(The following statement was released by the rating agency)
May 30 -
Summary analysis -- Parkson Retail Group Ltd. --------------------- 30-May-2012
CREDIT RATING: BB+/Stable/-- Country: China
Primary SIC: Department stores
Mult. CUSIP6: 70147B
Credit Rating History:
Local currency Foreign currency
21-Apr-2011 BB+/-- BB+/--
07-Nov-2006 BB/-- BB/--
The rating on Parkson Retail Group Ltd. reflects the fragmented and competitive nature of China’s retail market. It also reflects the dependence of Parkson’s product mix on discretionary spending, which is sensitive to economic cycles, and the challenges associated with the company’s accelerated growth plan. In addition, the rating factors in the company’s affiliation with Lion Group (not rated). Parkson’s favorable concessionaire business model, improving geographic diversification, disciplined balance sheet management, and the good long-term growth prospects of the Chinese retail sector temper these risks. We assess the company’s business risk profile as “satisfactory” and its financial risk profile as “significant”.
We expect a downturn in demand to impact Parkson more than other department store operators in China. This is because the company focuses on the mid- to high-end retail segment. Fierce competition and weak economic conditions pushed Parkson’s same store sales growth to 2% in the first quarter of 2012, from 13.9% in same period of 2011. We expect same store sales growth to remain sluggish in the coming 12 months.
Parkson’s aggressive expansion could increase execution risks and weigh on the company’s financial performance. The company’s growth strategy has been more aggressive since 2011. It added six new stores in 2011, and plans to add 12 stores this year and eight in 2013, compared with additions of three to five new stores in 2008-2010.
We expect Parkson’s credit protection metrics to slightly weaken in 2012 due to: (1) a slowdown in China’s economy; (2) a significant increase in the company’s operating-lease-adjusted debt, given the growth in its floor area in line with its accelerated growth strategy; (3) likely low cash flows from new stores in the initial years. Parkson’s ratio of operating-lease-adjusted debt to EBITDA weakened to 3.8x as of Dec. 31, 2011, from 3.0x as of Dec. 31, 2010. Our base-case scenario estimates the ratio at more than 4.0x in 2012 and 2013.
Parkson’s business risk is low mainly because of its concessionaire sales model. The contribution from concessionaire sales to total revenue increased to 90.4% in 2011, from 86.9% in 2006. The balance came from direct sales. Working capital requirement for concessionaire sales is not much given that Parkson bears limited inventory risks for such sales and receives all gross revenues upfront. We do not expect the company to significantly change its business model.
Parkson’s balance sheet remains strong. We expect the company to manage its growth in a disciplined manner. Parkson holds a large amount of cash because of its cash generative concessionaire business. Such holdings give Parkson the option to purchase stores rather than lease them, and therefore reduce debt. The cash holdings therefore mitigate the risk of the company’s growing operating-lease-adjusted debt leverage. We note that Chinese retailers often have greater flexibility to terminate their operating leases than their peers in many other countries.
In our opinion, the Chinese retail market has strong growth potential for the next few years despite temporary set-backs. The Chinese government has shown strong commitment to promoting domestic consumption, rather than relying on exports and fixed-asset investments as in the past. Total retail sales in China rose 17.1% year on year in 2011, significantly higher than the economic growth of 9.2%. We expect China’s retail growth to continue to outpace GDP growth in the next few years.
Parkson’s liquidity is “strong”, as defined in our criteria. We expect the company’s sources of liquidity, including cash and facility availability, to exceed its uses by 1.5x or more over the next 12 months and remain above 1.0x over the next 24 months. Sources of liquidity will exceed uses even if EBITDA declines more than 30%. Our liquidity assessment incorporates the following factors and assumptions:
-- Parkson’s sources of liquidity include cash and short-term investments of about RMB4.8 billion, as of March 31, 2011.
-- Uses of liquidity include a syndicated loan of US$400 million (about RMB2.5 billion) due in 2013. The company has no other borrowings.
-- Parkson’s cash in hand and cash flow from operations are sufficient to meet committed capital expenditure, working capital needs, debt repayments, and dividend payouts over the next 12 months.
-- The company has sufficient headroom in its loan covenant to absorb an EBITDA decline of 30%.
Parkson has had a net cash position since 2005, excluding operating-lease-adjusted debt. We expect the company to continue to adhere to its liquidity policy of maintaining a minimum cash balance equal to its trade payables. Nevertheless, we view Parkson’s dividend payout policy of about 44%-48% as high compared with the average payout ratio for listed Chinese retailers of 14.57%, although it is in line with other listed department store operators.
Due to Parkson’s cash-generative concessionaire business model, we expect the company to fund most of its expansion through cash holdings and cash flow from operations.
The stable outlook reflects our expectation that Parkson will pursue accelerated growth by leveraging on its concessionaire model while maintaining its “strong” liquidity and disciplined financial management.
We may lower the rating if Parkson’s financial performance deteriorates because of a severe economic downturn in China, intensified competition, a more aggressive expansion plan than we expected, or any negative impact from the company’s association with the Lion Group. Downgrade triggers could be the ratio of operating-lease-adjusted total debt to EBITDA at more than 4.5x on a sustained basis, or the company’s liquidity position no longer being “strong”.
We are unlikely to raise the rating in the next 12 months because we expect the operating conditions of the Chinese retail sector to remain soft and due to Parkson’s association with a weaker parent. However, we could upgrade Parkson if the company executes its accelerated growth strategy such that it becomes a market leader, while maintaining disciplined financial management. Upgrade triggers could be the ratio of operating-lease-adjusted total debt to EBITDA of 3.0x-3.5x on a sustainable basis.
Related Criteria And Research
-- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, May 27, 2009
-- Key Credit Factors: Business And Financial Risks In The Retail Industry, Sept. 18, 2008
-- Standard & Poor’s Revises Its Approach To Rating Speculative-Grade Credits, May 13, 2008
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
-- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008