DBRS Confirms Dream Office at BBB (low), Stable Trend

DBRS Limited (DBRS) has today confirmed the rating of the Senior Unsecured Debentures of Dream Office Real Estate Investment Trust (Dream Office or the Trust) at BBB (low) with a Stable trend. The confirmation follows the Trust’s announcement to put in place a strategic plan in light of the weak office leasing environment outlook for Alberta and erosion of the Trust’s market capitalization.

The confirmation takes into consideration the major elements of Dream Office’s strategic plan, including $1.2 billion of non-core property dispositions (representing 17% of the Trust’s asset market value, with properties located primarily in the Greater Toronto Area suburbs, Ottawa and Vancouver) to potentially generate $700 million over a three-year period, the arrangement of a new $800 million secured revolving credit facility, a 33% reduction in the Trust’s distribution from an annualized rate of $2.24 to $1.50 per unit, and the suspension of the dividend reinvestment plan. DBRS expects these initiatives to enhance financial flexibility and liquidity. DBRS previously viewed Dream Office as being well-positioned in the BBB (low) rating category and believes these strategic initiatives should help to preserve the Trust’s key credit metrics within the parameters of the BBB (low) rating category.

Dream Office has recently displayed weakening same-property NOI growth (-0.6% in 2015 and -0.7% in Q4 2015) caused by higher vacancies, primarily in downtown Calgary and suburban Toronto. Despite these results, the Trust has accomplished a significant amount of leasing volume over the last year and addressed 69% of its 4.1 million sf contractual lease expires in 2016, albeit at the expense of higher leasing costs and tenant inducements to secure tenants.

Dream Office has a moderate exposure to the Alberta markets (Calgary 19% of NOI and Edmonton at 7% as at YE2015) and its upcoming lease maturities in the Province total 10.4% of GLA before the end of 2018. It is DBRS’s view, however, that challenges with regards to the Alberta office leasing environment will persist in the near to medium term, and will continue to pressure Dream Office’s same-property NOI, earnings and cash flow growth. DBRS anticipates negative same-portfolio NOI growth of 2% to 3% in 2016, reflecting lower rents and higher vacancies, particularly in the Alberta portfolio. DBRS forecasts a decline in EBITDA by 20% to $350 million by 2018, mainly driven by planned property dispositions and, to a lesser extent, the aforementioned negative same property NOI growth. DBRS still considers this level of EBITDA well placed within the parameters of the BBB (low) rating category.

DBRS believes the components of the strategic plan will provide a significant amount of financial flexibility and liquidity to offset DBRS’s expectation of weakening operating results over the next three years. DBRS forecasts sources of cash to exceed uses by 45% in 2016, mainly due to an aggregate $810 million from expected property disposition and undrawn amounts on the Trust’s new credit facility. In addition, DBRS believes proceeds from planned property dispositions should provide an opportunity for Dream Office to pay down debt and potentially repurchase units if the Trust’s unit price remains depressed. As such, DBRS anticipates key financial metrics to gradually improve to levels DBRS considers better placed within the parameters of the current rating category. DBRS forecasts EBITDA interest coverage to increase to 3.15 times in 2016, while anticipating a decline in debt-to-EBITDA to 7.6 times during the year.

DBRS expects the Trust to operate with an EBITDA interest coverage above 2.30 times and a debt-to-EBITDA ratio below 8.5 times, in order to maintain its investment-grade status. Although highly unlikely in the near to medium term, a positive rating action would be based on an increase in the Trust’s size and scale and improving geographic diversification, while maintaining its portfolio quality and an EBITDA interest coverage above current levels.

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 methodologies are Rating Entities in the Real Estate Industry, DBRS Criteria: Guarantees and Other Forms of Explicit Support and Preferred Share and Hybrid Criteria for Corporate Issuers, which can be found on our website under Methodologies.

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

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