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Fitch Affirms the Ratings of the State of Sao Paulo; Outlook Stable

SAO PAULO & BOGOTA, Colombia--(BUSINESS WIRE)--Fitch Ratings has affirmed the Brazilian state of Sao Paulo's Issuer Default Ratings (IDRs) at 'BBB'. The agency has also affirmed the national long-term rating at 'AA+(bra)'. The rating Outlook is Stable.

KEY RATING DRIVERS

The State of Sao Paulo's ratings affirmation considers Sao Paulo's solid economy, which is about a third of the Brazilian GDP. The state had an adequate budgetary performance, which according to Fitch's adjustments, accounts for a 7.9% operating margin and high level of fiscal autonomy. Proprietary revenues represented 72.1% of operating revenues in 2013. Also supporting the rating is the financial flexibility stemming from the fact that Sao Paulo's most important creditor is the federal government, which accounted for 93.5% of total debt in 2013.

Sao Paulo's fiscal performance is dependent on the Imposto Sobre Circulacao de Mercadorias e Servicos (ICMS) tax, which is highly correlated with the performance of the national economy. The state estimates tax revenues will expand at a slower pace in 2014 (7.7%), maintaining this pace until 2017. This reflects the more fragile economic scenario expected for the Brazilian economy.

As a result of lower growth in personnel expenditures, operating margins should stabilize at close to 7% by 2016, according to Fitch's calculations based on state's projections. However, the state has been resorting to using non-recurring revenues such as tax refinance agreements that are unsustainable over the medium term, in Fitch's opinion. A contributing factor to the positive tax collection performance is the private investment plan in the most dynamic segments of the state with projects already operative and to be concluded in the coming years.

Sao Paulo's financial debt has been increasing. In 2013, direct debt over current balance reached 1.1 year. According to the state's debt projections, this ratio should be close to 4 years, still compatible with 'BBB' rated entities. Sao Paulo's exposure to foreign debt corresponds to 3.5% of direct risk or BRL7.3 billion in 2013, which is much lower when compared with other subnationals in Brazil. The external debt portion is guaranteed by the federal government.

Despite the implementation of the complementary pension system (Prevcom) in 2011, pension-related expenditures made up a significant portion of personnel expenditures, reaching 34% in 2013. Sao Paulo has been covering the pension shortfalls which should increase in the coming years. Whereas the current pension system operates under a definite benefit system, Prevcom has a definite contribution scheme, which prevents the actuarial deficit from growing.

Sao Paulo plans to strengthen cash advances to private operators in light of the large amount of investments in each public-private partnership (PPP) project. Nevertheless, there are only three operative PPPs related to urban mobility and infrastructure. Contrary to other states, the pace of private investments has been faster.

Fitch affirms the following ratings:

--Foreign Currency Long-term IDR at 'BBB'; Stable Outlook;

--Foreign Currency Short-Term IDR at 'F2';

--Local Currency Long-Term IDR at 'BBB'; Stable Outlook;

--Local Currency Short Term IDR at 'F2';

--National Long-term rating at 'AA+(bra)'; Stable Outlook;

--National Short-term Rating at 'F1+(bra)'.

RATING SENSITIVITIES

Upgrade Factors: Fitch does not expect an upgrade in Sao Paulo's ratings over the medium term given that it is equalized with the Brazilian sovereign on the global scale.

Downgrade Factors: A significant deterioration of Sao Paulo's fiscal management as measured by an operating margin lower than 5% coupled with a higher level of financial debt, expressed by a direct debt/current balance higher than four years, could result in a review of the ratings.

Sao Paulo is located in the in the Southwest region of Brazil. Despite accounting for only 2.9% of the area of Brazil and 22% of the population, Sao Paulo generated 31.2% of the national economic output in 2013, with above-average infrastructure level in relation to other states in Brazil.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--International Local and Regional Governments Rating Criteria (Outside the United States) (April 2014)

Applicable Criteria and Related Research:

International Local and Regional Governments Rating Criteria - Outside the United States

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=719656

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=839140

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Contacts

Fitch Ratings
Primary Analyst
Paulo Fugulin
Director
Fitch Sao Paulo
Alameda Santos, 700, 7th floor
Sao Paulo, Brazil
+55-11-4504-2206
or
Secondary Analyst
Carlos Vicente Ramirez
Senior Director
+571 326-9999 ext. 1240
or
Committee Chairperson
Humberto Panti
Senior Director
+52-81-8399-9152
or
Media Relations
Elizabeth Fogerty, New York, +1-212-908-0526
elizabeth.fogerty@fitchratings.com