A Closer Look at ’s LGFVs:

October 12, 2020

ANALYSTS Key Takeaways Lei Wang ― The median indicative issuer credit quality of local government financing vehicles (LGFVs) +86-10-6516 6038 in Hubei Province is, in our view, slightly higher than that of the national level. [email protected] ― We found that ’s LGFVs have generally better indicative issuer credit quality than Yunxin Jia LGFVs in other Hubei cities. Beijing +86-10-6516 6041 ― As the COVID-19 pandemic subsides, we expect that Hubei’s economy can quickly recover [email protected] and that the indicative issuer credit quality of its LGFVs are generally resilient. Di Jiao To get a full picture of the overall indicative credit quality of LGFVs in Hubei Province, we carried Beijing out a desktop analysis of 89 LGFVs in the region, using public information. Our sample includes +86-10-6516 6039 LGFVs at the city-level and below and subway companies but excludes provincial-level LGFVs [email protected] (like transportation construction companies, investment holding companies and utility companies). The entities in the sample represent close to 86% of all LGFVs with bonds Xiao Zhang outstanding in Hubei, covering 13 of the province’s prefecture-level regions and 3 county-level Beijing cities. In our opinion, they offer a comprehensive reflection of the overall indicative credit quality +86-10-6516 6036 of LGFVs in Hubei. [email protected]

Local government support is, in our view, generally the most important factor when considering Ye Liu the indicative credit quality of LGFVs. In this report, we have analyzed the indicative importance Beijing of LGFVs to Hubei’s municipal governments, and the municipal governments’ indicative ability to +86-10-6516 6035 provide vehicles with support. [email protected]

Chart 1 Comparing Bonds Outstanding Among Hubei LGFVs and Nationwide 1,800 1,600 1,400 1,200 1,000 800 600 393.6 billion RMB 400

Amount Amount (RMB, billion) 200 0 Jilin Tibet Anhui Hebei Hubei Fujian Gansu Shanxi Beijing Hainan Ningxia Yunnan Qinghai Jiangsu Xinjiang Guangxi Guizhou Liaoning Zhejiang Shandong Guangdong Heilongjiang

Note: LGFV debt defined by Wind, data as of December 31, 2019. Mongolia Inner Source: Wind, S&P Global (China) Ratings. Copyright © 2020 by S&P Ratings (China) Co., Ltd. All rights reserved.

A Closer Look at China’s LGFVs: Hubei October 12, 2020

About This Article

S&P Ratings (China) Co., Ltd. (S&P China) has conducted a desktop analysis of a selection of entities based in the relevant region. We have chosen these entities based on their asset sizes, representativeness of most regions and availability of public information. The analysis contained herein has been performed using S&P China Methodologies. S&P China Methodologies and analytical approaches are intended specifically for use in China only, and are distinct from those used by S&P Global Ratings. An S&P China opinion must not be equated with or represented as an opinion by S&P Global Ratings, or relied upon as an S&P Global Ratings opinion.

This desktop analysis has been conducted using publicly available information only, and is based on S&P China’s methodologies for corporates. The analysis involves a desktop application of our methodologies to public information to arrive at a potential view of credit quality across sectors. It is important to note that the opinions expressed in this report are based on public information and are not based on any interactive rating exercise with any particular entity. The opinions expressed herein are not and should not be represented as a credit rating, and should not be taken as an indication of a final credit rating on any particular entity, but are initial insights of potential credit quality based on the analysis conducted. This desktop analysis does not involve any surveillance. The opinions expressed herein are not and should not be viewed as recommendations to purchase, hold, or sell any securities or to make any investment decisions, and do not address the suitability of any security.

We have conducted this desktop analysis on individual corporates and present the results contained herein at an aggregate group level. The different sections of this research show the statistics and performance of different groups of entities and the market more broadly against the metrics we generally consider most relevant under our methodologies.

Given the desktop nature of this analysis, and that we have not conducted an interactive review with any particular entity, we may have made certain assumptions in lieu of confirmed information and where relevant we may also have attempted to consider any possibility of parent, group, government or other forms of potential support, to inform our view of potential credit quality. S&P China is not responsible for any losses caused by reliance on the content of this desktop analysis.

