Pengyuan International assigns a 'BB' long-term issuer credit rating to Hongqiao Group with a stable outlook. The rating reflects Hongqiao's leading market position and cost advantages from integrated operations, though profitability is expected to remain weak in 2018 and leverage is expected to increase slightly. The stable outlook is based on expectations that China's aluminum industry supply and demand dynamics will continue improving in the next 1-2 years.

1. Pengyuan International Assigns ‘BB’ Rating to Hongqiao; Outlook Stable
HONG KONG, 11 April 2018. Pengyuan International has first-time assigned its global scale long-term
issuer credit rating of ‘BB’ to China Hongqiao Group Limited (Hongqiao). The Outlook is Stable.
As the world’s largest aluminium producer, Hongqiao’s rating reflects its leading market position and
cost advantages benefited from the integrated operation. The company’s liquidity has improved in the
past two years with debt structure being optimized. Hongqiao’s rating is constrained by the industry
cyclicality, lower profitability and concentration risk.
Stable outlook reflects Pengyuan International’s view that China’s aluminium industry supply demand
dynamics will continue to improve in the coming years and Hongqiao will be able to maintain its
operational strength in the industry over the next one to two years.
KEY RATING RATIONALES
Low-Cost Industry Leader. Hongqiao consistently reports higher profitability than its peers. Its cost
advantages are driven by economies of scale and vertically integrated operations. Thanks to its
integrated power, power grid, alumina and primary aluminium businesses, Hongqiao’s power and
alumina costs are Rmb0.05-0.07/kWh and Rmb1,000/t below the market average, respectively.
Improving Debt Structure. Hongqiao has optimized its debt structure by reducing the proportion of
short term debt to 32% in 2017 from 48% in 2015. As a result, the company’s liquidity has also improved
in the past two years, with cash flow adequacy ratio increased to 1.3x in 2017 from 0.4x in 2015 and
0.5x in 2016. However, we believe the further improvement of company’s liquidity condition might be
constrained by the normalization of the company’ working capital needs in 2018.
Market Dynamics to Improve. Aluminium price has bottomed out since 2015. We expect supply
demand dynamics to further improve in 2018 and 2019 driven by better supply discipline thanks to the
stringent environmental requirements and supply side reforms pushed by Chinese governments. As a
result, we expect the market concentration to increase, which is to improve the industry profitability in
the long term.
Weaker Profitability. We expect Hongqiao’s revenue to decline 10% in 2018 due to shutdown of
2.68ml tonne primary aluminium capacity in 2017. In addition, profitability is likely to remain weak in
2018 due to loss of economies of scale caused by the capacity closures.
Leverage to Sustain. Hongqiao has reduced its leverage in 2017, thanks to the equity placement and
a lower capital expenditure. We expect the company’s 2018 leverage to increase slightly driven by a
lower EBITDA. In addition, a lower capex is likely to offset by higher dividend pay-out in 2018. We
expect Hongqiao’s leverage measured by Debt to EBITDA to sustain at around 3.0-3.5x in 2018-2020.
Concentration Risk. We believe Hongqiao has high concentration risk, with its operations
geographically focusing in Shandong province and its core business mainly being primary aluminium
production. Majority of its revenue is primarily exposed to the cyclical aluminium industry. In addition,
Hongqiao has high supplier and customer concentration with the single largest customer contributing
about 45% revenue, and its largest supplier accounting for around 25% of its total purchases in 2016.
RATING SENSITIVITIES
Negative rating actions may be triggered by following developments individually or collectively
- Material increase of leverage with little perspective of deleveraging.

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- Decline of profitability on a sustained basis with little recovery prospect.
- Liquidity condition deteriorates substantially.
- Significant deterioration of operational strength.
Positive rating actions may be triggered by following developments individually or collectively
- Leverage drops on a sustained basis.
- Profitability improves on a sustained basis.
- Substantial improvement of operational strength.
ANALYSTS CONTACT
Primary Analyst
Winnie Guo
+852 3615 8344
winnie.guo@pyrating.com
Secondary Analyst
Christine Zhang
+852 3615 8276
christine.zhang@pyrating.com
Committee Chair
Tony Tang
+852 3615 8278
tony.tang@pyrating.com
Date of Relevant Rating Committee: 10 April 2018
MEDIA CONTACT: media@pyrating.com; OTHER ENQUIRIES: contact@pyrating.com
Additional information is available on www.pyrating.com
Related Criteria
General Corporate Rating Criteria (15 March 2018)
General Principles of Credit Ratings (21 Nov 2017)

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