OREANDA-NEWS. Fitch Ratings has revised Indonesia-based homebuilder PT Modernland Realty Tbk's (Modernland) Outlook to Negative from Stable. At the same time the agency has affirmed the company's Long-Term Issuer Default Rating at 'B'. A full list of the rating actions is provided at the end of this commentary.

The Negative Outlook reflects the risk that Modernland could breach a number of its local-currency debt covenants in 2017, as EBITDA may remain weak unless presales improve in the next six to 12 months. Modernland may not be able to achieve its presales target for 2016 due to the slow domestic macroeconomic environment and its dependence on cyclical industrial land sales, which may put a strain on its cash collection. The IDR was affirmed at 'B' as the company may take measures to improve the recognition of EBITDA or alternatively obtain waivers on covenant breaches.

KEY RATING DRIVERS

Weak Presales; Covenant Breach: Modernland's 1Q16 presales fell 86% yoy to IDR197bn, which accounted for less than 10% of its 2016 target. The decline was driven by slow economic growth and the government's crackdown on tax evasion, which has left buyers cautious. Fitch forecasts this may lead to Modernland breaching a number of its local-currency debt covenants in 2017, as EBITDA declines following the weakness in presales.

The implementation of a tax amnesty in Indonesia on 1 July may boost demand for property, although Modernland's overall credit profile is not likely to benefit in the short term given the potential surge in new property launches in the market once the amnesty takes effect and Modernland's major exposure towards the industrial segment.

Volatile Industrial Cashflows: Modernland's exposure to industrial land sales results in more volatile cash flows than peers that depend on residential sales. Nevertheless, this remains an important contributor to Modernland's cash flows, and the volatility is mitigated by the low development risks of the industrial segment.

Modernland has a good 20-year track record in developing industrial estates, and has built strong relationships with tenants. Its flagship Cikande industrial estate has a very low average land cost compared with the current average selling price (ASP) of around IDR1.5m per square metre (sqm), and Modernland has sufficient land to continue developing there for around five years, assuming no further land acquisitions. Fitch believes Modernland can build on its success in Cikande and use a similar business model for future developments in Bekasi.

Limited Residential Track Record: Fitch expects Modernland's residential and commercial segment to account for more than 60% of presales by 2018, driven by the Jakarta Garden City (JGC) project and the new launches in Bekasi. The growing proportion of residential sales will counterbalance volatility in industrial land sales, but Modernland's track record in developing an integrated, large-scale residential project is still limited relative to the other rated developers.

ASRI Land Sales Delayed: Fitch expects cash collection from land sales to PT Alam Sutera Realty Tbk (ASRI, B+/Negative) to lag behind management's expectation. Fitch's rating case assumes majority of the proceeds that was expected to be received this year to be delayed to 2017, mainly due to ASRI's weak presales. Nevertheless, Modernland believes ASRI remains committed to completing the acquisition, given the strategic location of the land and the low acquisition price compared with the current market price in the area.

Manageable Forex Risk: Modernland has entered into a few call-spread options to fully hedge the principal of its USD191m bond due 2019, covering rupiah depreciation of up to IDR15,500 per US dollar. The company has also entered into a similar hedging arrangement for its USD57m outstanding bond due 2016, covering rupiah depreciation of up to IDR14,000 per US dollar. In addition, Fitch believes that Modernland's thick margins are sufficient to absorb short-term currency volatility.

KEY ASSUMPTIONS

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

- Presales (excluding one-off sales) of IDR1.5trn and IDR3.6trn in 2016 and 2017, respectively

- Average ASP growth of 5%-10% year on year

- Land acquisition capex of IDR825bn and IDR743bn in 2016 and 2017, respectively

- Majority of ASRI's land sale proceeds to be delayed to 2017

RATING SENSITIVITIES

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

- If the company fails to achieve its 2016 presales target and there is heightened risk it may breach covenants on its local-currency debt, or the company fails to negotiate waivers on covenant breaches

- Presales/ gross debt sustained at less than 40% (2016F: 77%)

Positive: Future developments that may, individually or collectively, lead the Outlook to be revised back to Stable include:

- The company achieves its 2016 presales target and the risk of it breaching its local-currency debt covenants is reduced, or the company successfully manages to negotiate waivers on covenant breaches

LIQUIDITY

Adequate Liquidity: Modernland had IDR519bn of cash and IDR999bn of current maturities at end-2015. Of the IDR999bn, management extended the maturity on IDR150bn of working capital facilities to 2017. Furthermore, Fitch's rating case expects Modernland to be able to repay its upcoming USD57m bond maturity (part of the current maturities) in October 2016 using a combination of cash collected from previous years' presales and the proceeds from a planned rupiah bond issuance. Part of Modernland's cash balance is held in US dollars, which mitigates some currency risk on the repayment. Liquidity is also supported by Modernland's access to local and international capital markets.

FULL LIST OF RATING ACTIONS

PT Modernland Realty Tbk

Long-Term IDR affirmed at 'B'; Outlook revised to Negative from Stable

Senior unsecured rating affirmed at 'B'

Modernland Overseas Pte Ltd

USD57m outstanding 11% senior unsecured notes due 2016 affirmed at 'B' and Recovery Rating of 'RR4' (original principal amount was USD150m prior to the exchange in 2014)

Marquee Land Pte Ltd

USD191m outstanding 9.75% senior unsecured notes due 2019 affirmed at 'B' and Recovery Rating of 'RR4'