Fitch Ratings - Hong Kong - 28 Oct 2020: Fitch Ratings has published China-based steel producer Inner Mongolia Baotou Steel Union Co., Ltd.'s (BSUC) Long-Term Foreign-Currency Issuer Default Rating (IDR) and foreign-currency senior unsecured rating of 'BB+'. The Outlook is Stable.

BSUC ratings are derived from Fitch's internal assessment of the consolidated credit profile of BSUC's immediate parent, Baotou Iron & Steel (Group) Co., Ltd. (BISC), which is 77%-owned by the Inner Mongolia Autonomous Region. Fitch assesses BISC's ratings based on four factors set out in its Government-Related Entities Rating Criteria. BSUC's ratings, in turn, are linked to its parent's creditworthiness under Fitch's Parent and Subsidiary Linkage Rating Criteria due to strong legal, operational and strategic ties between the two entities.

KEY RATING DRIVERS

Strong Parent-Subsidiary Linkage: BSUC is 55%-owned by BISC and is the main steel operating subsidiary of the parent. In 2019, BSUC accounted for 80% of total assets and more than 65% of the group's consolidated EBITDA. BISC has absolute management control over BSUC with significant management overlap between the two. BISC provides guarantees to a large part of BSUC's bank debt and has injected numerous operating assets into BSUC. We rate BSUC on a top-down basis from our internal assessment of BISC's credit profile under our criteria.

Funds Parent's Rare Earths Operations: BISC is the largest rare earth producer in the world and receives around 50% of the annual rare earth ore production quota issued by China's Ministry of Industry and Information Technology (MIIT) each year. China has a near-monopoly of the global rare earth market, and the Chinese government sees the industry as strategically important. While the majority of BISC's rare earth resources and production are not in BSUC, BSUC's profits help to fund BISC's mining and rare earth development operations, which have been historically unprofitable.

Leverage to Remain High: Fitch has assessed that BSUC's Standalone Credit Profile will stay weak as we expect leverage to remain close to the 2019 level in the medium term. In 2019, BSUC's FFO net leverage rose to 5x from 3x in 2018, mainly due to lower steel profitability. We expect leverage to remain at 5x-6x in 2020-2022.

However, Fitch expects BSUC's financial profile to be stable in the near term as the company does not have major capex plans in the next few years. BSUC's financial flexibility metrics are likely to remain intact, with FFO fixed-charge coverage maintained at just below 3x.

Adequate Liquidity, Reliable Funding Access: At end-June 2020, BSUC had CNY18 billion in short-term debt outstanding, compared with CNY4 billion of cash on hand and CNY9 billion in unused available credit facilities. Over 50% of BSUC's debt is short-term. We expect BSUC to be able to roll over its short-term debt given support from BISC. BISC, excluding BSUC, had CNY14 billion in available credit facilities at end-June 2020 and has reliable funding access due to its strong government support and long-term relationships with major commercial and policy banks.

DERIVATION SUMMARY

BSUC is rated on a top-down basis from its parent BISC, as per Fitch's Parent and Subsidiary Linkage Rating Criteria. Fitch's internal assessment of BISC's credit profile is based on Fitch's Government-Related Entities Rating Criteria. BISC is 77%-owned by the Inner Mongolia Autonomous Region government and plays a strategically important role in rare earths production for China. BSUC's ratings are derived using the same methodology used for Sinochem Hong Kong (Group) Company Limited (A/Stable) and COFCO (Hong Kong) Limited (A/Stable).

KEY ASSUMPTIONS

Fitch's Key Assumptions Within Our Rating Case for the Issuer:

- Low single-digit revenue decline in 2020, then revenue to rise by 1% on average annually in 2021-2023

- EBITDA margin of 9%-10% during 2020-2023

- Annual capex of around CNY2 billion during 2020-2023

- No major acquisitions or divestitures during 2020-2023

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

- An upgrade of Fitch's internal assessment of the creditworthiness of Inner Mongolia Autonomous Region.

- Increase in the likelihood of support from the Inner Mongolia government

Factors that could, individually or collectively, lead to negative rating action/downgrade:

- A downgrade of Fitch's internal assessment of the creditworthiness of Inner Mongolia.

- Weakening of likelihood of support from the Inner Mongolia government.

- Weakening linkages between BISC and BSUC.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

LIQUIDITY AND DEBT STRUCTURE

Adequate Liquidity: At end-June 2020, BSUC had CNY18 billion in short-term debt outstanding, compared with CNY4 billion in cash on hand and CNY9 billion in unused available credit facilities. The credit facilities were uncommitted, but we believe they are adequate, as committed facilities are uncommon in China. BSUC's debt maturity is concentrated, with short-term debt accounting for over 50% of total debt. We expect BSUC to be able to continue rolling over its short-term debt given its support from BISC.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

PUBLIC RATINGS WITH CREDIT LINKAGE TO OTHER RATINGS

BISC is 77% owned by the Inner Mongolia Autonomous Region and Fitch assesses BISC's ratings based on four factors set out in its Government-Related Entities Rating Criteria

BSUC's ratings are notched down from BISC's ratings under Fitch's Parent Subsidiary Rating Linkage Criteria.

ESG CONSIDERATIONS

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg