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Credit Analysis of Naga City
City of Naga, Camarines Sur (Bicol Region), Republic of Philippines Major Rating Factors
Issuer Credit Rating B+/Stable/-Philippines National Scale Rating phA/--/--
Weaknesses: • Low-income local economy concentrated in agriculture with limited capacity to diversify • Constrained fiscal flexibility with high dependence on central transfers and large spending on personnel expenses • Weak intergovernmental system, exacerbated by the absence of institutionalized policies of city administration Strengths: • • • Healthy liquidity position, coupled with consistent and strong budgetary performance Debt burden is at present comparatively low and has been steadily declining Management sophistication relatively advanced by local standards
The credit ratings on City of Naga, located in the Republic of Philippines (foreign currency BB-/Stable/B; local currency BB+/stable/B; Philippines national scale ‘phAA+’), reflects the narrow tax base of the city stemming from a low income and undiversified local economy, constrained financial flexibility and the weak intergovernmental system the city operates in. On the other hand, the city’s ratings are underpinned by its strong liquidity position, sound budgetary performance and a low debt level brought on by prudent fiscal management. Naga City’s economic base is comparatively less developed than international and domestic peers. Unlike the more diversified service-based economies of Metro Manila cities, Naga’s economy is engaged predominately in agriculture. Although also a trading hub for the Bicol region, much of the trading is linked to the agrarian sector as well. This is reflected in its tax revenue per capita among the lowest in its peer group, and a low per capita income estimated at around US$1,600, low by global standards. In addition, efforts to diversify the local economy has been impeded by the city’s small population size, made worse by the outflow of skilled workers to the wealthier national capital region. In turn, the low tax base has constrained much of the city government’s revenue flexibility via lower than domestic average modifiable revenue. Its overall financial flexibility is further capped by the large proportion of operating expenditure spent on personnel services (56% as of 2008). In mitigation, some room exists in capital spending due to Naga’s relatively more developed and well-maintained state of infrastructure by local standards (albeit still undeveloped by international standards). The weak intergovernmental system in the Philippines is a key systemic constraint on the credit ratings of its local governments. The predictability in the system is low with the central government having a history of passing on unfunded mandates to LGUs. Central monitoring and oversight over LGUs is weak. Other than limits on borrowings and personnel expense,
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there is no defined fiscal policy framework to promote fiscal discipline among LGUs. Adding to the systemic weaknesses constraining Naga’s creditworthiness, the city’s ratings are also affected by the lack of institutionalized policies at its own level. However in mitigation, Naga City’s budgetary performance has been sound despite the lack of an explicitly-stated fiscal framework. To add, in terms of transparency, Naga’s management sophistication stands out from domestic peers, being one of the few LGUs to have consistently received clean audit opinions. The ratings on Naga City are supported by its consistently strong budgetary performance and solid liquidity position of its current administration. Balances after capital expenditures averaged 15% of total revenues in 2005-2007, and free cash and liquid assets are estimated to have reached around 83% of operating expenditures in 2008, one of the strongest liquidity positions among its peer group. Another credit strength is that the city government’s direct debt level has declined from a peak of 32% of operating revenues in 2005 to a much more sustainable level of 13% estimated for 2008. Its current net creditor position is also significantly stronger than many domestic and international peers in its rating category. Despite the weakened global economic conditions, we expect Naga to maintain its overall financial profile in the near term in view of the prudent financial management practices that the current administration has demonstrated so far. Liquidity The liquidity position of Naga City is healthy, with free cash and liquid assets rapidly increasing since 2003. As of December 2008, the city holds around PHP303 million in free cash. After taking into account the city government’s negative working capital, we approximate free cash and liquid assets to be sufficient to cover about 83% of 2008 operating expenditures, which is extremely sound compared with international peers.
The outlook on the ratings is stable, which reflect our expectations that Naga’s budgetary outcomes and debt burden will not deviate significantly from current levels. A noticeable improvement in medium-term planning and implementation of a comprehensive financial policy framework, coupled with substantial efforts to structurally broaden its tax base, could lead to positive rating actions. Conversely, the ratings could come under pressure if persistent slippages in budgetary outcomes significantly weaken its liquidity or worsen its debt position.
