November 16, 2017 / 4:21 AM / a year ago

Fitch Publishes Tahoe Group's 'B' Rating; Outlook Stable

(The following statement was released by the rating agency) HONG KONG, November 15 (Fitch) Fitch Ratings has published Tahoe Group Co., Ltd.'s (Tahoe) Long-Term Foreign-Currency Issuer Default Rating (IDR) of 'B' with Stable Outlook. Fitch has also assigned the Chinese homebuilder a foreign-currency senior unsecured rating of 'B-', with Recovery Rating of 'RR5'. Fitch has also assigned Tahoe Group Global (Co.,) Limited's proposed US dollar senior notes that will be unconditionally and irrevocably guaranteed by Tahoe a 'B-(EXP)' expected rating. The notes are rated at the same level as Tahoe's senior unsecured rating because they constitute direct and senior unsecured obligations of the company. The final rating is subject to the receipt of final documentation conforming to information already received. Tahoe intends to use the net proceeds from the note issue for onshore project development and other general corporate purposes. Tahoe's rating is supported by its rapidly growing contracted sales, diversified footprint across China and its strong product lines. Tahoe's projects, which are designed to include references to Chinese culture, differentiates it from other small to medium homebuilders, who have fast-churn business models. These are offset by its very weak financial profile due to aggressive land acquisitions since 2013. KEY RATING DRIVERS High Leverage Constrains Rating: Tahoe's leverage of 73.9% at end-2016 was high, and has increased to 87.9% at end-September 2017 due to its aggressive land banking. Fitch expects Tahoe's net leverage to stay around 85%-90% as we think Tahoe is not likely to deleverage because a faster churn rate will require the company to expand its current land bank, which is sufficient for only around 2.5 to 3 years of development. Tahoe's high interest cost is a drag on its cash flow. Its annual interest expenses of above CNY7 billion are the single largest cash outflow, other than land and construction expenditure. The company has little cash flow left to fund working capital expansion and dividend payment after paying for interest expenses, taxes, and sales, general and administrative expenses, and capex. Therefore, Tahoe will have to fund its inventory expansion with additional debt. Growing Contracted Sales: Tahoe's rating is supported by the rapid increase in contracted sales and diversification outside of Fujian province. Tahoe's attributable contracted sales rose 14% to CNY34.3 billion in 2016, and the company will increase its churn rate from 2017 with contracted sales estimated at above CNY50 billion in the first nine months of the year despite unfavourable government policies. Tahoe also has a strong product line. Its unique project designs differentiate its products from those of other small to medium sized homebuilders that focus on fast-churn models. Low Cash Collection: Fitch estimates that Tahoe's cash collection rate was around 65% for the past three years, which was much lower than the industry average of above 80%. This was because its reported sales included purchase intentions that did not result in actual sales, and the company's relatively high-end products were more affected by tight bank-mortgage policy. Furthermore, Tahoe had slower collections from its commercial properties, which is in line with the industry norm. Given the deviation, Fitch has used collected sales in place of contracted sales in our calculation of ratios. We may adopt contracted sales ratios when Tahoe's cash collection rates are more comparable to industry peers, of above 80%, on a sustained basis. Weak Parent, Weak Linkage: Fitch believes Tahoe's largest shareholder, Tahoe Investment Group Co., Ltd. (Tahoe Investment), which owns a 48.97% stake in Tahoe, does not have an impact on its ratings. Fitch has not linked Tahoe's ratings to the parent's because linkages between the two are weak. Tahoe has a low dividend payout rate despite the weaker financial profile of Tahoe Investment; the related-party transactions that give Tahoe Investment access to Tahoe's cash are limited; and both entities have separate management teams. Tahoe Investment has pledged almost all of its shares in Tahoe, and the parent may reduce control over Tahoe, especially when Tahoe Investment is under extreme credit stress. DERIVATION SUMMARY Tahoe's business profile is similar to that of peers in the low 'BB' rating category as the company's contracted sales are increasing rapidly and it is diversified across geography and products. These support its ratings and offset its very aggressive financial profile, which is in the weak 'B' category. Tahoe's leverage is among the highest in the rated homebuilder space. Its net debt / adjusted inventory was 87.1% as of end-June 2017, compared with Oceanwide Holdings Co. Ltd.'s (B/Negative) 97% and China Evergrande Group's (B+/Stable) 54.1%. However, Oceanwide has more substantial available-for-sale assets and debt allocated to the expansion in the financial sector, which, if included, would reduce net leverage to around 70%. Evergrande is much bigger than Tahoe, but it also has a large accounts payable as working capital funding to support its expansion. Tahoe's faster churn of closer to 0.5x expected in 2017 coupled with its EBITDA margin in the low 20% reflects its decent product and land bank quality. This is neutral to its rating compared with either faster-churn peers such as Future Land Development Holdings Limited's (BB-/Positive), whose churn is around 2.0x and margin in the high teens, or lower-churn peers such as Oceanwide, whose churn is as low as 0.2x but margin in the mid-30%. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Attributable contracted sales to rise to CNY60 billion in 2017 and CNY70 billion in 2018 - Cash collection rate of 85% in 2017- 2019 - Average selling price of contracted sales and land acquisition costs continue to drop, with an increasing share of sales from second- tier cities or cities adjacent to first-tier cities rather than Beijing, Shanghai and Shenzhen. - Attributable land premium to be 100% of the total attributable contracted sales in 2017 and 60% in 2018. - 8% borrowing cost for new borrowings Recovery rating assumptions - Tahoe would be liquidated in a bankruptcy because it is an asset-trading company - 10% administrative claims - The value of inventory and other assets can be realised in a reorganisation and distributed to creditors - A haircut of 30% on adjusted inventory, which is lower than the norm used for peers because of Tahoe's higher-than-industry profit margin, which implies its inventory will have a higher liquidation value than that of peers - A 20% haircut to investment properties and the net tangible assets of its financial subsidiaries - A 60% haircut to available-for-sale financial securities - Based on our calculation of the adjusted liquidation value after administrative claims, we estimate the recovery rate of the offshore senior unsecured debt to be 12%, which corresponds to a Recovery Rating of 'RR5'. RATING SENSITIVITIES Developments that may, individually or collectively, lead to negative rating action include: - EBITDA margin sustained below 18% - Land bank sustaining below 2.5 years of development activity - Increasing linkage with Tahoe Investment, including more related-party transactions or consistently high dividend payouts, which lead to a sustained weakening in Tahoe's profile Developments that may, individually or collectively, lead to positive rating action include: - Net debt/adjusted inventory sustained below 55% and EBITDA margin sustaining above 25% - Collected sales/total debt sustained above 1.0x (2016: 0.3x) LIQUIDITY Sufficient Liquidity: Tahoe has CNY15.7 billion in unrestricted cash and CNY66.5 billion in unused banking facilities as of end-September 2017. This is enough to cover the CNY36.5 billion in short term debt. Meanwhile, the company is quite active in domestic bond markets and it recently received approval for a CNY6 billion corporate bond quota and a CNY7 billion onshore medium-term note programme. The company also has access to equity markets while its CNY7 billion private placement is waiting for approval from the regulator. 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 Summary of Financial Statement Adjustments: Capitalised interest is adjusted for cost of goods sold, as disclosed by the issuer. 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