Hengli Notes Upgraded To #BBB-# On Lower Priority Proposed Notes Rated #BBB-#; PRE And Hengli Ratings Affirmed

Stocks and Financial Services Press Releases Wednesday January 24, 2018 18:22
HONG KONG--24 Jan--S&P Global Ratings

HONG KONG (S&P Global Ratings) Jan. 24, 2018--S&P Global Ratings today said it has raised its long-term issue rating on the senior unsecured notes issued and guaranteed by Hengli (Hong Kong) Real Estate Ltd. (Hengli) to 'BBB-' from 'BB+'. We also assigned our 'BBB-' long-term issue rating to the proposed new issuance of U.S. dollar-denominated senior unsecured notes by Hengli. The issue rating on the proposed notes is subject to our review of the final issuance documentation.

At the same time, we affirmed our 'BBB' long-term corporate credit rating on Poly Real Estate Group Co. Ltd. (PRE) and 'BBB-' long-term corporate credit rating on Hengli. The outlooks on both companies are stable. Hengli is a highly strategic subsidiary and an offshore financing platform of PRE.

We raised our long-term issue rating on Hengli's senior unsecured notes because the subordination risk has decreased, and the notes no longer rank behind a material amount of secured debt and subsidiary level debt in the capital structure, in our view. Hengli's project-level (subsidiary) debt has not increased as much as we previously anticipated, as its number of projects has only grown moderately in the past year. As a result, we estimate its priority debt ratio to be well below the 50% threshold, at slightly over 40% at the end of 2017, similar to the level as of the end of 2016.

In addition, since funding costs have generally increased onshore, we believe the company will likely consider using its offshore financing platform to issue unsecured debt. Indeed, Hengli's current proposed new issuance of senior unsecured notes will further lower its priority debt ratio to around 30%, assuming an issuance size of US$500 million.

PRE and Hengli intend to use the net proceeds from the proposed new issuance to refinance existing debt and for general corporate purposes. In our view, the proposed new issuance will not significantly alter PRE's leverage profile as the amount is relatively small compared with PRE's adjusted total debt of over Chinese renminbi (RMB) 200 billion as of the end of 2017.

We affirmed the corporate credit rating on PRE due to its strong contracted sales execution, growth, and good profitability. Also supporting the rating is its leading market position, with one of the largest market shares in the country, and a nationally established brand name. Our affirmation of the corporate credit rating on Hengli reflects our view that the highly strategic subsidiary continues to serve an important function as PRE's key offshore financing platform.

PRE's contracted sales grew strongly by 47% to reach RMB310 billion in 2017, cementing its status as a top-five developer in China by market share. In addition, PRE's latest acquisition of a 20% effective stake in sister company Poly Property Co. Ltd. will also pave the way to further solidifying its leading market share, since PRE will be able to enter markets previously occupied by Poly Property, such as Shenzhen.

We expect PRE to maintain good profitability over the next 24 months due to growth in average selling price (ASP) as well as lower cost mergers and acquisitions that the company secured over the past two years. The company's contracted sales ASP has steadily grown to almost RMB14,000 per sq. meter , compared to RMB12,000 a few years ago, translating into moderate margin expansion in 2018-2019. In addition, PRE's acquisitions of AVIC property projects should also support its profitability over the next 12-24 months, enabling PRE to either maintain or strengthen its presence in some higher tier cities, such as Guangzhou, Nanjing, and Xiamen. The pricing of the AVIC projects was determined in 2016 and could generate average gross margins of over 30% with further price growth in 2017.

Although PRE's leverage has increased to around 5x debt-to-EBITDA in 2017 from 3x in 2016 due to aggressive land purchasing during the year, we believe that its leverage trend is still commensurate with the rating. This is because we expect the stronger revenue growth and the moderate margin expansion in 2018-2019 to help PRE's debt-to-EBITDA ratio to moderately improve to 4.5x-4.7x and stabilize. PRE's sales revenue is set to slightly decline in 2017 as it reduced construction during the market downturn in 2014, contributing to a higher debt-to-EBITDA ratio. On top of that, PRE's low funding cost as a state-owned enterprise (SOE) should also allow it to maintain superior debt serviceability, with EBITDA interest coverage ratio expected to hover around 5x over the next 12-24 months.


The stable outlook on PRE reflects our view that the company will maintain its leading national market position and good contracted sales growth over the next 12-24 months. We also expect PRE's leverage to stabilize and its EBITDA interest coverage to remain at the current strong level over the next 12-24 months with stronger revenue growth and good profitability, after leverage increased noticeably in 2017 as the company pursued growth.

We may lower the rating if PRE's sales execution and profitability are materially weaker than our expectations, or its debt-funded expansion turns out to be more aggressive than we expect, such that the debt-to-EBITDA ratio deteriorates to a level that is significantly above 5x for a sustained period, with the parent China Poly Group Corp.'s leverage profile deteriorating accordingly.

In a less likely scenario, we would also consider a downgrade if parental support from China Poly Group diminishes, such that the group loosens its control or substantially reduces its stake in PRE from the current 40%, or our assessment of extraordinary government support to China Poly Group weakens.

We may raise the rating if PRE achieves strong contracted sales and satisfactory margins, as well as demonstrates disciplined expansion, such that its debt-to-EBITDA ratio improves toward 4x and its EBITDA interest coverage strengthens to 6x or above on a sustained basis, with parent China Poly Group's credit metrics improving accordingly.

An upgrade is also possible if extraordinary government support to China Poly Group becomes stronger than we currently assess, although the likelihood of that happening is relatively low, in our view.

The stable outlook on Hengli reflects that on the company's parent, PRE. The outlook also incorporates our view that Hengli will remain a highly strategic subsidiary of PRE over the next two years. The stable outlook on PRE reflects our expectation that PRE's parent, China Poly Group Corp., has a moderately high likelihood of extraordinary government support. It also reflects our view that PRE will maintain its good market position and strong property sales in China while controlling its leverage with improving margins over the next 12-24 months.

We could lower the rating on Hengli if we downgrade PRE. We could also lower the rating if: (1) we believe that Hengli's strategic importance to PRE has weakened because of a change in PRE's strategy; or (2) PRE's control and supervision of Hengli weakens.

We could upgrade Hengli if we upgrade PRE. We may also upgrade Hengli if our assessment of Hengli's strategic importance improves such that we believe it to be a core subsidiary of PRE.

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