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Fitch Assigns Shandong Snton First-Time 'BB+' Rating; Rates Proposed USD Notes
November 14, 2017 / 1:39 AM / a month ago

Fitch Assigns Shandong Snton First-Time 'BB+' Rating; Rates Proposed USD Notes

(The following statement was released by the rating agency) HONG KONG/SHANGHAI, November 13 (Fitch) Fitch Ratings has assigned China-based steel tire cords manufacturer Shandong SNTON Group Co., Ltd. (Snton) a Long-Term Foreign-Currency Issuer Default Rating (IDR) of 'BB+' with a Stable Outlook and senior unsecured rating of 'BB+'. Fitch has also assigned SNTON International Finance I (BVI) Company Limited's (Snton Finance) proposed US dollar-denominated senior notes a 'BB+(EXP)' rating. Snton Finance is wholly owned by Snton. The notes are rated at the same level as Snton's senior unsecured rating as they will be unconditionally and irrevocably guaranteed by Snton. The ratings reflect Snton's stable profitability, which is underpinned by its leading market position in its core business of steel tire cords and moderate business diversification across its four major business segments. The Stable Outlook reflects our expectations that profitability in Snton's core businesses will remain stable while its net leverage will remain moderate. KEY RATING DRIVERS Leading Steel Cord Manufacturer: Snton is among China's top-three steel tire cord manufacturers, with significant economies of scale, product leadership and solid business relationships. The domestic steel tire cord industry is concentrated, with the top-three players accounting for more than 60% of total domestic market share and leading the tier-2 camp by a wide margin. Snton's technological leadership, high customer stickiness and high pricing power translate into a profitable and robust business. Snton has higher profitability than its domestic rivals due to better product mix and higher operating efficiency. Its products are aimed towards the mid- to high-end market, whereas its competitors aim at the mid- to low-end. Thus, Snton's steel tire cords carry a significantly higher average selling price and gross profit than the industry average. Moderate to High Entry Barriers: The steel tire cord industry has moderate to high entry barriers as customers (tire manufacturers) typically require five years of testing prior to awarding long-term contracts. The industry's high capital intensity, moderate to high R&D investment requirement and high working capital needs also deter new entrants to the market. Snton's long-term partnerships with leading domestic and global tire manufacturers ensure high customer stickiness and stable profitability in its core business. 2017 FCF to Turn Positive: Fitch expects Snton's free cash flow (FCF) to turn positive in 2017, backed by strong EBITDA generation and limited capex requirements, despite ongoing working capital outflows. This should allow the company to cut FFO adjusted net leverage to below 2x within the next two to three years. Snton's working capital requirements increased significantly when it expanded into optical base film in 2014 due to inventory stockpiling and favourable credit terms for new customers. We expect working capital requirements to remain elevated over the next two to three years. The company has historically not paid dividends and Fitch expects this to continue. Significant External Guarantees: Snton had large external debt guarantees totalling CNY4.1 billion as of 1H17 (2013: CNY4.8 billion), which accounted for around 30% of its total adjusted debt and which Fitch has included in its debt and leverage calculations. Most external guarantees are for the bank loans of other private enterprises in Dongying city, where the company is based. In return, these companies guarantee Snton's debt. A large portion of the guarantees is for Shandong Wanda Group, a private enterprise in Dongying. Snton expects to continue lowering its external guarantees by around CNY200 million-300 million each year. Diversified Revenue Base: Snton has a diversified revenue base, which includes steel tire cords (50% of 2016 revenue), petrochemicals (16%), machinery manufacturing (13%) and optical base films (12%). There is low correlation between Snton's four major segments and its diversified business portfolio limits the company's sensitivity to developments that affect any single product. However, broad economic weakness will still take a toll on all segments. DERIVATION SUMMARY Compared with China Lesso Group Holdings Limited (BB+/Stable), both companies have similar EBITDA and margins and both are domestic industry leaders in their field. However, Snton's core business has higher entry barriers and technological leadership. Lesso has lower net leverage, but has significant business concentration and is geographically confined to southern China. Snton's greater business diversification enables the company to better combat industry cyclicality while maintaining more stable overall profitability. Snton employs a nationwide sales network and also sells to international customers. Fitch projects for both Snton and Lesso to post positive FCF over the next two to three years. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Low single digit revenue growth between 2017 and 2019 - EBITDA margin to remain at around 19% between 2017 and 2019 - Capex of CNY350 million-850 million per year between 2017-2020 - No dividend payouts RATING SENSITIVITIES Developments that May, Individually or Collectively, Lead to Positive Rating Action - Sustained decline in off balance sheet debt - Sustained positive FCF - FFO net leverage below 1.0x on a sustained basis Developments that May, Individually or Collectively, Lead to Negative Rating Action - FFO net leverage above 2.5x for a sustained period - FFO margin below 10% for a sustained period - Significant deterioration in steel tire cord business's market position LIQUIDITY Comfortable Liquidity: Snton had about CNY3.9 billion in cash against CNY4.7 billion in short-term debt at end-2016. The company also maintains around CNY12 billion in credit facilities, of which around CNY7 billion is unused at end-2016. Snton has secure banking relationships with the big four domestic banks as well as smaller banks, such as Ping An Bank Co., Ltd (BB+/Stable), Shanghai Pudong Development Bank (BBB/Stable) and Bank of Communications Co., Ltd. (A/Stable). Snton has reliable access to the domestic bond market but has not accessed equity markets. Contact: Primary Analyst Laura Zhai Director +852 2263 9974 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central, Hong Kong Secondary Analyst Charles Li Analyst +86 21 5097 3016 Committee Chairperson Kalai Pillay Senior Director +65 6796 7221 Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. Additional information is available on www.fitchratings.com Applicable Criteria Corporate Rating Criteria (pub. 07 Aug 2017) here Non-Financial Corporates Notching and Recovery Ratings Criteria (pub. 16 Jun 2017) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here#solicitation Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. 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