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Fitch Downgrades Parkson to 'B-' as Profitability Deteriorates
January 9, 2017 / 8:43 AM / a year ago

Fitch Downgrades Parkson to 'B-' as Profitability Deteriorates

(The following statement was released by the rating agency) HONG KONG, January 09 (Fitch) Fitch Ratings, Hong Kong, 9 January 2017: Fitch Ratings has downgraded China-based department store operator Parkson Retail Group Limited's (Parkson) Long-Term Issuer Default Rating (IDR) and senior unsecured rating to 'B-' from 'B'. The Outlook on the IDR is Negative. Fitch has maintained a Recovery Rating of 'RR4' on the senior unsecured rating. The downgrade reflects the company's weaker operating performance, while the Negative Outlook reflects uncertainty over its ability to refinance or repay its USD500m (CNY3.2bn) bonds maturing in May 2018. KEY RATING DRIVERS Further Decline in Profitability: Parkson's fundamentals have deteriorated over the past few years due to weaker consumer spending and competition from other retail formats, such as e-commerce and shopping malls. The company's same-store sales continued to decline, by 10% yoy in 1H16 and 7% yoy in 3Q16. The increase in sales from new businesses like direct sales partly offset weakness in concessionaire sales. However, these new initiatives are likely to make only a marginal contribution to earnings over the next one to two years because they account for only 10% of Parkson's gross sales proceeds and face tough competition. Parkson's heavy reliance on rented properties has exacerbated the impact of the sales decline on margins. EBITDA fell to 2% of gross sales proceeds in 2015 and we expect it to be 1%-2% in 2016-19, compared with EBITDA margins in the low teens for most Fitch-rated department store operators. High Leverage: Parkson raised CNY1.9bn in net proceeds by selling a store in Beijing in December 2016. After adjusting for operating leases, customer prepayments and 85% of trade payables, Fitch expects payables-adjusted FFO net leverage to fall to 8.1x by end-2016, from 9.1x at end-2015. While this bolsters the company's readily available cash in 2016, Fitch expects further deterioration in profitability to worsen leverage from 2017. Addressing Bond Maturity Critical: Parkson's short-term liquidity position is adequate, with over CNY2bn of cash and principal guaranteed investments at end-June 2016 and the CNY1.9bn net proceeds from the store sale in 2H16. However, its deteriorating profitability and increasing leverage creates uncertainty over its USD500m bonds maturing in May 2018. The company is considering its options to repay or refinance the bonds, but if no financing plans materialise in 1H17 liquidity risk will increase. Share Buybacks Continue: Parkson has been repurchasing shares through the Hong Kong Stock Exchange since 2013. The company has bought back more than 6% of total shares outstanding using cash over the past four years and has already spent approximately CNY30m in 2016. We believe the share buybacks are incrementally negative for Parkson's credit profile, given its weak FFO generation and negative FCF, as they further reduce readily available cash on the balance sheet. DERIVATION SUMMARY Parkson generally compares poorly to peers on most comparative financial metrics. Its business profile has been hurt by weaker consumer spending and competition from other retail formats and its profitability has been negatively affected by a high proportion of rented properties. Its financial profile is also weaker than peers, with lower coverage and higher leverage ratios. No Country Ceiling, parent/subsidiary or operating environment aspects impact the rating. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Gross sales proceeds declining by 10% in 2016 and declining at a low-single-digit rate annually for 2017-2019 - EBITDA margin relative to operating revenue of 4%-6% in 2016-2019 (1%-2% relative to gross sales proceeds in 2016-2019) - Commission rate of 17.1% for concessionaire sales in 2016 and 17.2% in 2017-2019, versus 17.2% in 2015 and 17.0% in 1H16 - CNY500m capex in 2016 and CNY300m per year thereafter - CNY27m paid out in dividends annually (equivalent to final dividend paid in 2014-2015; no dividend paid in 1H16) RATING SENSITIVITIES Positive: The Outlook may be revised to Stable if the USD500m bonds due in 2018 are refinanced or there is sufficient fundraising or asset sales to repay the bonds. In addition, positive rating action will be considered if the FFO fixed-charge coverage ratio is sustained comfortably above 1.0x. Negative rating action will be taken if Parkson fails to address the 2018 bond maturity by mid-2017. LIQUIDITY As of 30 June 2016, Parkson had over CNY2.6bn of cash and principal guaranteed investments, down from about CNY4bn at end-2014. Liquidity is not an issue for now as there is not much debt maturing in 2017 and the company raised CNY1.9bn by selling a Beijing property in December 2016. However, the USD500m bonds will mature in May 2018. If the company cannot address the bond maturity, liquidity risk will increase. In accordance with Fitch's policies, the issuer appealed and provided additional information to Fitch that resulted in a rating action which is different than the original rating committee outcome Contact: Primary Analyst Cathy Chao Associate Director +852 2263 9967 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central, Hong Kong Secondary Analyst Yee Man Chin Director +852 2263 9696 Committee Chairperson Kalai Pillay Senior Director +65 6796 7221 Summary of Financial Statement Adjustments - Leases: Fitch has adjusted the debt by adding 8x annual fixed operating lease expenses (2015: fixed rental expense of CNY1.1bn) - Payables Adjusted Net Leverage: Fitch subtracts customer prepayments and 85% of trade payables from cash and cash equivalents. This metric mainly applies to Chinese department stores operating under the concessionaire model. Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: Additional information is available on Applicable Criteria Criteria for Rating Non-Financial Corporates (pub. 27 Sep 2016) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here _id=1017311 Solicitation Status here 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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