(The following statement was released by the rating agency)
Dec 18 -
Summary analysis -- Kerry Properties Ltd. ------------------------- 18-Dec-2012
CREDIT RATING: BBB-/Positive/-- Country: Hong Kong
Primary SIC: Subdividers and
Mult. CUSIP6: 492469
Credit Rating History:
Local currency Foreign currency
16-Nov-1998 BBB-/-- BBB-/--
31-Oct-1997 BBB/-- BBB/--
The rating on Kerry Properties Ltd. reflects the Hong Kong-based diversified
property company's steadily increasing recurring income, established brand
name in China through key investment properties, and good funding flexibility.
Rating weaknesses include: (1) Kerry's mixed record of sales execution in
China; (2) the company's capital-intensive business model, which gradually
generates cash flow but requires large upfront capital outlays; and (3) its
growing exposure to the volatile Chinese real estate market and policy risks
in Hong Kong. The property development market is cyclical. Kerry's limited
number of project launches adds to the volatility of its property sales
We assess Kerry's business risk profile as "satisfactory". the company has
more diversified businesses than its rated Chinese property development peers.
Kerry generates recurring income from its rental properties in China and Hong
Kong, and from its logistics operations. These businesses support a fair level
of cash flow and operating performance stability, offsetting the volatility in
property sales cycles.
We expect Kerry's rental income to grow over the next two years as the company
opens new large-scale properties in Shanghai and other cities. The company's
leading market position in logistics and warehouse rentals in terms of revenue
in Hong Kong should also continue to contribute recurring income. We expect
Kerry to maintain a ratio of recurring income to interest coverage at 2x-2.5x
over the next two years, which was weaker than the level it sustained in 2011.
Higher interest expenses in 2012 and beyond will likely temper the higher
rental and logistics income.
We expect Kerry's recurring rental income to meaningfully improve in the next
two years, following the addition of Shanghai Jing An Center and phase 2 of
Shenzhen Kerry Plaza. Jing An has a total gross floor area of 450,000 square
meters, accommodating "grade-A" offices, retail space, service apartments, and
the Shangri-La hotel. Pre-leasing is satisfactory, with more than 90% of the
retail space and more than half of office space pre-committed at good rents.
Once fully operational, this project alone should be able to generate more
than Hong Kong dollar (HK$) 600 million in annual rental revenue, which
compares with a total of HK$900 million from all the company's Chinese
investment properties in 2011. We expect Kerry's existing rental portfolio to
continue to grow organically, both in Hong Kong and China.
In our view, the execution risk is higher for Kerry when it expands into
second- and third-tier cities in China because the company adopts a high-end
strategy in these markets. Affordability levels and commercial demand are
lower in these cities than in tier-one cities.
Kerry's property sales are volatile, reflecting its project development
schedule and the market conditions. In 2011, Kerry's sales from China were
limited because the government's policy tightening targeted high-end projects.
Given the strong pipeline of properties for sale and stabilizing market
conditions in China, we expect property sales to have improved from China in
2012. Kerry achieved about HK$3 billion in contracted sales from China for
2012 against only HK$1 billion for the same period a year earlier. Kerry
accelerated sales in Hong Kong; its contracted sales until November 2012
exceeded HK$6 billion, mainly coming from Lions Rise, Altitude, Island Crest,
and Primrose Hill.
Kerry's sales execution in China will be one of key rating factors in the next
three years because the company's development portfolio weighs more in that
market. Also, following the introduction of stamp duty for buyers in October
this year in Hong Kong, demand may dampen and therefore depress sales in the
territory. Kerry will become increasingly dependent on property sales from
China, given the dominance of large properties in China in its land bank.
Nevertheless, we expect Kerry's diversified business model, in particular its
recurring income, to temper these risks.
Kerry's logistics segment continues to perform steadily. We expect this
segment to grow at less than 10% in the next two to three years due to a
slowdown in exports and the economy in China. This growth rate is down from
over 20% in the past couple of years.
Kerry's financial risk profile is "intermediate," in our view. The company's
financial management is conservative and consistent, resulting in consistently
positive cash flow from operations. Kerry has a track record of matching its
capital expenditure with its cash flow. When sales are slow, the company tends
to scale back construction and land acquisitions.
We expect Kerry's financial performance to improve from that in 2011. The
company's results for the first six months were strong due to the high
recognition of property sales. In the second half, we expect the profit
contribution from property sales to decline. As a result, on a full-year
basis, the credit ratios will be weaker than in the interim results but better
than a year earlier.
In our base case, Kerry's debt-to-EBITDA ratio is likely to be about 5x-6x in
2012-2014 to support the company's property development activities and land
replenishment program. This levels compares with about 4x on an annualized
basis for the first six months. Nevertheless, we believe Kerry will execute
its land replenishment plan with caution, given the management's continuous
adherence to strict leverage and investment-return policies. As a result, the
company is likely to maintain a ratio of debt to capital of below 30% and
positive cash flow from operations.
We believe Kerry's liquidity is "adequate," as defined in our criteria. The
company's sources of liquidity, including cash and available facilities, are
likely to exceed its uses by 1.2x or more over the next 12-18 months. Our
assessment of Kerry's liquidity profile incorporates the following
expectations and assumptions:
-- We believe Kerry has adequate sources of liquidity to cover its needs
in the next 12-18 months, even in the unforeseen event that EBITDA declines by
more than 15%.
-- Kerry's liquidity sources include a cash balance of HK$13.26 billion
as of the end of June 2012, undrawn committed bank facilities of HK$5.6
billion in Hong Kong, and cash flow from operations. We do not account for
bank facilities in China in our liquidity calculation due to their uncommitted
nature. Nevertheless, they do provide financial flexibility.
-- Uses of liquidity in the next 12 months include debt maturities of
about HK$2.4 billion and outstanding land premiums.
-- Kerry's financial covenants have sufficient headroom. The company's
typical bank loan covenants do not have any financial undertakings related to
its EBITDA; they are mainly balance sheet focused.
-- The company can absorb low probability, high impact shocks because of
the good conversion of EBITDA to discretionary cash flow.
The positive outlook reflects our expectation that Kerry's recurring income
will meaningfully increase over the next two years as the company completes
more investment properties in mainland China. The outlook also factors in a
likely improvement in Kerry's sales performance in China due to its enlarged
property portfolio and stabilizing conditions in the property market. We
believe the company is likely to maintain adequate liquidity and an
intermediate financial risk profile, based on disciplined financial management.
We may raise the rating if:
-- Kerry ramps up Jing An, such that the project contributes meaningful
-- The company's sales performance strengthens in China, with more
contracted sales year over year in 2013 and at reasonable margins; and
-- Its recurring income coverage improves toward 2.5x.
We may revise the outlook to stable if Kerry's execution of Jing An or
property sales in China are well below our expectation or if the Hong Kong
property market deteriorates. We could also revise the outlook if Kerry's
growth appetite increases materially, such that its land acquisitions are more
aggressive than we expect and a materially higher-than-anticipated increase in
debt resulting in higher leverage.
Related Criteria And Research
-- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18,
-- Methodology And Assumptions: Liquidity Descriptors For Global
Corporate Issuers, Sept. 28, 2011
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008