Wuhan Real Estate Development Investment Group Co. Ltd., Proposed Notes Rated #BBB-#; Outlook Stable

Stocks and Financial Services Press Releases Tuesday June 12, 2018 16:12
HONG KONG--12 Jun--S&P Global Ratings

HONG KONG (S&P Global Ratings) June 12, 2018--S&P Global Ratings said today it assigned its 'BBB-' long-term issuer credit rating to Wuhan Real Estate Development & Investment Group Co. Ltd. The outlook is stable. We also assigned our 'BBB-' issue rating to the company's proposed issue of senior unsecured notes. We expect Wuhan Real Estate to use the proceeds from the new notes to refinance existing debt, as well as for general corporate purposes. Our issue rating is subject to our review of the final issuance documentation.

Wuhan Real Estate is a state-owned enterprise (SOE) in Wuhan, the capital city of Hubei province.

The rating on Wuhan Real Estate reflects the company's operational concentration within Wuhan and very highly leveraged financing position. The Wuhan government's ongoing capital injections and other forms of support help to sustain the company's capital structure despite its weak financial metrics. In view of these factors, we assess the stand-alone credit profile (SACP) as 'b'. We also see an extremely high likelihood of timely and sufficient extraordinary government support to the company when needed. The issuer credit rating is therefore five notches above the SACP.

Our view of extremely high likelihood of extraordinary government support to Wuhan Real Estate is based on the following:

--Integral link with the Wuhan municipal government: The Wuhan government directly owns 100% of Wuhan Real Estate and appoints the senior management, who have deep government backgrounds. Wuhan Real Estate has close operational interaction with various government agencies. Around half of the company's assets are public infrastructure projects and a third of its debt are in the form of the government's debt-for-bond swap accumulated since 2015. --Very important role: Wuhan Real Estate operates on behalf of the local government in primary land development and public infrastructure construction within Wuhan. It is the sole platform to manage and channel a special loan facility for shantytown transformation from state policy bank China Development Bank (CDB) in Wuhan. Nevertheless, the company is not the sole SOE responsible for shantytown transformation or infrastructure construction. Therefore, in our view, the company's operational importance is not as high as for activities such as metro system construction.

The creditworthiness of the city of Wuhan is supported by its solid growth prospects, very strong budgetary performance, and exceptional liquidity. Wuhan is one of the most important transportation, economic, and political hubs in central China. Building on a solid manufacturing industry, Wuhan has diversified to the service industry and high-value added industrial sectors. In our view, this diversification could help the city to broaden its tax revenue base, expand fiscal capacity, meet ongoing infrastructure spending needs, and maintain a largely balanced budget.

Wuhan's debt burden, arising from borrowing via local government financing vehicles, is relatively high compared with international peers'. Nevertheless, the central government's debt swap program--under which high-cost debt is swapped for municipal bonds with lower interest and longer maturity--has helped the city to reduce its debt-service costs. In addition, the city government has an exceptionally strong liquidity position, with net cash and liquid assets covering more than 200% of interest and principal maturing over the next 12 months.

Similar to most Chinese local governments, Wuhan has some exposure to contingent liability associated with its SOE sector. However, the SOEs have limited involvement in overcapacity sectors, leverage is coming down, and overall sector profitability is sound. Therefore, we believe the city's contingent liability is likely to be smaller than most domestic peers' in terms of scale and likelihood of materializing.

In our opinion, Wuhan Real Estate's property development will continue to contribute over 90% of the company's revenue for the next two years, and it remains the primary business segment to generate material cash flow for debt repayment. The company has established solid brand recognition for property development in Wuhan, ranking no. 6 in the city by contracted sales in 2017.

Wuhan Real Estate's operations have high exposure to concentrated policy and market risks by operating solely in Wuhan. We view the company's execution capacity and operating efficiency as comparable with the industry average, due to its well-managed delivery cycle and competitive funding costs. The company's property development business also has a competitive gross profit margin, at above 30%, benefiting from its low land costs.

In our view, Wuhan Real Estate's infrastructure construction segment predominantly has a public mandate and generates limited commercial benefits. The company acts on behalf of the government for building and holding key public infrastructure projects, including airport expressway, civil service halls, and leisure parks. These assets typically generate weak operating cash flows and primarily serve public welfare purposes. The company also constructs public buildings through entrusted construction projects funded directly through the public fiscal budget based on a cost-plus model with a small service fee.

We believe the shantytown transformation and primary land development activities will remain the focus of Wuhan Real Estate's operations for the next two to three years, although the gains from these activities are not on its income statement. The company receives cash rebates for the costs incurred and land valuation gains once the government sells the developed land parcels, which should provide over Chinese renminbi (RMB) 10 billion in net cash inflow over the next three years to help its debt servicing. We view the company's primary land development and infrastructure construction operations to be an extension of governmental functions, which justifies the continuous ongoing support in the form of subsidies and capital injections.

Wuhan Real Estate's financial leverage is likely to remain extremely high for the next 24 months to support its growing property development business and infrastructure construction operations that are non-profit-driven yet capital intensive. We believe the company's capital structure and liquidity position is stronger than its financial metrics demonstrate, given the capital injections and also its long debt maturity profile anchored by the public debt swap program. We lifted Wuhan Real Estate's SACP by one notch to reflect this strength. The company also has an the ample amount of unutilized credit lines of around RMB35 billion due to its status as one of Wuhan's top three SOEs.

The stable outlook on Wuhan Real Estate mainly reflects the creditworthiness of the Wuhan municipal government. The stable outlook also reflects our expectation that the company will continue to have an extremely high likelihood of receiving extraordinary support from the government, and its property development business can generate solid cash flow to support its daily operations over the next 12-24 months. Wuhan Real Estate's debt leverage is likely to remain extremely high over the period to support its infrastructure development and property development.

We could lower the ratings on Wuhan Real Estate if: (1) the creditworthiness of the Wuhan government significantly deteriorates; or (2) our assessment of the likelihood of extraordinary government support to the company materially diminishes. This could happen if the Wuhan government changes its strategies, priorities, or mandate towards Wuhan Real Estate, and, as a result, the importance of the company's role to, or linkage with, the Wuhan government weakens.

We could lower the company's SACP if we see its liquidity position become strained or its capital structure becomes unsustainable. This could occur if access to funding or refinancing becomes difficult due to policy tightening and market views turning negative.

The upside to the rating or SACP for the company is limited in our view due to Wuhan Real Estate's high leverage and weak debt serviceability. Nevertheless, we could upgrade the company if: (1) the creditworthiness of the Wuhan government significantly improves; and (2) the likelihood of extraordinary government support to the company strengthens materially, in scenarios where Wuhan government expands the public service mandate for the company or further injects a significant amount of state assets.


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