April 23, 2015
The 2015 Ontario Budget: Asset sales to maintain a manageable debt burden
and to finance infrastructures
Since the end of the 2008-09 recession, the budgetary balance
has gradually improved in Canada’s largest province. The deficit
stood at $19.3B in FY 2009-10. 5 years later, in FY 2014-15, a
$10.9B deficit was registered by the Province. In our view, the
plan to reach a balanced budget in FY 2017-18 remains intact,
although there is still some work to do. Accordingly, the 2015
Ontario budget provides details on the latest adjustments made
by the government to walk the path to balance.
The 2015 budget includes a few details on the partial
privatization of Hydro One, the key element of the new “asset
optimization strategy” presented today. The idea is to unlock the
value of some existing assets to finance new infrastructures.
This is a natural follow-up of last year’s budget, where the
largest infrastructure plan in Ontario’s history was announced:
$130B over 10 years. Part of the dedicated funds to
infrastructures will include the recent sale of the remaining GM
shares (for $1.1B), as well as the sale of offices buildings from
the LCBO and the Ontario Power Generation (OPG).
Of course, the Ministry of Finance did not provided precise
estimates of the revenues expected to be raised from the asset
sales. According to the budgetary document, the “Other Non-Tax
Revenue” line implicitly includes the projected net impacts of the
asset optimization strategy. The Premier’s Advisory Council on
Government Assets, chaired by Ed Clark, estimated the gross
proceeds of the partial privatization of Hydro One at $9B. Our
understanding is that the Province is likely to register the amount
on a book value basis, rather than on a market value basis.
According to the Province’s public accounts, the book value of
Hydro One is approximately $7.5B. Therefore, the 60% sale of
Hydro One could generate about $5B. The Province is planning
to launch an IPO for approximately 15% of Hydro One common
shares during FY 2015-16. The remaining 45% will be gradually
made available in subsequent 4-5 years to investors, totaling up
to 60% over time. The timing of the issuance will likely depend
on the financial market conditions.
In our view, the Province would have been forced to borrow
additional money on financial markets to finance infrastructure
projects, or to postpone some projects, without the partial
privatization of Hydro One.
The borrowing requirements are forecasted at $31.1B in FY
2015-16 and $30.4B in FY 2016-17, significantly lower than
projected in the 2014 budget ($37.6B in FY 2015-16 and $32.9B
in FY 2016-17). Then, the borrowing requirements are expected
to fall to $24.4B in FY 2017-18, the lowest figure since FY 200708. This decline in borrowing requirements is due to the
elimination of the deficit and the lower amount of bonds
maturing. The Province is also raising its Canadian-dollar
borrowing target to at least 75% in FY 2015-16, versus the
previous target of 70%, given the strong domestic demand
observed in the past.
Overall, our interpretation is that the government made the
deliberate choice of broadening the ownership of Hydro One in
order to keep the debt burden under control. This is, in our view,
the appropriate decision given the negative outlook to the
Province’s long-term rating from Moody’s and Fitch credit
agencies. The net debt to NGDP ratio will stay stable over the
next few years, within the range of 39%-40%, compared to the
cyclical low of 26% reached prior to the 2008-09 recession. The
flat projection for the debt burden is supportive of current credit
ratings.
Let us continue our analysis by explaining the improvement in
the budgetary balance for the FY 2014-15 that ended last March.
The deficit is now estimated at $10.9B, compared to the $12.5B
figure projected of the 2014 budget. This $1.6B improvement
was driven by smaller debt servicing costs ($0.3B), lower
program spending ($0.6B) and the $1B unused reserve. FY
2014-15 marks the sixth consecutive year where program
spending ends up below projections, the evidence of a strong
track record in terms of fiscal management. The Province also
has the lowest program spending per capita ratio among all
provinces.
Meanwhile, total revenue was also below expectations in FY
2014-15 (by $0.3B) due to disappointing taxation revenue (down
by $0.7B versus the 2014 budget). The total revenue figure
would have been revised down further without the higher-thanprojected “Other Non-Tax Revenue” (+$0.2B) related to the sale
of GM shares.
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Economic Research and Strategy | 2015 Ontario Budget
Moving forward, the government is projecting the deficit at $8.5B
in FY 2015-16 and $4.8B in FY 2016-17, below the estimates
tabled in the 2014 budget ($8.9B and $5.3B, respectively). The
new revenue outlook is based on strong US demand lifting
Ontario’s exports. US real GDP growth forecasts (3.1% in 2015,
2.9% in 2016 and 2.7% in 2017) presented in the budget are
slightly more upbeat than the ones used at the Federal Reserve
and the Bank of Canada. But, overall, Ontario’s real GDP growth
forecasts remain slightly below the private-sector average, at
2.7% in 2015, 2.4% in 2016 and 2.2% in 2017.
Despite the favorable external outlook, the government
recognizes that improving economic conditions will not be
enough to return to a balanced budget in FY 2017-18. Therefore,
the government will hold the line on program spending, projected
at $121B during the next 3 years. The government will notably
continue to identify efficiencies to lower administrative costs. The
government has an ambitious goal to keep program spending
flat over time.
In summary, the adjustments made by the government in this
2015 budget were necessary to maintain the right path to the
zero-deficit objective of FY 2017-18 (and to finance the
infrastructure plan). LBS Economic Research and Strategy will
carefully monitor the upcoming economic, financial, and fiscal
operating developments that will influence the budgetary outlook
presented today. We judge that the fiscal framework presented
today is credible. If necessary, the government will be able to
make a final tweak in next year’s budget.
Sébastien Lavoie | Assistant Chief Economist
Assuming the direction of LBS’ Economic Research Department
April 23, 2015 | 2