OREANDA-NEWS. Fitch Ratings has affirmed eHi Car Services Limited's (eHi) Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'BB-' with a Stable Outlook. Fitch has also affirmed eHi's foreign-currency senior unsecured rating and the rating on the USD200m 7.5% senior notes due 2018 at 'BB-'.

KEY RATING DRIVERS

National Expansion, Market Leader: eHi continues to be China's second-biggest car rental company with majority market shares in Shanghai and eastern China. Its total fleet size rose 93% to 38,070 and total revenue increased 70% to CNY1.5bn in 2015. eHi also started operations in 52 new cities in 2015. Fitch expects eHi to continue to expand and its fleet size to increase to more than 55,000 in 2016 even though fleet additions will slow due to operating efficiency considerations.

Improving Operating Leverage: Both eHi's gross profit margin and EBITDA margin (excluding gains and losses on car disposals) widened around 60bp to 21.6% and 39.2% respectively in 2015. The EBITDA margin in 1Q16 improved further to 44%. This was aided by an increase in rental vehicles per outlet to 96 at end-2015 from 57 at end-2014, which reduced payroll expenses per vehicle. Fitch expects eHi's EBITDA margin (excluding gains and losses on car disposals) and EBIT margin to be above 40% and approach 10%, respectively in the next few years, the minimum levels required to maintain its current rating.

Closing Gap with Competitor: eHi has been gradually closing the gap with its biggest rival, the larger CAR Inc. (CAR; BB/Negative). eHi's rental revenue was almost 37% of CAR's in 1Q16, compared with only 29% in 2012. Fitch forecasts eHi's revenue to increase 40%-50% in 2016, compared with CAR's 20%-30%. eHi successfully grabbed more market share in 2015 by increasing vehicle supplies and keeping price competitive.

Avoiding the Zhuanche Business: eHi started leasing vehicles to online travel service provider Ctrip and ride-sharing company Didi, which provide zhuanche (or premium chauffeured car) services, in 2014 and 2015, respectively. This helped eHi to absorb additional fleet capacity. The two platforms rent vehicles from eHi as corporate clients and together accounted for less than 5% of eHi's total revenue in 2015.

The Chinese zhuanche industry expanded rapidly in 2015, but now faces intense competition with more capital brought into ride-hailing services such as Didi, Uber and Yidao. None of the market participants have turned a profit so far. Fitch thinks eHi has limited its downside business risks by avoiding direct participation in the zhuanche industry. However, any changes in the regulations may be costly as eHi will be significantly behind competitors in the fast-growing industry.

Healthy Leverage despite Capex Pressure: The disposal of its minority stake in Didi and several rounds of equity and debt financings have helped eHi to shore up liquidity in 2015. eHi also managed to obtain better terms with vehicle suppliers and enjoyed a CNY800m increase in accounts payable in 2015. Fitch expects eHi to spend CNY2bn-3bn capex each year in 2016-2018 to replenish and increase operating vehicles. eHi's FFO net leverage was low at 1x in 2015 and is likely to increase to around 2x in 2016 without additional equity injection.

Regulation Risks: Regulation risks continue to linger in the car rental and car service market in China. The government has not yet drawn up a blueprint for the industry's regulatory framework. Any unexpected change in regulations, for example in industry definitions, license purchase restrictions, point deduction systems, peer-to-peer car rental and the zhuanche businesses, may adversely impact eHi's operations in the future. Fitch will monitor any regulation changes and potential impacts on the industry.

KEY ASSUMPTIONS

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

- Total fleet size increases to 55,000 in 2016 and 67,000 in 2018

- Net revenue will rise about 45% in 2016. Growth will gradually slow down afterwards

- Fleet depreciation schedule: 15% of gross fleet value

- Fleet vehicles are disposed after two to three years of use

- EBITDA margin continues to benefit from scale expansion and improve to above 40% in 2016-2018

RATING SENSITIVITIES

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

- FFO adjusted net leverage sustained above 3x

- EBITDA margin (excluding gains/losses from car disposals) sustained below 40% (2015: 39%)

- EBIT margin sustained below 10% (2015: 5%)

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

- No positive rating pressure in the next 12-18 months until it establishes a longer track record of used-car disposal and sustains a fleet renewal cycle

- A more mature regulatory environment in the car rental business