OREANDA-NEWS. Fitch Ratings has affirmed Lifestyle International Holdings Limited's (Lifestyle) Long-Term Foreign-Currency Issuer Default Rating at 'BBB-' with a Stable Outlook. The agency has also affirmed Lifestyle's foreign currency senior unsecured rating and the rating on its USD500m 5.25% senior notes due 2017 and USD300m 4.25% notes due 2022 at 'BBB-'. The USD300m 4.5% senior notes due 2025 issued by LS Finance (2025) Limited and guaranteed by Lifestyle have also been affirmed at 'BBB-'.

Lifestyle's ratings are supported by its prime assets in Hong Kong, strong cash-flow generation and healthy liquidity. Fitch expects the proposed spinoff of the China business may temporarily raise leverage, but this will be offset by improved FCF generation through reduced capex requirements.

KEY RATING DRIVERS

Hong Kong Business Slowing: Hong Kong's retail market has weakened significantly over the past year and continues to deteriorate. Hong Kong accounts for more than 80% of Lifestyle's EBITDA and the slowdown will affect Lifestyle's revenues and margins in the next two years. However, Fitch expects Lifestyle's business to remain resilient relative to other Hong Kong retailers, driven by the prime location of its stores, strong property ownership and low rental expenses, and high exposure to the local mid-end market.

China Spinoff Reduces Capex: Lifestyle recently proposed spinning off its China business by distributing shares to existing shareholders. Following the spinoff, Lifestyle's business will be the Hong Kong assets, namely SOGO Causeway Bay and SOGO TST. Fitch expects Lifestyle's FCF generation to improve substantially after the spinoff as the Hong Kong business is very profitable (46% EBITDA margin in 2015) and little capex is required.

Leverage Temporarily Higher: Fitch expect Lifestyle's leverage to be higher in 2016-2017 following the spinoff, as some of the net cash will be lost with the China business. Fitch expects FFO-adjusted net leverage to rise to 2.8x at the end of 2016, but leverage should decline in 2017-2018 as FCF generation improves. Fitch believes that the Lifestyle's leverage and coverage ratios remain comfortable and in line with its rating category.

Healthy Liquidity: Lifestyle's rating is supported by its healthy liquidity. At the end of 2015, the company had HKD8.7bn of cash and HKD5.1bn in financial investments, which is more than sufficient to cover its current borrowings of HKD3.2bn. Fitch expects Lifestyle to be able to successfully refinance or repay its syndicated loan, which is secured by East Point Centre (SOGO Causeway Bay), and will mature in September 2016.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:
- Mid-to-high single-digit decline in revenue for Hong Kong business in 2016;
- Proposed spinoff of China business to be completed in mid-2016; and Lifestyle to have 60% dividend payout ratio thereafter
- 40%-42% EBITDA margin in 2016-18

RATING SENSITIVITIES

Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- Significant changes to its business model, such as moving away from the concession model
- FFO fixed-charge coverage sustained below 3.0x (2015: 3.3x)
- Sustained negative FCF (post-dividend payment)

Positive: Although no positive rating action is envisaged over the next 12-18 months, future developments that may, individually or collectively, lead to positive rating action include:
- Material diversification away from SOGO Causeway Bay without any loss in profitability
- FFO fixed-charge coverage above 5.5x and FFO net leverage below 1.0x (2015: 2.3x), both on a sustained basis.