pressured Duke’s margins. When the Public Utilities Commission of Ohio last year declined Duke’s request for a state-approved capacity charge to improve its margins, the company decided to sell the assets and exit the business.

The risk profile of Duke Ohio, the former owner of many of these generating assets, improved immediately and considerably following the sale. The utility is now a fully regulated, lower risk transmission and distribution utility with a business risk profile more consistent with Duke’s five other utilities and primarily regulated business strategy. Over the next few years, we expect Duke Ohio to exhibit strong, stable financial metrics, including cash flow pre-working capital coverage of interest of 4.0x-4.5x and cash flow pre-working capital to debt of 17%-19%.

Michael G. Haggarty Associate Managing Director +1.212.553.7172 [email protected]

https://www.moodys.com/credit-ratings/Duke-Energy-Corporation-credit-rating-809360313https://www.moodys.com/credit-ratings/Dynegy-Inc-credit-rating-600052003https://www.moodys.com/credit-ratings/Duke-Energy-Ohio-Inc-credit-rating-175000



Banks

Russia Adds Tier 1 Instruments to Bank Recap Plan, a Credit Positive On 27 March, the lower house of Russia’s parliament (the State Duma) approved a draft law that will allow the government to provide capital to needy banks in the form of Tier 1 capital. The inclusion of Tier 1 instruments in the RUB1 trillion (approximately $17 billion) bank recapitalisation plan, originally adopted in December 2014, provides enhanced loss-absorption capacity for banks compared with the original plan, which provided only Tier 2 capital.

Nevertheless, the overall size of the government’s planned injections into banks is insufficient to fully offset pressure on their capital ratios from the protracted economic downturn that we expect in Russia this year and next.1 Additionally, banks accepting Tier 1 or Tier 2 capital injections must increase lending to key sectors of the economy by at least 12% over the next three years, a credit-negative requirement that will force the banks to increase their exposures and concentration risks amid acute stress in the Russian economy. This will increase their asset quality risks.2

In January, the government approved a list of 27 banks, including both state-owned and private institutions, for capital injections totalling RUB830 billion (setting aside approximately RUB170 billion from the RUB1 trillion package for later potential injections into smaller regional banks). According to this original support package, the qualifying banks were to issue subordinated debt to the Deposit Insurance Agency (DIA) in return for Russian Treasury bonds (OFZ) that later can be pledged with the Central Bank of Russia (CBR) in return for cash.

With the new draft law, banks will have the option to issue Tier 1 capital instruments as preferred shares or very long-term (more than 50 years) subordinated debt to the DIA instead of shorter-term subordinated debt. This will contribute to increased loss-absorption capacity because Tier 1 instruments are either perpetual or very long-term and have full write-down features, meaning they do not need to be repaid. The DIA board and government must approve a bank for it to receive a Tier 1 capital injection.

Because new Tier 1 instruments can dilute existing shareholders and the likelihood that the government would prefer to limit the tenor and the degree of subordination in its exposure to privately owned banks, in practice we expect that privately owned banks will opt for Tier 2 instruments (shorter-term subordinated loans) in their recapitalisation plans. Indeed, among six privately owned banks that the DIA approved for capital injections as of 1 April, all will receive capital in the form of Tier 2 instruments.

In contrast, state-controlled banks, which could act as government vehicles to promote lending to the economy, may choose to receive Tier 1 capital and the government is likely to grant such approval.3 The government’s Tier 1 capital injection into state-controlled banks is apt to mitigate state-controlled banks’ generally large concentrations and exposures to credit challenges from Russia’s economic downturn, including high exchange rate volatility, borrowers’ weakening financial standing and increased funding costs.

Some state-controlled banks now report Tier 1 ratios that are well below the system average. At 1 February 2015, the latest CBR data available, the sector average Tier 1 capital adequacy ratio was 8.5%, down from

1 See Russian Banks: Protracted Downturn and High Interest Rates Will Severely Pressure Asset Quality and Lead to Widespread

Losses, 4 March 2015. 2 See Russia Requirement that Banks Boost Lending in Exchange for Capital Relief Is Credit Negative, 19 January 2015. 3 In February, Russia Finance Minister Anton Siluanov mentioned that three state-controlled banks could receive the federal treasury

bonds (OFZ) for their Tier 1 capital. However, the details and the regulatory framework for these transactions were unclear at the time of the announcement.

Olga Ulyanova Vice President - Senior Analyst +7.495.228.6078 [email protected]

Victoria Voronina Associate Analyst +7.495.228.61.13 [email protected]

https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1002639https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1002639https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_178691



8.8% a year earlier. At the same reporting date, state-controlled Bank VTB, JSC (Ba1/Ba2/Ba1 negative, b14) subsidiary Bank of Moscow (Ba2/Ba2/Ba2 negative, b2) reported a regulatory Tier 1 capital ratio of 7.42%, while another of its subsidiaries, VTB24 (Ba1/Ba2 negative, b1), reported a Tier 1 capital ratio of 7.37%. State-controlled Gazprombank (Ba2/Ba2/Ba2 negative, b1) reported regulatory Tier 1 capital ratio of 7.50%.

