OREANDA-NEWS. Fitch Ratings has assigned Hydoo International Holding Limited's (Hydoo) USD100m 13.75% senior unsecured notes a final 'B' rating.

The notes are rated at the same level as Hydoo's senior unsecured rating as they represent direct, unconditional, unsecured and unsubordinated obligations of the Chinese company. The assignment of the final rating follows the receipt of documents conforming to information already received. The final rating is in line with the expected rating assigned on 2 December 2015.

Hydoo's ratings are supported by its long track record in trade centre development and its end-user focused-sales model, an experienced management team, and sufficient liquidity. Hydoo has a healthy financial profile compared with other Fitch-rated non-residential property developers in China. The ratings are constrained by its small business scale, exposure to more-volatile commercial property demand, and geographical concentration in lower-tier cities.

KEY RATING DRIVERS

Contracted Sales Improve Slowly: Hydoo's contracted sales and scale are comparable with 'B+' and 'B'rated peers. However, its contracted sales dropped to CNY2.9bn in 2014 from CNY7bn in 2013. Fitch expects this to rebound, given the projects in the pipeline with a high percentage of contracted sales for which deposits have been placed but documents have not yet been signed (1H15 at 30% of total contracted sales), and actual contracted sales of CNY1.9bn as of 1H15. This made up of 61% of the company's 2015 contracted sales target of CNY6.3bn. However, Fitch expects 2H15 contracted sales to be slower, with full-year contracted sales to reach CNY5.5bn, as all new launches of the year are back-loaded in November and December.

Focus on Lower-Tier Cities: Hydoo's operations are mainly in Tier 3 and Tier 4 cities to tap the urbanisation trend in China, but they are diversified geographically across 10-12 cities. Fitch believes these cities are expanding at a faster pace than more developed cities, but housing demand may reach saturation faster because they are less populated and have a smaller GDP. Demand for subsequent phases of Hydoo's large-scale integrated trade centre projects (those that are 400,000 square metres, or sq m, or larger) would hinge on continued urbanisation, which may slow due to heightened market uncertainties.

Collaboration with Government Enhances Profitability. Hydoo's benefits from collaborations with local governments, including low land costs (end-2014: CNY390/sq m), government grants and favourable policies that minimise project execution risks. Land costs have been kept at around 20% or less of average selling prices (ASPs) in the past few years, while the EBITDA margin ranged between 24% and 52% in 2012-2014. Fitch expects Hydoo's EBITDA margin to be above 30% in the medium term, providing a buffer to absorb a potential decline in ASP.

Fragmented and Competitive Market: Hydoo's ASPs may come under pressure because the industry is fragmented with many small players, and its trade centres face competition from nearby wholesale/trade centre projects as well as other government-supported projects in nearby cities. Hydoo's brand name and low land costs give it a stronger competitive position and mitigate this risk. Hydoo also benefits from a clause in the Master Investment Agreements for 11 of its 13 exisitng projects in which the government agrees not to allow any new trade centres of similar scale within the same city.

Experienced Management Team: The Wang family developed 19 trade centre projects in seven provinces between 1995 and 2010. The company, which targets end-user demand for the initial launches of its projects, has demonstrated its ability to execute sales for projects launched under Hydoo.

Sufficient Liquidity: Hydoo had an unrestricted cash balance of CNY1.4bn at end-1H15, which was sufficient to meet short-term debt of CNY801m. Hydoo also had unutilised uncommitted bank facilities of CNY26.55bn. Development expenditure would be funded by a combination of presale proceeds as well as onshore construction loans. Fitch expects the company to be able to fund its land acquisitions and operating costs from a combination of onshore construction loans, borrowings and proceeds from contracted sales.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:
- Contracted ASP growth of around 5% in 2015-2016
- Contracted sales by gross floor area to increase by around 80% in 2015 and 15% in 2016
- Contracted sales to reach at least CNY5.5bn in 2015
- EBITDA margin of 18%-20% over 2015-2017
- Total debt of around CNY3.9bn, including convertible bonds

RATING SENSITIVITIES

Positive: No positive rating action is expected unless Hydoo is able to substantially increase its scale by expanding its geographical coverage beyond lower-tier cities and sustain sales in subsequent phases of its existing projects, while at the same time not compromising its financial metrics.

Negative: Developments that may, individually or collectively, lead to negative rating action include:
- EBITDA margin sustained below 25%
- Net debt/ adjusted inventory sustained above 30%
- Contracted sales / total debt sustained below 1.5x
- Annual contracted sales sustained below CNY6.5bn in next two years.