RPT-Fitch Downgrades China's Parkson Retail to 'BB+'; Outlook Stable

Thu Sep 5, 2013 6:38am EDT

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Sept 5 (Reuters) - (The following statement was released by the rating agency)

Fitch Ratings has downgraded China-based department store operator Parkson Retail Group's (Parkson) Long-Term Issuer Default Rating (IDR) and senior unsecured rating to 'BB+' from 'BBB-'. The Outlook is Stable.

The downgrade reflects Parkson's weaker sales growth and profitability which will likely pressure credit metrics over the next two to three years.

Key Rating Drivers

Weak YTD 2013 performance: A slower-than-expected economic recovery and the company's mature store network, which leaves it more exposed to competition, continued to affect Parkson's performance well into 2013. As a result, the company's H113 same store sales (SSSG) declined 0.7% on H212 despite a one-off boost in gold/jewellery sales in Q2 spurred by lower gold prices. The lower-than-expected revenue growth and start-up costs for new stores also affected the company's profitability, with H113 EBITDA falling 24% yoy to CNY605m. Notwithstanding Fitch's expectations of a slight recovery in H213, SSSG for the full year is likely to be 2%-3%, lower than the mid-single digits Fitch had expected earlier this year.

Challenging operating environment: Growing population, continued urbanisation, rising disposable income and government policy all point to steady growth in retail in the long term. However, other store formats such as shopping malls and online retail are threatening department stores' share of the retail market.

This implies department store revenue growth is likely to underperform overall retail market growth over the medium term. Within the department store sector, Parkson's older and mature store network generate lower revenue growth relative to competitors with newer stores. Overall Fitch believes Parkson's operations will grow at a slower pace than previously expected and compared with other rated peers.

Pressure on credit metrics: Parkson's reliance on leased property is also putting more pressure on its profitability in a slower-growth environment given its higher portion of fixed rental expense. More than 80% of Parkson's stores are leased. As a result, Fitch now expects funds flow from operations (FFO) fixed charge coverage to remain below 2.5x for the next two to three years, which the agency believes is not in line with that of an investment-grade company.

Well diversified nationwide network: Parkson's ratings continue to be supported by its well-established and geographically diversified presence in China across 36 cities. Its top five stores accounted for 30% of GSP, compared with around 60% respectively for rated major peers. In Fitch's view, Parkson's low concentration risk partially offsets the lower sales growth at its older stores relative to its key competitors. Strong liquidity: Parkson's ratings are also supported by the company's healthy cash position and debt maturity profile. At end-June 2013, the company had cash and cash equivalents of CNY4.4bn, and no short-term debt. During H113, the company successfully refinanced existing debt by issuing a five-year USD500m bond.

Flexible capex: The company is still in an expansionary mode and also open to acquisitions and Fitch, as a result, expects the company to generate negative free cash flow in 2013. However, Parkson has scaled back expansion plans in H213, and as evidenced in 2012, it has the willingness to further adjust its capex by delaying store openings or scale back discretionary acquisition plans, depending on the market environment.

Rating Sensitivities

Negative: Future developments that may, individually or collectively, lead to negative rating action include

- FFO fixed charge coverage lower than 2.0x on a sustained basis (2012: 2.2x)

- Sustained negative free cash flow

- Adjusted FFO net leverage (adjusted for lease, payables and customer deposits) sustained above 4x (2012: 3.3x)

Positive: Future developments that may, individually or collectively, lead to positive rating action include

- FFO fixed charge coverage greater than 2.75x on a sustained basis

- Adjusted FFO net leverage (adjusted for lease, payables and customer deposits) sustained below 2.5x

- A neutral free cash flow position on a sustained basis

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