International peers The Russian entities of Nizhny Novgorod (BB-/Stable/--) and Tver Oblast (B+/Negative/--), as well as the Ukrainian capital city of Kyiv (CCC+/Watch Neg/--) and the Turkish city of Istanbul (BB-/Negative/--) are suitable international peers for the City of Naga. Naga’s local tax base is constrained by an extremely low-income economy in comparison to its international peers. The city does not compile GDRP figures, but per capita income is believed to be somewhat similar to the Philippine national average of US$1,600. This is significantly below higher-rated peers like Istanbul with US$12,000, and even similarly-rated Tver Oblast has per capita income almost 3 times that of Naga’s. The city’s dependent population proportion is similar to its peer group. However Naga’s Ukrainian and Russian counterparts faces a different set of demographic challenges with substantial segment of its dependent belonging to the elderly category while the bulk of Naga’s dependent constituents are of young age. Assuming the Naga city government is able to stem the out-flow of skilled workers to the 2
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wealthier national capital region of Manila, in the long-run, Naga’s higher portion of youngaged residents could translate into higher growth for the local economy than international peers. However, Naga’s far smaller population size limits its ability to diversify its economic base into major national commercial center like Istanbul and Kyiv. Like some of its peers, the City of Naga has been able to partially fund aggressive capital expenditure programs in recent years with operating surpluses, which has helped to limit its borrowing requirements. However, the overall average level of capital expenditure relative to total expenditure reported by Naga (18.5%) is still below that for its international peers (30%) from 2005-2007. Although its physical infrastructure is relatively well-maintained by national standards, it is largely inadequate in the international context. Naga’s direct debt level has been steadily declining, unlike Istanbul’s. Coupled with a healthy and fast-rising cash position, the city’s overall debt profile is favourable and compares well to that of Nizhny Novgorod. Likewise, Naga’s strong budgetary performance stands out among its peer group. However, this is in part a function of the city’s weaker capacity to administer capital projects (stemming from lack of benefits of scale), and also a function of the systemic borrowing constraints faced by Philippine local governments. Local peers Unlike its domestic peers who are located in Metro Manila like Quezon City, Taguig and Mandaluyong, who have relatively more diversified service-base economies, Naga is predominately engaged in the agrarian sector. The lack of a distinct geographic or industrial advantage has resulted in lower property value and smaller-scale businesses operating in Naga, which in turn limits the city’s real property and business tax collection. In mitigation, its local economy has been relatively more insulated than Metro Manila peers in this current global downturn. In addition, outside the capital region, Naga’s tax base and per capita income would compare more favorably than those of Iligan and Tacloban. Naga’s modifiable revenue is one of the lowest among local peers, which is a function of its comparatively weaker own-source revenues and also higher dependence on central transfers. The city’s derived 48% of its revenues from IRA allotment in 2007, significantly higher than its local peers’ average of 34%. On the expenditure side, the proportion spent on personnel services is the highest in Naga which appear to further cap the city’s financial flexibility. In mitigation, the city’s capital spending ratio has been consistently higher than the local average, and Naga’s state of infrastructure is relatively more developed and well-maintained than some of its local peers. These afford the city with some flexibility in cutting capital expenditures, hence putting its financial flexibility above those of Iligan and Tacloban, but behind that of Quezon City and Taguig who demonstrate far large share of modifiable revenues. The city’s budgetary performance is nevertheless stronger than all rated Philippines cities, despite the fact that other cities have far more revenue streams at their disposal. This reflects to some extent the more advanced financial management practices of the Naga city government than its peers. Likewise, despite its more limited resources, Naga has been able to maintain robust liquidity coverage and a direct debt burden better than the average for its peer group.
