October 18, 2017 / 4:34 AM / 2 years ago

Fitch Revises Beijing Capital Development's Outlook to Negative, Affirms Rating at 'BBB-'

(The following statement was released by the rating agency) HONG KONG, October 18 (Fitch) Fitch Ratings has revised Beijing Capital Development Holding (Group) Co., Ltd.'s (known by its abbreviated Chinese name Shokai Group) Outlook to Negative from Stable. Shokai Group's Long-Term Foreign-Currency Issuer Default Rating (IDR) has been affirmed at 'BBB-', and its senior unsecured rating and the ratings of all outstanding bonds have also been affirmed at 'BBB-'. A full list of rating actions is at the end of this commentary. The Negative Outlook reflects the Beijing-based homebuilder's aggressive land banking, which has resulted in a rapid increase of its leverage, as measured by net debt before including guarantees/adjusted inventory, to 70% at end-1H17, from 63.2% at end-2016. Shokai Group's leverage may decline in the second half of 2017 as the company plans to slow down its land acquisition. Even so, Fitch expects Shokai Group's leverage to fall below 65% only in 2019. However, if it continues to be aggressive in acquiring land and fails to deleverage in the second half of 2017, Fitch may consider downgrading the homebuilder's ratings. Shokai Group's ratings are two levels above its standalone credit profile of 'BB'. The rating uplift reflects its moderate linkage with its parent, the State-owned Assets Supervision and Administration Commission (SASAC) of Beijing's municipal government, in line with Fitch's Parent and Subsidiary Rating Linkage criteria. KEY RATING DRIVERS Leverage Surge Pressures Rating: We believe Shokai Group's leverage is likely to stay in the 65%-69% range in the next 18 months and its deleveraging hinges on the company materially improving its contracted sales while slowing down on its land acquisition. Shokai Group's leverage surged to 70% in 1H17, the highest level seen, after the fastest pace of land acquisition over the past five years. Its attributable land premium rose to 95% of contracted sales in 1H17 from 58% in 2016 and 68% in 2015. It acquired 21 land parcels in the first nine months of 2017, of which 14 were in Beijing. The company's land bank of 21 million square metres (sq m) is now sufficient for more than six years of sales, giving it room to slow down on its land acquisition. The restrictive home-purchase policies that were strictly implemented in Beijing and other Tier 2 cities also affected Shokai's sales in 1H17. As a result, we expect its churn rate, as measured by total contracted sales to net inventory, to slow to 0.6x in 2017 from 0.7x in 2016. Its rapid expansion will jeopardise the stability of its credit profile, despite the good quality land parcels it acquired, causing our Outlook change to Negative from Stable. Structural Subordination Mitigated: Shokai Group's assessed standalone credit profile of 'BB' is mainly driven by its 51.5%-owned subsidiary, Beijing Capital Development Co Ltd (Shokai), which is listed in Shanghai. The presence of minority shareholders who own 48.5% of Shokai structurally restricts Shokai Group's access to the listed company's cash flow. However, Shokai Group has provided shareholders' loans to Shokai that covered about half of its net debt of CNY4.0 billion in 1H17 and the cash income interest coverage at the group excluding Shokai is consistently above 1.0x. Furthermore, Shokai Group's own financial profile is strengthened by a significant pool of assets in Beijing that carry very low historical costs and that it directly holds. Leading Beijing Homebuilder: The Chinese capital accounted for more than 50% of Shokai Group's contracted sales in the first half of 2017. The group has an estimated 8% share in the Beijing housing market by contracted sales. Shokai Group is focused on Beijing, and of the land it purchased in the last three years, 60%-70% by land premium and 40%-50% by gross floor area was in the city. The company owns the largest land reserve in Beijing among peers with 5.73 million sq m of gross floor area (GFA), which is sufficient for at least six years of development activity. Moderate Government Linkage: Shokai Group plays a significant role in providing affordable housing in Beijing. Shokai Group has two wholly owned subsidiaries that undertake a variety of government-initiated affordable