Exhibit 1 shows the effect on the top five state-controlled banks eligible for the recapitalisation package if the banks were to receive their entire injection amounts as Tier 1 capital.

EXHIBIT 1

Increase in Russian State-Controlled Banks’ Tier 1 Capital Adequacy Ratio with Maximum Utilisation of Tier 1 Capital Increase

Notes: Russia’s largest state-owned bank, Sberbank (Ba1/Ba2/Ba1 negative, ba2) does not participate in the government OFZ capital increase package; instead, it has been allowed to convert a RUB500 billion subordinated loan from the CBR into Tier 1 capital which, according to our estimates, will boost Sberbank’s Tier 1 capital ratio by 2.5 percentage points from 8.34% reported as at 1 March 2015. Sources: Central Bank of Russia and Moody’s Investors Service estimates

Exhibit 2 shows the effect on the top 15 banks eligible for the recapitalisation package if the banks were to participate either in the form of Tier 1 or Tier 2 capital increase.

4 The bank ratings shown in this report are the bank’s local currency and foreign currency deposit ratings, senior unsecured debt rating

(where available) and their baseline credit assessments.

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Bank of Moscow VTB24 Gazprombank Russian Agricultural Bank Bank VTB, JSC (standalone)

Tier 1 CAR at 1 March 2015 Tier 1 CAR Increase with Maximum Tier 1 Issuance Minimum Required Tier 1 CAR

https://www.moodys.com/credit-ratings/Bank-VTB-JSC-credit-rating-600037743https://www.moodys.com/credit-ratings/Bank-of-Moscow-credit-rating-807583224https://www.moodys.com/credit-ratings/VTB24-credit-rating-809277093https://www.moodys.com/credit-ratings/Gazprombank-credit-rating-600043286https://www.moodys.com/credit-ratings/Sberbank-credit-rating-806795061



EXHIBIT 2

Increase in Russian Banks’ Total Capital Adequacy Ratio with Maximum Utilisation of Tier 1 or Tier 2 Capital Increase

Sources: Central Bank of Russia and Moody’s Investors Service estimates

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Total CAR at 1 March 2015 CAR Increase with Maximum Tier 1 or 2 Issuance Minimum Required Total CAR

Private BanksState-Owned Banks



China’s New Deposit Insurance Scheme Is Credit Negative for Small Banks On 31 March, The State Council of the People’s Republic of China released the final version of the Deposit Insurance Act and announced that the deposit insurance scheme will take effect on 1 May. According to the government, the new deposit insurance scheme will provide full coverage against bank failure for 99.63% of depositors.

The deposit insurance scheme is credit negative for small regional banks because it weakens the government’s incentive to bail them out in the event of stress. However, we still expect government support for large banks whose failure would cause systemic risk. The scheme will also raise the average cost that small banks pay on their deposits and other liabilities and will challenge their liquidity management, in addition to heralding a more competitive banking landscape that could also disadvantage small banks. Still, the scheme would contribute to the banking system’s stability and the public’s confidence in it.

The scheme’s final version is essentially the same as the 30 November 2014 consultation version, but adds that insurance payments will be made within seven days after a bank is put into administration or liquidation by the deposit insurance company or after the bank itself files a bankruptcy proceeding. Exhibit 1 lists the key features of the deposit insurance scheme.

EXHIBIT 1

Key Features of China’s Proposed Deposit Insurance Scheme Coverage Limit RMB500,000 (principal and interest combined)

Covered Institutions Deposit-taking banking institutions incorporated in China

Covered Deposits All local and foreign currency deposit accounts, except for excluded deposits

Excluded Deposits » Onshore deposits of branches of foreign banks » Offshore deposits » Financial institution deposits » Deposits by senior management of the same banks » Other deposits specifically excluded by the rules of the deposit insurance company to be established

Insurance Premium A base premium and a risk premium, with details on rates forthcoming and subject to State Council approval

Use of Deposit Insurance Funds » Make direct claim payment up to the insurance limit » Delegate other qualified insured banks to make claim payment up to the insurance limit » Provide guarantee, loss-sharing or funding support to other qualified insured banks to facilitate acquisition of all or

part of the businesses, assets and liabilities of failed banks Timing of Claim Payment Within seven business days after the deposit insurance organization puts banks into administration or liquidation, or

after bankruptcy filing, or as approved by the State Council of the People’s Republic of China

Effective Date 1 May 2015

Source: The State Council of People’s Republic of China

The reduced likelihood of a government bailout for small regional banks raises the risk that uninsured funds would become more prone to flight at the first sign of distress. Therefore, while small banks may see greater inflow of small deposits because of the insurance coverage, they will need to pay more to retain their large deposits and other liabilities because these creditors will demand a higher risk premium to place money with these banks.

