This report does not constitute a rating action.
MELBOURNE (S&P Global Ratings) Aug. 12, 2024--The New Zealand Local Government Funding Agency Ltd.'s (LGFA) loan asset quality could weaken if it materially pivots toward providing debt finance for new council-controlled water entities.
LGFA and the New Zealand government have announced that the agency will provide financing options to water council-controlled organizations (CCOs) established under the government's Local Water Done Well initiative. We understand leverage for these CCOs could be up to twice that of the existing councils that LGFA finances.
The stand-alone credit profiles of water CCOs are likely to be weaker than the average council rating of roughly 'AA'. Councils could transfer their water-related infrastructure assets and liabilities into these newly formed CCOs in the coming years, which would drive the CCOs' borrowing needs.
LGFA's average loan asset quality could diminish if it starts lending to highly indebted water CCOs. The ratings on LGFA (foreign currency rating AA+/Stable/A-1+; local currency rating AAA/Stable/A-1+) derive support from its high-quality loan book and wide base of council guarantors. Mitigants could include parent council guarantees on the CCO loans or similar financial backstops such as uncalled capital. LGFA may adjust internal liquidity, capital, or risk policies to counter any potential weakening of its loan book.
Separately, we expect councils' credit quality to weaken further as the government and LGFA explore increasing debt limits for high-growth councils. This follows the raising of debt limits in 2020, which we had expected would be wound back by 2026; now the direction is less certain. Increasing the debt ceiling will generally be negative for credit quality across the sector, which is already highly indebted by international standards. New Zealand councils' increasing indebtedness is one driver behind a weakening trend in the system's institutional framework.
Counteracting these trends will be the July 1, 2024, increase in borrower loan margins and borrower note subscription rates, which should help to increase LGFA's capital base over time. Our ratings on LGFA are underpinned by its dominant market position, high-quality loan book, robust management and governance, and central government support.
Related Research
- New Zealand Councils Will Lean Into Rising Credit Risk, May 5, 2024
- New Zealand Local Government Funding Agency Ltd. Ratings Affirmed; Outlook Stable, Feb. 27, 2024
- New Zealand Councils' Extremely Predictable And Supportive Institutional Settings Are At Risk, Feb. 18, 2024
- Various Rating Actions Taken On New Zealand Local Councils On Weakening Institutional Framework Trend, Feb. 18, 2024
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| Primary Contact: | Rebecca Hrvatin, Melbourne 61-3-9631-2123; rebecca.hrvatin@spglobal.com |
| Secondary Contacts: | Martin J Foo, Melbourne 61-3-9631-2016; martin.foo@spglobal.com |
| Anthony Walker, Melbourne 61-3-9631-2019; anthony.walker@spglobal.com |
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