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July 25 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings has published China-based residential property developer Redco Properties Group Limited's (Redco) senior unsecured rating of 'B' and recovery rating of 'RR4'. Fitch has also assigned Redco's proposed US dollar senior unsecured notes an expected rating of 'B(EXP)', and recovery rating of 'RR4'.
The notes are rated at the same level as Redco's senior unsecured rating as they represent direct, unconditional, unsecured and unsubordinated obligations of the company. The final rating of the proposed notes is contingent upon receipt of documents conforming to information already received.
Redco's 'B' rating is supported by its low land-bank cost, satisfactory profit margin and prudent control on SG&A expenses. However, the rating is constrained by its small business scale, overall land-bank quality and aggressive bidding for land in Shenzhen.
KEY RATING DRIVERS
Limited Business Scale: Redco has a limited business scale among the Chinese property developers that Fitch has rated. With 11 projects in the pipeline in seven cities, Redco had a land-bank size of 4.0m square metres (sqm) as at end-2013. Redco achieved contracted sales of CNY3.1bn in 2013. We think Redco does not have a significant presence in any of the cities except for Nanchang, where Redco ranked seventh in terms of contracted sales in 2013.
Projects Mostly In Secondary Locations: Redco's projects are mostly in secondary locations (except in Nanchang and Jinan), which is reflected in its low average selling price of CNY6,473/sqm in 2013. We expect the company to add land mainly in Yantai, Xianyang and the seafront of Tianjin, where Redco has 4.3m sqm GFA of land pending acquisition under framework agreements with local governments. The potential downside risk is insufficient demand for these sizable projects in secondary locations where there is abundant supply from competitors.
Aggressive Bidding In Shenzhen: Fitch has concerns that Redco is being aggressive in purchasing land in public auctions when it enters new cities with intense competition. For example, in Fitch's opinion, the land parcel that Redco bought in Shenzhen in 4Q13 was not cheap. The land is in Pingshan district and was sold at CNY980m, 211% above the base price. Redco placed a high priority on building its brand name in Shenzhen, a first-tier city that it was entering. However, the property market in China has shown signs of faltering in 2014, and the profit margin of Redco's Shenzhen project could be squeezed.
Low Land Cost: Redco enjoyed a low land cost of CNY962/sqm at end-2013 through early involvement with local governments and acquiring land at cheaper costs. Redco has also signed framework agreements or letters of intent with local governments in Tianjin, Yantai and Xianyang to make sure that it can continue to expand its land bank at lower costs.
Margins Comparable to Peers': In 2012-2013, Redco achieved gross profit margin of around 30%, a level that is comparable to similarly rated peers'. This is because Redco acquired land in earlier years at low costs and it enjoyed rising property prices over the last few years. Besides, Redco controls its SG&A expense well, which amounted to 5.1% and 6.0% of its contracted sales and gross revenue respectively in the past three years. However, Redco's profit is heavily concentrated on two to three projects. Hence, its profit margin could be volatile.
Sufficient Liquidity to Repay Debt: At end-December 2013, Redco had cash and cash equivalents of CNY828m (excluding restricted cash of CNY132m). Together with the IPO net proceeds of CNY752m received in January 2014, we believe that this is sufficient to cover the company's short-term debt of CNY474m and settle the amounts due to related parties of CNY748m in 2014.
Positive: Future developments that may collectively lead to positive rating actions include:
- Annual contracted sales sustained above CNY8bn (2013: CNY3.1bn) without compromising leverage, and
- EBITDA margin sustained above 20% (2013: 28%), and
- Contracted sales/total debt sustained above 1.3x (2013: 2.1x).
Negative: Factors that may, individually and collectively, lead to negative rating action include:
- Net debt/ adjusted inventory sustained above 50% (end-2013: 32.6%), or
- EBITDA margin sustained below 15%, or
- Contracted sales/total debt sustained below 1.0x.