DBRS Morningstar Upgrades Financial 15 Split Corp. Preferred Shares

DBRS Limited (DBRS Morningstar) upgraded the rating of the Preferred Shares issued by Financial 15 Split Corp. (the Company) to Pfd-3 (low) from Pfd-4 (high). The Company invests in a portfolio (the Portfolio) consisting primarily of common shares of 15 high-quality North American financial services companies: Bank of America Corporation; Bank of Montreal; The Bank of Nova Scotia; Canadian Imperial Bank of Commerce; CI Financial Corp.; Citigroup Inc.; The Goldman Sachs Group, Inc.; Great-West Lifeco Inc.; JPMorgan Chase & Co.; Manulife Financial Corporation; National Bank of Canada; Royal Bank of Canada; Sun Life Financial Inc.; The Toronto-Dominion Bank; and Wells Fargo & Company. In addition, up to 15% of the net asset value (NAV) of the Company may be invested in securities of issuers other than those mentioned above. These issuers include Fifth Third Bancorp and AGF Management as of November 30, 2020. No more than 10% of the NAV of the Company may be invested in any single issuer. The Portfolio is actively managed by Quadravest Capital Management Inc.

A portion of the Company’s Portfolio is exposed to currency risk as it includes securities and options denominated in U.S. dollars (USD), while the NAV of the Company is expressed in Canadian dollars. The Company has not entered into currency hedging contracts for the USD portion of the Portfolio, although the Company may use derivatives for hedging purposes. As of November 30, 2020, approximately 42.8% of the Portfolio was invested in USD-denominated assets.

The Company has extended the termination date to December 1, 2025. At maturity, the holders of the Preferred Shares will be entitled to the value of the Company, up to the face amount of the Preferred Shares, in priority to the holders of the Class A Shares. Holders of the Class A Shares will receive the remaining value of the Company.

As of December 1, 2020, in connection with the term extension, the dividend rate paid on the Preferred Shares increased to 6.75% per annum from 5.5% per annum. Holders of the Preferred Shares are entitled to a fixed cumulative monthly dividend of $0.05625 per share, yielding 6.75% annually on their issue price of $10 per share.

In November 2020, the Company completed a reorganization whereby the Class A shares (the Class A Shares) were consolidated on the basis of 0.4 of a post-consolidation Class A share for every one pre-consolidation Class A share outstanding. The organization resulted in an increase in NAV per unit and the subsequent reinstatement of monthly dividends paid to Class A shareholders. Holders of the Class A Shares currently receive regular monthly cash distributions in the amount of $0.1257 for each share. No regular monthly distributions will be paid to the Class A Shares if the NAV per unit is below the $15 threshold or if any dividends on the Preferred Shares are in arrears.

On January 14, 2021, the Company completed an overnight offering of the Preferred Shares and the Class A Shares, issuing an equal amount of 2,642,000 shares for each class, and raising $52.7 million in gross proceeds.

Following the reorganization, and as a result of higher share prices of the underlying common shares of the Portfolio, downside protection increased to 49.9% as of February 26, 2021. The dividend coverage was 0.6 times.

Based on the increased amount of downside protection and time remaining until maturity DBRS Morningstar upgraded the rating on the Preferred Shares to Pfd-3 (low) from Pfd-4 (high).

The main challenges are:

(1) Market fluctuations resulting from the response to the worldwide spread of the Coronavirus Disease (COVID-19) that could negatively affect the NAV of the Company.
(2) The reliance on the Portfolio manager to generate additional income through methods such as option writing.
(3) The monthly cash distributions to holders of the Class A Shares which create grind on the Portfolio.
(4) The unhedged portion of the USD-denominated Portfolio that exposes the Portfolio to foreign currency risk.

The rating includes additional analysis on the expected performance as a result of the global efforts to contain the spread of the coronavirus pandemic. The DBRS Morningstar Sovereigns group initially published its outlook on the coronavirus’ impact on key economic indicators for the 2020–22 time frame. The scenarios were updated on January 28, 2021. For details, see “Global Macroeconomic Scenarios: January 2021 Update” at https://www.dbrsmorningstar.com/research/372842/global-macroeconomic-scenarios-january-2021-update.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology is Rating Canadian Split Share Companies and Trusts (June 23, 2020), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

For more information regarding structured finance rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/358308.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at info@dbrsmorningstar.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

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