DBRS Confirms First Capital Realty Inc. at BBB (high), Stable

DBRS has today confirmed the rating of First Capital Realty Inc.’s (First Capital or the Company) Senior Unsecured Debentures at BBB (high) with a Stable trend. The rating confirmation reflects the expected progress First Capital has made in enhancing its portfolio quality by focusing on real estate investments in growing urban markets while disposing of its non-strategic assets in smaller markets. The confirmation also acknowledges an improvement in EBITDA interest coverage, although this ratio remains within the lower end of the range for the current rating category. The rating continues to be based on First Capital’s portfolio of stable, unenclosed supermarket- and drugstore-anchored shopping centres, a diverse tenant base, long-term leases with below-market rental rates and the Company’s development expertise. The rating is also limited by First Capital’s portfolio size, geographic concentration, low coverage ratios and high proportion of anchor tenants.

First Capital displayed high single-digit earnings growth that was in line with DBRS expectations. The growth was primarily the result of earnings contributions from net acquisitions and completed development/redevelopment projects in 2013 and 2012. Same portfolio net operating income (NOI) growth was reasonable during the year and benefited from an average increase of 9.9% in net rental rates on lease renewals (656,000 sq. ft. completed YTD 2013). Portfolio occupancy levels remained strong at 95% and continue to reflect First Capital’s focus on the long-term tenancy of core grocery retail tenants and well-located properties in densely populated urban residential areas across Canada. First Capital invested a total of $457 million in development activities, acquisitions, property improvements and other real estate assets YTD 2013.

These investments were funded mainly with debt and proceeds from asset dispositions, which resulted in the Company’s debt-to-capital ratio increasing slightly to 49.4% as at Q3 2013, from 48.5% a year earlier. EBITDA interest coverage ratio (including capitalized interest), however, improved to 2.38 times (x) for the 12-month period ended September 30, 2013, from 2.19x at YE2012, mainly due to earnings growth and lower interest costs. DBRS notes that the lower than normal coverage ratios in part reflect interest costs on debt incurred to fund First Capital’s internal development projects before they are income-producing.

The Stable rating outlook reflects DBRS’s expectation that First Capital’s earnings profile should continue to improve within the current rating category, as the Company benefits from its enhanced portfolio quality, full-year earnings contributions from recently completed property investments and higher average rent rates on lease expiries (in-place rental rates are currently well below market rates). DBRS estimates annual EBITDA should increase above $380 million in 2014. As the pace of property acquisitions will likely slow due to current high real estate valuations, DBRS expects First Capital will instead place a greater focus on improving asset quality through development and redevelopment projects. DBRS also expects First Capital to continue disposing of its non-core properties in smaller markets (assets available for sale totalled approximately $111.3 million as at Q3 2013). In 2014, DBRS expects First Capital to fund its investments mainly with debt and proceeds from asset dispositions. This should cause First Capital’s debt-to-capital ratio to remain fairly stable while EBITDA interest coverage (including capitalized interest) improves over time to a level more in line with the current rating category (i.e., 2.50x), due to higher cash flow levels.

A negative rating action could result from weaker operating and earnings performance and/or higher financial leverage, such that EBITDA interest coverage falls below 2.20x. On the other hand, a positive rating action would likely be the result of (1) a material increase in portfolio size and/or (2) a decrease in financial leverage that results in a sustained improvement in EBITDA interest coverage to above 3.20x.

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

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 to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodology is Rating Real Estate Entities, which can be found on our website under Methodologies.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.