Fitch Assigns Dongfeng Motor Group's Euro Notes 'A' Final Rating
The bonds are issued by Dongfeng Motor (Hong Kong) International Co., Ltd, and unconditionally and irrevocably guaranteed by DFG. The proceeds of the issue will be used to refinance existing debt. The notes are rated at the same level as DFG's senior unsecured debt rating as they represent direct, unconditional, unsecured and unsubordinated obligations of the company.
This final rating follows the receipt of documents conforming to information already received and is in line with the expected rating assigned on 5 October 2015.
KEY RATING DRIVERS
Strong Government Support: DFG's rating incorporates a three-notch uplift from its standalone credit profile of 'BBB', to reflect DFG's strong operational and strategic ties with the central government through its 66.86% parent Dongfeng Motor Corporation (DFM), which is a wholly owned subsidiary of the State-owned Assets Supervision and Administration Commission (SASAC).
SASAC and the central government have demonstrated they are committed to support DFM to become the flagship automobile company in China and are ready to provide strong policy and financial support should it run into difficulties. Moreover, DFM has direct access to ministries, which makes it much easier when it comes to major investment and acquisitions. DFM is responsible for carrying out strategic missions for the central government in automotive industry development.
Competitive Market Position: DFM is well-positioned against its peers in the Chinese automotive market due to its well-established brand portfolio, competitive products offering, extensive distribution network and good relationships with the government, DFM is highly ranked in several key segments, including commercial vehicles, SUV, MPV and Class-A sedans. In the past five years, its market share increased by 2.3pp to a 16.2% share of total auto sales in 2014, the second-largest in China.
Well-Diversified Portfolio: DFM operates through multiple JVs carrying different brands, including Honda, Nissan, Infiniti, Peugeot, Citroen and Kia. The brand diversification greatly reduces risks associated with customer preference, brand reputation and geo-politics. In terms of product offerings, DFM has a full range across various segments. Passenger vehicles and commercial vehicles accounted for 68.7% and 25.3% of its 2014 revenues, respectively.
Net Cash Position to Persist: DFM had a net cash balance of CNY31.8bn at end-2014. Its adjusted FFO fixed-charge coverage was at 33.5x. Fitch expects DFM to maintain a healthy margin, even after factoring in thinner margins due to intensifying competition, because the company's products are well-positioned in the market. Moreover, DFM has the flexibility to scale back its expansion plans in case of weak demand. Hence, Fitch expects DFM to generate positive free cash flow in the coming three years and remain in a net cash position.
Growing Chinese Market: In 2000-2013, light vehicle sales volume grew at a CAGR of 21% in China. Unlike developed markets, where auto sales are largely driven by replacement demand, vehicle ownership in the Chinese market is still low. Fitch believes the structural growth trend for auto demand in China - driven by rising incomes, improving infrastructure and changing lifestyles - will remain intact, even though near-term demand may be drop due to decelerating economic growth, which may persist for another 12 months. However, we expect the CAGR to slow to mid-single-digits.
JV Structure Lowers Business Risks: Chinese JVs face significantly lower risks for new product development. By introducing established models into the Chinese market, the uncertainties associated with high product-development costs and long development cycles are greatly reduced. Hence, JVs' EBIT margins are usually higher than that of their parents that carry the same brand name.
Lack of Global Exposure: DFM derives almost all of its sales within China due to its business model. DFM's geographic diversification is still much weaker than that of its peers that operate on a global scale, although China accounts for 25% of global demand.
Weak Proprietary Brand Operation: DFM's proprietary brand is much weaker than those of its global peers. Operations outside of JVs are small in scale and have weak profitability on a standalone basis. This constrains DFM's ability to expand internationally and compete head-to-head against leading global players.
Fitch's key assumptions within our rating case for the issuer include:
- JV structure remains the major business model for foreign auto players to enter the Chinese market
- Top-line growth rate to remain at around mid-single digits
- Margin to decline slightly year over year in the next three years
- Dividend payout ratio to be around 8%-10%
Positive rating action is not expected in the medium term as it would require a major change of business profile, including global diversification and significant development of its proprietary brand operation.
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- Reduced support from the government, including material weaker linkage with the SASAC
- Sustained deterioration of the business profile, including material adverse regulatory developments
- DFM - excluding JVs - generates negative free cash flow on a sustained basis and/or loses its net cash position.