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China Aoyuan Group Limited Initial Issuer Report

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China Aoyuan Group Limited Initial Issuer Report Rating Report 28 November 2019 China Aoyuan Group Limited Initial Issuer Report Lianhe Ratings Global Limited (“Lianhe Global”) has assigned a ‘BB+’ global Summary scale Long-term Issuer Credit Rating to China Aoyuan Group Limited. The Issuer Rating BB+ Outlook is Stable. Outlook Stable Location China Industry Homebuilder and Real Summary Estate The Issuer Rating reflects China Aoyuan Group Limited (“Aoyuan” or “the company”)’s continuous Date 28 November 2019 improvement in market position and brand recognition in the Chinese property market. The rating also considers the Guangzhou-based company’s adequate liquidity position and good access to market funding. However, its moderately high financial leverage and average profitability constrain its rating. The Stable Outlook reflects our expectations that Aoyuan would acquire new land in a measured Operating Data: manner, lower its financial leverage, and continue to improve its operating efficiency gradually by China Aoyuan Group Limited delivering projects under development at a pace more commensurate to its contracted sales 31 Dec 2017 31 Dec 2018 growth to boost its recognized revenues in the following 12 to 24 months. Revenue 19,115 31,006 (RMB: in million) Contracted Sales 45,590 91,280 (RMB: in million) Rating Rationale Contracted Sales ASP 10,158 10,300 (RMB/square meter) Sizable Land Bank Supports Market Position: Aoyuan expanded its land bank by almost Contracted Sales GFA 4.5 8.9 (million square meters) threefold to 40.1 million square meters GFA (81% attributable to the company) at end-June 2019 Land Bank GFA (million 24.87 34.10 square meters) from 14.7 million square meters at end-2016, ensuring it is sufficient to support contracted sales ASP: Average Selling Price target for the next 2 years. The company had a sizable land portfolio across 72 domestic cities GFA: Gross Floor Area Source: Aoyuan’s 2017-2018 annual reports and Lianhe and 3 overseas cities – of which about 44% was located in South China, at end-June 2019. Global Aoyuan’s land acquisition strategy has in recent years started to focus on tier 2 cities in the Greater Bay Area (“GBA”), Central and Western China, East China and to a lesser extent the Bohai Rim as major anchors, while selectively entering surrounding and satellite cities in Central and Western China. This helped boost its contracted sales growth from 2016 to 2018 (2016: 69%; 2017: 78%; 2018: 100%). Aoyuan achieved total contracted sales of RMB78.6 billion (which represented an increase of 29% year-over-year) in the first nine months of 2019, which placed it among the top 30 property developers in China, according to China Real Estate Information Corporation (“CRIC”). Analysts Low but Rising Land Costs: Aoyuan is able to keep its land cost under control with mergers Alex Kung and acquisitions (“M&A”) as a primary land acquisition channel, which cumulatively contributed +852 3462 9577 about 68% of the land bank in the past decade; its average cost of land only marginally edged up [email protected] to RMB2,321 per square meter at end-June 2019 from RMB1,916 at end-2016. However, as the management plans to increase the portion of land acquired through public auction and other James Lee channels to support the development need over time, we expect Aoyuan’s average land cost to +852 3462 9586 rise and ultimately compress the profit margin of new contracted sales in the next 12 to 24 months [email protected] if home price indices turn tepid. The company registered an average selling price of RMB9,007 per square meter for its recognized sales in 2018. Applicable Criteria General Corporate Rating Criteria (16 Aoyuan’s material exposure to satellite cities that are usually categorized as tier 3 cities may pose July 2018) a greater degree of uncertainty amid a decline of home price and/or sell-through rate. However, www.lhratingsglobal.com 1 November 2019 General Corporate Aoyuan primarily focuses on first-time homebuyers and first-time upgraders with latent demand, which largely mitigates the associated risks. Moderate Presence of Commercial Property Segment: Aoyuan recognized about 32% of revenue from commercial property sales in 2018 and reported about 21% of contracted sales from commercial property sales in 1H2019. Commercial properties conceptually carry a higher risk for property developers as they are more susceptible to price gyration than residential owner- occupied properties under an economic downturn. However, Aoyuan largely utilizes these commercial properties to complement its residential properties in its projects, which reduces the inherent risk to a certain degree, in our view. Financial Leverage Constrains Credit Profile: Aoyuan has adopted a relatively vigorous expansion business model in a bid to promote presence since 2016 as it largely used debt to finance land acquisition and its asset base expansion. Such ambition boosted the company’s market ranking but also stressed its financial leverage that inevitably constrained the intrinsic credit profile. Leverage perceivably increased in tandem with its asset base as measured by a debt to capitalization ratio to 66% at end-2018 from 58% at end-2016. That said, we expect its financial leverage to marginally normalize if the management effectively begins to maintain business growth at a pace on par with similarly-rated peers and replenish its land bank in a measured manner in the next 12 to 24 months. Rating Sensitivities We would consider downgrading Aoyuan’s rating if it were to aggressively replenish its land bank which results in an increase of its financial leverage as measured by an EBITDA interest coverage ratio to decrease to below 2x or a debt to capitalization ratio to increase to above 70%, and/or its operating performance were to deteriorate such that either its contracted sales or cash flow from operating activities experiences a material decline. We would consider upgrading Aoyuan’s rating if it were to lower its financial leverage as measured by a debt to capitalization ratio to below 50% and an EBITDA interest coverage ratio to above 5x consistently. Company Profile Aoyuan is a Guangzhou-based Chinese property developer that mainly targets mass residential property development in selective tier 2 and tier 3 cities in South China with a focus on the Greater Bay Area. The company was listed on the Hong Kong Stock Exchange in 2007 (stock code: 3883.HK). Exhibit 1: Aoyuan’s Revenue Breakdown by Business Segment (RMB: in million) Revenue/ % of total FY2016 FY2017 FY2018 1H2019 Property Development 11,240 95.0 17,960 94.0 29,740 95.9 22,421 94.7 Property Investment 73 0.6 119 0.6 186 0.6 88 0.4 Others 514 4.3 1,036 5.4 1,080 3.5 1,160 4.9 Total* 11,827 100.0 19,115 100.0 31,006 100.0 23,670 100.0 Source: Aoyuan 2016-1H2019 annual and interim reports, Lianhe Global Note: *Sum of percentages could present rounding effects Income from property development is Aoyuan’s major revenue source, contributing about 95% consolidated revenue to Aoyuan in recent years and enjoying rather rapid growth to RMB29,740 million in 2018 – an annual growth of 65.6%. The company’s development projects were widely www.lhratingsglobal.com 2 November 2019 General Corporate located in 72 domestic cities and 3 overseas cities. Incomes from other segments which complement the group’s product offering visibly increased but their contribution as percentage remained somewhat marginal at about 5%. (EXHIBIT 1). The company recognized a strong revenue enhancement of 73.2% year-on-year for the first half of 2019, up to RMB23,670 million from RMB13,667 million, mainly driven by good delivery of residential apartments. Business Profile Market Position After 4 years of expansion, Aoyuan’s ranking in terms of contracted sales amount increased rapidly to 28th at end-September 2019 from 68th at end-2015, according to CRIC Information Center’s market research. Its contracted sales amount experienced a year-on-year growth rate of around 70% from 2016 to 2018. Aoyuan’s ranking in contracted sales amount lagged behind its ranking in contracted sales GFA due to its high turnover strategy and sales of properties in satellite cities with relatively low average selling price, but the difference between them narrowed in recent two years (EXHIBIT 2). The company’s land bank GFA increased to 40.1 million square meters at end-June 2019 up from 14.6 million square meters at end-2016. The above-average replenishment of the land bank underpinned its expanded operating scale in China’s property market. Exhibit 2: Aoyuan’s Rankings by Contracted Sales Among Chinese Property Developers Amount / Ranking FY2015 FY2016 FY2017 FY2018 Contracted sales amount 15.2 68th 25.6 65th 45.6 40th 91.3 38th Contracted sales by GFA 1.9 44th 3.0 35th 4.5 33th 8.9 24th Source: Aoyuan 2016-2018 annual reports, CRIC, Lianhe Global Note: The contracted sales amount and GFA are from company audited report while their rankings are based on CRIC statistics. Differences may exist between these two sources due to differences in calculation approach. The sales amount is in RMB billion and GFA amount is in million square meters. Sizable and Diversified Land Bank Underpins Strong Contracted Sales The Guangzhou-based company built up its land bank mainly through M&A at a CAGR (compound annual growth rate) of 49.6% from 2016 to 1H2019, acquiring lands to support its fast business expansion and rapid franchise building. Albeit scattered across 75 cities, including Toronto, Vancouver, and Sydney, the company’s reserves of lands materially tilt towards the provincial or satellite areas of mainland China – 59% of its end-2018 land bank was in cities usually categorized as tier 3 cities – to target first-time homebuyers and first-time upgraders in such areas while containing the average unit land cost for profit margin.
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