Credit ratings agency Fitch has reviewed the risks and credit-worthiness of new US dollar debt securities proposed by a subsidiary of leading China real estate developer Poly Real Estate, and given the notes a rating of BBB+. The following is the text of the report from the credit agency.
Fitch Ratings has assigned Poly Real Estate Finance Ltd.’s proposed US dollar notes a ‘BBB+(EXP)’ rating. The notes are unconditionally and irrevocably guaranteed by Hengli (Hong Kong) Real Estate Limited (Hengli), a wholly owned subsidiary of Poly Real Estate Group Company Limited (Poly; BBB+/Stable).
In place of a guarantee, Poly has granted a keepwell deed and a deed of equity interest purchase undertaking to ensure that the guarantor, Hengli, has sufficient assets and liquidity to meet its obligations under the guarantee for the proposed US dollar notes.
Furthermore, Poly’s parent, China Poly Group Corporation (China Poly), has also granted a keepwell deed to Poly and Hengli to ensure Poly has sufficient assets and liquidity to meet its obligations under the keepwell and undertaking deeds; and that Hengli has sufficient assets and liquidity to meet its obligations under the guarantee for the notes.
The final rating is contingent on the receipt of final documents conforming to information already received.
Key Rating Drivers
Support from Parent
Poly’s ratings benefit from a one-notch uplift to reflect strong operational and strategic linkage with its parent China Poly, in accordance with Fitch’s “Parent and Subsidiary Rating Linkage” criteria. China Poly’s support to Poly is evidenced by significant funding support to Poly, including providing a keepwell deed for Poly’s offshore debt issues.
Poly is a core subsidiary of China Poly, which is one of the 16 enterprises wholly owned by the State-owned Assets Supervision and Administration Commission of the State Council. Poly’s ratings, however, are constrained at the ‘BBB+’ level, which is the highest in China’s homebuilding industry, because support from its state-owned parent is not sufficient to offset industry risk.
Leading Chinese Homebuilder
Poly is one of China’s top three homebuilders by contracted sales value. Its operation is sufficiently diversified across 49 cities, with over 90% of its sales from Tier 1 and Tier 2 cities in 2013. Poly also ranks among the top three homebuilders in 20 cities. Its large scale gives it strong operational and financial flexibility.
Strong Branding Supports Growth
Poly is one of the best performers among China’s 10 largest homebuilders by contracted sales. Its contracted sales have had a compounded annual growth rate of 47.2% since 2006 compared with China Vanke Co., Ltd’s (Vanke; BBB+/Stable) 34.8% and China Overseas Land & Investment Limited’s (COLI; BBB+/Stable) 32.8%. This is partly due to its established branding, which focuses on delivering comfortable housing at affordable prices.
Diversified Funding Channels
Poly has tapped funding from multiple channels to improve financial flexibility. Poly has raised CNY33bn of capital since 2006 via new equity private placements and selling minority stakes in its projects to quasi-equity-like real estate funds. Tapping the domestic capital market and obtaining shareholders’ loans from China Poly provide Poly with additional sources of funding apart from bank borrowings.
Aggressive Growth Drives Leverage
Constraining Poly’s ‘BBB’ standalone rating is its high leverage arising from recent rapid growth. Poly has expanded aggressively since 2006; net property assets grew to CNY144bn in 2013 from CNY6bn in 2006. As a result, leverage as measured by net debt/ adjusted inventory rose to a high of 63% in 2010 before falling to 47.3% in 2013 as growth moderated. Poly’s growth since 2006 has been supported by an increase of CNY62bn in net debt.
Stable Operations Drive Outlook
Fitch expects Poly to retain its leadership in the Chinese homebuilding market. Its focus on mass market homes and its operational and financial flexibility should help maintain moderate growth in a highly competitive and cyclical Chinese market.
Poly does not provide guarantees to offshore subsidiaries given the difficulties of obtaining approval from the State Administration of Foreign Exchange. However, both the keepwell deeds and Poly’s undertaking deeds signal a strong intention from Poly and China Poly to honour its proposed debt obligations.
Future developments that may individually or collectively, lead to negative rating action include: – weakened linkage with China Poly due to government policy changes, or a change in the group’s strategy/policy – aggressive expansion resulting in net debt/adjusted inventory of above 45% on a sustained basis – contracted sales/gross debt failing to rise above1.5x by 2014 (2013 at 1.26x) – severe deterioration in the operating environment resulting in prolonged poor financial performance
No positive rating pressure is likely as the rating is already at the peak for this industry. For its standalone ratings, future developments that may individually or collectively, lead to positive rating action include: – generation of neutral free cash flow on a sustained basis – reduction in net debt/adjusted inventory to below 35%.