OREANDA-NEWS. Fitch Ratings has affirmed China-based Shenzhen International Holdings Limited's (SIH) Long-Term Issuer Default Rating (IDR) at 'BBB' with Stable Outlook. SIH is a medium-sized infrastructure company with exposures to toll-road operations and logistics businesses. The company is also a passive, minority investor in Shenzhen Airlines.

SIH's IDR of 'BBB' reflects the combined credit profile from the toll-road operations and the logistics business at 'BBB-', with a single-notch uplift for implied support from its 43.7% shareholder, the Shenzhen municipal government.

The robust toll-road operation, mostly at its 50.9%-owned Shenzhen Expressway Company Limited (SZE; BBB/Stable), enjoyed healthy growth in the recent years and continues to be the major cash flow contributor to the group. SIH aims, in the medium term, to increase its business exposure in the logistics business, which carries execution risk and has a higher risk profile compared with the toll-road business, in our view.

The company has invested in several projects to redevelop logistics parks into commercial and residential uses, including the Meilin Checkpoint Urban Renewable Project and Qianhai Project, and this is likely to be credit neutral as long as SIH does not actively or repeatedly engage in large property investments in the future.

KEY RATING DRIVERS

Robust Toll-Road Operations: The toll-road operations accounted for around 69% of SIH's 2015 operating profit and remain SIH's key earnings contributor with the majority of earnings coming from SZE. In 2015, lower revenue from entrusted construction management services led to a 7% decline in the segment's revenue, even though revenue from most toll road projects increased. Fitch believes cash generation from the expressway operations will continue to be strong, driven by economic and vehicle-ownership growth in Shenzhen and the surrounding areas. In addition, the regulatory environment for expressway operators has become stable, and material negative regulatory changes are unlikely in near term.

High Capex for Logistics Business: SIH plans to develop 18 to 22 new integrated logistics hubs across China by 2020, with the first of these in Shenyang to become operational in 2016. We estimate total capex for the next four years in the logistic business to be around HKD9bn. Building up the logistic business carries execution risk, and the segment also has a higher risk profile compared with the toll-road business.

Currently, SIH's logistic business has limited scale; it operates six logistics centres and one port, which accounted for only 8% of the company's operating profit in 2015.

Unsustainable Improvement in Financial Profile: Fitch expects SIH's financial profile will weaken over time due to its planned capex programme. However, the financial profile will still remain robust, with FFO-adjusted net leverage staying below 2.5x (2015: -0.6x) and FFO interest-charge coverage keeping above 4.0x (2015: 5.4x) during 2016-2019.

On a consolidated basis, SIH reported a net cash position of HKD2.3bn at end-2015 (end-2014: net debt of HKD8.6bn). The significant change in financial position was due to a large non-recurring compensation provided by the Shenzhen government for toll adjustments at four expressways - Nanguang Expressway, Yanba Expressway, Yanpai Expressway and Longda Expressway.

Limited Downside from Property: SIH has invested in several property redevelopment projects including the Meilin Checkpoint Urban Renewable Project and Qianhai Project. However, Fitch views these two projects as by-products of its toll-road operations, and because SIH can acquire the land at a significant discount to the market price, the downside risk is rather limited.

Support from Shenzhen Government: SIH has received tangible support from the Shenzhen State-owned Assets Supervision and Administration Commission in the past, including a capital injection with the conversion of HKD1.7bn of convertible notes into SIH equity in 2010 and the extension of the maturity of a CNY863m shareholder loan in 2008. Fitch has limited the rating uplift to one notch because SIH is operated largely as a commercial entity, which is reflected in its robust 'BBB-' standalone rating, and is less reliant on state support than a typical government policy vehicle.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for SIH include:

- Traffic volume to grow by 10% in 2016 and 5% a year in 2017-2019

- Average toll per vehicle to drop 5% in 2016 due to changes in the traffic mix and 0% growth a year in 2017-2019

- 51% equity in United Land (Meilin Checkpoint Urban Renewal Project) to be disposed after 2016

- The government will buy back four expressways - Yanba Expressway, Yanpai Expressway, Nanguang Expressway and Longda Expressway - at end-2018;

- Total capex of over HKD20bn in 2016-2019, mainly for the logistics business, and for the Outer Ring Road Project and Meilin Checkpoint Urban Renewal Project.

RATING SENSITIVITIES

Positive: Future developments that may, individually or collectively, lead to positive rating action include:

- Successful execution of SIH's expansion strategy for the logistics business provided SIH's consolidated financial profile remains in line with Fitch's expectations

- An upgrade of SZE's ratings, including an improvement of SZE's credit profile, which will be evident in its FFO interest coverage rising above 6.0x (2015: 4.0x) and its funds from operations (FFO)-adjusted net leverage falling below 2.0x (2015: 0.3x) on a sustained basis,

- Positive free cash flows at the SIH level, provided there is no material increase in business risk from its non-toll-road operations

- Strengthening of linkages between SIH and the Shenzhen municipal government.

Negative: Future developments that may, individually or collectively, lead to negative rating action include:

- Material weakening in the operating or financial risk profile of SIH, such as large debt-funded investments in businesses of a higher risk profile than its established expressway operations, which may be reflected in SIH's consolidated FFO-adjusted net leverage rising above 5x (2015: -0.6x)

- A downgrade of SZE's ratings, including a deterioration SZE's credit profile, which will be evident in SZE's FFO interest coverage falling below 3.0x (2015: 4.0x) and FFO-adjusted net leverage rising above 4.5x (2015: 0.3x) on a sustained basis

- Material adverse development at SZE that would impact SIH's ability to access operating cash flows - such as tighter debt covenants at the project level

- Weakening of linkages between SIH and the Shenzhen municipal government