Corporate China
Pengyuan International Affirms Shimao Group Holdings Limited’s ‘BBB-’ Rating; Outlook Stable
Ratings Overview
Issuer Rating ▪ Pengyuan International has affirmed Shimao Group Holdings Limited’s LT Issuer Credit Rating BBB- (Shimao’s) global scale long-term issuer credit rating (LTICR) of ‘BBB-’. The outlook is stable.
Outlook Stable ▪ Shimao is a Chinese property developer with 95%, 1%, 1% and 3% of its revenue generated from property development, hotels, investment
property and property management in the first half of 2020 respectively. Contents The rating reflects Shimao’s improving operational profile, which is buoyed by its enlarging scale, leading market position and geographical
diversification. In addition, thanks to its high-quality land bank, the Key Rating Drivers ...... 2 Company was able to maintain a solid profitability as well as controlling Business Profile ...... 3 its leverage. On the other hand, Shimao’s rating is constrained by its
concentrated exposure to China’s property market and relatively high Financial Profile ...... 5 exposure to foreign currencies. Liquidity ...... 5 Rating Outlook Covenants ...... 6
Company Background ...... 6 ▪ The stable outlook for Shimao reflects Pengyuan International’s Peer Comparison ...... 6 expectation that the Company will continue to strengthen its market
position and grow its land bank while maintaining a healthy financial Rating Scores Summary ...... 6 profile. Related Criteria ...... 8 ▪ We would consider downgrading Shimao’s issuer credit rating to reflect a substantial credit profile deterioration, recognised in the form of the following: 1) Leverage measured by debt to adjusted inventory rises
above 45% on a sustained basis; 2) EBITDA margin falls below 20% on a sustained basis with little prospects of recovery; and 3) Operating profile weakens significantly. ▪ We would consider upgrading the Company’s issuer credit rating to reflect Contacts a substantial credit profile improvement, recognised in the form of the following: 1) Financial profile strengthens on a sustained basis; and 2) Operating profile improves significant Primary Analyst
Name Winnie Guo ▪ ly. Title Director Direct +852 3615 8344 Financial Summary Email [email protected]
Secondary Analyst Table 1: Financial Ratios 2018A 2019A 2020F 2021F 2022F
Name Brian Lam EBITDA Interest Coverage 2.5x 2.9x 3.7x 4.7x 5.9x Title Director Gross Debt/Capitalisation 51% 53% 52% 51% 49% Direct +852 3615 8339 Net Debt/Adj. Inventory 36% 35% 36% 35% 31% Email [email protected] Contracted Sales/Gross Debt 1.4x 1.4x 1.5x 1.7x 2.1x EBITDA Margin 26% 26% 25% 26% 26% ROIC 8% 10% 11% 14% 17% Sources: Company data, Pengyuan International’s estimates
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Key Rating Drivers
Credit strength Market position maintained. In 2020, Shimao remained as one of the top 10 property developers in China, measured by total contracted sales, according to CRIC Research and Leju, which are two Chinese property research companies. Based on our analysis, Shimao’s market share increased to 1.73% and 0.97% in terms of contracted sales value and contracted sales gross floor area (GFA) respectively, from 1.63% and 0.85% in 2019.
Strong contracted sales growth with improved cash collection. Undeterred by the adverse impact from the pandemic at the beginning of 2020, Shimao achieved total contracted sales of RMB300 billion in 2020, a year-on-year increase of 16%, after a 48% growth in 2019. The growth in contracted sales was mainly driven by the 17% increase in sales volume. We expect the Company’s contracted sales to grow 20% year-on-year to RMB360 billion in 2021. In addition to a strong growth in contracted sales, Shimao’s cash collection rate rose to 80.6% in the first half of 2020 from 75% in 2019. We expect its cash collection rate to remain at a healthy level of 80% in both 2021 and 2022.
Land bank expansion with improved geographical diversity. In the first half of 2020, Shimao has improved its geographical diversification by expanding its land bank to 135 cities from 101 cities in 2019, with 423 projects covering an area of 84 million square metres (sqm). Of the total, 65% of the newly acquired land is located in the first and second tier cities. We estimate the average attributable land cost was RMB5,279/sqm, representing 30% of its average selling price (ASP) at the end of the first half of 2020. Going forward, we expect the first and second tier cities’ contribution to the contracted sales to increase. Shimao’s saleable value from core cities provide a solid foundation for a sustainable growth in the future.