housing projects. The group has developed more than 20 million sq m in GFA of affordable housing projects in Beijing over 30 years and manages a large number of such estates in the city, including Fangzhuang Community, Wangjing New Town, and Beijing's largest affordable-housing compound, Huilonguan, which has 8 million sq m in GFA. However, these projects have only a small impact on Shokai Group's financial profile compared with the commercial homebuilding business that is represented by Shokai. DERIVATION SUMMARY Shokai Group's rating incorporates a two-notch uplift due to its moderately strong linkage with its parent, Beijing SASAC, in line with Fitch's Parent and Subsidiary Rating Linkage criteria. Shokai Group's assessed standalone credit profile of 'BB' is mainly driven by Shokai, whose homebuilding business accounted for more than 95% of Shokai Group's consolidated EBITDA and net debt in the past three years. Shokai Group's business profile is closer to 'BB+' because of its leading position in the Beijing housing market, which leads to its high profitability, and its diversified land bank. However, its rating is constrained by net leverage of around 65%, which is higher than most of the 'BB' category peers, and relatively low contracted sales efficiencies (measured by contracted sales/gross debt) due to its higher exposure to Beijing, where the government has imposed stricter presale conditions compared with other cities. Shokai Group's leverage is as high as Greenland Holding Group Company Limited's (BB/Negative), Guangzhou R&F Properties Co. Ltd.'s (GZ R&F, BB/RWN) and Sunac China Holdings Limited's (BB-/RWN). Shokai, as a state-owned enterprise, has a stronger position in acquiring land at low costs, especially for new city districts that local governments are keen to develop. This enhances Shokai's business profile over that of GZ R&F and Sunac. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Contracted sales to increase by 15% in 2018 and 10% in 2019-2020. - Land replenishment ratio, measured by gross floor area acquired to gross floor area presold in the same year, at 0.9x in 2018 and deteriorating to 1.3x in 2019 - EBITDA margin to increase to above 25% from 2018 - Company to maintain controlling shareholding in Shokai - Dividend payout of 18% RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Positive Rating Action The Outlook on the standalone ratings may be revised to Stable if the negative guidelines are not met in the next 12 months. Future Developments That May, Individually or Collectively, Lead to Negative Rating Action - Failure to deleverage in 2H17 - Consolidated net debt excluding guarantees/adjusted inventory is sustained above 65% (1H17: 70%), or consolidated net debt/adjusted inventory is sustained above 70% (1H17: 73.5%) - EBITDA margin sustained below 20% (1H17: 18% before capitalised interest adjustment) - Contracted sales/total debt ratio below 0.6x on a sustained basis (2016: 0.5x) - A significant decrease in the company's shareholding in Shokai (1H17: 51.54%) - Any weakening of government linkages LIQUIDITY Adequate Liquidity: The company had CNY31 billion in unrestricted cash as of end-June 2017. This is enough to cover the CNY28.5 billion in short-term debt. According to the company, it can roll over the short-term debt. The company is also quite active in domestic bond markets. Interest rates for its onshore bonds issued in the past 12 months were as low as 3.6%. The company also has access to equity markets through Shokai. It has good relationships with its banks due to its status as a state-owned enterprise, giving it unused facilities of CNY128 billion as of end-June 2017. FULL LIST OF RATING ACTIONS Beijing Capital Development Holding (Group) Co., Ltd. - Long-Term Foreign-Currency IDR affirmed at 'BBB-'; Outlook Negative - Senior unsecured rating affirmed at 'BBB-' Bright Galaxy International Limited - USD500 million 3.375% senior unsecured notes due 2021 guaranteed by Shokai Group affirmed at 'BBB-' Contact: Primary Analyst Vicki Shen Director +852 2263 9918 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central Hong Kong Secondary Analyst Chloe He Associate Director +852 2263 9933 Committee Chairperson Su Aik Lim Senior Director +852 2263 9914 Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. 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