Taking into account the potential rise in the flight risk of large, uninsured funds will increase small banks’ already-high dependency on market-sensitive funds. As Exhibit 2 shows, we estimate that about 26% of the assets of small banks are supported by market-sensitive funds, which currently include funds owed to other

Christine Kuo Vice President - Senior Credit Officer +852.3758.1418 [email protected]



financial institutions and bonds, but not large retail deposits.5 This percentage was substantially higher than 15% reported by the large banks.6

EXHIBIT 2

Small Chinese Banks’ Assets Are Supported by a Higher Percentage of Market-Sensitive Funds, 2014

Five Large Banks Five Small Banks

Asset Growth 9% 26%

Percent of Period-End Assets

Due to Customers 75% 65%

Due to Other Financial Institutions 13% 24%

Bonds 2% 2%

Other Liabilities 3% 2%

Total Liabilities 93% 93%

Total Shareholders’ Equity 7% 7%

Sources: Company data and Moody’s Investors Service

Small regional banks also stand to see their business model increasingly challenged by reforms made possible by deposit insurance. The planned deposit insurance institution will move China closer to a formal bank resolution regime. With a mechanism to resolve failed banks, we expect the Chinese government to be in a stronger position to deepen market reforms in areas such as interest rate liberalization. Consequently, we expect a more competitive operating environment to weigh more heavily on small banks than large ones because they are less sophisticated in managing risks and pricing assets and liabilities.

5 Data based on five small banks that published their 2014 results recently. The five banks are Bank of Chongqing Co., Ltd. (unrated),

Chongqing Rural Commercial Bank Co., Ltd. (unrated), Harbin Bank Co., Ltd. (unrated), Huishang Bank Corporation Limited (unrated) and Shengjing Bank Co., Ltd. (unrated).

6 The large banks are Industrial & Commercial Bank of China Ltd. (A1 stable, baa2), China Construction Bank Corporation (A1 stable, baa2), Agricultural Bank of China Limited (A1 stable, baa3), Bank of China Limited (A1 stable, baa2) and Bank of Communications Co. Ltd. (A2 stable, baa3) The bank ratings shown are the banks’ deposit rating and outlook and baseline credit assessment.

https://www.moodys.com/credit-ratings/Industrial-Commercial-Bank-of-China-Ltd-credit-rating-600012321https://www.moodys.com/credit-ratings/China-Construction-Bank-Corporation-credit-rating-600009928https://www.moodys.com/credit-ratings/Agricultural-Bank-of-China-Limited-credit-rating-600015917https://www.moodys.com/credit-ratings/Bank-of-China-Limited-credit-rating-2125https://www.moodys.com/credit-ratings/Bank-of-Communications-Co-Ltd-credit-rating-600013746https://www.moodys.com/credit-ratings/Bank-of-Communications-Co-Ltd-credit-rating-600013746



Insurers

US Health Insurers’ Final 2016 Medicare Advantage Rates Are Credit Positive On Monday, the Centers for Medicare and Medicaid Services (CMS) released its final payment and policy guidelines, which call for a payment increase to US insurers for 2016 Medicare Advantage (MA) plans. This is a reversal from February’s preliminary letter, which outlined a 2016 MA rate decrease of approximately 1%. The new rates are credit positive for health insurers because we expect that they will now see an average rate increase of approximately 1.25%, which should allow their MA plans to maintain premiums and benefits close to or on par with last year’s offerings.

Before Monday’s announcement, insurers had been planning on absorbing another reduction in their reimbursement rates from the government, continuing a pattern of rate cuts instituted with the Affordable Care Act (ACA), as shown in the exhibit below.

US Medicare Advantage Membership Growth by Year

MA Membership at Beginning of Year

Membership Growth Rate

Change in Reimbursement Level

Compounded Reimbursement Change

2009 10,746,489

2010 11,373,044 5.8% -5.0% -5.0%

2011 12,164,095 7.0% -1.6% -6.5%

2012 13,315,182 9.5% -1.5% -7.9%

2013 14,575,311 9.5% -0.9% -8.8%

2014 15,917,380 9.2% -4.7% -13.0%

2015 17,275,593 8.5% -3.8% -16.3%

2016 1.25% -15.3%

Source: Centers for Medicare and Medicaid Services

Despite the steady growth in membership over the past several years, health insurers had voiced concern that the lower reimbursement rates were resulting in less attractive MA plan offerings (i.e., lower benefits and/or higher premiums and co-pays) and would eventually result in lower enrollment. The CMS rate increase, although likely below the medical inflation trend, should alleviate some of this pressure for the 2016 open enrollment period. UnitedHealth Group Incorporated (A3 negative) and Humana, Inc. (Baa3 stable), which each have more than 3 million MA enrollees, stand to benefit the most from the improved reimbursement rates.

MA rates are developed using a complicated formula and on a county-by-county basis, with different effects from one county to another. Therefore, some insurers may report the change in their reimbursement rates as a range around the 1.25% average increase reported by CMS. In addition, based on the effect of changes in risk scores on an insurer’s specific population and their quality star rating, which qualifies them for additional funds, some insurers will likely experience a broader range in funding.

