Sunac China Holdings Ltd. #B+# Rating Outlook Remains Negative

Stocks and Financial Services Press Releases Tuesday April 11, 2017 17:31
HONG KONG--11 Apr--S&P Global Ratings

HONG KONG (S&P Global Ratings) April 11, 2017--S&P Global Ratings said today that it had affirmed its 'B+' long-term corporate credit rating on Sunac China Holdings Ltd. The outlook remains negative. We also affirmed our 'B' long-term issue rating on the company's outstanding senior unsecured notes. At the same time, we affirmed our long-term Greater China regional scale rating on Sunac at 'cnBB-' and on the notes at 'cnB+'. Sunac is a China-based property developer.

"The affirmed rating with negative outlook reflects our expectation that Sunac will slow down its land acquisitions and maintain strong sales performance in 2017, such that its financial leverage will improve from the high level in 2016," said S&P Global Ratings credit analyst Dennis Lee.

In our base case, we forecast that Sunac's debt-to-EBITDA ratio, including the proportional consolidation of joint ventures (JVs) and associates, will improve to 8x–10x in 2017, from about 11x in 2016. This is driven by our forecast that the company will achieve total contracted sales of Chinese renminbi (RMB) 225 billion, supported by its increased saleable resources of RMB418 billion. Sunac's high leverage in 2016 was a result of its aggressive expansion during the year.

At the same time, we expect Sunac will reduce its land acquisition budget to about RMB60 billion, from RMB73.7 billion in 2016. The company has slowed down its land acquisition activities since the start of 2017 due to high land prices and tightening liquidity conditions. As a result of aggressive land acquisitions in 2016, Sunac's attributable land reserves have increased significantly to about 50 million square meters (sqm), from 18.05 million sqm in 2015. In our view, the company's enlarged land reserves provide it with a strong foundation for scale expansion in the next five years. As of end-2016, the company has committed but unpaid land premiums of RMB32.8 billion.

"We believe the short-term liquidity pressure on Sunac is manageable, given the company's substantial cash position of RMB69.7 billion at the end of 2016," said Mr. Lee. "We expect the company's debt growth to moderate in 2017 and 2018 due to more controlled spending after a substantial increase from aggressive land acquisitions in 2016."

We expect JVs and associates will continue to generate a significant portion of Sunac's sales in the next few years. In 2016, only one-third of the company's sales were from subsidiaries. The rest were from JVs and associates. We estimate that the overall financial leverage of the company's JVs and associates is lower than that at the consolidated parent level because the parent funds some of the land payments. We estimate the overall debt-to-EBITDA ratio of Sunac's unconsolidated JVs and associates is about 7.0x.

We anticipate Sunac will continue to leverage on its experience and capabilities in mergers and acquisitions (M&A) as the key way to acquire land plots. In our view, this method could lower land costs and reduce competition when compared with public auction. However, it also lowers Sunac's financial transparency, given the timing mismatch between financial gain recorded at the time of the transaction and the impact on cost of goods sold in the subsequent period. More than half of the land plots that the company acquired in 2016 were through M&A.

Additionally, we expect Sunac to continue to invest in non-property development businesses. In the first quarter of 2017, the company spent RMB17.6 billion to invest in Homelink, a property transaction services provider, and Leshi, an internet company. Although these transactions did not have a material impact on cash flows, they show Sunac's intention to expand outside property development in the long run. These acquisitions were opportunistic in nature, and the strategy and synergy with Sunac's main property development business remains unclear. We therefore revised our financial policy score for Sunac to negative from neutral.

Based on Sunac's ability to achieve its sales goals in 2016 and its satisfactory execution of its land acquisition strategy, we revised its management and governance score to fair from weak. However, we continue to believe that the company has high key man risk with its founder and chairman Mr. Sun Hongbin.

The negative outlook reflects our view that Sunac's financial leverage will remain high in the next 12 months. We expect the company to maintain strong sales growth and be disciplined in land acquisitions, thus marginally improving its leverage from the 2016 level. We forecast that Sunac's debt-to-EBITDA ratio, including the proportional consolidated financials of its JVs and associates, will improve to 8x-10x 2017, from about 11x in 2016.

We could downgrade Sunac if the company's financial leverage does not improve as we expect. This could happen if Sunac's aggressive debt-funded land acquisitions continue, the company's sales execution does not meet our expectation of about RMB225 billion in 2017, or its margin declines substantially.

We could revise the outlook to stable if Sunac's financial leverage, including the proportionally consolidated financials of JVs and associates, meets our forecast of a debt-to-EBITDA ratio of below 10x in 2017 and continues to show an improving trend thereafter.

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