HONG KONG, 10 April 2019. Pengyuan International has assigned its first-time global scale long-term issuer credit rating (LTICR) of ‘BBB-’ to Huai’an Water Conservancy Holding Group Co., Ltd. (HWC), the outlook is stable. HWC’s issuer credit rating is made of a standalone credit profile of ‘b’ and our assessment of extremely strong willingness of extraordinary support from the Huai’an municipal government in the event of financial distress. We also assigned our issuance credit rating of ‘BBB-‘ to the Company’s proposed issuance of USD-denominated senior unsecured notes. The issuance rating is provisional and subject to our review of final offering documents.

Wholly-owned by Huai’an State-owned Assets Supervision and Administration Commission (SASAC), HWC is primarily engaged in water conservancy, infrastructure construction, primary land development, property sales and other municipal services. 


KEY RATING RATIONALES

Credit Strengths

Strong ongoing and extraordinary supports from Huai’an municipal government. Wholly owned by Huai’an State-owned Asset Supervision and Administration Commission (SASAC) and being the largest local government financing vehicle (LGFV) in the city, HWC received substantial asset injection of up to RMB53.1 billion over the last 5 years.  HWC also continuously received financial subsidies which amounted to RMB470 million, RMB540 million, RMB450 million respectively during 2016-18, accounting for about half of HWC’s profit. We see a high degree of government control over HWC’s operations, given that the board of directors and senior management are directly appointed by the Huai’an municipal government. We also believe that the government is willing to take necessary measures to ensure that operations of HWC are not affected in the event of financial distress.

Highly strategically important to Huai’an municipal government.  As the only water conservancy company and one of the two infrastructure constructors in its coverage district in Huai'an, we consider the potential social impacts of a hypothetical HWC default as high. We believe HWC’s exposure in public welfare projects, including land development for affordable housing, which deemed important to the government, should continue to gain governmental support in the event of financial stress. The failure of HWC may lead market participants to question Huai'an government's own creditworthiness, reputation and finally lead to a disruption in the provision of public services, in our view.

Overall economic and financial fundamentals remain strong for Jiangsu province and Huai’an city. Huai’an municipal government’s financial condition, backed by steady economic growth of the city should bode well for the business development of HWC. We believe both Jiangsu and Huai’an’s economic growth would remain stable over the next few years as China pushes through its economic reforms. Both Jiangsu and Huai’an’s economic growth are expected to be more or less in line with the national average. Jiangsu’s gross domestic product (GDP) was only second to that of Guangdong province for the last several years, and Huai’an reported a GDP growth of 6.5% to RMB360 billion in 2018, ranked the 11th among prefectural-level cities in Jiangsu.

Credit Weaknesses

Low profitability. As most of the businesses that HWC engaged in are for public welfare and on a not-for-profit basis, its profit margin is thin. Huai’an government provides subsidies to the company to top-up operating losses of certain welfare projects. HWC’s EBITDA margin lowered to only 15% for the first 9 months of 2018, from 19% in 2017 due to VAT tax reform in China, as to the management. We expect EBITDA margin to maintain at current level for 2019-20 as the one-off impact fades out.

Increasing financial leverage. HWC has been aggressive in its capital spending in the past few years, so as to meet the economic targets set by the Huai’an government. We expect the prolonged working capital needs as a result of business expansion has led to about 20% increase in debt level to RMB80-95 billion in 2018-19, from RMB66bn in 2017. We forecast HWC’s debt to capitalization would deteriorate to 48% in 2019 from 44% in 2018. We see chances of increasing financial leverage going forward.

Weak liquidity. We expect HWC’s liquidity to be tight on a standalone basis, with 12-month cashflow liquidity ratio of 0.5x, on our estimate. We believe the company’s liquid assets on hand and expected funds from operations are insufficient to fulfill all cash outflows requirement if all short-term debt payments have to be repaid without renewal. While HWC’s external guarantee accounted for 17.5% of net assets and restricted assets accounted for 17.7% of net assets in 2017, we believe it could dampen its financing capability during times of liquidity distress.

 

RATING OUTLOOK

The stable outlook for HWC reflects our expectations that Huai’an municipal government’s credit profile will remain stable and the Company would be able to maintain its current operation on the back of extremely strong supports from Huai’an municipal government over the next three years.

We would consider downgrading HWC’s issuer credit rating if its credit profile deteriorates substantially, which could be caused by 1) significant deterioration of credit profile of Huai’an municipal government on a prolonged basis 2) weakened ties between HWC and Huai’an municipal government 3) HWC substantially extends into commercial based businesses instead of social welfare-based businesses on a sustained basis. 

We would consider upgrading the company’s issuer credit rating if its credit profile improves substantially, which could be caused by 1) substantial improvements of credit profile of Huai’an municipal government on a sustained basis. 2) strengthened importance of HWC’s business to Huai’an municipal government on a sustained basis. 3) substantial improvements of the company’s financial profile.

 

ANALYSTS CONTACT

MEDIA CONTACT

OTHER ENQUIRIES

Primary Analyst

Brian Lam

+852 3615 8339

brian.lam@pyrating.com

 

Secondary Analyst

Christine Zhang

+852 3615 8276

christine.zhang@pyrating.com

 

Committee Chair

Tony Tang

+852 3615 8278

tony.tang@pyrating.com

 

media@pyrating.com

contact@pyrating.com

 

Date of Relevant Rating Committee: 8 April 2019

Additional information is available on www.pyrating.com

Related Criteria

General Corporate Rating Criteria (15 March 2019)

Corporate Financial Adjustments and Ratio Definitions (7 May 2018)

Government-Related Entities Rating Criteria (31 August 2018)

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