CMS indicated that a change in the estimated growth rate in Medicare spending for 2015 drove the change from the rates in the preliminary letter. Although this change proved beneficial for insurers, they had been lobbying for other changes that did not occur. Chief among these was a change in the methodology of calculating risk scores and additional payments made to insurers for covering less healthy individuals. The new method uses a new risk model that insurers claim significantly reduces payments for seniors with

Steve Zaharuk Senior Vice President +1.212.553.1634 [email protected]

https://www.moodys.com/credit-ratings/UnitedHealth-Group-Incorporated-credit-rating-600040449https://www.moodys.com/credit-ratings/Humana-Inc-credit-rating-600014033



chronic conditions. However, in a positive development for insurers, CMS did not reintroduce its proposal to exclude risk assessment payments on enrollees whose diagnoses were identified during a home visit.

There are also new requirements regarding MA provider directories, which will place more of an administrative burden on insurers. Insurers must now update their online provider directories in real time, requiring them to make updates when they are notified of changes in a provider’s status, including whether they are accepting new patients, or when the insurer makes contracting changes to its network of providers. Additionally, insurers must communicate with providers monthly regarding their network status.



US Insurance Regulator Targets Variable Annuity Captives, a Credit Positive On 29 March, the Executive Committee of the National Association of Insurance Commissioners (NAIC), an insurance regulatory body, retained a consultant to assist in its evaluation of variable annuity captives. The increased attention on variable annuity captives, which are used by many variable annuity writers to manage more restrictive reserve and capital requirements, is credit positive. For insurers using variable annuity captives, the regulatory attention will likely lead to increased disclosures and more consistent and conservative guidelines on the types of assets used to support reserves and capital, which would be credit positive.

Our analysis of life insurance companies’ creditworthiness on an enterprise basis has determined that many companies’ captives, including those assuming life and/or variable annuity risks, are capitalized at lower levels than standard operating companies. This weakens overall capital adequacy. Moreover, many of the transactions associated with captives can lead to complex corporate structures and reduced investor transparency, both credit negatives.

Life insurers use captives to reduce regulatory capital strain associated with life and health insurance products subject to what they perceive are conservative reserve and/or capital requirements. They also use captives to reduce the volatility and, in some cases, the level of regulatory reserve and capital requirements associated with variable annuity guarantees. These practices undermine the conservatism regulators have embedded in reserving and capital regimes.

Over the past decade, a number of insurers have increasingly relied on captives to manage perceived burdensome regulation. Based on our analysis, using aggregate industry data from SNL Financial, general account reserves ceded to captives (as classified in regulatory statutory requirements) were approximately $200 billion in 2014, a substantial amount for an industry with reported 2014 year-end capital and surplus of $354 billion.

The life insurance industry’s use of captives has not escaped regulatory scrutiny, however. Most of the focus has centered on the financing of redundant life insurance reserves. Actuarial Guideline 48 (AG48), which was adopted by the NAIC in late 2014, aims to provide some uniformity surrounding the treatment of reserve financing transactions on certain life insurance policies, although on a prospective basis, starting in 2015.7

Although various NAIC committees have had discussions on the need to expand the scope of regulations to variable annuity captives, the creation of a committee by the NAIC is an indication that some future regulation is highly likely. Additionally, federal regulators have also been vocal about the risks associated with variable annuity captives, increasing the likelihood that these types of captives will receive more scrutiny in the future.

Companies with insurance subsidiaries ceding variable annuity business to captives8 include AXA Financial, Inc. (A2 stable), Lincoln National Corporation (Baa1 stable), Prudential Financial, Inc. (Baa1 stable), and Voya Financial, Inc. (Baa2 stable).

Other companies have proactively taken steps to reduce their reliance on variable annuity captives. In November 2014, MetLife, Inc.’s (A3 stable) “onshored” its variable annuity guaranteed product liabilities, previously ceded to an offshore subsidiary.9 We believe external developments, including the enhanced 7 Transactions on policies issued before 2015 are grandfathered. 8 As defined in this case, “captives” includes affiliates domiciled in jurisdictions, either onshore or offshore, with less stringent

regulation and/or disclosure requirements. 9 See MetLife to Move Variable Annuity Risk Onshore, a Credit Positive, 27 May 2013.

