OREANDA-NEWS. Fitch Ratings has upgraded China-based plastic pipes and fittings manufacturer China Lesso Group Holdings Limited's (Lesso) Long-Term Issuer Default Rating (IDR) and senior unsecured rating to 'BB+' from 'BB'. The Outlook is Stable.

The upgrade reflects Lesso's consistent track record in delivering strong cash flow generation, maintaining stable EBITDA margin and keeping leverage low amid weak macroeconomic conditions and volatility in raw material prices.

KEY RATING DRIVERS

Strong Performance Amid Volatility: Revenue increased by 7.0% yoy in 1H15 while overall gross margin expanded to 27.1% in 1H15 from 25.0% in 1H14 (25.6% in 2014) because Lesso used its position as China's largest plastic pipe manufacturer by total sales to keep average selling prices firm while raw material prices fell steeply. Lesso's EBITDA margin also expanded to 18.0% in 1H15 from 16.0% in 1H14 (16.2% in 2014). Lesso's leverage, measured by funds from operation (FFO)-adjusted net leverage, remained at 0.3x at end-2014 (0.4x at end-2013), which is low compared with credits in the 'BB' rating category.

Positive Free Cash Flow: Lesso recorded positive free cash flow for the second consecutive year in 2014 despite higher-than-expected capex, driven mostly by EBITDA growth and better working capital management as inventory days improved

Infrastructure Building to Support Demand: Demand from government infrastructure construction will be the main revenue driver for Lesso as demand from the property market weakens. We expect infrastructure-related sectors to continue to account for a greater share of Lesso's revenue than the homebuilding sector. Lesso is expected to benefit from greater investment in water conservancy projects and an increase of major civil infrastructure projects that are part of the government's urbanisation drive.

Geographic Concentration a Constraint: Approximately 60% of Lesso's revenue in 1H15 (58% in 2014) came from southern China, one of the most developed markets in the country. However, this geographic concentration presents a business risk and is a constraint on Lesso's IDR.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:
- High single-digit revenue growth in between 2015 and 2018 driven by increased demand from government infrastructure projects.
- Capex to remain at around CNY1bn between 2015 and 2018
- EBITDA margin to remain at around 17%-18% between 2015 and 2018.

RATING SENSITIVITIES

Negative: Future developments that may, individually or collectively, lead to negative rating action include:
-EBITDA margin sustained below 15%
-FFO net leverage sustained above 1.0x
-Sustained negative free cash flow

Positive: Future developments that may, individually or collectively, lead to positive rating action include:
-Significant increase in market share in the domestic plastic pipes and fittings sector and establishment of a strong presence outside southern China