November 15, 2017 / 7:15 AM / a year ago

Fitch Rates Oceanwide's Proposed USD Senior Notes 'B(EXP)'

(The following statement was released by the rating agency) HONG KONG/SHANGHAI, November 15 (Fitch) Fitch Ratings has assigned China-based property developer Oceanwide Holdings Co. Ltd.'s (B/Negative) proposed US dollar senior notes a 'B(EXP)' expected rating and a Recovery Rating of 'RR4'. The proposed notes, to be issued by Oceanwide Holdings International 2017 Co., Limited, Oceanwide's wholly owned subsidiary, and be guaranteed by Oceanwide, are rated at the same level as Oceanwide's senior unsecured rating as they will represent its direct and senior unsecured obligations. The final rating is subject to the receipt of final documentation conforming to information already received. Oceanwide's rating is supported by its high-quality landbank, which is sufficient for more than 10 years of development. The rating is constrained by a rapid increase in leverage, which is likely to remain high for the next 18-24 months as the company ramps up development expenditure to support sales growth and continues to invest in its finance business. KEY RATING DRIVERS Leverage Higher but Manageable: Oceanwide's leverage, as measured by net debt/adjusted inventory and after deconsolidating debt from the financial business, reached 92% in 2016 (2015: 86%), which is higher than that of 'B' rated peers. Fitch expects this ratio to remain above 80% owing to Oceanwide's property-development business model, which requires more time to generate sales due to the lengthy primary-land development phase. Oceanwide's consolidated net debt jumped to CNY74 billion at end-2016, from CNY39 billion in 2014, following higher development expenditure, the rapid expansion of its finance business, additional investment in financial assets and overseas acquisitions. Valuable Landbank: A majority of Oceanwide's large land bank was acquired many years ago and is sufficient for more than 10 years of development. Sites in tier 1 cities, like Beijing and Shanghai, affluent tier 2 cities, like Wuhan, and major cities in the US make up more than 80% of the company's land bank. Many of Oceanwide's projects in Beijing and Shanghai are in prime locations. The low land cost, together with the high quality of Oceanwide's landbank, will be the key driver supporting a solid EBITDA margin and growth for the next two to three years. Contracted Sales to Pick Up: Fitch expects Oceanwide's contracted sales to increase by 15%-20% in 2018, driven by project launches in Wuhan and sales from new projects in Beijing and Shanghai. This will drive the company's contracted sales to over CNY20 billion and allow it to generate positive operating cash flow from its property business to fund its financial-sector expansion. Continuing Finance Expansion: Oceanwide has been aggressively diversifying its business from pure property development to financial institutions since 2014. It has spent more than CNY20 billion on building its finance business, which includes securities, trusts, insurance and internet finance. We expect Oceanwide to continue investing heavily in the finance sector with an aim to secure licenses for a full range of finance businesses, which may continue pressuring its leverage. Oceanwide is also involved in long-term equity investments and short-term trading on the secondary market. DERIVATION SUMMARY Oceanwide has a larger scale in terms of contracted sales and EBITDA than other China-based property companies rated in the 'B' category, such as Redco Properties Group Ltd (B/Stable) and Guorui Properties Limited (B/Stable). However, its leverage is comparatively higher due to its active investments in financial institutions and larger exposure to commercial development properties, which have a longer cash-collection cycle than industry average. This also drives Oceanwide's lower project churn compared with peers, but means its landbank, which was acquired years ago, is undervaluing its inventory compared with high-churn homebuilders. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - Limited new land acquisitions at 0.5x of contracted sales gross floor area - Contracted sales growth driven by higher average selling prices of CNY35,000 per square metre (sq m) in 2017-2018 (2015: CNY32,000/sq m) - Property development EBITDA margin of 35%-40% in 2017-2019 (2016: 34%) Recovery rating assumptions - Oceanwide 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 25% on adjusted inventory, which is in-line with domestic peers despite its higher-than-industry profit margin, as Oceanwide is also involved in overseas properties that have lower margins than domestic projects - A 20% haircut to investment properties and the net tangible assets of its financial subsidiaries - A 50% haircut to available-for-sale financial securities and land and buildings - Based on our calculation of the adjusted liquidation value after administrative claims, we estimate the recovery rate of offshore senior unsecured debt to be 42%, which corresponds to a Recovery Rating of 'RR4' RATING SENSITIVITIES Negative: Developments that may, individually or collectively, lead to negative rating action include: - Contracted sales/net debt excluding financial institutions below 0.25x for a sustained period or the ratio deteriorating for a sustained period (2016: 0.16x) - EBITDA margin below 35% for a sustained period - Substantial weakening of the credit profile of its key financial institutions Positive: Positive rating action is not expected in the next 12-18 months due to Oceanwide's high leverage LIQUIDITY Oceanwide had roughly CNY35 billion in cash and equivalents as of end-September 2017, sufficient to cover short-term debt of the same amount. The company was in a tight liquidity position in 2014 and has diversified its funding sources over the past two years and improved its liquidity position through issuing offshore bonds, tapping the onshore bond market, replacing short-term expensive trust loans with long-term debt and equity placements. Hence, we have seen the company's borrowing costs gradually trend lower. Contact: Primary Analyst Andrew Shingfun Chan Director +852 2263 9559 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central, Hong Kong Secondary Analyst Chloe He Associate Director +86 21 5097 3015 Committee Chairperson Su Aik Lim Senior Director +852 2263 9914 Date of Relevant Rating Committee: 27 July 2017 Summary of Financial Statement Adjustments: Capitalised interest is adjusted for cost of goods sold, as disclosed by the issuer. 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