LONDON, May 23 (Fitch) Fitch Ratings has downgraded Mozambique’s Long-term foreign and local currency Issuer Default Ratings (IDRs) to ‘CC’ from ‘CCC’. Fitch has affirmed the Country Ceiling at ‘B-‘ and the Short-term IDR at ‘C’.
Under EU credit rating agency (CRA) regulation, the publication of sovereign reviews is subject to restrictions and must take place according to a published schedule, except where it is necessary for CRAs to deviate from this in order to comply with their legal obligations. Fitch interprets this provision as allowing us to publish a rating review in situations where there is a material change in the creditworthiness of the issuer that we believe makes it inappropriate for us to wait until the next scheduled review date to update the rating or Outlook/Watch status.
The next scheduled review date for Fitch’s sovereign rating on Mozambique is 28 October 2016, but Fitch believes that developments in the country warrant such a deviation from the calendar and our rationale for this is laid out below.
KEY RATING DRIVERS
The downgrade of Mozambique’s Long-term foreign and local currency IDRs to ‘CC’, which indicates that a default of some kind appears probable, reflects the following factors and their relative weights:
HIGH The disclosure of hidden public debt has revealed significant short-term repayment obligations, which could precipitate a near-term credit event. Over the past month, the Mozambican government has admitted to the existence of USD1.4bn (9.2% of GDP in 2015) in undisclosed loans to the interior ministry and state-owned security companies Proindicus and Mozambique Asset Management (MAM). The authorities have acknowledged that the debt owned by state-owned enterprises is guaranteed by the sovereign. A first payment of USD25m related to Proindicus’ debt (from a total of USD622m) was made in March, while a first payment of USD178m related to MAM debt (from a total of USD525m) is scheduled by 24 May.
Fitch now estimates annual public debt service costs to have almost doubled due to the hidden loans, to around 4.5% of GDP. Uncertainty has risen over MAM’s ability to service its debt and whether the government will step in to honour the obligations. Mozambique’s fiscal and external positions continue to deteriorate, in part due to the decision of donors and multilateral organisations to halt programmed budget support until the debt debacle is resolved. This aid amounts to around USD300m (11% of the budget for 2016), in addition to the USD165m in suspended funds from the IMF.
Meanwhile, foreign reserves fell to USD1.75bn in mid-May (from USD1.85bn in early April and USD2bn at end 2016) as exports continue to struggle. Although the government could tap reserves to pay for the upcoming MAM amortisation, this would put severe strains on reserves and could add to external and foreign exchange pressures. An alternative is to search for other sources of external funding, primarily bilateral loans. This could help stave off short-term macroeconomic imbalances but would compound risks to debt sustainability.
The government has also announced a potential restructuring of the MAM debt, but the timing and terms of such moves remain uncertain. Even if the authorities are able to make scheduled repayments of the sovereign-guaranteed debt of state-owned companies in the near term, the potential restructuring of the MAM debt being considered by the government could precipitate a credit event as defined under Fitch’s Distressed Debt Exchange (DDE) criteria. In that event, if we judged a restructuring to constitute a DDE, we would downgrade the Mozambique sovereign rating to ‘RD’.
Developments that could result in a downgrade include: – Confirmation of an imminent or actual credit event, including non-payment beyond relevant grace periods, redenomination and/or distressed debt exchange of sovereign or sovereign-guaranteed debt obligations. The following factors could lead to an upgrade: – Evidence of effective resolution of potential default risks from the newly discovered debt. – Normalisation of donor support relationships. -Fiscal consolidation that leads to a decline in government debt/GDP. -A recovery in commodity prices that reduces external pressures and helps restore foreign exchange reserve coverage. -Increased confidence in the development of natural resource sectors leading to a stronger external position. KEY ASSUMPTIONS Fitch assumes Brent oil prices to average USD35/bl in 2016 and USD45/bl by 2017. Despite an uptick in violence in northern regions of Mozambique, Fitch assumes that political stability will be maintained given that the ruling Frelimo party controls all government institutions.