Scott Robinson Senior Vice President +1.212.553.3746 [email protected]

https://www.moodys.com/credit-ratings/AXA-Financial-Inc-credit-rating-600014244https://www.moodys.com/credit-ratings/AXA-Financial-Inc-credit-rating-600014244https://www.moodys.com/credit-ratings/Lincoln-National-Corporation-credit-rating-448500https://www.moodys.com/credit-ratings/Prudential-Financial-Inc-credit-rating-600060514https://www.moodys.com/credit-ratings/Voya-Financial-Inc-credit-rating-536485https://www.moodys.com/credit-ratings/Voya-Financial-Inc-credit-rating-536485https://www.moodys.com/credit-ratings/MetLife-Inc-credit-rating-600052530https://www.moodys.com/research/MetLife-to-Move-Variable-Annuity-Risk-Onshore-a-Credit-Positive-Issuer-Comment--PBC_154465



scrutiny of captives by regulators, were key factors behind MetLife’s onshoring. Also, during 2014, The Hartford Financial Services Group, Inc. (Baa3 positive) completely eliminated its variable annuity captive, which it had used to isolate and hedge risk associated with its runoff variable annuity block.

https://www.moodys.com/credit-ratings/Hartford-Financial-Services-Group-Inc-The-credit-rating-392060https://www.moodys.com/credit-ratings/Hartford-Financial-Services-Group-Inc-The-credit-rating-392060



Canada Mortgage and Housing Corporation’s Premium Hike Is Credit Positive Last Thursday, Canada Mortgage and Housing Corporation (CMHC, Aaa stable) announced that on 1 June it will increase residential mortgage loan insurance premiums by 15% for new mortgages with less than a 10% down payment. The premium increase is credit positive for CMHC because it will increase the mortgage insurer’s capital and strengthen its solvency should an economic downturn increase mortgage default claims.

The premium increase will be imposed on new residential mortgages with less than a 10% down payment; it excludes portfolio insurance for banks and multi-unit residential insurance products. Under Canadian mortgage rules, borrowers must obtain mortgage default insurance when a down payment is less than 20% of the purchase price of the house. The exhibit below illustrates the portion of CMHC-insured mortgages associated with down payments of 10% or less in the first nine months of 2014, which would have been subject to this rate increase.

Distribution of CMHC-Insured Residential Mortgages by Down Payment, January-September 2014

Source: Canada Mortgage and Housing Corporation

Known by CMHC as transactional homeowner mortgages, these are loans secured by residential properties of four or fewer units. Insurance on mortgages with less than 10% down payment comprised 68.1% of new business for CMHC last year. As a result, the 15% price increase is being applied to the largest block of new business to CMHC, maximizing its strengthening effect on the mortgage insurer’s solvency.

The premium increase is a result of CMHC’s annual review of its capital requirements and reflects higher internal capital targets. CMHC’s capital management framework follows the minimum capital test (MCT) ratio, an insurance capital measure set by Canada’s Office of the Superintendent of Financial Institutions (OSFI) and calculated as capital available to capital required. This framework outlines a minimum internal MCT target to cover all risks of mortgage loan insurance and OSFI increased it to 205% from 185% in the third quarter of 2014. CMHC also maintains a capital holding target higher than its internal target as a buffer against minimum internal target breaches, which was increased in the third quarter by 20 percentage points to 220%. CMHC’s target increases are consistent with higher capital needs amid Canada’s prolonged home price appreciation and elevated household indebtedness. As of 30 September 2014, CMHC’s MCT was 294%, up from 250% at year-end 2013.

In September, OSFI increased the MCT risk factors associated with mortgage insurance, essentially requiring additional capital for the same level of risk. CMHC estimates this change decreased its MCT ratio by 10-20 percentage points as of the first quarter of this year. We believe this price change will partly offset this effect. Additional capital changes are likely when OSFI releases a new mortgage insurer capital framework in 2016.

0%

10%

20%

30%

40%

50%

60%

70%

> 50% 40% - 50% 30% - 40% 20% - 30% 10% - 20%



CMHC’s mandate is to contribute to the stability of the Canadian housing market and financial system, by providing default insurance to mortgage lenders. Similar to the premium increase in February 2014, this 15% premium increase is another tightening measure on mortgage lending; however, we expect a limited effect on the housing market because the hike will result in an increase of only CAD5 in the monthly mortgage payment of the average homebuyer.



Sovereigns

Nigeria’s Peaceful Transition of Power Is Credit Positive Nigeria (Ba3 stable) on 28 March concluded its most contested elections since the country first organized democratic elections in 1999. The end of the 16-year rule of the People’s Democratic Party (PDP) and the rise to power of Muhammadu Buhari and the opposition All Progressives Congress Party was relatively peaceful, underscoring Nigeria’s strengthening democratic foundation, a credit positive.

The fact that Mr. Buhari, who headed a military government in the 1980s, was elected by a margin of 2.57 million votes, or 53% of the popular vote, underscores the popular mandate for his campaign promises: eliminating corruption, eradicating the militant Islamist group Boko Haram and reforming the oil sector. When he takes office on 29 May, Mr. Buhari and his administration will still face a host of significant fiscal and economic challenges, including the current oil price shock.

Mr. Buhari’s anti-corruption drive, if successful, promises significant economic dividends for Africa’s largest economy. Domestic security, particularly in the north, where Boko Haram is based and has wreaked havoc, is also likely to improve. Mr. Buhari is from the north and given his military credentials, we expect security conditions to improve under his watch, supporting economic growth and development.

