February 15, 2017 / 10:17 AM / 10 months ago

Fitch Rates Xinyuan's Proposed USD Notes 'B(EXP)'

(The following statement was released by the rating agency) HONG KONG/SHANGHAI, February 15 (Fitch) Fitch Ratings has assigned Xinyuan Real Estate Co., Ltd.'s (B/Stable) proposed US dollar senior notes a 'B(EXP)' expected rating and a Recovery Rating of 'RR4'. The notes are rated at the same level as Xinyuan's senior unsecured rating because they constitute its direct and senior unsecured obligations. The final rating is subject to the receipt of final documentation conforming to information already received. The Chinese homebuilder's ratings are supported by strong contracted sales and moderate margin recovery. The ratings are constrained by a low landbank business model, high leverage driven by land-replenishment needs and tight, but sustainable, liquidity. KEY RATING DRIVERS Solid Contracted Sales: Xinyuan's contracted sales increased by 35% to CNY12bn in 2016, following a 35% increase in 2015. The strong growth was driven by robust market sentiment in its core Tier 2 cities as well as satellite cities surrounding Tier 1 cities, namely Zhengzhou, Jinan, Suzhou and Kunshan. Tier 2 cities contributed 61% of contracted sales in 1H16 (2015: 62%). Small Landbank Constrains Ratings: Xinyuan's total sellable gross floor area had decreased to 2.2 million square metres (sqm) by end-2016, from 2.3 million sqm at end-2015. Its landbank will last for two years - based on 2016 sales - which is low compared with 'B' rated peers. Xinyuan pays advance deposits to local government and industry partners to secure a large part of its landbank, excluding normal public auctions. This acquisition strategy creates uncertainty about its landbank, as it constrains scale and sales. Land Replenishment Pressures Leverage: Xinyuan has accelerated acquisitions after not purchasing any new land in 2015. It announced acquisitions of CNY3.6bn in China and the US in 2016, with a cash outlay of around CNY2.6bn after considering returned land deposits and prepayments for certain land parcels. With its low landbank and fast asset-churn model, Xinyuan's high land-replenishment needs will continue to pressure leverage, which Fitch expects to hover at around 45%-50% in 2016-2017. This is made worse by surging land prices in higher-tier cities amid fierce competition and a moderate acquisition pace with cash-land-premium-paid/contracted-sales at 40%-45%. Margin Recovery Sustainable: Fitch expects Xinyuan's gross margin to continue improving in 2017, with a rising average selling price (ASP) trend for most of its top-10 projects on sale in 2016. Xinyuan's contracted sales ASP of USD1,564 per sqm in 2016 was also higher than the aggregate price of USD1,387 per sqm recognised in its 2016 revenue. The higher ASPs in core cities and recognition of the Oosten project in the US helped the homebuilder's gross margin recover in 2H16 by 2%-3% from the 1H16 level. This follows a slight fall to 27% in 1H16 after adding back capitalised interest, from 28% in 2015 when the homebuilder recognised its low-margin projects in Suzhou, Jinan and Kunshan. However, this improvement may reverse for projects it will be acquiring in 2017 if land acquisition costs sprint ahead of the rising ASP. The homebuilder's EBITDA margin is likely to improve faster than the gross margin, as its slower 6% increase in selling, general and administration costs compared with the 35% increase in contracted sales suggests that operational costs are under control. Xinyuan's selling, general and administration cost will also be spread over a wider base and boost its EBITDA margin, as its 2016 revenue of USD1.6bn catches up with its contracted sales of USD1.8bn. DERIVATION SUMMARY Xinyuan's rating is supported by its solid sales and constrained by its tight liquidity and low landbank. Xinyuan has a larger scale measured by EBITDA, higher contract sales and greater leverage compared with 'B' rated Chinese property peers, such as Redco Properties Group Ltd (B/Stable). Furthermore, Xinyuan has more stable profitability and lower leverage than 'B-' peers such as Jingrui Holdings Limited (B-/Negative). KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Contracted sales gross floor area to increase by 40%-50% in 2016 and 5% in 2017-2018 due to improved churn in Tier 1 and 2 cities. - Contracted sales' ASPs to increase by around 5% between 2016 and 2018 due to price increases in Tier 1 and 2 cities. - Moderate acquisition pace with cash-land-premium-paid/contracted-sales at 40%-45% in 2016-2018. - Construction cost per sqm declining to around USD650-700 in 2016-2018, due to cheaper construction costs in Tier 2 cities. - Selling, general and administrative costs as a percentage of contracted sales to gradually decrease to between 12%-13%, as Xinyuan plans to cut internal costs. RATING SENSITIVITIES Developments that may, individually or collectively, lead to negative rating action include: - Net debt/adjusted inventory rising above 60% on a sustained basis (2015: 45%). - Contracted sales/total debt falling below 0.6x on a sustained basis (last 12 months to June 2016: 0.8x). - EBITDA margin falling below 15% on a sustained basis. Developments that may, individually or collectively, lead to positive rating action include: - Significant increase in scale, as reflected by contracted sales exceeding CNY15bn. - Net debt/adjusted inventory sustained below 40%. - Contracted sales/total debt improving to above 1.0x on a sustained basis. - EBITDA margin improving to above 20% on a sustained basis. LIQUIDITY Tight but Sustainable Liquidity: The company's liquidity position is stable, with a ratio of cash/short-term debt of 90% at end-June 2016 (end-2015: 92%). Xinyuan's total cash of USD931m and undrawn credit facilities of USD306m are insufficient to cover its short-term borrowings of USD1.036bn and acquisition costs, although active fundraising in the onshore bond market has alleviated refinancing pressure. The company issued two five-year bonds of - USD107m and USD77m at 7.47% and 7.09%, respectively - in 2016. This issuance brought down Xinyuan's average borrowing cost to 8.5% at end-June 2016, from 9.5% at end-2015. Contact: Primary Analyst Winnie Guo Associate Director +852 2263 9969 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central, Hong Kong Secondary Analyst Laura Long Analyst +86 21 5097 3019 Committee Chairperson Su Aik Lim Senior Director +852 2263 9914 Date of Relevant Rating Committee: 18 May 2016 Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. 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