DBRS Confirms Markville and Chinook Shopping Centres at A (high) with a Stable Trend

DBRS has confirmed its A (high) rating of Markville Shopping Centre and Chinook Centre (Markville and Chinook or the Properties), as the Properties continue to exhibit a strong credit profile and the bondholders in the Series D debentures (secured by the Properties) have full recourse to Ontrea Inc. (Ontrea) and a first call on these two cross-collateralized properties. The confirmation includes consideration for the $280 million dollar expansion project for Chinook that is on course for completion in the fall of 2010. The project includes an addition 180,000 square feet of commercial retail unit (CRU) space and a heated underground parking structure that contains approximately 1,200 spaces. The expanded CRU space comprises two levels in a racetrack configuration located on the north end of the property. This space was 94.0% leased as of September 2010, with the remainder on track for lease-up. New tenants include Coach, BCBG Max Azria, Burberry, Steve Madden, Forever 21, and Urban Outfitters among others for over 60 new stores at the Centre. This project provides Chinook with enhanced market position in Calgary, as the expanded CRU space provides an excellent tenant mix and the new parking structure provides an additional amenity to draw consumers to the Centre and increase sales.

The current rating category also takes into consideration:

1) For the first eight months of the fiscal year 2010, the NOI remains strong at the property, with only a slight decline of 1% from the figure achieved at YE2009. The decline is attributed to a drop in the NOI for the Markville property by 6.1% for the period, due to periods of slightly higher vacancy from October 2009 to July 2010 as compared with historical levels. However, for the same reporting period, the NOI at Chinook is up by 1.86%; this increase is due to a slight improvement in occupancy at that property coupled with an increase in the average rents per square foot over 2009. For the first eight months of the fiscal year 2010, Markville and Chinook contributed 34.2% and 65.8% of the combined NOI, respectively. Chinook’s contribution is more heavily weighted than YE2009, a trend that will continue as average rents per square foot continue to improve (an increase in average rents per square foot by 34.0% from 2009 to 2010 is currently scheduled) and rental income from the expansion tenants is included in cash flows at the property.

2) CRU sales at the properties continue to be strong, with Markville and Chinook achieving $440 per square foot and $840 per square foot, respectively, as of the trailing twelve month (TTM) period ending May 31, 2010. These figures represent a slight decline from Markville’s sales of $448 per square foot and Chinook’s sales of $877 per square foot as of the TTM period ending April 20, 2009 but are still strong for their respective markets as compared to similar centres rated by DBRS, especially with respect to Chinook. Chinook’s decline was anticipated by DBRS at the last review in November 2009, as the construction project was in its final stages and the property settled in with relatively slight, but general difficulties in the retail landscape. Both Toronto and Calgary have improved unemployment statistics from August 2009 to August 2010, with Toronto at 10.1% as compared with 10.9% and Calgary at 6.5% as compared with 7.3%, according to StatCan. These trends are forecasted to continue into 2011 and should enable the economy to continue to support increases in consumer spending and improvements retail market fundamentals.

3) Bondholders have a secured interest in the Properties and full recourse back to Ontrea, one of the key real estate operating entities owned by the Ontario Teachers’ Pension Plan Board. DBRS views Ontrea as a strong investment-grade credit.

4) The loan-to-value is superior, with only $67.4 million in debt outstanding as of October 2010, with no additional debt taken on the property as part of the aforementioned expansion project. In addition, the interest and total debt service coverage ratios are very favorable for the first eight months of the fiscal year 2010 at 7.92 times and 5.59 times, respectively.

However, DBRS notes that the current rating has already factored in the Properties’ minimal financial risk with superior coverage metrics and the A (high) rating is limited by the following constraints:

1) The Properties’ anchor tenants (The Bay, Sears, and Zellers) continue to face significant competition from other discount retailers. Although the Canadian retail markets did not experience the same level of distress as those of the United States, there were some challenges in rising unemployment that meant for a slight reduction in the retail market fundamentals in major Canadian markets. The respective markets for the Properties are largely in recovery mode, however, with Alberta and Ontario reporting a respective increase in retail sales of 3.0% and 3.4% in July 2010 from July 2010 according to StatCan.

2) Markville has 3.1% of the CRU space scheduled to expire for the remainder of 2010 and 11.9% of the CRU space scheduled to rollover in 2011. While it is anticipated that 70% of that space will be renewed, there could be downtime between leases for the remainder and as a result, a reduction in income at the property. Given historical occupancy trends at the property, it is not anticipated that the impact will be significant, however, of the non-CRU space scheduled for rollover in 2011 (Old Navy, Sport Chek, and La Vie en Rose Co for a combined 5.9% of the NRA), all but 2.5% of the NRA has been renewed. That remaining space has retained by the property as part of a redevelopment plan that is currently under review. The Chinook Centre does not have any major lease expiry until 2013, when anchors The Bay and Zellers (a combined 26.1% of the NRA) expire. DBRS believes it is very unlikely either tenant will vacate, given the quality and high profile of the subject property and the heavy concentration of consumer traffic for the market.

Overall, DBRS anticipates the Properties’ credit profile to remain strong as supported by the superior financial metrics as compared to similar shopping centres rated by DBRS and strengthening of real estate fundamentals in the respective retail markets.

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

The applicable methodologies are Rating Real Estate and Canadian Structured Finance Flow-Through Ratings, which can be found on our website under Methodologies.