June 23, 2017 / 7:33 AM / a month ago

Fitch Revises Modernland's Outlook to Stable; Affirms at 'B'

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(The following statement was released by the rating agency) SINGAPORE/JAKARTA, June 23 (Fitch) Fitch Ratings has revised Indonesia-based homebuilder PT Modernland Realty Tbk's (Modernland) Outlook to Stable from Negative and affirmed the Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'B'. A full list of the rating actions is provided at the end of this commentary. The Outlook revision reflects the significant improvement in the company's presales, which may result in higher EBITDA recognition, and the subsequent reduction in the risk of the company breaching its local-currency debt covenants in 2017. In 1Q17, Modernland booked presales of over IDR600 billion, more than three times the 1Q16 presales of around IDR200 billion. In Fitch's view, the company's strategy of selling land in bulk has been successful in managing its liquidity during the challenging property market and reinforces its track record in such sales. KEY RATING DRIVERS Improving Demand: Fitch forecasts Modernland to book IDR2 trillion-2.5 trillion of attributable presales in 2017, as the company launches new residential clusters in its Jakarta Garden City (JGC) project, and demand for residential and industrial properties improves. Fitch expects this growth to translate into higher EBITDA recognition, which materially reduces the risk of Modernland breaching its local-currency debt covenants. Bulk Land Sales Support Liquidity: Fitch believes Modernland's large land bank and the good locations of the sites allow the company to sell land in bulk, which may provide liquidity support during downturns in the property cycle. In 2013-2016, Modernland sold over 200 hectares of land to Charoen Pokphand (CP), 8.5 hectares to AEON, 0.5 hectares to Cross Mobile, 3.7 hectares to IKEA, and 120 hectares to PT Alam Sutera Realty Tbk (ASRI; B+/Negative). In 4Q16, the company sold around 67 hectares to its 50:50 joint venture with PT Astra Land Indonesia. Volatile Cashflows, Low Development Risk: Modernland's exposure to bulk land sales and industrial land sales results in more volatile cash flows than peers that depend on residential sales. Nevertheless, the land sales remain important contributors to Modernland's cash flows, and the volatility is mitigated by the low development risks, mainly pertaining to the wide profit margins of the bulk land sales and industrial land sales. Modernland has a 20-year record in developing industrial estates, and has built strong relationships with tenants. Its flagship industrial estate in Cikande in the western part of Java island has a very low average land cost, compared with the current average selling price (ASP) of around IDR1.7 million per square metre (sqm), and Modernland has sufficient land to continue developing there for more than five years, assuming no further land acquisitions. Fitch believes Modernland can build on its success in Cikande and use a similar business model for future developments in its other industrial estate in Bekasi, also in western Java. Limited Residential Track Record: Fitch expects Modernland's residential and commercial property segment to account for an average of 50% of Modernland's attributable presales in 2017-2020, driven by the JGC project and new launches in Bekasi. The growing proportion of residential sales will counterbalance volatility in industrial land sales, but Modernland's track record in developing integrated, large-scale residential projects is still limited relative to the other rated developers. Land Sales to ASRI: As of end-2016, ASRI completed the purchase and payment of 120 hectares of land out of the agreed 170 hectares. Currently Modernland and ASRI are in further discussion regarding the purchase of the remaining land, with no specific timeline for completion. Modernland believes ASRI may eventually complete the acquisition, given the strategic location of the land in Serpong in western Java. Nevertheless, given the uncertainty of the transaction, Fitch has not included any further land sales to ASRI in its assessment of Modernland's credit profile. Manageable Forex Risk: Modernland has fully hedged the principal of its USD240 million bond using call-spread options, covering rupiah depreciation of up to IDR15,000 per US dollar. However, the company has not hedged the principal of its outstanding USD57 million bond, although we believe that Modernland's wide profit margins may be sufficient to absorb short-term currency volatility. DERIVATION SUMMARY Modernland is well-positioned relative to other Fitch-rated property developers, such as PT Kawasan Industri Jababeka Tbk (KIJA, B+/Stable), PT Alam Sutera Realty Tbk (ASRI, B+/Negative) and Lodha Developers Private Limited (Lodha; B/Negative). Fitch believes that KIJA's stronger recurring interest coverage, lower leverage and the more strategic location of its industrial development compared to that of Modernland supports its higher rating. We also believe ASRI's longer track record in residential developments and more defensive cash-flow mix support a higher rating than Modernland. Relative to Lodha, Modernland's smaller presales scale if offset by its lower leverage profile and higher presales turnover, and Lodha's inability to deleverage in the short to medium term. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Attributable presales of IDR2 trillion-2.5 trillion in 2017 - Land acquisition capex of around IDR200 billion in 2017 - Committed construction capex of around IDR1 trillion in 2017 RATING SENSITIVITIES Future developments that may, individually or collectively, lead to positive rating action: - Attributable residential presales (excluding bulk land sales) sustained above IDR2 trillion without any material weakening in financial profile Future developments that may, individually or collectively, lead to negative rating action: - Attributable presales/ gross debt sustained at less than 40% (2016: 62%) LIQUIDITY Sufficient Liquidity: As of December 2016, Modernland had cash of around IDR400 billion compared with IDR470 billion of maturing short-term debt. We expect the company to post positive free cash flows of around IDR170 billion in 2017, which supports its liquidity. Modernland's capex in the short term is going to be limited to construction costs, which depend on the company's meeting sales thresholds in a particular period. This, coupled with the discretionary nature of land acquisitions, may allow Modernland to accumulate cash and shore-up its liquidity profile. Liquidity is also supported by Modernland's access to local banks and international capital markets. In April 2017, Modernland issued a USD240 million 6.95% senior unsecured bond, which was used to refinance its old USD191 million 9.75% bond. This issuance has extended the company's debt maturity profile, giving it more flexibility in managing cash flows. FULL LIST OF RATING ACTIONS PT Modernland Realty Tbk -- Long-Term Issuer Default Rating affirmed at 'B'; Outlook revised to Stable from Negative -- Senior unsecured debt rating affirmed at 'B' Modernland Overseas Pte. Ltd. -- Senior unsecured USD240 million 6.95% bond due 2024 affirmed at 'B', with Recovery Rating of 'RR4' Marquee Land Pte. Ltd. -- Senior unsecured USD57 million 9.75% bond due 2019 affirmed at 'B', with Recovery Rating of 'RR4' Contact: Primary Analyst Hasira De Silva, CFA Director +65 67967240 Fitch Ratings Singapore Pte Ltd One Raffles Quay South Tower #22-11 Singapore 048583 Secondary Analyst Bernard Kie Associate Director +62 21 2988 6815 Committee Chairperson Vicky Melbourne Senior Director +61 2 8256 0325 Media Relations: Leslie Tan, Singapore, Tel: +65 67 96 7234, Email: leslie.tan@fitchratings.com. 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