OREANDA-NEWS. Fitch Ratings has upgraded China-based Future Land Development Holdings Limited's (Future Land, or the holding company) Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDR) to 'BB-' from 'B+'. The Outlook is Stable. The agency has also upgraded the company's senior unsecured rating to 'BB-' from 'B+'. A full list of rating actions is at the end of this rating action commentary.

The upgrade is due mainly to effective mitigation of structural subordination through substantially large shareholder loans that rank pari passu with its subsidiary's senior unsecured creditors and a joint-venture mechanism to maintain senior unsecured claims on its subsidiary. The rating remains constrained by profitability and loose discipline in land acquisition, which may pressure leverage.

KEY RATING DRIVERS
Structural Subordination Mitigated: Structural subordination that was a constraint for Hong Kong-listed Future Land, has been adequately addressed through Future Land's claim on a shareholder loan to its subsidiary Future Land Holdings Co. Ltd (Future Holdings). Shareholders of Shanghai-listed Future Holdings on 30 December 2015 have approved the conversion of related-party payables to Future Land to a shareholders' loan that is ranked pari passu with its onshore senior unsecured debt. The shareholder loan of CNY3.7bn and its CNY6.5bn unrestricted cash balance (including CNY1.3bn held offshore) provide sufficient liquidity to cover Future Land's CNY6.7bn in outstanding offshore bonds as of the end of 2015.

Furthermore, Future Land plans to hold assets of value to Future Holdings by co-investing in future projects, using a 49%-owned joint-venture structure with Future Holdings owning the remaining 51%. This will allow Future Holdings to provide liquidity to Future Land by purchasing the latter's equity interests in the projects should there be a need, subject to approval by shareholders in both companies. The ratio of (Future Holdings' shareholder loan + JV interest) to the net debt at the holding company was 0.7x at end-2015, and Fitch expects the coverage to remain above 0.7x in 2016.

Wider Margins to be Maintained: Future Land's gross margin recovered to 20.4% in 2015 (2014: 18.7%) after falling to 16.8% in 1H15 due to the larger proportion of sales from mixed-development projects and higher average selling prices in its core cities in the Yangtze River Delta region in 2H15. EBITDA margin returned to 16.5% in 2015, around the 2014 level of 16.3%, after a drop to 9.0% in 1H15. Fitch estimates the gross profit margin for mixed-development projects in general to be around mid-20%, which is higher than the 15%-18% margin for the company's mass residential projects. However, further improvement in Future Land's EBITDA margin is likely to be limited until the mixed-development projects make up a significant share in the product mix.

Faster Expansion May Pressure Leverage. Future Land's net debt / adjusted inventory rose to 33.4% at end-2015 from 26.2% a year earlier as land acquisitions picked up in 2H15. The total cash premium for land purchases in 2015 reached CNY16.5bn (2014: CNY9.7bn), 50% above the company's original guidance. Average land cost also increased 15% to CNY3,129 per square metre (sq m) in 2015, as most acquisitions were made in 2H15, when land prices in the areas it targeted were increasing. The company's leverage will further increase to 40%-45% in 2016-2017 if it keeps up the land acquisitions at the current pace.

Strong Position in Yangtze River Delta: Future Land is one of the largest homebuilders in the Yangtze River Delta, with most of its CNY29.3bn in consolidated contracted sales in 2015 (2014: CNY23.1bn) from this region. Future Land has 13.1 million sq m of attributable land bank as of 2015. Its business profile is supported by its fast asset-turnover strategy, as demonstrated by the contracted sales/total debt ratio of 1.5x at end-December 2015, which is better than that of its peers in China. Sales outside the YRD area and not from residential projects are limited, as it is still in the early stages of geographical and product diversification.

KEY ASSUMPTIONS
Fitch's key assumptions within our rating case for the issuer include:
- Contracted sales to increase by 15%-20% in 2016.
- Gross margin to stabilise at 20%-25% in 2016 and 2017.
- Company to maintain controlling shareholding in Future Holdings.
- Ratio of (Future Holdings' shareholder loan + JV interest) to consolidated holding company net debt to be higher than 0.7x.

RATING SENSITIVITIES
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- (Future Holdings' shareholder loan + JV interest) / holding company net debt is less than 0.7x in 2016
- A significant decrease in the company's consolidated contracted sales in 2016
- A significant decrease in the company's shareholding in Future Holdings
- A significant decrease in the contracted sales/ total debt ratio to below 1.0x on a sustained basis
- Consolidated net debt/ adjusted inventory rising above 45% on a sustained basis
- EBITDA margin sustained below 15%

No positive rating action is likely in the next 12-18 months unless the company's EBITDA margin is sustained above 20%, and consolidated net debt/ adjusted inventory remains below 35% on a sustained basis

LIQUIDITY
Sufficient Liquidity: Fitch expects Future Land to maintain sufficient liquidity with available cash of CNY7.6bn and unutilised credit facilities (uncommitted) of CNY35.9bn end-December 2015, which will be able to cover repayment of its short-term borrowings of CNY5.5bn and outstanding land premium of CNY5bn.

FULL LIST OF RATING ACTIONS

Future Land Development Holdings Limited
Long-Term Foreign-Currency Issuer Default Rating upgraded to 'BB-' from 'B+'; Outlook Stable
Long-Term Local-Currency Issuer Default Rating upgraded to 'BB-' from 'B+'; Outlook Stable
Foreign-currency senior unsecured rating upgraded to 'BB-' from 'B+'
Rating on CNY1.5bn 9.75% senior unsecured bond due 2016 upgraded to 'BB-' from 'B+'.