DBRS Limited (DBRS Morningstar) changed the trends on Artis Real Estate Investment Trust’s (Artis or the Trust) Senior Unsecured Debentures and Preferred Trust Units to Negative from Stable and confirmed the ratings at BBB (low) and Pfd-3 (low), respectively. The Negative trends reflect increased debt and, therefore, leverage as Artis used fewer proceeds from property dispositions for debt reduction and more for unit buybacks than DBRS Morningstar expected based on the Trust’s strategic initiatives announced on November 1, 2018. In DBRS Morningstar’s view, Artis’s execution of its strategic initiatives to date has heavily favoured unitholders, which has resulted in elevated leverage (i.e., total debt-to-EBITDA of 10.0 times (x) and decreased EBITDA interest coverage of 2.63x in the last 12 months ended September 30, 2019). DBRS Morningstar anticipates that the Trust’s key financial risk metrics will likely remain near current levels in the near to medium term, despite Artis’s execution of its strategic initiatives, which is progressing ahead of schedule. The Trust’s current DBRS Morningstar-adjusted total debt of approximately $3.0 billion and DBRS Morningstar’s future expectations for key financial risk metrics contrast with DBRS Morningstar’s last review on December 21, 2018. At that time, DBRS Morningstar expected Artis’s key financial risk metrics to remain elevated, but stable with a total debt-to-EBITDA ratio of approximately 9.4x and EBITDA interest coverage of 2.8x through 2020 as Artis planned to use some proceeds from dispositions to pay down debt, such that total debt remained near September 30, 2018, levels of approximately $2.8 billion.
The ratings continue to be supported by a well-diversified portfolio, including: improved tenant diversification with the Trust’s top ten tenants only accounting for 14.3% of total revenue as at September 30, 2019; property diversification with the top ten largest properties by gross leasable area (GLA) comprising only 17.7% of total GLA; and improving asset-type diversification with exposure to several core asset classes, including office (49.0% of year-to-date net operating income), industrial (30.8%) and retail (20.2%), as Artis executes its strategic initiatives and thereby reduces exposures to office, Alberta and the prairies. The ratings also continue to be supported by an average size (24.3 million square feet of GLA at September 30, 2019) and quality portfolio with several high-quality office assets and modern distribution facilities. The ratings are constrained most significantly by continued high leverage; the Trust’s lack of scale, given its broad diversification; and property concentration in more volatile and/or secondary markets.
DBRS Morningstar will likely consider a rating downgrade within the next 12 months if Artis continues to sell assets in a credit-dilutive way (e.g., deploying more sales proceeds toward unit buybacks than DBRS Morningstar expected), such that the total debt-to-EBITDA ratio remains above 9.8x or EBITDA interest coverage remains below 2.70x, all else equal, or if DBRS Morningstar foresees elevated liquidity or refinancing risk in light of the current short debt maturity schedule (weighted-average term to debt maturity of 2.3 years at September 30, 2019). DBRS Morningstar may revise the trend on the ratings to Stable if Artis demonstrates more balanced treatment of debt and unitholders by reducing debt, such that DBRS Morningstar can comfortably expect improved key financial risk metrics compared with current expectations while further benefitting from improved diversification as Artis concludes its strategic initiatives.
All figures are in Canadian dollars unless otherwise noted.
The principal methodologies are Rating Entities in the Real Estate Industry, DBRS Morningstar Criteria: Preferred Share and Hybrid Security Criteria for Corporate Issuers and DBRS Morningstar Criteria: Rating Corporate Holding Companies and Parent/Subsidiary Rating Relationships, which can be found on dbrs.com under Methodologies & Criteria.
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