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Naga (City Of) 2007 Domestic Peer Comparison
Naga (City Of) Iligan (City Of) Malabon (City Of) Mandaluyong (City Of) Marikina (City Of) Quezon (City Of) Tacloban (City Of) Taguig (City Of)
Issuer credit rating National scale ratings Three-year averages, using actual results only Operating balance (% of operating revenues) Balance after capital expenditures (% of total revenues) Capital expenditures (% of total expenditures) Transfers received (% of total revenues) Total revenues (US$, mill) Modifiable revenues (% of operating revenues) Direct debt (at yearend) Direct debt (% of operating revenues) Tax-supported debt (% of conso oper revenues) Net financial liabilities (% of conso oper rev) Interest (% of operating revenues) Debt service (% of oper revenues) Free cash & liquid assets as % DS Population
30.9 2.0 19.2
15.2 6.6 16.8
38.4 8.2 54.3
68.1 10.1 23.9
43.0 6.1 18.6
64.0 0.3 0.2
30.5 9.0 74.8
60.0 5.3 13.3
(33.0) 2.2 4.7 1,103.9 160,500
(1.9) 1.9 7.8 238.6 335,000
46.0 3.7 4.5 183.6 363,000
21.2 2.2 7.2 37.3 305,000
(25.4) 1.2 7.2 614.9 490,000
(73.0) 0.0 0.0 4,830.0¶ 2,679,000
38.8 0.1* 6.2 585.4 217,000
(24.1) 1.0 3.1 1,218.7 613,000
* Figures for 2004. ¶ Figures for 2006. N.A.--Not available.
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Naga (City Of) 2008 International Peer Comparison
Naga (City Of) Issuer credit rating (LC) Issuer credit rating (FC) National scale ratings Three-year averages, using actual results only Operating balance (% of operating revenues) B+/Stable/-B+/Stable/-phA/--/-Istanbul (City Of) BB-/Negative/-BB-/Negative/---/--/-Kyiv (City Of) CCC+/Watch Neg/-CCC+/Watch Neg/---/--/-Nizhny Novgorod (City Of) BB-/Stable/-BB-/Stable/-ruAA-/--/-Tver Oblast B+/Negative/B+/Negative/ruA+/NM/--
Balance after capital expenditures (% of total revenues) Capital expenditures (% of total expenditures) Transfers received (% of total revenues) Total revenues (US$, million) Modifiable revenues (% of operating revenues) Direct debt (at year-end) Direct debt (% of operating revenues) Direct debt (% of GDP) Tax-supported debt (% of conso oper revenues) Net financial liabilities (% of conso oper rev) Interest (% of operating revenues) Debt service (% of oper revenues) Free cash & liquid assets as % DS Population Unemployment rate (%) GDP (nominal) per capita, unscaled GDP per capita (% of national average) GDP (real) growth (%) Total revenues (% of GDP)
48.1* 10.2* 2,516.3*
30.9* 2.0* 19.2*
18.1* 837.6* 34.6* 0.6*
8.6 700.0 30.7 3.9
27.7 12.3 2.1
11.8 168.8 17.6 2.5
(33.0)* 2.2* 4.7* 1,103.9* 160,500.0*
95.9* 1.6* 6.8* 135.1* 12,573,000.0* 11.4¶ 12,105.3*
28.1 2.3 7.2 36.6 2,740,200.0* 3.1* 8,346.6*
2.1 0.1 0.4 1,672.7* 1,286,433.0* 0.5*
11.6 0.5 12.1 74.9 1,379,542.0 5.1 4,412.2*
221.1* 5.4* 1.7*
300.8* 11.0* 13.7 7.5*
53.5* 7.7* 15.7*
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* Figures for 2007. ¶ Figures for 2005. N.A.--Not available.
System Support and Predictability
The level of system support and predictability in the Philippines intergovernmental system is generally weak. Please refer to Appendix “Philippines Intergovernmental System Overview”.
