DBRS Places First Capital Realty Inc.’s Senior Unsecured Debentures Under Review – Negative Following Announced Share Repurchase and Bought Deal Transactions

DBRS Limited (DBRS) placed First Capital Realty Inc.’s (First Capital or the Company) Senior Unsecured Debentures rating of BBB (high) Under Review with Negative Implications following the Company’s announcement of its intention to debt-finance the repurchase for cancellation of $742 million worth of common shares from Gazit-Globe Ltd. (Gazit, the Share Repurchase Transaction) on February 28, 2019. Separately, another $453 million worth of First Capital’s common shares owned by Gazit are being sold on a bought deal-basis (represented by installment receipts) by a syndicate of underwriters (the Secondary Offering, together with the Share Repurchase Transaction, the Transactions). The Transactions are further elaborated on below. Prior to today, the rating was Under Review – Developing pending resolution of the Company’s contemplated conversion to a real estate investment trust (REIT) structure (see DBRS’s press release on First Capital dated February 12, 2019).

The Under Review – Negative status reflects First Capital’s elevated leverage, as measured by total debt-to-EBITDA (DBRS’s estimate of 9.9 times (x) as at December 31, 2018, on a last 12 month (LTM) basis), which is anticipated to peak at 11.6x (DBRS estimated, including pro forma of $742 million in additional debt as if incurred as at December 31, 2018) upon closing of the Transactions. For context, in DBRS’s press release on First Capital dated February 1, 2018, DBRS noted our expectation of improving leverage below the then current 10.2x total debt-to-EBITDA (LTM basis as at September 30, 2017) and that a negative rating action could occur from higher financial leverage as measured by total debt-to-EBITDA greater than 10.0x on a sustained basis. DBRS acknowledges the Company’s concurrently announced intention to pay down indebtedness by way of full or partial property dispositions representing 10% to 15% of the Company’s portfolio over the next two years while improving the quality of its portfolio by disposing of non-core assets combined with further investments in its core urban markets. DBRS views the quantum of increased leverage (as measured by total debt-to-EBITDA), combined with the uncertainty around timing of dispositions and hence a return to leverage levels more commensurate for the rating, to be credit negative. Indeed, DBRS estimates that First Capital’s total debt-to-EBITDA will remain above current levels, already deemed elevated by DBRS, through 2020.

Furthermore, in order for the rating of First Capital’s Senior Unsecured Debentures to continue to benefit from one notch of rating uplift from a low proportion of prior ranking debt, DBRS expects the Company will continue to maintain a large pool of unencumbered assets of a high quality consistent with the overall portfolio, adequate coverage of unencumbered assets over unsecured debt, overall leverage levels more commensurate with an investment-grade rating and a secured debt-to-total debt ratio comfortably below 40% on a sustained basis (DBRS estimate of 33.3% as at December 31, 2018).

Upon closing of the Transactions, subject to shareholder approvals anticipated in early April 2019, the $742 million Share Repurchase Transaction is expected to be debt-financed by way of a combination of ten-year mortgage debt and senior unsecured term loans with expected five- to seven-year terms. As a backstop, the Company also has in place a fully committed $800 million one-year bridge facility from RBC Capital Markets. The Transactions are each priced at $20.60 per common share of First Capital (representing a combined 58 million of common shares) and result in Gazit’s ownership of First Capital declining to approximately 9.9%, from 31.3% at present.

For DBRS to resolve the current Under Review – Negative status, DBRS awaits (1) further clarification regarding First Capital’s contemplated conversion to a REIT structure and (2) confirmation of shareholder approval as a condition precedent for a closing of the Transactions.

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

The principal methodologies are Rating Entities in the Real Estate Industry (April 2018), DBRS Criteria: Rating Corporate Holding Companies and Their Subsidiaries (November 2018), DBRS Criteria: Guarantees and Other Forms of Support (January 2019) and DBRS Criteria: Preferred Share and Hybrid Security Criteria for Corporate Issuers (November 2018), which can be found on dbrs.com under Methodologies & Criteria.

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 under Related Documents or by contacting us at info@dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.

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