DBRS Morningstar Confirms Rating of Pfd-3 (high) on E Split Corp. Preferred Shares

DBRS Limited (DBRS Morningstar) confirmed the rating of Pfd-3 (high) on the Preferred Shares issued by E Split Corp. (the Company). The Company invests in a portfolio primarily comprising common shares of Enbridge Inc. (rated BBB (high) with a Stable trend by DBRS Morningstar) (the Portfolio) in accordance with the Company’s investment objectives, strategy, and restrictions. The Company may invest up to 10% of the Portfolio in securities of any other issuer as determined by the Manager. The Maturity Date is June 30, 2023. The term of the Company may be extended beyond the Maturity Date for additional successive terms of up to five years as determined by the Company’s board of directors.

The Company has a loan facility or prime brokerage facility (the Loan Facility) for working capital purposes, with a maximum borrowed amount limited to 5% of the net asset value of the Company. The Loan Facility provides the lender with a security interest over the Portfolio. The Preferred Shares are subordinated to any indebtedness under the Loan Facility. As of December 31, 2021, the outstanding amount under the Loan Facility was nil.

The Preferred Shares receive fixed quarterly cumulative preferential cash distributions of $0.13125 (or $0.525 annually) per share, representing a yield of 5.25% per year on the issue price of $10.00. The Class A Shares currently receive cash distributions of $0.13 per share, corresponding to an annual yield of 10.4% on the $15.00 issuance price. No distributions will be paid on the Class A Shares if (1) the distributions payable on the Preferred Shares are in arrears or (2) in respect of a cash distribution by the Company, the net asset value per unit is less than $15.00.

As of March 31, 2022, the downside protection available to the Preferred Shares was approximately 63.2%, up from 54.9% a year ago. Distributions to the Preferred Shares are mainly funded through dividends earned on the Portfolio, which provide for a dividend coverage ratio of approximately 2.5 times (x). Distributions to the Class A Shares are anticipated to cause an average annual grind of 2.8% on the Portfolio until the end of the term. In addition to dividends earned on the common shares held in the Portfolio, the Company may generate capital gains in the Portfolio. The Company may also engage in securities lending or covered call option writing to supplement income.

During the year ended December 31, 2021, five overnight offerings of Preferred Shares and Class A Shares took place, raising approximately $275.9 million in gross proceeds.

The confirmed rating of Pfd-3 (high) considers the level of downside protection, dividend coverage available to holders of the Preferred Shares, lack of diversification, and potential grind on the Portfolio arising from the targeted distributions to the Class A Shares.

The main constraints to the rating are as follows:

(1) The downside protection available to holders of the Preferred Shares depends solely on the market value of the Enbridge Inc. common shares in the Portfolio, which will fluctuate over time.

(2) There is a lack of diversification, as at least 90% of the Portfolio will entirely consist of Enbridge Inc.’s common shares.

(3) Changes in the dividend policy of Enbridge Inc. may reduce the Preferred Shares’ dividend coverage and downside protection over time.

(4) Additional yield earned on the Portfolio to cover Class A Share distributions without having to liquidate Portfolio securities will depend on the Manager’s skill in generating supplementary income through methods such as option writing and securities lending.

(5) Stated monthly distributions on the Class A Shares, which will create a grind on the Portfolio, are mitigated by an asset coverage test of 1.5x, which ensures sufficient levels of downside protection to the holders of the Preferred Shares.

There was no environmental, social, or governance (ESG) factors or consideration with a significant or relevant impact on the credit rating.

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 28, 2021), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

The DBRS Morningstar Sovereign group releases baseline macroeconomic scenarios for rated sovereigns. DBRS Morningstar analysis considered impacts consistent with the baseline scenarios as set forth in the following report: https://www.dbrsmorningstar.com/research/384482.

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.

DBRS Limited
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