The City of Naga is located in the Bicol Region of Luzon, one of the 17 regions in the Republic of Philippines. Classified as an Independent Component City, Naga enjoys administrative and political powers similar to those of Metro Manila Cities in the national capital region. It comes under the direct jurisdiction of the central government rather than the provincial government of Camarines Sur. Like most cities in the Philippines, Naga does not collate detailed socio-economic or industrial data at the local level. The recent 2007 national census has gotten less detailed in its coverage, with most figures available only on a regional basis. Sub-regional and city-level socioeconomic data are now sorely lacking by international standards. The last available demographic data for Naga dates back to the 2000 national census. It puts Naga’s population who are of dependent age at around 40%, of which the bulk stems from its high proportion of young population at 36%, suggesting potential heavy social expenditure requirements on the city government especially in terms of education. Naga’s elderly population at 4% is around the same as the national average. The proportion of elderly population in the Philippines is generally very low due to the country’s relatively high fertility rate. Fertility rate was 4.3 child born per woman in the 90s, but it has since come down to about 3.4 (which is still a higher replacement rate than most international peers). Naga’s small population of around 160,000 constraints its capacity to support major manufacturing activities. The local economy is concentrated in the agrarian sector, and the city land-use plan drawn up in 2000, indicated around 75% of its land was being used for agriculture activities. And though the city’s central location has enabled it to become the trading hub for the Bicol region, much of the trading is also in agriculture produce. Initiatives by the city government to diversify the local economy into BPOs and other areas has been met with significant challenges due to Naga’s limited supply of skilled workers. The largest employer in the city is SM City Naga; a shopping mall owned and operated by SM Prime Holdings, the largest mall operator in the Philippines. Recently opened in May 2009, the mall employs around 1,000 staff. No other significant large employer exists in Naga. Bicol region’s per capita GDP, estimated at US$800 in 2007, is extremely low by international standards. Being one of the major commercial centres of the region, Naga City’s per capita income is expected to be higher and somewhat closer to the national average of around US$1,600. However this is still considerably low for its rating category. The city government does not compile the city’s total output, structure of economy or employment figures. Reportedly, the management deems Naga’s growth to be on par with that of the national average (3.8% in 2008, 7% in 2007). Though Naga’s poverty incidence rate of around 19% is comparatively high in the international context, it is significantly lower than the national 27% and the region’s 40%. Likewise, the city’s unemployment rate is believed to be slightly lower than the national average of 7.6%.
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Table 3 NAGA (CITY OF) Economic Statistics Population '000 Population growth (%) --Year ended Dec. 31-2010f 167.8 1.5
2009f 165.3 1.5
2008f 162.9 1.5
2007 160.5 1.3
2006 158.5 1.2
2005 156.6 1.2
2004 154.7 1.3
Management Sophistication and Institutional Legitimacy
The level of management sophistication of Naga City is ahead of many of its local peers, but still behind in terms of international best practices. For details, see ‘Naga City FMA Analytical Report’. Institutional Legitimacy The current mayor of Naga City, Jesse M. Robredo, has been in office since 1988, making him one of the longest serving city mayors in the Philippines. Holding a Masters in Public Administration from the John F. Kennedy School of Government at Harvard University, mayor Robredo is regarded as an expert in local governance in the Philippines. He appears to adopt a more transparent and consultative approach to local governance in comparison to his peers. For example, each time after winning the mayoral election, mayor Robredo will formulate a 3-year investment plan (LDIP), laying out the agenda for his term of office. Notably, before the LDIP is formed, series of discussions will be conducted with external stakeholders first, and their views will be factored into the medium-term investment plan. With Naga city being landlocked and densely populated (it measures just 84 km2), the top priority of the current administration centers around the freeing up of space. Measures include the development of infrastructure in the lesser-used northern area of the city. Other key priorities include education, and further urbanization. Beginning from 2001, national legislations allow local elected officials to hold up till three consecutive terms of office with each term lasting three years. Hence Mayor Robredo cannot stand for re-election in 2010. It is believed that the current vice-mayor would run for office in the next election. Having been the acting City Administrator as well, continuity in the current administration’s policies would likely carry on if the vice-mayor wins the next election. Thus far, the city government had also not encountered significant political problems in passing ordinances. For the last 18 years, the mayor and city council members had run on a single ticket in every local election. Though the key-man risk factor still constitutes a credit weakness for Naga City, it is of a lesser extent that other Philippines LGUs. Although institutionalized polices are still lacking, the city government at least made a step towards medium-term planning through its use of the LDIP. Also, continuity in the administration has thus far been maintained due to the long period of time the current mayor has been in office. However that remains to be seen come 2010. Further more, Naga City nonetheless operates in a highly-politicized public finance environment. Funding for projects has proven difficult to obtain with central government reluctant to offer grants as Naga City is an opposition LGU.
