OREANDA-NEWS. Fitch Ratings has assigned Binhai Investment Company Limited (BHI) Long-Term Foreign Currency and Local Currency Issuer Default Ratings (IDR) of 'BBB-'. The Outlook is Stable. Fitch has simultaneously assigned a senior unsecured rating of 'BBB-' to BHI.

Fitch has also assigned BHI's proposed senior unsecured bond an expected rating of 'BBB-(EXP)'. The bonds are rated at the same level as BHI's senior unsecured rating as they represent unconditional, unsecured and unsubordinated obligations of the Tianjin-based city-gas distribution company. The final rating on the proposed bonds is contingent upon the receipt of final documents conforming to the information already received.

BHI's IDR incorporates a two-notch uplift for potential support from its immediate parent, TEDA Investment Holding Company Ltd (TEDA), which owns 59.29% of BHI on a fully diluted basis, and its ultimate parent, the Tianjin municipality. TEDA is wholly owned by the Tianjin municipality. BHI's standalone 'BB' rating reflects its city gas operations, its expected credit metrics, which are appropriate for this rating level, and its operating environment, including the risks stemming from the geographic concentration of its operations.

KEY RATING DRIVERS

Strong Support from Parent: Fitch has provided BHI a two-notch uplift for potential support from TEDA and the Tianjin government, which provided substantial support between 2004 and 2009 to BHI's predecessor, Wah Sang Gas Hld Ltd (WSG), when it was in distress. The support was provided even though the Tianjin government had only limited ownership of WSG. The rating uplift also incorporates our view that BHI would be supported in the future, should such support be required, given the strategic and operational linkages between BHI, TEDA and the Tianjin government.

Small, Geographically Concentrated Operations: The 'BB' standalone rating of BHI reflects scale and concentration of BHI's operations in the Tianjin area, which accounts for 70% of BHI's revenue. BHI generated about HKD375m of operating EBITDA in 2014, and sold approximately 453 million cubic metres of natural gas (excluding wholesale volumes), significantly less than other Chinese city gas operators rated in the 'BBB' category.

Competitive Landscape in Tianjin: Unlike most other Chinese cities, Tianjin does not award the city gas operations to a single city gas operator; consequently, any city gas provider can apply for to start operations. In practice, Tianjin's city gas market operates under a duopoly between Tianjin Gas and BHI.

The duopoly is unlikely to change into a highly competitive market as the two major operators are controlled by the Tianjin government. In addition, around 40% of BHI's gas volume is sold to TEDA group companies. The continuation of such a benign competitive environment in Tianjin is critical to the 'BB' standalone rating of BHI.

Ability to Pass-through Costs: The ability to pass through gas cost increases stems from the country's target to increase the share of natural gas in its energy mix. Fitch does not expect a material contraction in the profitability of the gas supply business in the medium term as the agency believes the operators have a reasonably good ability to pass-through cost increases, although there may be some time lag.

Adequate Financial Credit Metrics: Fitch's forecast financial credit metrics have limited-but-adequate headroom for the standalone rating of 'BB'. Fitch expects funds flow from operations (FFO) fixed charge cover to be sustained at above 3.0x and FFO net adjusted leverage to remain below 4.0x, the levels at which negative rating action may be considered. FFO fixed charge cover fell to 2.6x in 2014 from 3.2x in 2013, while FFO net adjusted leverage rose to 4.2x in 2014 from 3.5x in 2013. We expect an improvement in these metrics in the next two years from gas sales volume growth from rising natural gas usage in Tianjin and based on our expectation of stable margins on gas volumes sold.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:
- Growth in natural gas consumption in Tianjin that is higher than the national average, driven by the strong economy in Tianjin and potential for increasing city gas penetration
- A stable dollar margin on gas sold, reflecting the positive impacts from a convergence of the price for existing volumes and that for incremental volumes
- Sustained high level of capex spending, in line with historical trends, reflecting the company's growth profile
- The company will continue to largely focus on Tianjin and will not aggressively expand its investments elsewhere in China
- No changes to the competitive environment within Tianjin, including any increased aggressiveness in competition between the existing operators

RATING SENSITIVITIES

Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- Adverse regulatory developments or material increase in competition that affect its market position or margins;
- Aggressive debt-funded investments;
- FFO fixed charged cover sustained below 3.0x;
- FFO adjusted net leverage sustained above 4.0x
- Weakening linkages with the parent

Positive: Fitch does not expect any positive rating action in the medium term given the company's scale, concentration of operations as well as the competitive dynamics within its main operating area, Tianjin. A positive rating action may be considered if the company manages to materially increase its scale and diversity in its business profile without negatively impacting its financial profile. Positive rating action may also be considered if BHI develops stronger linkages with the parent, provided the parent has the capacity to provide timely support.