Reforming the oil sector is also key, as major reforms, such as the Petroleum Investment Bill, have been stalled in Parliament for more than six years. The current distribution of oil revenues has not narrowed the income gap between the non-oil-producing north and the oil-rich south, and the gap is exacerbated in the northeast by Boko Haram’s insurgency and attempt to overthrow the government and establish an Islamic state.

We do not expect a major difference in the economy’s management because there was no great divide during the campaign on this topic. The federal government’s 2015 budget deficit target of 0.8% of GDP remains credible. The prior government revised its budgeted oil price down twice to $53/barrel for 2015, and slashed capital spending. We expect the new government to maintain this target and pursue existing plans to raise $1 billion in new non-oil revenues this year. We still expect a fiscal deficit of 3% of GDP, mainly because of budget slippages among state and municipal governments.

Unlike many other oil-producing nations that can use accrued savings to run countercyclical fiscal policy in the current downturn, the absence of fiscal buffers in Nigeria led authorities to use the exchange rate to complement fiscal policy adjustment to absorb the shock of lower oil prices. The Central Bank of Nigeria has allowed the naira exchange rate to depreciate 23% versus the US dollar since August 2014, generating more naira per dollar earned. Moreover, given the likelihood of further currency depreciation, we believe that Nigeria’s current account will actually be in balance or register a small surplus this year. Foreign exchange reserves, which were $30.42 billion at the end of February, down from $33.48 billion year-end 2014, are at a still-comfortable five to six months import cover.

Despite external and fiscal headwinds, the government’s balance sheet is very strong. At year-end 2014, overall government debt was 13% of GDP and external debt was less than 3% of GDP, offering substantial room for further financing as the new administration assesses its policy options. Growth prospects of 4%-5% this year also support a strong balance sheet. The non-oil sector, which accounts for more than 85% of GDP, has helped the country grow by 8.3% annually over the past 10 years in real terms. The stable transition in civilian rule, with its focus on improving domestic security and reforming the oil sector, should attract foreign direct investment, which fell by roughly $1 billion in 2014 compared with 2013 levels.

Aurelien Mali Vice President - Senior Analyst +971.4.237.9537 [email protected]

Jeffrey Christiansen Associate Analyst +971.4.237.9574 [email protected]

https://www.moodys.com/credit-ratings/Nigeria-Government-of-credit-rating-551435



Sub-Sovereigns

Russian Regions Will Benefit from Restructuring of Soft Loans On 31 March, the Government of Russia (Ba1 negative) announced a restructuring of the soft loans it issued to various regions to finance road building and infrastructure for the 2014 Winter Olympic Games and the Formula 1 championship. The restructuring plan is credit positive for the regions because it reduces their refinancing risk and interest costs. The Republic of Mordovia (B2 negative), Krai of Krasnodar (B1 negative) and Oblast of Samara (Ba3 negative) will benefit most because they hold a higher proportion of debt eligible for restructuring than their peers.

Around RUB94 billion ($1.7 billion) of loans will be restructured with a 0.1% interest rate, down from interest rates of 2%-4% for the old loans, saving the regions more than RUB2-RUB3 billion of annual debt service costs on the restructured loans. The regions will also benefit from extended amortization periods. The majority of the loans to be restructured currently have maturities of up to three years, but under the restructuring plan, repayments will be suspended until a new nine-year amortization period begins in 2025.

Moody’s-rated entities are currently scheduled to repay approximately 17% of their soft loans and 19% of their total direct debt during the year. As seen in the exhibit below, the restructuring will relieve the Republic of Mordovia, Krai of Krasnodar and Oblast of Samara from substantial repayments they have to make during the next three years. Such restructuring will also substantially relieve them from short-term refinancing needs because the soft loans that are due in 2015 account for around one quarter to a third of the total direct debt they have due this year. This is especially positive for the Republic of Mordovia, whose unrestructured debt maturing this year accounts for a high 36% of its operating revenues. The restructuring will allow it to decrease 2015 repayments to 25% of operating revenues.

Moody’s-Rated Russian Regions’ Loans Eligible for Restructuring as Percent of Total Direct Debt

Notes: The rating of the Republic of Tatarstan is on review for downgrade. All other ratings have negative outlooks. Sources: The regions and Moody’s Investors Service

However, the debt restructuring will not be enough to mitigate refinancing risk for the sector overall because the loans eligible for restructuring account for 5% of Russian regions’ total direct debt (which has an average duration of two to four years). In addition, Russian regions will continue to struggle to finance their combined deficit, which may reach up to 10% of revenues in 2015 via expensive market borrowings.