The city’s revenue flexibility may appear higher than international peers, but is however behind that of other Philippines LGUs. Currently, almost half of Naga’s budget is dependent on central government IRA transfers. Its share of modifiable revenue at 34% of 2008 operating 7
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revenue (made up of Real Property Tax and Business Taxes) is below that of the 44% average among rated domestic peers. Moreover, even though most local tax rates and fees are modifiable by law, it is often difficult in practice. RPT rate has been kept unchanged since 1991, but the fair market valuation has been increased three times in the last decade, with the last revision recently passed in 2008. Notably, the last revision of market valuation was an increase of 100% but the increase would be staggered; taxpayers would be assessed on RPT base on 20% incrementally more of the property value over the next five years effective from 2009. This effectively means the city government would not able to revise RPT again till 2013. On a similar note, the city administration does not plan to increase business tax rates as its current rates are already set close to the ceiling mandated by the Local Government Code. Furthermore, competition from other regional centers to attract investments and businesses would likely compel Naga City to maintain its current business tax rates. Naga’s relatively narrow local tax base (at least in comparison to Metro Manila cities), combined with a higher than average dependency on IRA, has constrained the city government’s ability to invest in potentially revenue enhancing capital projects. In mitigation, some room exists for improving tax collection efficiency. Currently, collection efficiency is estimated to be around 85%. The city administration has indicted plans to computerized revenue collection and stepping up efforts in chasing up of tax arrears.
Tax Revenue per capita (PHP) 2007 2006 2005 2004 Naga
*Metro Manila LGUs Source: Philippines National Statistical Office, COA Audit Reports
On the expenditure side, Naga’s expenditure flexibility is constrained by personnel expenses, not unlike many Philippines LGUs. The city spends around 43% of its income on wages, just below the upper limit of 45% established by the LGC. Upwards revisions to base public sector compensation levels as a result of national legislation, or increased wage demands in response to bouts of inflation, could push this wage share of revenues towards the ceiling, creating the politically difficult scenario of mandatory staffing reductions to comply with the Code. In addition, Naga’s large total personnel expenses at 56% of 2008 operating revenues, ranking the highest among its peer group, is perhaps a reflection of its largely un-computerized systems which require large number of employees to be hired.
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On capital expenditure, Naga more often than not spends a higher proportion of its expenditure on capital needs than domestic peers. Some flexibility could be exercised in this aspect should the city face liquidity problems. By local standards, Naga’s level of infrastructure can be considered more than adequate. Over 90% of its roads are already laid with concrete, drainage is efficient and the city has 100% access to clean water and sanitary facilities. The city government is hence more concerned with the maintenance of present infrastructure rather than the construction and investing in new capital projects. In addition, the management had expressed at our meetings that should there be shortages in funds, capital expenditures would be first to be scaled back, but essential services like education (subsidized school fees) and healthcare would continue.
Table 4 NAGA (CITY OF) Financial Statistics Unit Scale As of Dec. 31 Currency Currency Scaling Exchange Rate to USD Operating revenues Operating expenditures Operating balance Operating balance (% of operating revenues) Capital revenues Capital expenditures (capex) Balance after capex Balance after capex (% of total revenues) Debt repaid Net budget loans Balance after debt repayment and onlending Balance after debt repayment and onlending (% of total revenues) Gross borrowings Balance after borrowings Balance after borrowings (% of total revenues) Total revenues (% of GDP) Modifiable revenues (% of operating revenues) Capex (% of total expenditures) Operating-revenue growth (%) Operating-expenditure growth (%) Direct debt (debt outstanding at year-end) Direct debt (% of operating revenues) Tax-supported debt (% of conso oper revenues)