On the National Level: Hubei LGFVs Slightly Stronger Overall

Known as “the thoroughfare of ,” Hubei Province is located in the heart of . Its geographic advantages and plentiful resources make Hubei a key province along the River Economic Belt, and its economic strength is above the national average. In 2019, Hubei’s GDP was 4.6 trillion RMB, ranking seventh overall nationwide. The province ranked eighth overall for its GDP per capita of 77,321 RMB. In terms of its industrial structure, Hubei’s primary, secondary and tertiary industries accounted for 8.3%, 41.7% and 50.0% respectively. Hubei has a relatively diversified industrial structure, with historical roots in heavy industry complimented in recent years by the rapid development of high-tech industries. Pillar industries include auto manufacturing, agriculture and food processing, chemical raw materials and chemical products, non-metal mineral products and manufacturing of technology hardware. Following the outbreak of COVID-19, Hubei’s economy suffered a severe blow in the first half of 2020. However, effective controls on the pandemic have seen a rapid return to production in the province.

S&P Global (China) Ratings www.spgchinaratings.cn 2 A Closer Look at China’s LGFVs: Hubei October 12, 2020

The median indicative issuer credit quality of the 89 Hubei LGFVs in our sample is slightly higher than that of around 1800 LGFVs at the national level. This, in our opinion, can largely be attributed to the majority of LGFVs in Hubei being of higher indicative importance to their local governments.

Chart 2 Indicative Credit Quality: Comparing LGFVs in Hubei and Nationwide

[BBB]*category [BB]*category

[BBB]*category [BB]*category

[A]*category

[A]*category Hubei [B]*category [AA]*category & above China [AA]*category & above Note: *The indicative credit quality distributions expressed in this report are only S&P China’s indicative views of credit quality derived from a desktop analysis based on public information without interactive review with any particular entity or the full credit rating process such as a rating committee. The opinions expressed herein are not and should not be represented as a credit rating and should not be taken as an indication of a final credit rating on any particular entity. Curve represents the proportion of companies in the sample. Source: S&P Global (China) Ratings. Copyright © 2020 by S&P Ratings (China) Co., Ltd. All rights reserved.

Within the Province: Wuhan LGFVs Have Better Indicative Issuer Credit Quality

Our analysis found that where the business and financial risk profiles of LGFVs are similar, there are fewer differences between LGFVs in terms of indicative stand-alone credit quality. Differences in credit quality among LGFVs can largely be attributed to differing levels of government support. We look at local government indicative support from two angles: the indicative support capability of the local government and the LGFV’s potential importance to the relevant local authority.

Analysis of Local Government Indicative Support Capability After looking at each city in Hubei relevant to our sample and considering factors such as economic performance, budget, debt, liquidity and financial management, we believe that cities in the province vary in terms of their indicative support capacities. The provincial capital Wuhan has significantly stronger indicative support capacity for LGFVs than other cities. , on the other hand, is at the lower end in terms of its local government’s indicative support capability. The chart below reflects our view on local governments’ indicative support capacity for LGFVs across Hubei. The darker the color, the stronger the indicative support capability for LGFVs, and vice versa.

S&P Global (China) Ratings www.spgchinaratings.cn 3 A Closer Look at China’s LGFVs: Hubei October 12, 2020

Chart 3

In our opinion, differences in economic and financial strength as well as the debt levels of cities in Hubei have resulted in varying levels of indicative support capacity. Wuhan has the strongest economy in the province, with its GDP accounting for around 35% of the province’s total in 2019. While its debt ratio is one of the highest in the province, Wuhan’s debt looks less like a problem when we consider its leading economic position. and both recorded over 400 billion RMB of GDP in 2019, putting them in the second tier in the province. However, these cities also have relatively high debt levels for the province. Tianmen, Qianjiang and are county-level cities, and their economies are smaller than other cities in Hubei. However, they have moderate debt levels. Enshi has the lowest debt ratio in the province, which is mainly because of the large-scale transfer payments it receives from higher-level governments. In general, although Hubei cities vary in terms of absolute debt sizes, their debt levels relative to fiscal revenues are fairly consistent. The adjusted debt ratios are mainly concentrated within a range of 100% to 200%.