0%3%6%9%

12%15%18%21%24%27%

Vladlen Kuznetsov Vice President - Senior Analyst +7.495.228.6060 [email protected]

https://www.moodys.com/credit-ratings/Russia-Government-of-credit-rating-600018921https://www.moodys.com/credit-ratings/Mordovia-Republic-of-credit-rating-823243885https://www.moodys.com/credit-ratings/Krasnodar-Krai-of-credit-rating-600068322https://www.moodys.com/credit-ratings/Samara-Oblast-of-credit-rating-600039995



US Public Finance

New York Budget Is Credit Positive for the State and Its School Districts On 31 March, the State of New York (Aa1 stable) passed a 2015-16 budget that included credit-positive actions for the state and its school districts. The budget, which passed on time for the fifth consecutive year, included a record high $23.5 billion in funds for school districts across the state, a 6% increase over the past year. The budget also included a plan for the state to spend a $5.4 billion windfall, and an authorization to increase the state’s rainy day fund.

State aid for school districts increased by 6% in the 2015-16 budget, the largest increase in the past 10 years. Not all school districts will benefit equally, however. Per the state’s funding policy, less wealthy districts and those experiencing growth will generally see the most benefit (see Exhibit 1).

EXHIBIT 1

New York School Districts with the Largest Percentage Increase of State Aid in 2015-16 Budget

Source: New York State Division of Budget

Aid to the state’s so-called Big Five city school districts also increased with the 2015-16 budget (Exhibit 2). Unlike other schools districts in New York that are independent, the cities of Yonkers (A3 stable), Buffalo (A1 stable), Syracuse (A1 negative), Rochester (Aa3 stable) and New York City (Aa2 stable) run their school districts.

24.9%

21.3%

17.2% 16.7%14.8%

0%

3%

6%

9%

12%

15%

18%

21%

24%

27%

Kiryas Joel Village (unrated) Springs (Aa2) Rye Neck (Aa1) Trumansburg (unrated) Briarcliff Manor (Aa2)

Robert Weber Vice President - Senior Analyst +1.212.553-7280 [email protected]

Valentina Gomez Analyst +1.212.553.4861 [email protected]

Marcia Van Wagner Vice President - Senior Credit Officer +1.212.553.2952 [email protected]

Tiphany Lee-Allen Analyst +1.212.553.4772 [email protected]

https://www.moodys.com/credit-ratings/New-York-State-of-credit-rating-548300https://www.moodys.com/credit-ratings/Yonkers-City-of-NY-credit-rating-600025761https://www.moodys.com/credit-ratings/Buffalo-City-of-NY-credit-rating-800004472https://www.moodys.com/credit-ratings/Syracuse-City-of-NY-credit-rating-600023192https://www.moodys.com/credit-ratings/Rochester-City-of-NY-credit-rating-600025697https://www.moodys.com/credit-ratings/New-York-City-of-NY-credit-rating-600013826



EXHIBIT 2

New York’s Big Five School Districts’ State Aid 2015-16 Percentage Increase

Source: New York State Division of Budget

For the first time since 2008, the state budget begins to reduce the Gap Elimination Adjustment (GEA) for school districts. The GEA was imposed in 2008-09 to help the state balance the budget. Since then, the state has increased operational aid for school districts annually but has not reinstated the aid that was cut. As part of the budget, however, Governor Andrew Cuomo tied the increases in state aid to each district accepting reforms to teacher evaluations. If a district fails to implement the teacher reforms, that district risks losing its state aid increase.

In 2014, the state won legal settlements against several financial institutions, including BNP Paribas, Credit Suisse Group AG and Bank of America Corporation, that resulted in a onetime $5.4 billion revenue windfall. Instead of using this revenue for ongoing operational expenses, the state will use it for various onetime projects to invest in New York’s economy. The largest portion, $1.5 billion, will be set aside for the Upstate Revitalization Initiative. The initiative will allow seven upstate regions to compete for one of three $500 million allocations. The initiative aims to bolster workforce development, improve infrastructure and revitalize communities. The budget also includes $1.3 billion for the New York State Thruway system, a portion of which will go to support the construction of the new Tappan Zee Bridge that links Rockland County (Baa2 positive) and Westchester County (Aa1 stable).

The budget also authorizes an increase in the state’s rainy day fund. These reserves will provide the state a cushion in the event of unforeseen budget imbalances. For the current year, the state is funding the maximum allowed into the rainy day fund, approximately $300 million.

Negatively, the budget does not increase the Aid and Incentives for Municipalities, the fifth consecutive year the state has held this flat. Cities, particularly the larger cities such as Buffalo, Rochester and Syracuse, continue to struggle with large budget gaps in future years. The cities had been looking to the state to assist in reducing those gaps by increasing the Aid and Incentives for Municipalities.