2010f PHP Millions
2009f PHP Millions
2008f PHP Millions
2007 PHP Millions
2006 PHP Millions
2005 PHP Millions
2004 PHP Millions
2003 PHP Millions
45.0 522.0 414.2 107.8 20.7
45.7 505.0 393.0 112.1 22.2
43.9 488.0 361.1 126.9 26.0
46.2 468.6 309.4 159.1 34.0
51.3 425.4 310.7 114.7 27.0 17.1 85.8 46.0 10.4 20.2
55.1 380.4 272.9 107.5 28.3
56.0 349.9 264.7 85.2 24.4
54.2 469.2 361.1 108.1 23.0 10.0 119.3 (1.2) (0.3) 12.6
120.0 (12.2) (2.3) 17.0
110.0 2.1 0.4 14.0
69.0 57.9 11.9 27.0
98.0 61.1 13.1 12.0
29.5 78.0 20.5 22.7
75.6 9.6 2.8 13.4
(5.6) 29.0 (0.2)
(2.4) 12.0 0.1
14.5 47.6 102.9
(2.9) 30.3 16.6
34.5 22.5 3.4 5.4 73.0 14.0 14.0
34.3 21.9 3.5 8.8 61.0 12.1 12.1
34.2 16.0 4.2 16.7 63.0 12.9 12.9
30.9 24.1 10.2 (0.4) 90.0 19.2 19.2
32.0 21.6 11.8 13.9 102.0 24.0 24.0
29.2 9.8 8.7 3.1 122.2 32.1 32.1
29.9 22.2 (25.4) (26.7) 97.2 27.8 27.8
111.0 23.7 23.7
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Interest (% of operating revenues) Debt service (% of oper revenues) Free cash & liquid assets as % operating expenditures Free cash & liquid assets as % DS f--Forecast. b--Budgeted. e--Estimated. p--Planned. N.A.--Not available
The budgetary performance of Naga City has been exceptional in the last few years. Operating surpluses often exceed well in excess of 25% of operating revenues and in parallel, balances after capital expenditures has been consistently strong too with an average surplus of 15% of revenues over the period 2005-2007. Preliminary financial statements released for fiscal 2008 indicate a slight deterioration from 2007 figures, but nonetheless a still healthy operating balance of 26% and balances after capital expenditure of 12%. Naga’s budgetary results are driven in part by its conservative budgetary planning measures— the city government has an “80:20” budgeting rule in place, whereby department heads must try to generate results with 80% of funds requested and 20% to be set aside as savings. However, Naga’s strong budgetary performance in part also masks the greater problem of the city government’s low capacity to manage infrastructure projects/programs. Only about 50% or less of the city’s LDIP is implemented after each term of office, yet large surpluses occur year on year, leading to quick accumulation of reserves. Although tax revenues could come under pressure in the near term, Naga’s economy which is more dependent on local consumption, would be relatively more insulated to the global downturn then Philippines cities located in Metro Manila like Mandaluyong and Taguig. Tax revenue growth has been healthy since 2005, due to the city’s implementation of better collection strategies (see ‘Naga City FMA Analytical Report—Revenue Management section’). Also, starting from 2009, the regional offices of the Bureau of Internal Revenue are required to share tax information with LGUs. Hence the Naga management has expressed upbeat sentiments that tax revenue would increase due to the more realistic (and higher) business tax assessments based on BIR returns. In addition, contribution of revenue from Naga City’s public markets has experienced double-digit growth in the last five years. Profits from economic enterprises owned by the city now contribute around 9% of total revenue, and that is likely to increase with the completion of the 10,000 seater Naga City Coliseum (convention center), which is expected to generate revenue of around PHP24 million annually. As is the case in LGUs in the Philippines, political cycles can have a strong effect on budgeting outcomes. Leading up to the upcoming city election in 2010, spending could be ramped up by the current administration. In the near term, though Naga’s budgetary perform could come under some pressure, we expect it to still maintain budgetary performance better than most domestic peers judging by the city government’s track record, conservative budgeting and steady revenue growth.