Solid profitability maintained. Thanks to its low-cost land bank and growing operating scale, Shimao has been able to maintain its EBITDA margin of 26% in 2019. In our view, Shimao will maintain its EBITDA margin at its current level in both 2021 and 2022, while profit contribution from non-property development businesses will gradually increase in the same period. Besides, Shimao’s rental income is expected to grow with its commercial property projects scheduled to be launched in the pipeline. Shimao has more than 2 million sqm commercial projects to put into operation in the run up to 2025, with 45% located in the Greater Bay Area.
Credit weakness Concentration risk. Shimao has a highly concentrated exposure to China’s property market. In the first half of 2020, property development, hotels, investment property and property management contributed 95%, 1%, 1% and 3% to its revenue respectively. The Company’s financial performance is heavily influenced by the cyclicality of China’s economy and property market.
Concerns related to acquisitions. Shimao has been active in mergers and acquisitions (M&A) in recent years. In our view, these M&As incur risks and challenges in terms of project quality and profitability, and potentially higher debt.
Currency exposure. Shimao has a relatively high foreign currency exposure. As of 2019, 55% of its debt was denominated in non-Chinese currencies, of which 36% was in the US dollar and the remaining19% was in the Hong Kong dollar. However, its property development projects and hotel assets in Hong Kong covered 90% of its foreign debt as of 2019, according to our estimates, which would serve as a natural hedge to its foreign exchange debt exposure.
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Table 2: Key Credit Metrics (RMB mn) 2018A 2019A 2020F 2021F 2022F Financials and Profitability Revenue 85,513 111,517 151,059 202,828 278,653 EBITDA 22,397 29,101 37,803 52,759 71,589 EBITDA Margin 26% 26% 25% 26% 26% Return on assets (ROA) 7% 7% 8% 10% 12% Return on invested capital (ROIC) 8% 10% 11% 14% 17% Cash Flow Measures Funds from operations (FFO) 23,832 31,867 42,184 62,057 87,522 Operating cash flows (OCF) 5,756 31,237 14,507 29,173 48,280 Free cash flow (FCF) 10,489 38,251 20,364 35,870 55,817 Discretionary cash flow (DCF) 7,116 32,468 13,388 25,326 41,255 Capital expenditure -4,733 -7,014 -5,857 -6,697 -7,537 Balance Sheet Measures Cash and liquid investments 49,589 59,686 71,051 88,540 114,853 Excess cash 41,780 49,882 60,314 76,699 101,303 Total debt 111,784 129,869 142,226 157,226 172,226 Adjusted debt 70,004 79,986 81,912 80,527 70,923 Total capitalisation 217,064 246,573 274,316 310,082 353,360 Leverage Measures EBITDA Interest Coverage 2.5x 2.9x 3.7x 4.7x 5.9x Gross Debt/Capitalisation 51% 53% 52% 51% 49% Net Debt/Adj. Inventory 36% 35% 36% 35% 31% Contracted Sales/Gross Debt 1.4x 1.4x 1.5x 1.7x 2.1x FFO/Cash interest expense 2.7x 3.2x 4.2x 5.6x 7.2x Sources: Company data, Pengyuan International’s estimates
Business Profile
Established property developer with market share expansion Shimao has established a strong brand recognition in China’s property market. The Company has continuously increased its market share based on both contracted sales value and gross floor area (GFA) since 2016. The Company’s attributable contracted sales was ranked 11th, 9th and 10th among Chinese property developers from 2018 to 2020 respectively. Given its strong brand name and established market position, Shimao has reported a strong growth in contracted sales. The Company achieved total contracted sales of RMB260 billion and RMB300 billion, with a growth of 48% and 16% in 2019 and 2020 respectively. We expect Shimao’s contracted sales to grow 29% to above RMB235 billion in 2021. A robust growth in contracted sales has laid a strong foundation for better financing capacity and solid operating cash flow that supports the Company’s expansion.