S&P Global (China) Ratings www.spgchinaratings.cn 4 A Closer Look at China’s LGFVs: Hubei October 12, 2020

Chart 4 Differentiation of Economic Performance and Debt in Hubei Province

18,000 16,000 Wuhan 14,000 12,000 10,000 8,000 (100 million RMB) 6,000 Xiangyang 2019 Hubei 2019 Hubei Cities' GDP Yichang 4,000 Tianmen 2,000 Enshi Xiantao Qianjiang 0 70% 90% 110% 130% 150% 170% 190% 210% 230% 2019 Adjusted Debt Ratio Note: Adjusted Debt Ratio=(2019 gov. debt+estimated 2019 adjusted LGFV debt)/2019 fiscal revenue. Source: Wind, S&P Global (China) Ratings. Copyright © 2020 by S&P Ratings (China) Co., Ltd. All rights reserved.

In terms of fiscal strength, Wuhan is clearly at the forefront of the province. Its capacity for balancing its general public budget is also the best in the province, which in our view is connected to Wuhan’s economic advantages. While the fiscal revenues of Xiangyang and Yichang are some distance behind Wuhan, they are still better than other Hubei cities, and their capacity for balancing public budgets is also reasonable. Enshi ranks at the lower end of the province in terms of its general public budget revenue, and is more reliant on higher-level transfers. These factors, coupled with its relatively large population and higher nondiscretionary fiscal expenditure, mean it has lower capacity for balancing its general public budget than other cities in the province.

Chart 5 Comparison of Hubei Cities' Fiscal Strength

1,800 1,600 Wuhan 1,400 1,200 1,000 Xiantao 800 Jingmen Yichang Xiaogan 600 Xiangyang Xianning Qianjiang (100 million RMB) 400 Suizhou Huangshi Jingzhou 200 Huanggang Ezhou 0 Shiyan Tianmen Enshi 2019 General Public Budget Revenue 0% -100% -200% -300% -400% -500%

2019 General Public Budget Balance Ratio

Source: Government websites, S&P Global (China) Ratings. Copyright © 2020 by S&P Ratings (China) Co., Ltd. All rights reserved. Analysis of LGFVs’ Importance to Local Governments In addition to governments’ indicative ability to support, the indicative issuer credit quality of an LGFV also depends on its indicative importance to its local government. We typically consider an LGFV’s indicative importance by looking at factors such as: administrative level; its policy role; whether its business is not-for-profit or difficult to replace; revenue and asset scale; strategic importance, etc.

S&P Global (China) Ratings www.spgchinaratings.cn 5 A Closer Look at China’s LGFVs: Hubei October 12, 2020

The chart below presents an overview of the distribution of Hubei LGFVs’ indicative importance to their respective local governments. Overall, for most of the sampled cities in Hubei, differences exist between LGFVs in terms of distribution of administrative level or vehicles’ mandates. This leads to relatively diverse distribution of indicative importance among Hubei’s LGFVs. However, in general the LGFVs have relatively high indicative importance to their local governments

Chart 6 LGFVs' Indicative Importance to Local Governments in Hubei Number of LGFVs per City

Hubei 89 Wuhan 20 Yichang 13 Xiangyang 10 Jingzhou 8 Huangshi 6 Huanggang 6 Xiaogan 6 Jingmen 5 Xianning 4 Shiyan 3 Suizhou 3 Qianjiang 1 Enshi 1 Tianmen 1 Xiantao 1 Ezhou 1 0% 20% 40% 60% 80% 100%

Critical High Moderate

Source: S&P Global (China) Ratings. Copyright © 2020 by S&P Ratings (China) Co., Ltd. All rights reserved.

By comparing LGFVs in the Hubei cities in our sample, we have found that Wuhan, Yichang and Xiangyang have a relatively high number of vehicles. LGFVs in these cities are distributed relatively evenly across different levels, leading to some differentiation in their indicative importance to local governments. Qianjiang, Tianmen, Xiantao, Enshi and Ezhou each only have one city-level LGFV, meaning these vehicles may undertake multiple mandates related to local infrastructure financing and investment. For this reason, these vehicles are of critical indicative importance to their local governments.