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Liquidity and Debt Management
Naga City’s free cash has been rapidly increasing since 2003. Its current liquidity position is robust, with free cash and liquid assets estimated to have reached 83% of operating expenditures at end 2008, comfortably above the median for its rating category. As Naga’s debt burden is low, its free cash provides an even wider margin of coverage for debt servicing. Though there is no written policy, the management internally agrees that daily disbursement should not exceed daily collection. Thus far for the past one year, Naga had managed to maintain on average, cash coverage of 9X monthly operating expenditures. The current management has a proven track record in achieving large budget surpluses year after year which has contributed to its growing reserves position. However given the lead-up to the 2010 city elections and the current economic situation, maintaining high balances after capital expenditures in the near term appears less likely. Although the city’s free cash and liquid assets position may fall as a result, we do not expect it to contract drastically in the near term. Its ample liquidity position should also act as sufficient buffer for most fiscal shocks and we do not expect liquidity shortfall in the near term. Of note is the presence of high level of payables on Naga’s balance-sheet. At 37% of total expenditures estimated as of end 2008, it is among the highest among peers, indicating slowturnaround on its disbursement process and/or overdue payables that should be reclassified as long-term liabilities instead. Alleviating this is that some of these payables arise from the city’s RPT collected for Special Education Fund being parked under General Fund instead, which results in inflated current liabilities due to the inclusion of funds ‘owed’ to the SEF under ‘Intra-Agency Payables’ (for more details, see ‘Naga FMA Analytical Report – Expenditure Management’ section). Excluding these would yield significantly lower payables at 30% of total expenditures. Notably, some of its receivables might have a low likelihood of recovery, especially with regards to socio-loans made out for the city’s micro-credit Livelihood Program for market vendors. Taking these into consideration, we have offset the negative working capital in our calculation of free cash and liquid asset position.
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Despite the large reserves it holds, Naga does not have a stated policy on investment of cash reserves. The city invests its cash based solely on which bank offers the best time deposit rates. This lack of risk assessment could potentially be damaging to the city’s financial health. In mitigation, LGUs can only place funds with Government Financial Institutions (GFIs) and they have access to special savings deposit accounts that offer higher interest rates. Nevertheless, an additional risk factor comes from the lack of clearly stipulated policies relating to liquidity targets, which could lead to temptations to spend excess funds on hand without adequate consideration for future obligations. Naga’s current debt burden is relatively low and the city has not defaulted on debt before. In this aspect, it does not have a dedicated debt management unit. However the city’s debt management skills are significantly savvier than many Philippines LGUs who demonstrates almost no capacity. Though there are no explicit debt policies in place, the LDIP has acted as a pseudo medium-term borrowing plan. Unlike other LGUs who have monthly debt repayments automatically deducted from IRA transfers, Naga’s city treasurer keeps track of loan payment dates and issue checks to repay directly to the lending banks. This has so far been done on a timely basis. Furthermore, its loans are negotiated with clauses that allow prepayment without penalties incurred, and the administration monitors current market interest rates and will seek refinancing whenever the opportunity arises. The administration keeps good track of all existing and past loans, and the amortization schedule, and summary details of loans are publicly available (for more details, see ‘Naga City FMA Analytical Report, Debt Management section’).
Naga City’s current debt burden is relatively low at 13% of 2008 operating revenues. Its healthy cash position amply covers all debt obligations, and the city’s net direct debt position at -48% of operating revenues in 2008, ranks among the best for both international and domestic peers. All of the city government’s debt is long-term in nature and borrowings have only been for capital projects. Its historical levels of debt service to operating revenues appears higher than what its outstanding borrowings would suggest, driven by the city government actively prepaying some loans to reduce the overall debt burden. Nonetheless, at 7% of operating revenue in 2008, Naga’s debt servicing is still well within the 20% cap set out in the LGC. Going forward, we expect the city’s debt servicing to hover around 5% or less. Naga’s direct debt burden had peaked at 32% of operating revenues in 2005, in part due to the PHP47.5 million loan from DBP for the construction of the Naga City Coliseum. As construction costs subsequently came down, the convention centre was eventually completed for PHP30 million. The remaining loan funds which were parked in an escrow account with the DBP, was repaid by the city government at one go, hence the swift decline in its direct debt level. We do not expect a drastic increase in debt burden leading up to the 2010 elections. Also, systemic borrowing constraints will remain in the medium-term. However, the possibility of large swings in debt levels cannot be ruled out with the implementation of large one-off infrastructure initiatives, owing to the absence of stipulated debt policies and/or a comprehensive medium-term fiscal framework.
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Given that the city of Naga does not own or control any commercial companies other than public markets, city hospital and other policy-based assets, as well as the fact that the obligations of all of these entities are consolidated on the city government’ balance sheet, it does not appear to have any material off-balance-sheet liabilities. Although it is possible, due to incomplete disclosure in commercial relationships between the city government and third parties, the city government could face contingent liabilities. Nevertheless base on information submitted by the city administration and interviews with the management, its financial profile does not appear to be at significant risk from contingent obligations.
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