Fitch Ratings has upgraded leading Chinese steelmaker China Baowu Steel Group Corporation Limited’s Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDRs) to ‘A+’ from ‘A’. At the same time, the agency has upgraded the Long-Term IDR of Baowu’s 62.3%-owned subsidiary, Baoshan Iron & Steel Co. Ltd. (Baosteel), to ‘A+’ from ‘A’. The Outlook is Stable.
The upgrade is driven by Baowu’s raised Standalone Credit Profile (SCP), supported by our expectation that the company will see its net leverage remain below 1.7x in our forecast period, given its ability to weather industry volatility, and its significant expansions in scale and business diversification over the years.
Baowu is wholly owned by China’s State-owned Assets Supervision and Administration Commission (SASAC) and its ratings are equalised with those of the Chinese sovereign (A+/Stable) after applying Fitch’s Government-Related Entities (GRE) Rating Criteria. Baosteel, which is the group’s major operating entity, holds most of the group’s strategic assets. Baosteel’s rating is equalised with that of Baowu to reflect strong operational and strategic linkages, in line with Fitch’s Parent and Subsidiary Linkage Rating Criteria.
Key Rating Drivers
Improving Diversification, Financial Profile: Fitch has raised Baowu’s SCP to ‘bbb+’ from ‘bbb’, to reflect our expectation that the company will sustain its net leverage below 1.7x from 2023 onwards. This is on the back of an improving industry outlook from 2022 levels, where Chinese steel producers saw significant profit decline and suffered from loss-making positions in 2H22 as a result of low construction activity due to a significant slump in the property sector, as well as strict Covid-related regulations.
Baowu’s EBITDA margin saw only a 4.1pp decline to 7.2% (2021: 11.3%) despite the industry downturn, with profitability sustained above the industry average. We attribute this to the company’s substantial operating scale, leading market position and high proportion of value-added products. It has also increased business diversification outside of steel, such as in new-material development and engineering services, providing a buffer against the volatility of the steel-making business. Non-steel making accounted for about 35% of the company’s total revenue in 2022.
Strong Sovereign Linkages: We assess Baowu’s status, ownership and control as ‘Strong’ due to the company’s high strategic importance to the state. Baowu is fully owned by China’s SASAC, which exerts control over the company’s board and senior management, and has strong influence over the group’s major strategies and investment decisions.
Strong Support Record: We assess Baowu’s support record as ‘Very Strong’, as the state provided significant support during its creation in 2016 with the merger of Baosteel Group Corporation and Wuhan Iron and Steel Group. This helped Baowu quickly deleverage and become China’s largest auto-sheet and silicon steel producer, with a market share of 60% and 80%, respectively. The state continued to support Baowu via asset transfers, including Magang (Group) Holding Company Limited and Taiyuan Iron & Steel (Group) Co., Ltd., which further boosted its operating scale and domestic market position.
High Incentive to Support: We assess the socio-political implications of Baowu’s default as ‘Moderate’. A default would affect access to funding and procurement of key feedstock such as iron ore and coking coal due to Baowu’s dominant position in auto-sheet production, and could disrupt China’s auto-manufacturing market. However, alternative sources can be found in the longer term. The financial implications of a default are ‘Strong’ due to the significant effect on funding for other state-owned enterprises (SOEs) because of Baowu’s large scale, market share and influence over China’s steel sector.
Leader in Decarbonisation: Baowu is spearheading the green transition of China’s steel industry, setting targets of 30% carbon reduction by 2035 and carbon neutrality by 2050. It invested over CNY11 billion in 2021 in energy saving and environmental protection in production processes. Baowu set up China’s first low-carbon blast furnace in 2022, utilising its in-house hydrogen-rich processing technology that provides carbon reductions of over 20% compared with traditional technology. It also set up a CNY50 billion carbon-neutral investment fund with other investors, currently China’s largest fund in this area.
Further Expansion Likely: Baowu has grown through industry consolidation in the past few years, from producing 35 million tonnes per annum (mtpa) of steel in 2015 to 125mtpa by end-2022, as the government aims to increase concentration in the steel industry and improve SOEs’ competitiveness globally. We expect the company’s steelmaking capacity to grow to 200 million tonnes (mt) by 2025, or about 20% of market share in China, through further domestic acquisitions.
We do not view Baowu’s high concentration in China as a constraint on its SCP, as China alone accounts for over half of global steel demand, supporting its fast-growing electric vehicle industry, for which Baowu accounts for around 60% of market share in auto sheets. We expect Baowu to maintain its strong financial profile – as evident from its past record of rapid expansion – on the back of its strong business profile and disciplined financial strategy. Evidence of deviation from this strategy is likely to result in negative rating pressure.
Baosteel’s Strong Linkage: Baosteel is 62%-owned by Baowu and is the key operating platform of Baowu’s steel business. Baosteel accounts for around 40% of Baowu’s steel capacity and produces most of the group’s high value-added products, which Fitch considers strategically important to the group. We assess strong operational and strategic linkages between Baosteel and Baowu despite their weak legal linkage. Baosteel’s ratings are therefore equalised with those of Baowu.
Derivation Summary
Baowu’s ratings are equalised with China’s sovereign rating under Fitch’s GRE criteria. Its support score is comparable with that of other centrally owned flagship SOEs in other sectors, such as CRRC Corporation Limited (A+/Stable) and Aluminum Corporation of China (A-/Stable). Baowu is rated higher than other metal and mining SOEs such as China Minmetals Corporation (BBB+/Stable).
Baowu’s SCP of ‘bbb+’ is higher than the ratings on other domestic and international steel companies including Jiangsu Shagang Group Co., Ltd. (BBB-/Stable) and Gerdau S.A. (BBB/Stable).
Baosteel’s ratings are equalised with those of Baowu, due to their strong operational and strategic linkages. The equalisation approach is in line with that for other Fitch-rated companies under the Parent and Subsidiary Linkage Rating Criteria, including Aluminum Corporation of China Limited and China Metallurgical Group Corporation (BBB+/Stable).
Source: Fitch Ratings
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