Elion Resources Group Co. Ltd. Assigned #B# Outlook Stable

Stocks and Financial Services Press Releases Monday October 16, 2017 09:09
HONG KONG--16 Oct--S&P Global Ratings

HONG KONG (S&P Global Ratings) Oct. 16, 2017--S&P Global Ratings today assigned its 'B' long-term corporate credit rating to Elion Resources Group Co. Ltd. The outlook is stable. Elion Resources mainly engages in engineering and construction (E&C) projects related to desertification control and ecology restoration, as well as real estate development.

Our rating on Elion Resources mainly reflects our view of the company's E&C and real estate development businesses. We expect these segments to contribute to around 70% of the company's profit in the next two to three years, with each contributing almost equally. The company's other business segments, including chemicals, utilities, and trading, are much smaller in terms of profit contribution.

We expect Elion Resources to enlarge its operating scale in the E&C business, with revenue from this segment rising to around Chinese renminbi (RMB) 21 billion in 2019, from RMB2.7 billion in 2016. However, the company will still remain much smaller than its peers. Elion Resources also has a concentrated geographical exposure, with operations in northwest and north China. Moreover, with the Chinese government pushing for environmental protection and the prospect for fast growth, the company is likely to face increasing competition from existing players and new entrants. However, Elion Resources' 30 years of experience and specialized technology in desertification control should help it to continue to win contracts. In our view, the company also has a flexible cost structure and reasonable working capital management.

For the real estate business, Elion Resources has reasonable geographical diversification and low land costs. The company has operations in Inner Mongolia, Tianjin, Hebei, and Fujian, and is expanding into other places in China as well as overseas. Elion Resources can also acquire land at a low cost for some projects related to ecology restoration. However, the company's business size is small, with forecast revenue of around RMB19.0 billion in 2019 and a small land bank of 1.4 million square meters as of end-2016. The company also has a low market share and limited brand recognition in China's property development market.

We expect Elion Resources' financial metrics to gradually improve in the next two to three years, with higher-margin businesses such as E&C and real estate development contributing to a greater portion of total profit. Nonetheless, we believe the company will remain highly leveraged to support fast expansion. We also anticipate that Elion Resources will continue to have high working capital outflows because of its large spending on land purchase for real estate development and uncertainty in collection of receivables for E&C projects. We estimate the company's debt-to-EBITDA ratio to be 6.0x-9.0x in 2017-2018 and its ratio of free operating cash flow (FOCF) to debt to remain negative owing to high working capital outflow and large capital expenditure.

Elion Resources' other businesses offer moderate diversification to the company's business and result in lower earnings volatility during an economic cycle. However, the company's operations are mostly in China, and the correlation between the E&C and real estate businesses temper such benefits.

Elion Resources has sufficient experience in desertification control and ecology restoration. The company has developed an industry value chain that extends from E&C to pharmaceuticals, utilities, and real estate development. This unique business model not only helps to restore the environment but also aids in poverty alleviation in certain less-developed regions in China by employing locals. As a result, Elion Resources' business model is favored by local governments, as evidenced by the company's increasing inflow of strategic cooperation agreements for E&C projects. Elion Resources also receives government support through low-cost long-term borrowings from policy banks and the National Special Construction Fund for some of its E&C projects. We believe the above strengths give the company a better competitive advantage over its peers in the E&C industry.

The stable outlook on Elion Resources reflects our expectation that the company's financial position will improve but remain highly leveraged over the next two to three years owing to the fast expansion of its E&C and real estate businesses. The outlook also reflects our view that the company will maintain its small business scale and current market position in its core business segments over the period.

We would downgrade Elion Resources if the company sees heightened liquidity risk due to weaker cash flows than we expect or deteriorating standing in the credit market. We could also downgrade the company if its financial metrics deviate significantly from our forecasts and worsen over the next two to three years, possibly due to weaker working capital management or higher debt than we estimate.

We would upgrade Elion Resources if its debt-to-EBITDA ratio approaches 5.0x for a sustained period. Such improvement could come from increasing profit and cash flow due to business growth and improving margins, better working capital management, or lower debt. However, we believe the upside is limited in the next 12-24 months.


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