Fitch Ratings has affirmed China-based Zhaojin Mining Industry Company Limited's Long-Term Issuer Default Rating (IDR) and senior unsecured rating at 'BB+'.

The Outlook is Stable.

Zhaojin Mining's ratings are derived from our internal assessment of the consolidated credit profile of its immediate parent, Zhaojin Group Company Limited, under our Parent and Subsidiary Linkage Rating Criteria. This is based on the strong linkages between the two entities. Zhaojin Group is effectively 100% owned by China's Zhaoyuan municipality and we assess its creditworthiness based on the four factors set out in our Government-Related Entities Rating Criteria.

The Stable Outlook reflects our expectation that Zhaojin Mining's operations will be sustainable with continued operational and management support from Zhaojin Group.

Key Rating Drivers

Parent's Strong State Linkage: We assess Zhaojin Group's status, ownership and control by Zhaoyuan municipality as 'Strong' due to the company's high economic and strategic importance to the region as the city's largest state-owned entity. Zhaojin Group is the largest gold producer in a city where gold is a major economic contributor. We assess Zhaojin Group's support record as 'Moderate' as it has received regular financial subsidies from the municipality, but its financial profile remains weak despite the regular government support.

'Strong' Implications of Default: We assess the socio-political implications of a default by Zhaojin Group on the municipality as 'Strong' as the group accounts for over 60% of Zhaoyuan's gold processing capacity and its entire gold refining capacity. We assess the financial implications of a default as 'Very Strong', as Zhaojin Group accounts for over 60% of the combined assets and around 70% of the total revenue of the municipality's enterprises. Zhaojin Group is also the city's major debt issuer.

'Strong' Parent-Subsidiary Linkage: Zhaojin Mining is 34.74% owned by Zhaojin Group and holds most of the group's core mining assets. It is also one of the group's two publicly listed subsidiaries. Zhaojin Mining accounted for close to 90% of Zhaojin Group's EBITDA in 2022. We believe Zhaojin Group has a 'High' operational and strategic incentive to support Zhaojin Mining, despite a 'Low' legal incentive due to the lack of debt guarantees from the parent, as a group guarantee has so far not been required for Zhaojin Mining's financing activity.

Normalised Production: Zhaojin Mining's mine-produced gold rose to 19 tonnes in 2022, from 13 tonnes in 2021 when production was interrupted by safety inspections and rectifications. As a result, revenue increased 15% yoy in 2022. We expect low-single-digit revenue growth in 2023 amid stable gold prices and output. However, we expect output to pick up from 2025 as the company expects the Haiyu gold mine to start operating in 2025 and ramp up to full capacity, with annual output of 15 tonnes, in around three years.

Sustained High Profitability: The company's strong profitability stems from its high-quality assets, which are in the second quartile on the global cost curve. Its EBITDA margin dropped to 30% in 2022, from a historical average of around 40%, due to higher input costs such as electricity and mining costs. We expect input costs to normalise and the margin to improve to over 35% in 2023.

High Leverage, Comfortable Coverage: Zhaojin Mining's 'b+' Standalone Credit Profile is constrained by its high leverage. Net leverage, measured by total net debt with equity credit/operating EBITDA, dropped slightly to 8.8x in 2022, from 9.4x in 2021. We expect net leverage to fall to below 8.0x in the medium term but remain above 7x on average. However, EBITDA interest coverage remained healthy at 2.6x in 2022 (2021: 2.5x) and we expect an improvement to over 3x in 2023, supported by low funding costs.

The elevated leverage is driven by large capex for the Haiyu gold mine project. The company's expectation that the mine will commence production in 2025 means capex requirements should drop starting 2026, helping the company deleverage in the longer term.

Derivation Summary

Zhaojin Mining's rating is derived from the credit profile of Zhaojin Group, based on strong linkage between the two entities under Fitch's Parent and Subsidiary Linkage Rating Criteria. Zhaojin Group's profile is notched from Fitch's internal assessment of the Zhaoyuan municipality's credit profile under our Government-Related Entities Rating Criteria due to the high likelihood of support from the local government.

Zhaojin Group's relationship with its parent is similar to that of steel producer HBIS Group Co., Ltd. (BBB+/Stable) with the Hebei State-owned Assets Supervision and Administration Commission. HBIS is the largest state-owned enterprise under the Hebei State-owned Assets Supervision and Administration Commission, accounting for 30%-40% of total assets. Steel is a major economic driver for Hebei province, similar to gold's importance to Zhaoyuan, where Zhaojin Group is the largest gold miner. Zhaojin Group accounts for over 60% of the total assets and 70% of the total revenue of the enterprises owned by Zhaoyuan municipality.

Key Assumptions

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

Revenue to remain at around CNY8 billion in 2023 and 2024;

EBITDA margin of over 35% in 2023-2025, supported by increasing volume and decent cost position;

Capex of CNY2 billion-2.5 billion a year from 2023 to 2025 mainly used for investment in new capacity.

RATING SENSITIVITIES

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

An upward revision in Fitch's internal assessment of the creditworthiness of Zhaoyuan

Increase in the likelihood of support from the Zhaoyuan government

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

A downward revision in Fitch's internal assessment of the creditworthiness of Zhaoyuan

Weakening likelihood of support from the Zhaoyuan government

Weakening linkages between Zhaojin Mining and Zhaojin Group

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: Zhaojin Mining had around CNY20 billion in unused credit facilities and CNY3.6 billion in cash as of end-2022, against around CNY11.6 billion in short-term debt. The credit facilities are uncommitted, but we believe they are adequate, as committed facilities are uncommon in China.

Zhaojin Mining's cash-to-short-term debt ratio has been low for the past four years. However, the company was able to continuously refinance its short-term debt and had sufficient unused credit facilities. Chinese state-owned enterprises generally rely heavily on short-term financing due to their cheaper funding costs. Therefore, we believe their liquidity is adequate. Zhaojin Mining also has access to offshore equity markets and domestic and offshore bond markets, and maintains satisfactory relationships with major domestic financial institutions.

Issuer Profile

Zhaojin Mining is the largest gold miner in the city of Zhaoyuan in the east of Shandong province. It is mainly engaged in the exploration, mining, processing, smelting and sale of gold.

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

Zhaojin Mining's ratings are derived from our internal assessment of the consolidated credit profile of its immediate parent, Zhaojin Group, under our Parent and Subsidiary Linkage Rating Criteria.

ESG Considerations

The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' 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. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.

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