DBRS Comments on Smart REIT’s $429 Million Transaction with One REIT

DBRS Limited (DBRS) has today commented on Smart Real Estate Investment Trust’s (Smart REIT; rated BBB with a Stable trend by DBRS) $429 million corporate transaction (the Transaction) with One REIT (TSX:ONR.UN) to be completed in conjunction with Strathallen’s $703.5 million asset transaction with One REIT, announced August 4, 2017. Both transactions are cross-conditional and will be completed via a court-approved plan of arrangement that will result in the privatization of One REIT. Strathallen will acquire 44 properties from One REIT. Smart REIT will acquire 12 properties. The purchase price will be satisfied by way of the assumption by SmartREIT of property-related debt, corporate debt, convertible debentures and certain working capital items of One REIT totalling approximately $354 million and the issuance of approximately $75 million in Smart REIT units (implying a loan-to-value approximating 80% on the transaction).

As at March 31, 2017, Mitchell Goldhar beneficially owned or controlled units of the One REIT representing approximately 18% economic interest in One REIT (he also holds a minimum voting entitlement of 25% and the right to appoint three board members). Mr. Goldhar also beneficially owns or controls units of Smart REIT that represent an approximate 22.3% voting interest in the REIT. With respect to Smart REIT, Mr. Goldhar also beneficially owns or controls additional rights to acquire trust units, which, if exercised or converted, would result in him increasing his beneficial economic and voting interest in Smart REIT to as much as 26.6%. Further, pursuant to the voting top-up right, Mr. Goldhar may be issued additional special voting units to entitle entities controlled by Mr. Goldhar to cast 25% of the votes attached to voting units at a meeting of the holders of voting units. The independent trustees have approved the transaction and Smart REIT has complied with due diligence procedures required under the Declaration of Trust.

The proposed transaction represents approximately 5% of Smart REIT’s current IFRS value and is expected to close in late September/early October 2017. While five of the 12 properties are relatively new Walmart-anchored centres (constructed 2010 or later) closely aligned with the existing portfolio characteristics, the remaining seven properties are older properties and a mix of grocery-anchored open air plazas and enclosed malls where Smart REIT sees value enhancement opportunities over time (and views these as an opportunity to increase economies of scale from their existing large development platform). In addition, five of the seven aforementioned properties carry occupancy levels significantly below the existing portfolio, within the 70% to 80% occupancy range. The portion of the One REIT portfolio acquired by Smart REIT is heavily weighted toward Ontario. Approximately 79% of the acquired gross leasable area is located in Ontario (ten of the 12 properties) with one property located on Regina, Saskatchewan, and the other in Chilliwack, British Columbia. Smart REIT’s exposure to Ontario and Saskatchewan will increase to 58.5% (from 57%) and to 4.5% (from 3.9%), respectively, while exposure to Québec will decrease to 14.9% (from 16%). The transaction also modestly increases exposure to secondary/tertiary markets.

Overall, DBRS views the transaction as mildly negative to the asset quality and diversification factors considered in the business risk assessment component of DBRS’s methodology, “Rating Entities in the Real Estate Industry.” The transaction is also slightly negative to overall leverage and, specifically, the key financial risk factors that DBRS considers in our rating assessments. Debt-to-EBITDA deteriorates modestly to the 8.8 times (x) to 8.9x range (pro forma the Transaction) from 8.6x for the 12 months ended 31 March, 2017. However, due to the small size of the Transaction relative to the existing size of the portfolio and consequent modest impact to DBRS’s business risk and financial risk factors, our overall view on Smart REIT remains unchanged.

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

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

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