TEXT-S&P summary of Yuzhou Properties Co. Ltd. Credit rating

Summary analysis — Yuzhou Properties Co. Ltd. ——————– 22-Aug-2012

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CREDIT RATING: B+/Negative/– Country: Cayman Islands

Primary SIC: Real estate

agents and

managers

Mult. CUSIP6: 98871W

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Credit Rating History:

Local currency Foreign currency

09-Nov-2010 B+/– B+/–

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Rationale

The rating on China-based real estate developer Yuzhou Properties Co. Ltd. reflects the company’s limited operating flexibility due to its small operating scale and high geographic and project concentration. Yuzhou’s limited track record and expansion into new markets could also heighten the developer’s business and execution risks. The company’s leading market position in Xiamen, its low-cost land bank, and above-average profitability compared with that of similarly rated peers temper the above weaknesses. We view Yuzhou’s business risk profile as “weak” and its financial risk profile as “aggressive”, as defined under our criteria.

Yuzhou’s limited number of property projects for sale and high geographic concentration in Xiamen and Fujian province constrain its business risk profile. For the first six months of this year, Yuzhou had total contracted sales of Chinese renminbi (RMB) 3.8 billion, of which over 75% was derived from Xiamen, its home market. The company’s project and product diversity remain constrained as nearly half of its property sales came from two residential projects in Xiamen in the same period. In addition, more than 90% of the company’s projects are in cities with purchase restrictions. We believe this concentration risk will not improve materially over the next one to two years.

On the other hand, the company’s low-cost land bank and its good market position in Xiamen will likely continue to support its good profitability. Yuzhou’s average land costs were about 15% of the contracted average selling price in the past three years. In our view, the company’s operating track record, brand recognition, and the good location of its land bank in Xiamen will continue to support its above-average pricing there. Furthermore, the profit margins for Yuzhou’s recent project launches in new markets such as Hefei and Fuzhou are also satisfactory due to low land costs. We expect the company’s EBITDA margin to remain above average, at over 35% in 2012, despite some moderation in property prices early this year.

We assess Yuzhou’s financial risk profile as aggressive to reflect the company’s aggressive growth appetite and debt-funded expansion, which resulted in its increased debt leverage and weakened credit ratios in the past two years. The company’s total debt rose about 16% year over year to RMB5.56 billion in 2011 because it increased borrowings to fund project developments and land acquisitions. As a result, Yuzhou’s EBITDA interest coverage ratio weakened to 3.2x in 2011 from 9.0x in the previous year. We believe the company’s leverage will not decline as borrowings will likely increase this year to satisfy construction expenditure requirements. In our view, Yuzhou slowed its market expansion and reduced land purchases in the first half of this year, which helped preserve cash flow and improve liquidity in a weak market.

We believe Yuzhou’s financial performance is likely to improve in 2012, given our recent assessment that improving buyer sentiment and easing credit conditions in China should stabilize property sales. In addition, the company’s change in product mix to cater more to end-user demand should lessen its heavy exposure to the high-end market, which in our view, is largely driven by investment demand and more affected by home purchase restrictions. For the first half of this year, Yuzhou met 76% of its full-year sales target of RMB5 billion with satisfactory profit margins. Given its revenue lock-in rate thus far, we expect the company’s performance to stay in line with our expectation, with an adjusted debt-to-EBITDA ratio of 4x and EBITDA interest coverage of 3x in 2012.

Liquidity

Yuzhou’s liquidity is “adequate”, as defined in our criteria. We estimate that the company’s liquidity sources will exceed uses by 1.2x or more in 2012. Our liquidity assessment incorporates the following expectations and assumptions:

— Liquidity sources for 2012 include unrestricted cash balance of RMB1.4 billion (as of Dec. 31, 2011), new loan drawdowns of RMB1.5 billion in the first half of 2012, and expected cash proceeds from property sales of RMB5.0 billion for the year.

— Liquidity uses for the same period include short-term debts of RMB1.3 billion, land premiums payable of RMB1.1 billion, and estimated construction costs, working capital needs, and dividend distribution of RMB4 billion.

— We expect net sources of liquidity to remain positive even if EBITDA declines by 15%.

We understand that Yuzhou had undrawn onshore banking facilities of RMB3.0 billion as of the end of 2011. Nevertheless, these facilities are not included in our liquidity assessment as they may not provide timely liquidity support because loan drawdowns depend on credit availability and case-by-case approvals.

In our view, Yuzhou has limited headroom to increase its offshore debt against the EBITDA interest coverage covenant of 3.0x on its US$200 million senior unsecured notes due 2015. As of Dec. 31, 2011, the company was in compliance with the financial covenants on its outstanding bonds and notes.

Outlook

The negative outlook reflects our view that Yuzhou’s financial strength will not likely to improve significantly in the next six to 12 months. We expect the company to maintain high leverage because it mainly uses debt to fund project constructions and land acquisitions. The company’s property sales remain uncertain due to its small operating scale and projects located in cities with home purchase restrictions.

We may revise our outlook to stable if Yuzhou improves its property sales in a difficult market and cautiously manages its financial risk profile. This would be indicated if the company’s contracted sales increase to at least RMB5 billion and it maintains an EBITDA margin of at least 35% for 2012.

We may lower the rating on Yuzhou if: (1) property sales are less than RMB4 billion and its profit margins are lower than we expected for 2012; or (2) debt-funded expansion and acquisitions are more aggressive than we expected, resulting in lower credit ratios, such as a ratio of total debt to total capital of more than 60% and EBITDA interest coverage of less than 2x.