DBRS Upgrades Rating on Dundee Corporation to BBB

DBRS has today upgraded the Issuer Rating of Dundee Corporation (Dundee or the Company) to BBB from BBB (low) and its Cumulative Redeemable First Preferred Shares rating to Pfd-3 from Pfd-3 (low). The ratings have been removed from Under Review with Positive Implications, where they were placed on November 23, 2010. The rating trends are now Stable. The rating upgrades reflect the February 1, 2011, sale of the Company’s 48% interest in DundeeWealth Inc. (DundeeWealth) to Bank of Nova Scotia (BNS) in exchange for common and preferred shares of BNS worth more than $1.4 billion, a special cash dividend of $155 million and a 48% stake in Dundee Capital Markets (DCM), which was spun off to shareholders of DundeeWealth as part of the transaction.

Dundee’s previous ratings of BBB (low) and Pfd-3 (low) were largely derived from the existing BBB Issuer Rating of DundeeWealth, which accounted for close to 60% of the Company’s asset value at that time. The single-notch differential reflected the structural subordination of the holding company’s claim on the DundeeWealth operations. The effective replacement of the Company’s interest in DundeeWealth with a similar-sized stake in BNS (which has an intrinsic issuer rating of AA (low)) lifts the assigned ratings under the DBRS holding company rating methodology. Relative to DundeeWealth, the BNS asset is more highly rated and a source of predictable annual cash flow, estimated at $46 million, as well as being a more liquid investment.

However, while DBRS had regarded DundeeWealth as a core strategic investment, the holding in BNS may well not be in strict alignment with the Company’s longer-term strategy, which tends to favour the active asset management, real estate and natural resources expertise traditionally associated with the investment expertise and style of Ned Goodman, President and Chief Executive Officer of Dundee. Correspondingly, DBRS is not prepared to give the Company the full benefit of the current position in BNS as it had previously with respect to DundeeWealth, which limits the uplift in the assigned rating to a single notch at this time. Should the BNS position be maintained and come to be regarded as a strategic core holding of the Company over the medium term, DBRS would consider taking a positive rating action at that time.

Recent transactions suggest that the BNS position is not core as Dundee is prepared to take advantage of the liquidity in the BNS position to fund other initiatives. The Company has recently pledged its BNS common shares to secure a $325 million revolving term credit facility. On October 18, 2011, the Company also sold seven million preferred shares (close to 50% of its BNS preferred share position) for proceeds of $173 million. Proceeds have been used to fund a number of Company initiatives such as the recent $100 million acquisition of a 29% interest in Dundee International REIT, which is focused on European commercial properties, or to complete a $237.5 million share buyback, representing 16.2% of the Company’s outstanding shares.

The portfolio holdings in BNS represent close to 50% of the Company’s asset value at the end of October 2011, as estimated by DBRS. In addition, 20% of the Company’s estimated assets are invested in real estate, 11.5% in natural resources and 7.2% in capital markets operations, including a small retail-investment dealer. The balance is attributable to a variety of portfolio investments largely focused on the natural resources sector. DBRS feels that the Company’s overall exposure to these particular industry segments puts incremental downward pressure on the Company’s ratings given the relative earnings volatility associated with project development, investment purchases, sale activity and commodity and land prices, in addition to the general vulnerability to macroeconomic activity. The strong positive correlation between resource prices, including land values and housing activity, and Canadian capital markets activity generally suggests that beyond the BNS position, the Dundee investment portfolio and associated earnings are only modestly diversified as all segments are exposed to the same investment theme of resources and land price inflation, as reflected in Mr. Goodman’s message in the 2010 annual report to shareholders. Correspondingly, DBRS regards the Company’s overall industry exposure as consistent with an equal blend of “A”-rated exposure to BNS and a variety of BBB and non-investment-grade exposures in the real estate, natural resources and capital markets sectors.

While DBRS continues to rate Dundee as a holding company, it acknowledges that, notwithstanding the sale of DundeeWealth, the Company continues to have an asset management culture, which adds value through disciplined investment processes that echo the leadership of Mr. Goodman and his entrepreneurial philosophy. The Company continues to leverage this culture to expand its own direct asset management operations through Ned Goodman Investment Counsel Ltd. (NGIC) and Dundee Real Estate Asset Management (DREAM), which already contribute substantially to the overhead costs of running the Company and are expected to become a source of future stable earnings and cash flow.

The Company’s financial profile is unique, reflecting a mix of financial leverage instruments, including secured loans in its real estate (Dundee Realty Management Corporation) and resource operations (Dundee Energy Limited). The Company also has a credit facility for $325 million secured by its BNS shares. Otherwise, holding Company financial leverage takes the form of preferred shares. The Company’s consolidated total debt ratio, including preferred shares, was 23.7% at June 30, 2011, a drop from 27.2% at year-end 2010. The drop reflects the combination of $160 million drawn on the Company’s credit line to fund new investments and the $870 million after-tax gain on the sale of DundeeWealth, which added to shareholder capital. DBRS expects that the Company’s financial leverage will remain within the range consistent with the current ratings as, for example, the $237 million share buyback in Q4 2011 is more than funded through proceeds of the sale of Breakwater Resources Ltd. and BNS preferred shares. Effective financial leverage may even be lower given that the Company’s net asset value is estimated by DBRS to be approximately 120% of book value. The estimated market value of the Company’s portfolio provides good coverage of its fixed obligations, including preferred shares, at 6.4 times, (estimated to have fallen to just under 6.0 times at the end of October 2011), which is also consistent with the current rating. Financial flexibility is enhanced by the absence of any common dividend.

On a consolidated basis, fixed-charge coverage ratios have recently been healthy at 3.7 times in H1 2011 and 7.4 times in 2010 on strong real estate earnings, up from 3.8 times in 2009, excluding the results of the discontinued operations of DundeeWealth. Historically, the Company’s consolidated fixed-charge coverage ratio was more stable at greater than 7.0 times, reflecting the inclusion of the relatively large and steady earnings of DundeeWealth. From a cash flow perspective alone, debt service coverage is also reasonable, especially given the $46 million in annual cash expected to be generated by the BNS positions and an estimated $10 million distributed on account of the Company’s 8% interest in Dundee REIT and close to $8 million expected to be distributed on account of Dundee International REIT. These three items alone are expected to cover the Company’s cash interest and preferred dividends by 2.6 times pro forma the sale of DundeeWealth and assuming that the Company fully draws its $325 million credit line. Overhead costs, which are estimated to be close to $10 million, are assumed to be more than covered by other portfolio cash flow as well as cash flow generated by the third-party asset management business.

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

The applicable methodology is Rating Parent/Holding Companies and Their Subsidiaries, which can be found on our website under Methodologies.