Exhibit 1: Shimao’s market share by contracted sales Exhibit 2: Shimao’s market share by GFA Sold mn sqm
RMB bn 20 1.2% 350 2.0% 1.0% 300 16
1.5% 250 0.8% 12
200 0.6% 1.0% 150 8 0.4% 100 0.5% 4 0.2% 50
0 0.0% 0 0.0% 2014 2015 2016 2017 2018 2019 2020 2014 2015 2016 2017 2018 2019 2020 Total GFA Sold Market Share Total Contracted Sales Market Share Sources: Company, NBS Source: NBS Shimao primarily engages in property development, hotels, investment property and property management services. Shimao core business segment is property development, which has a 95% contribution to its total revenue in the first half of 2019. As of 30 June 2020, Shimao had 22 hotels in operation. We expect Shimao’s recurring income from the investment property and hotel space to register an annual growth rate of 25% for both 2021 and 2022.
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Exhibit 3: Revenue breakdown (2019) Exhibit 4: Recognised sales breakdown (2019) Fuzhou, 12.90% Rental Income Property 1% Management Beijing, 5.80% 3% Hotel Services 2% Suzhou, 5.70% Others, 35.20% Nanjing, 5.70% Xiamen, 2.70% Yinchuan, Quanzhou, 2.20% 6.80% Jinan, 2.60% Zhangjiagang, Shaoxing, Property 2.30% 7.50% 94% Ningbo, Chengdu, Wuhan, 2.10% Qingdao, 2.20% 3.10% 3.20%
Source: Company Source: Company High-quality land bank
Shimao has a diversified and low-cost land bank. As of end-June 2020, Shimao had land reserves in 135 cities covering an area of 84 million sqm, expanded from 101 cities and 76 million sqm in 2019. Shimao’s land bank life – measured by consolidated land bank GFA divided by consolidated contracted sales GFA – had declined over the past few years, but remained at around five years as of 2019, which is well above its peers’ average land bank life of three to four years. Shimao managed to take advantage of China’s weak land market in 2019 and 2020 to expand its land bank.
We estimate the average attributable land cost was RMB5,279/sqm, representing 30% of its ASP at the end of first half of 2020. A low-cost and high-quality land bank is the foundation for Shimao to maintain profitability with its capability in controlling debt, in our view.
Increased cash collection but lower sell-through rate
To assess the Company’s cashflow efficiency, we use its sell-through rate and cash collection rate as a guide to how efficiently Shimao manages its working capital. Shimao has enjoyed an increasing sell-through rate since 2016 to 78% in 2018. In 2019, its sell-through rate slightly increased to 79%, driven by a high growth of contracted sales. Nevertheless, the cash collection rate has decreased to 75% in 2019 from 78% in 2018. The Company has seen an improvement in cash collection to 80.6% in the first half of 2020, indicating a better efficiency. An improved cash collection has helped the Company to strengthen its liquidity and cash position. We expect its cash collection rate to remain at a healthy level of 80% in both 2021 and 2022.
Exhibit 5: Attributable land bank GFA mix (2019) Exhibit 6: Cash collection ratio and sell-through rate 100% Strait 90% Development District 80% 9% Xiamen 24% 70% Northern China District 60% 21% 50%
Shandong 40% District 6% 30%
20% Zhejiang District 10% 7% Central China Western 0% District District 2015 2016 2017 2018 2019 7% Yangtze River 12% Sell-through Rate Cash Collection Rate Delta 14% Source: Company Source: Company
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Financial Profile
Leverage to remain steady in 2020
Despite of its active approach in land acquisition and M&A activities, Shimao maintained its leverage in 2019 at a similar level of 2018, thanks to the Company’s strong contracted sales and high efficiencies. Gross debt to capitalisation increased slightly to 52.7% in 2019 from 51.5% in 2018. EBITDA interest coverage also increased slightly to 2.9x in 2019. Net debt to adjusted inventory decreased to 34.6% in 2019 from 35.7% in 2018. We expect Shimao’s leverage is to maintain at its current level in 2020 before coming off in 2021 and 2022.
We have a neutral assessment of Shimao’s cashflow variations. Shimao’s operating cashflow (OCF) has turned positive since 2015, driven by strong contracted sales. We expect Shimao to continuously report positive OCF throughout 2021 and 2022, thanks to its solid profitability and improving efficiencies. As a result, the firm’s OCF to debt and free cashflow to debt will remain in positive territory from 2021 to 2022.
