HONG KONG, 20 April 2020. Pengyuan International has assigned a first-time global scale long-term issuer credit rating (LTICR) of ‘A’ to Dongfeng Motor Group Company Limited (DFMG) through a bottom-up approach. The outlook is stable.
DFMG’s issuer credit rating is based on a ‘bbb’ standalone credit profile (SACP) and our assessment of central government’s moderately strong willingness to support in the event of a financial distress. DFMG’s ratings are supported by its leading market position in China’s commercial-vehicle (CV) manufacturing sector, the strong profitability and low financial leverage backed by high dividend pay-out from its lucrative joint venture (JV) companies with Honda and Nissan, however the ratings are also constrained by its loss-making passenger-car (PV) business and the uncertainties on its JV partnerships which may be altered due to the policy relaxation of foreign ownership in China’s automobile industry.
The ‘stable’ outlook reflects our expectation that DFMG will be able to maintain its credit strengths in the next 12-24 months. Despite DFMG most likely to see a tough 2020 due to the COVID-19 outbreak, we believe the fallout from the pandemic will be short-lived as many local governments in China have rolled out stimulus package to spur post-pandemic automotive consumption.
A leading position in China’s auto original equipment manufacturer (OEM) industry endows DFMG with stronger powers along the supply chain. In our view, DFMG’s economy of scale can increase its bargaining power along the supply chain to ensure it maintains a greater capacity to control costs. DFMG is the third largest automaker in China with a volume-based market share of 11% in 2019, behind SAIC Motor Co. Ltd. at 24% and FAW Group Corp. at 13%. In particular, DFMG is highly competitive in the niche market of commercial-vehicle manufacturing, selling the second, third and fourth largest volume of heavy, medium and light trucks in China in 2019 respectively. We believe DFMG’s commercial-vehicles business will be a beneficiary from the increased demand for trucks if the Chinese government rolls out infrastructure stimulus to counter the economic fallout from COVID-19.
Dongfeng Nissan and Dongfeng Honda serve as a stable source of cash inflow. Joint-venture partnerships with Nissan and Honda provide DFMG with a stable source of cash via a very high-dividend payout policy. DFMG received nearly RMB10 billion (USD1.42 billion) in cash dividends per year on average from Dongfeng Nissan and Dongfeng Honda combined from 2016 to 2018, accounting for approximately 33% of its cash balance each year. In addition, the average shared profit to DFMG from these two joint ventures was over RMB10 billion each year over the same period. Given the strong product line-ups and brand image of Dongfeng Nissan and Dongfeng Honda, we believe these two joint ventures can maintain their low-teens profit before tax margins going forward amid shaky car sales numbers in China, and can continue to be the primary pillar of DFMG’s profitability and liquidity.
DFMG is of low financial leverage and high profitability. DFMG has a solid financial foundation with low leverage and a strong capability to generate profit due to its substantial bargaining power in relation to suppliers and the steady cash dividends accrued from equity investments that offer ample funding to it without the necessity of heavy indebtedness. Moreover, DFMG’s joint-venture partnerships significantly help boost DFMG’s EBITDA margin and ROIC.
DFMG is facing uncertainties regarding its existing joint-venture partnerships. In our opinion, DFMG’s JV companies are risking a possible shareholder increase from its foreign joint-venture partners post-2021 that will negatively affect DFMG’s profits and cash dividends received under the current partnership. In early 2018, China announced that in 2022 it would abandon the current 50/50 ownership requirements for foreign passenger car makers who intend to build factories in the country. We believe most foreign automakers have a strong incentive to increase their stakes in their Chinese joint-venture partnerships due to the significant profits their joint-venture companies generate for their global operations. Given the attractive profit margins of both Dongfeng Nissan and Dongfeng Honda, Nissan and Honda may raise their stakes in their joint-venture companies to boost their profitability at the group level, such that DMFG’s profitability and liquidity would be negatively impacted.
Dongfeng’s PV business continues to be a profit drag. In contrast to the robust shipment growth and strong profit-generating capabilities of two JV companies, Dongfeng Nissan and Dongfeng Honda, Dongfeng’s self-own PV business, and in particular its own passenger car brands, is bleeding profitability, with operating losses of RMB3.9 billion in 2019, the third straight year in which it made a more than RMB2 billion operating loss. In our view, the loss-making situation of Dongfeng’s PV business is unlikely to be reversed in the near term as the competitiveness and brand image of its PV products have fallen behind some of its major domestic peers such as Geely, Great Wall Motor, and BYD in recent years. Most of DFMG’s PV products are sold in the low-to-middle end market which, in our view, will be hurt by the recent consumption upgrade trend in China. Compared with Geely and Great Wall Motor which have successfully introduced some highly popular models to the mass market, DFMG’s product line-ups is lackluster in our view. We believe the lack of core technology accumulation in some frontier areas, such as electric vehicles, and 48-voltage technology, will also put DFMG in a disadvantageous position in the long-term development.
We would consider a rating downgrade if 1) profit and cash dividends received from JV companies substantially reduce; 2) the EBIT margin for CV manufacturing business retreats significantly; 3) the central government’s willingness to support weakens noticeably. We would consider a rating upgrade if 1) the current loss-making PV business substantially improves to be profit-making; 2) the high-margin auto financing business becomes one of the key revenue and profit contributors 3) our assessment on central government’s willingness to support strengthens significantly.
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Date of Relevant Rating Committee: 6 April 2020
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