Distribution of Indicative Issuer Credit Quality Across Hubei LGFVs Our analysis has shown some differentiation exists among the indicative support capabilities of regional governments in Hubei, and that LGFVs in the province vary in terms of their indicative importance to local authorities. This leads to clear differentiation of indicative issuer credit quality among different LGFVs in Hubei cities, as shown in the chart below.

S&P Global (China) Ratings www.spgchinaratings.cn 6 A Closer Look at China’s LGFVs: Hubei October 12, 2020

Chart 7

Distribution of Indicative Issuer Credit Quality Across Hubei LGFVs

Stronger BBB+ BBB BB+ BB Median Weaker

LGFVs in Xiantao LGFVs in Shiyan LGFVs in Xianning LGFVs in Tianmen LGFVs in Xiaogan LGFVs in Yichang LGFVs in Enshi LGFVs in Wuhan LGFVs in Qianjiang LGFVs in Jingzhou LGFVs in Jingmen LGFVs in Xiangyang LGFVs in Ezhou LGFVs in Suizhou LGFVs in Huanggang LGFVs in Huangshi

Note: The horizontal axis represents LGFVs' indicative issuer credit quality. The closer to the left, the stronger the indicative issuer credit quality.The color represents the number of LGFVs with the same indicative issuer credit quality. The darker the color, the higher the number of entities. The dark dotted line represents the median of indicative credit quality of Hubei Province. Source: S&P Global (China) Ratings. Copyright © 2020 by S&P Ratings (China) Co., Ltd. All rights reserved.

In Hubei, Wuhan is the strongest city in terms of economic and fiscal strength. Therefore, the indicative issuer credit quality of its LGFVs is generally better than that of other cities in the province. Its higher-tier LGFVs are in a clear leading position, while lower-tier vehicles in Wuhan are only slightly behind the provincial median level. The top-tier LGFVs in Xiangyang and Yichang also stand out within the province. With one vehicle in each city, the LGFVs in Xiantao, Tianmen, Enshi, Qianjiang and Ezhou are of critical indicative importance to their respective local governments, with their indicative issuer credit quality largely determined by the strength of their local authorities’ indicative support capabilities.

What the Future Holds: Pressure to be Eased by Economic Recovery and Central Government Support

At the beginning of 2020, Hubei Province bore the brunt of the COVID-19 outbreak. Social and economic activity was seriously affected, and GDP in the first quarter fell by 39.2% year-over- year. For Hubei’s pillar industries, production practically came to a standstill, particularly in the auto manufacturing sector, as lockdown measures were introduced across the province. The service sector also saw a heavy impact, with industries such as tourism, restaurants and shopping malls affected by the lockdown. With the epidemic gradually brought under control in the second quarter of 2020, Hubei has seen a recovery in economic activity. GDP for the first half of the year decreased by 19.3% year-over- year, with the rate of decline narrowing significantly from the first quarter. According to the Hubei Provincial Government, by the end of June 2020, data from companies in the industrial, construction, wholesale retail and catering sectors as well as key service sector firms showed that 98.8% of workplaces had resumed operations, and 98.7% of workers had returned to their jobs. For small and medium-sized enterprises, 86.9% of companies had resumed operations, on a par with the national average level. The recovery rate of industrial companies was the fastest, while other industries saw a steady resumption of operations. Value-added industrial output increased significantly in the second quarter compared to the first three months of 2020.

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While Hubei has been seriously affected by COVID-19, we expect its economy to continue to recover with the support of various measures implemented by the central government. The central government has on several occasions reiterated the importance of a package of policies it had introduced to support Hubei's development and aid the province’s recovery in terms of fiscal revenue and taxation, expanded credit lines, increased investment and more foreign trade. In our view, the central government is steadfast in its determination to maintain Hubei’s position as a key hub of regional economic development, and it remains committed to supporting the restoration of economic and social order in the province. Hubei may, in our view, receive some support in the form of transfers from the central government and larger quota for local government bond issuance to mitigate the negative impact of COVID-19 on its fiscal revenue. At the same time, the scale of LGFV debt in Hubei is generally in line with its economic and financial status. Therefore, we regard downward pressure on the indicative issuer credit quality of LGFVs in Hubei as controllable.

This report does not constitute a rating action.

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