Healthy debt structure
Shimao’s debt structure risk is manageable, as the Company has a healthy debt structure, with short-term debt making up only 20-30% of its total debt over the past five years. We expect the Company to maintain its current debt structure in 2021 and 2022.
We believe Shimao’s financial policy to be relatively prudent. Shimao has a track record of cautious financial management and has been able to adapt to market changes over the past few years. The Company was active in acquiring land between 2013 and 2017, but its net debt to adjusted inventory had been maintained at around 40% over the past five years.
The Company’s interest rate risk is low, in our view. As of the end of2019, 20% of its total borrowings were based on floating interest rates. In addition, Shimao’s foreign exchange risk is limited. The Company had 55% of interest-bearing debt denominated in non-Chinese currencies as of 2019, Breaking it down, 36% was in US dollar and the remaining 19% was in Hong Kong dollar. We believe its property development projects and hotel assets in Hong Kong can provide a hedge to its US dollar exposure. In addition, the Company has appropriate financial derivatives to hedge currency risk.
Strong profitability
Shimao has strong profitability compared to its peers of similar scale. We believe EBITDA margin and return on invested capital (ROIC) are appropriate profitability measures for Chinese property developers, because EBITDA margin better reflects the property companies’ cost structure and execution capability. We consider Shimao’s profitability trend and volatility as average among its peers. Shimao was able to maintain EBITDA margin above 25% in the past 10 years, with an exception in 2015 and 2016. Shimao’s gross margin decreased slightly to 30.6% in 2019 from 32% in 2018. We expect its gross margin and EBITDA to stay around 30% and 25% respectively in 2021 and 2022, bolstered by its low-cost land reserves and strong sales execution. Liquidity
We regard Shimao’s liquidity as strong. The Company’s cash adequacy ratio better reflects the liquidity condition of Shimao, since the quick ratio does not incorporate inventory, which has a significant influence on the developer’s liquidity. Shimao’s 12-month cash flow liquidity ratio is 1.6x as of end 2020, by our estimate. We expect Shimao’s liquidity to stay sufficient for the next 12 months, given the Company’s healthy debt structure and strong contracted sales.
We made the following key assumptions when assessing Shimao’s liquidity:
• Estimated cash and short-term investments of RMB50 billion-80 billion each year from FY2021-FY2022 • Estimated funds from operations inflow to be RMB40 billion-80 billion from FY2021-FY2022 • Estimated working capital outflow of RMB10 billion-12 billion from FY2021-FY2022 • Estimated short-term debt payments to be RMB40 billion-50 billion from FY2021-FY2022 • Estimated interest payments to be RMB 8 billion-10 billion from FY2021-FY2022
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Covenants
We believe the risk of Shimao breaching its covenants is low.
Under offshore debt covenants, all debt issues share similar covenants, which apply the following constraints on the ability of the company and its subsidiaries to, among other things:
• Incur or guarantee additional debt and issue disqualified or preferred stock; • Make investments or other specified restricted payments; • Issue or sell capital stock of certain of its subsidiaries; • Guarantee debt of certain of its subsidiaries; • Sell assets; • Create liens; • Enter into sale and leaseback transactions; • Enter into agreements that restrict certain of its subsidiaries’ ability to pay dividends, transfer assets or make inter- company loans; • Enter into transactions with shareholders or affiliates; and • Effect a consolidation or merger.
Under onshore indebtedness, all debt issues are non-public and the covenants are not disclosed to the public. Company Background
Shimao is a property developer focusing on large-scale mid-to-high end integrated residential, hotel, office and commercial properties in China. By the first half of 2020, the ultimate controlling party of the Company is Hui Wing Mau, who owns 69.643% of its shares. Shimao develops commercial properties through its 63.92%-owned subsidiary, Shanghai Shimao, which is listed on the Shanghai Stock Exchange (600823 SS). Shanghai Shimao primarily engages in commercial property investment, while Shimao Property focuses on residential property development as well as hotel investment and operations. Peer Comparison
We analyse five of Shimao’s domestic peers in this section. Among these counterparts of Shimao, only China Vanke Co. Limited (BBB+/ Stable) is under our rating coverage.