3.4%

6.3%

4.8%

8.1%

5.8%

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

Buffalo (A2 stable) Rochester (unrated) Syracuse (Aa2 stable) Yonkers (unrated) New York City (???)

https://www.moodys.com/credit-ratings/Rockland-County-of-NY-credit-rating-724750https://www.moodys.com/credit-ratings/Rockland-County-of-NY-credit-rating-724750https://www.moodys.com/credit-ratings/Westchester-County-of-NY-credit-rating-600006207

RECENTLY IN CREDIT OUTLOOK Select any article below to go to the 30 March Credit Outlook on moodys.com


NEWS & ANALYSIS Corporates 2 » Kraft-Heinz Merger Is Credit Positive for Heinz, Negative

for Kraft » Brown-Forman Boosts Share Buybacks, a Credit Negative » Lexmark’s Pricey Kofax Deal Is Credit Negative » Link REIT’s Acquisition of Chinese Mall Will Elevate Its Risk » India’s Costly Spectrum Auction Is Credit Negative for

Telecom Operators

Banks 8 » US Regulator’s Proposed Payday Loan Rules Are Credit Negative

for Lenders » National Bank of Canada’s Purchase of Stake in African Financial

Group Is Credit Negative » Brazil’s Tax Authority Rejects BM&FBovespa’s Second Appeal in

Goodwill Case, a Credit Negative » Grupo Financiero Ficohsa’s Acquisition of Citibank’s Nicaraguan

Subsidiaries Is Credit Positive » A Deutsche Bank Exit from Retail Banking Would Be

Credit Negative » RBS Sale of Additional Shares in Citizens Financial Is

Credit Positive » Egyptian Government Plan to Pay Salaries Via Direct Deposit Is

Credit Positive for Banks » Malaysian Banks’ Exposure to Troubled 1MDB Is Credit Negative,

but Manageable » India’s Measures to Revive Gas-Based Power Plants Will

Benefit Banks

Insurers 23 » Hedge Fund AQR Exits Reinsurance Business, a Positive for

Traditional Players

Sovereigns 25 » Indonesia Gains Investment and Financial Assistance from Japan,

a Credit Positive

Sub-sovereigns 27 » Brazil Supreme Court Resolution on Arrears Is Credit Negative

for States and Municipalities » Redistribution of Funds Among German Laender Is

Credit Positive » Chinese Regional and Local Government Land Sales Slowed

Sharply in 2014, a Credit Negative

US Public Finance 34 » Atlantic City, New Jersey, Emergency Manager Plan Leaves Open

Possibility of Default

Covered Bonds 36 » German Covered Bond Issuers Replace Assets Exposed to Failed

Austrian Lender, a Credit Positive

RATINGS & RESEARCH Rating Changes 38

Last week we downgraded California Resources, Allied Bank Limited, Habib Bank Ltd., MCB Bank Limited, National Bank of Pakistan, United Bank Ltd., Ukraine, nine Ukrainian banks, one Ukrainian leasing company and the cities of Kharkiv and Kyiv in Ukraine, and upgraded Allison Transmission, Tencent Holdings, Reliance Rail Finance, Mitsui Life Insurance Company, Volkswagen Bank and Volkswagen Leasing, among other rating actions.

Research Highlights 47

Last week we published on EMEA high yield corporates, Chinese property developers, global asset prices, US medical products, European paper and forest products, global infrastructure, US gaming, Chinese capital markets, US steel and energy, US corporates, US corporates rated B3 negative and lower, North American airports, US banks, Turkish banks, Latin American banks, global insurers, global money market funds, Pakistan, Sint Maarten, Paraguay, Latin American sovereigns, Sharjah, the Inter-American Development Bank, sovereign ratings, New Jersey, European CLOs, US RMBS, Chinese securitization, Japanese RMBS, US CLOs, European SME ABS, Japanese auto loan ABS, Chinese CLOs and Australian RMBS, among other reports.

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EDITORS PRODUCTION ASSOCIATE News & Analysis: Elisa Herr and Jay Sherman Alisa Llorens

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CorporatesGo Daddy’s IPO Reduces Its Leverage and Enhances Its Ability to GrowTeva’s Auspex Deal Boosts Pipeline Without Raising LeverageRoyal Philips Sells Stake in Lumileds, a Credit PositiveCountry Garden Plans Credit-Positive Equity IssuanceChinese Property Developers Will Benefit from Relaxed Mortgage Lending Terms and Housing Tax Rules

Infrastructure US West Coast Ports Face Negative Credit Pressure from Canada’s Prince RupertDuke Energy Sells Competitive Generation Business, a Credit Positive

BanksRussia Adds Tier 1 Instruments to Bank Recap Plan, a Credit PositiveChina’s New Deposit Insurance Scheme Is Credit Negative for Small Banks

InsurersUS Health Insurers’ Final 2016 Medicare Advantage Rates Are Credit PositiveUS Insurance Regulator Targets Variable Annuity Captives, a Credit PositiveCanada Mortgage and Housing Corporation’s Premium Hike Is Credit Positive

SovereignsNigeria’s Peaceful Transition of Power Is Credit Positive

Sub-SovereignsRussian Regions Will Benefit from Restructuring of Soft Loans

US Public FinanceNew York Budget Is Credit Positive for the State and Its School Districts

news & analysisweb1.amchouston.com/flexshare/001/cfa/moody's/mco 2015 04 09… · on 1 april,...

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