DBRS Confirms Twelve-Fifty, company limited at A (low)

DBRS has today confirmed the rating of Twelve-Fifty, company limited (1250 or the Partnership) for the Secured Debentures, Series A (the Debentures) at A (low) with a Stable trend.

The rating of 1250 is supported by the recourse to OMERS Realty Corporation (ORC) in place of Oxford Properties Group Inc. (OPG) after the sale of OPGI’s 50% interest to ORC. The Partnership is expected to experience a further weakening in financial performance in 2007, and therefore does not support the current rating. The recourse to ORC is on a joint and several basis as a general partner in 1250, along with the other general partner, 1250 Rene Inc., which is owned by Canadian Realty Holdings Pte Ltd. (Canadian Realty Holdings, previously GSIC Realty Corporation (GSIC)), a wholly owned subsidiary of the government of Singapore. The recourse to the general partners exists to the extent that there is a shortfall upon realization of the other security.

ORC owns a substantial portfolio of office and retail properties, diversified primarily across Canada, and has a solid financial profile that supports the current rating for 1250. ORC is owned by Ontario Municipal Employees Retirement System (OMERS), one of the largest pension funds in Canada (note that the rated Debentures do not have recourse to OMERS).

The rating is also supported by the following:

(1) A guarantee by OPGI for 50% of the amount outstanding on a several basis.

(2) Letters of guarantee (L/Gs) having a value of 50% of the outstanding amount of the Debentures (approximately $57.9 million of the $115.7 million outstanding) from United Overseas Bank Limited (United) for 43.75% and Citibank Canada for 6.25%.

(3) A first call on the asset, 1250 René-Lévesque Boulevard West (the Property), a prominent office tower in downtown Montréal.

The Property:
As expected, the Property’s performance deteriorated in 2006 due to the expiry of the IBM Canada lease in April 2006, comprising 302,588 square feet, or 29% of leasable area at rental rates well above market in Montréal. Although much of the space has been leased (some was previously subleased), there have been additional lease expiries resulting in vacancy increasing materially to 15.4% as at July 31, 2007, from 2.6% at the end of 2005. As well, IBM Canada’s embedded net rental rate was approximately twice the current market rates for downtown Class A space in Montréal, resulting in a material decline in net operating income (NOI) for the space leased to new tenants.

Looking ahead in 2007, the Property is expected to see a further decline in NOI as there will be no contribution from the IBM Canada lease causing average embedded net rental rates to decline further, even if there is no further increase in vacancy levels. As a result, DBRS expects interest coverage could decline in 2007 to 1.2 to 1.3 times if vacancy were to rise to closer to 20%. To date in 2007, the Property has leased about 140,000 square feet which should offset some of the expiring/vacant space, although a portion will not be occupied until December 2008.

The Montréal downtown office market remains weak; however, it has stabilized somewhat in the downtown core with vacancy improving by 2.8% year over year to end Q1 2007 at 11%. Net rental rates have only improved modestly by 1% to 2% for downtown Class A space to $19 to $20 per square foot; however, high tenant improvement costs to attract quality tenants are negatively impacting net effective rental rates. Although the challenges remain significant, the Property is one of the more prestigious office towers in downtown Montréal which should allow it to continue to attract tenants.

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