Table 2: Shimao’s Peers Country Country Garden Holdings Co. Ltd. (CGHC) was established in 1992. Country Garden focuses on property development, construction, Garden decoration, property investment, as well as hotel development and management in China. In 2019, CGHC recorded contracted sales of RMB733 billion, with total GFA of 81.4 million sqm sold. Poly Poly Real Estate Group Co., Ltd. (PREG) was founded in 1992 and is based on Guangzhou. PREG mainly engages in residential and commercial property development in China and internationally. PREG is also involved in the construction, agency, asset management, engineering design and consulting services. In 2019, its contracted sales reached RMB386 billion, with total GFA of 25.5 million sqm sold. Evergrande China Evergrande Group Ltd. (CEGG) is founded in 1996. CEGG focuses on property development, with supporting businesses such as cultural tourism and health services. CEGG owns more than 810 projects in over 280 cities. CEGG is the largest property developer based on its 2019 contracted sales which was at RMB602 billion, with total GFA of 56.8 million sqm sold. Greenland Greenland Holding Group Company Ltd. (GLHG) was established in 1992 and headquartered in Shanghai. The company focuses on property development, infrastructure engineering, hotel management, car, loans and other business in China. GLHG also had some exposure in Hong Kong, Korea, United States, Australia and Canada. GLHG recorded contracted sales of RM369 billion, with total GFA of 32.5 million sqm sold in 2019. Vanke Founded in 1984 and headquartered in Shenzhen, China Vanke Co., Ltd (Vanke) is one of the leading property developers in China. Vanke engages in property development, property services business, rental housing business, commercial development and operations, logistic, warehousing services and other businesses. Source: Pengyuan International’s estimates
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Table 3: Shimao’s Peer Comparison (2019) Evergrande Country Poly Greenland Vanke (RMB million) Garden Revenues 477,561 485,908 235,981 428,083 367,894 EBITDA 98,579 94,399 71,755 49,589 87,491 FFO 12,729 30,029 22,492 12,407 53,352 Operating cash flows (OCF) (67,357) 14,666 39,155 19,261 25,902 Free cash flow (FCF) (81,251) 14,666 38,876 11,143 24,366 Cash and short-term investments 228,767 268,348 139,492 100,008 166,195 Debt 799,895 370,490 270,049 293,564 301,729 Equity 358,537 218,608 229,522 131,392 270,579
Ratios Debt/ EBITDA (X) 5.79x 1.08x 1.82x 3.90x 1.71x FFO/Debt 2.2% 29.4% 17.2% 6.4% 35.7% EBITDA interest coverage (X) 1.48x 4.05x 15.58x 9.61x 5.38x Gross Debt/Total Capitalisation 69.0% 62.9% 54.1% 69.1% 52.7% Operating Cash Flow/ Debt -10.2% 4.0% 14.4% 3.8% 17.3% Free Cash Flow/Debt -10.2% 4.0% 14.4% 3.8% 16.3% EBITDA margin 20.6% 19.4% 30.4% 11.6% 23.8% ROIC 13% 38% 15% 13% 20% ROA 3.4% 5.2% 4.9% 2.7% 5.1% Net Debt to Adjusted Inventory 42% 44% 48% 64% 36% Sources: Company, Pengyuan International’s estimates
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Rating Scores Summary
Business Profile Strong Industry and Operation Risk Profile 5 Macro environment 4 Financial Profile bbb- Leverage Profile bb+ Profitability Assessment Strong Indicative Credit Score (ICS) bbb- Adjustment Factors Corporate Structure and Governance Neutral Liquidity 5 Supplementary Analysis Neutral Adjustment Factors 0 Standalone Credit Profile (SACP) bbb- External Support Parental Support NA Government Support NA External Support NA Issuer Credit Rating (ICR) BBB-
Note: Ratings mentioned in this report are unsolicited ratings Related Criteria
Corporate Financial Adjustments and Ratio Definitions (7 May 2018)
General Corporate Rating Criteria (15 March 2018)
Industry Credit Guidelines Chinese Homebuilders and Property Developers (31 August 2018)
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