Moody’s: Subsidy reforms are a long-term credit positive


In the short term, unbundled distributors will benefit the most from the increases in tariffs. Distribution companies in unbundled systems, such as those in Oman, will gain from the reduction in subsidies to end-consumers as their revenues are directly linked to tariffs. Fully integrated utilities, such as Saudi Electricity Company (SEC, A1 on review for downgrade), will also be positively affected. For other rated players, the effects will be credit neutral.
The low oil price environment is adding momentum to existing efforts that are likely to improve GGC utilities’ standalone credit quality over time. These include improvements in operating efficiencies, which along with the tariff hikes, could lead to a rationalisation of power consumption in the region and enable companies to enhance their capital expenditure (capex) planning. We also expect to see greater participation by the private sector in the electricity industry across the GCC.
GCC utilities will remain of strategic importance to governments in the region. The provision of secure and reliable electricity and water supplies is crucial to the region’s economic growth and social cohesion. All rated GCC utilities are government related issuers (GRIs) and their final ratings reflect both ongoing government support factored into standalone credit profiles as well as our assumptions regarding uplift for extraordinary government support.
However, GCC utilities could face some short-term risks. The current macro environment in the GCC could potentially lead to utilities facing higher funding costs in the future if bank lending were to become constrained. The need for GCC governments to balance their accounts could prompt unfavourable policy or regulatory changes that affect the utilities sector, although we think this is unlikely at this stage.
Faced with the prospect of a prolonged period of low oil prices and most GCC countries’ high dependence on revenues from the hydrocarbon sector, GCC governments are turning to energy subsidy reforms to help reduce budget deficits. Although rated GCC state-controlled utilities could face some short-term risks, we view the reductions in power and water subsidies to end-consumers and other changes we expect them to spur as a long-term credit positive for the sector overall. Since mid-2014, oil prices have fallen from above $100 per barrel (bbl) to below $30/bbl in January 2016, a level that is significantly lower than the budgetary break-even oil price for all GCC countries.
GCC countries have been introducing cuts to a range of energy subsidies since the start of 2015 in an attempt to alleviate the fiscal burden. For example, in January 2015, Abu Dhabi, one of the seven Emirates that form the United Arab Emirates (UAE), increased electricity and water tariffs (and subsequently revised water tariffs again this January) and followed that by aligning petrol prices (fuel at the pump) with average international fuel prices in August across all Emirates. Qatar followed suit by increasing electricity and water tariffs in September 2015 and fuel prices in January 2016. At the start of this year Saudi Arabia increased petrol prices at the pump by 50 per cent and raised electricity tariffs, mainly for high-usage consumers as well as for industrial and commercial customers. Oman recently raised fuel prices and water tariffs and is considering plans to increase electricity tariffs as part of its 2016 budget.
Oil prices are unlikely to shift significantly in 2016 from their early 2016 levels (we currently estimate that Brent crude will average $33/bbl in 2016 and $38/bbl in 20173) and will remain below GCC budgetary break-even points. Consequently, we think recent reductions to energy subsidies are likely to be followed by further cuts ahead of their potential phasing-out over the long term as the actions governments have taken so far to address the damaging effect of low oil price fall short of the scale of economic and fiscal reforms required to achieve budget balance.

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