Sharjah’s Credit Rating Downgraded to Ba1 by Moody’s

Moody’s is one of the three leading global external credit assessment institutions, alongside S&P and Fitch Ratings. The downgrade applies to the emirate’s foreign and local currency issuer ratings and its foreign currency senior unsecured ratings.

Factors Driving Sharjah Credit Risks

There are several reasons for the downgrade, according to Moody’s. The overall driver is the fiscal deterioration over the last five years. In 2021, Sharjah’s fiscal deficit widened to 8% of GDP from 7.1% in 2020. This is driven by government spending to meet social and economic development objectives. Moody’s said it expects this trend to continue.

Moody’s has warned that external factors such as tighter global financing conditions and rising interest rates could pose additional risks. There is also a downside risk stemming from weaker global economic conditions.

Factors that Mitigate Sharjah Credit Risk

There are several mitigating factors to the risks mentioned above. Sharjah is one of the seven emirates that constitute the UAE. The UAE Government carries a high investment grade rating of Aa2 with a stable outlook by Moody’s. This Aa2 rating means that its credit obligations are of high credit quality and very unlikely to default. 

The Abu Dhabi government's wealth supports the ratings of the Federal Government and other emirates. Abu Dhabi has a track record of providing financial support to other emirates if needed. Accordingly, an implied expectation of support reduces the estimated credit risk. Furthermore, Sharjah also benefits from the UAE Dirham and its peg to the US Dollar. The Government of Sharjah also maintains access to financing from local banks, which remain liquid and well-capitalized, said Moody’s.

What are the Consequences of a Credit Rating Downgrade

Generally, when a sovereign entity’s credit rating is downgraded, the rating agency perceives the credit risk as increasing. In other words, there is a higher likelihood that the sovereign may default on its debt obligations. When the credit risk increases, investors demand a higher return for investing in debt instruments. Therefore the government’s cost of financing increases.

A rating downgrade may also negatively impact an entity’s fundraising ability. When credit risk increases, some investors will shy away from that risk regardless of the returns. Institutional investors often have a defined investment mandate that stipulates what type of investments they can make. That means some of them may not be allowed to make higher-risk investments. That is especially the case for entities that are downgraded to BB+ (S&P/Fitch) or Ba1 (Moody’s) or lower. A debt instrument rated in that lower range is said to be “non-investment grade” or colloquially “junk”. Therefore, institutional investors with a mandate to invest in investment-grade instruments only may have to sell their debt.

Another potential consequence of rating downgrades (especially below investment grade) is that a borrower may be required to repay its bank debt early if loan agreements include so-called rating triggers. Such clauses are triggered when the credit rating or ratings are downgraded below a certain level.

The Sharjah rating downgrade to non-investment grade could make it more difficult to access financial markets. The potential investor base reduces, and those who invest will require higher returns, i.e. a higher interest rate.

How Do Sovereign Ratings Fit Into an Organisation’s Risk Management?

Sovereign credit ratings indicate the risk of the sovereign defaulting on its obligations when they fall due. Your company may or may not have direct credit risk exposure to the Government of Sharjah. An example of direct exposure is if your company has invested in bonds or other debt instruments issued by the Government of Sharjah. Another example is if your company sells to the Government on credit terms, and there are outstanding accounts receivable.

There are, however, additional aspects to consider from a risk management perspective. As the sovereign credit risk increases, the sovereign yield increases too. Any corporate entity in the emirate may therefore see its borrowing costs rise, too.

How Can Várri Consultancy Assist Your Organisation?

Reach out to us today to discuss your company’s credit risk exposure. We can assist with assessing the credit risk of your accounts receivables from companies based in Sharjah, discuss potential mitigating actions you can take, and support you in calculating loan loss provisions.