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Fitch Rates Xinyuan's Proposed USD Notes 'B(EXP)'
November 13, 2017 / 2:53 AM / in 8 days

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

(The following statement was released by the rating agency) HONG KONG, November 12 (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 Fitch's expectation of moderate margin recovery. The ratings are constrained by its small land bank, high leverage driven by land replenishment needs and tight, but sustainable, liquidity. KEY RATING DRIVERS Solid Contracted Sales: Xinyuan's contracted sales increased 38% yoy to CNY7 billion in 1H17. The strong growth was driven by robust market sentiment in its core Tier 2 cities and satellite cities around Tier 1 cities, namely Zhengzhou, Jinan, Suzhou and Kunshan. Tier 2 cities contributed 61% of contracted sales in 1H17 (1H16: 61%). Small Land Bank Constrains Ratings: Xinyuan's total sellable gross floor area increased to 2.9 million sq m at end-1H17, from 2.2 million sq m at end-2016. Its land bank 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 land bank, excluding the usual public auctions. This strategy creates uncertainty about its land acquisitions and is a constraint on the company's sales growth. Land Replenishment Pressures Leverage: Xinyuan has accelerated acquisitions after not purchasing any new land in 2015. It announced acquisitions of CNY3.6 billion of sites in China and the US in 2016, with cash outlay of around CNY2.6 billion after considering returned land deposits and prepayments for certain land parcels. With its low land bank and fast asset-churn model, Xinyuan's need to replenish its land bank 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 the ratio of cash land premium paid to contracted sales at 40%-45%. Margin Recovery Sustainable: Fitch expects Xinyuan's gross margin to continue improving in 2017, with the average selling price (ASP) to rise for most of its top-10 projects on sale in 1H17. Xinyuan's contracted sales ASP of USD1,564 per sq m in 2016 was also higher than the aggregate price of USD1,387 per sq m 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. The homebuilder's EBITDA margin is likely to improve faster than the gross margin, as selling, general and administration (SG&A) costs rose by a slower 15% in 1H17, compared with the 38% increase in contracted sales, which suggests that operational costs are under control. Xinyuan's SG&A costs will also be spread over a wider base and boost its EBITDA margin, as its 2016 revenue of USD1.6 billion catches up with its contracted sales of USD1.8 billion. However, the improvement in Xinyuan's gross margin could be jeopardised from 2H17 if land acquisition costs sprint ahead of the rising ASP. DERIVATION SUMMARY Xinyuan's rating is supported by its solid sales and constrained by its tight liquidity and low land bank. Xinyuan has a larger scale measured by EBITDA, more contract sales and higher leverage compared with 'B' rated Chinese property peers, such as Redco Properties Group Ltd (B/Stable). 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. - ASP of contracted sales to increase by around 5% between 2016 and 2018 due to price increases in Tier 1 and 2 cities. - Moderate acquisition pace with the ratio of cash land premium paid to contracted sales at 40%-45% in 2016-2018. - Construction cost per sq m declining to around USD650-700 in 2016-2018, due to cheaper construction costs in Tier 2 cities. - SG&A costs as a percentage of contracted sales to gradually decrease to between 12% and 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 (2016: 45%). - Contracted sales/total debt falling below 0.6x on a sustained basis (2016: 0.8x). - EBITDA margin falling below 15% on a sustained basis (2016: 19%). Developments that may, individually or collectively, lead to positive rating action include: - Significant increase in scale, as reflected by contracted sales exceeding CNY15 billion. - 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 112% at end-June 2017 (end-2016: 107%). Xinyuan's total cash of USD1.3 billion and undrawn credit facilities of USD300 million should be sufficient to cover its short-term borrowings of USD1.2 billion, although the liquidity position will depend on the pace of land acquisition. Active fundraising in the onshore bond market has alleviated Xinyuan's refinancing pressure. Contact: Primary Analyst Vicki Shen Director +852 2263 9918 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: 17 May 2017 Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. 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