DBRS Morningstar Confirms RF Capital Group Inc.’s Cumulative Preferred Shares at Pfd-4 (high), Removes Rating from Under Review with Developing Implications

DBRS Limited (DBRS Morningstar) confirmed the Cumulative Preferred Shares rating of RF Capital Group Inc. (RF Capital or the Company) at Pfd-4 (high) with a Stable trend. The Company’s Support Assessment is SA3. DBRS Morningstar assessed the Cumulative Preferred Shares rating using the “Global Methodology for Rating Investment Management Companies” (December 2020); it previously was assessed under the “Global Methodology for Rating Banks and Banking Organisations” (June 2020). DBRS Morningstar will continue to use the “DBRS Morningstar Criteria: Preferred Share and Hybrid Security Criteria for Corporate Issuers” (November 2020) in future reviews.

With this review, DBRS Morningstar removed the rating from Under Review with Developing Implications, where it was placed on June 18, 2019. While the of the Company’s capital markets business was completed on December 6, 2019, there was subsequently a lack of clarity necessary to confirm the rating until now. Upon review of audited financial statements for RF Capital, as well as a thorough meeting with management, DBRS Morningstar has taken action to confirm the rating at the current level.

KEY RATING CONSIDERATIONS
The rating confirmation reflects the solid wealth management franchise of RF Capital, which is underpinned by its good reputation that supports a long track record of growth in assets under administration (AUA) and healthy earnings. A significant portion of revenues are fee-based, supporting earnings consistency. The ratings incorporate an expectation of continuing franchise momentum while maintaining solid balance sheet fundamentals. DBRS Morningstar sees operational risk as a critical risk for the Company to manage, and expect that investments and upgrades to various technology platforms to help service clients should provide a longer-term benefit to RF Capital’s operational capabilities. The ratings consider that RF Capital could face challenges in executing on its ambitious strategy for future growth. Furthermore, in order to grow the business through advisor acquisition, RF Capital may require an increase to leverage.

RATING DRIVERS
Continued franchise momentum, coupled with consistent earnings and solid balance sheet fundamentals, would lead to a rating upgrade. Conversely, DBRS Morningstar would downgrade the rating if RF Capital’s credit fundamentals significantly weaken, or if there were a trajectory of AUA outflows, particularly if these outflows were prompted by operational or reputational issues.

RATING RATIONALE
DBRS Morningstar placed the Company’s rating Under Review with Developing Implications following its announcement that it had agreed to sell substantially all of its capital markets business to Stifel Financial Corp. The sale transaction was completed on December 6, 2019. Subsequently, DBRS Morningstar maintained the Under Review with Developing Implications as the Company was still in discussions with Richardson Financial Group Limited (RFGL) to consolidate full ownership of Richardson GMP Limited (later named Richardson Wealth).

On October 20, 2020, GMP Capital Inc. (GMP) completed the consolidation of its 100% ownership of Richardson Wealth. Under the transaction, GMP acquired all the common shares of Richardson Wealth that it previously didn’t own for a purchase price of 1.76 common shares of GMP for each common share of Richardson Wealth. In consideration, GMP issued 100,517,533 Common Shares to former Richardson Wealth shareholders at closing, 10% of the Issuance being freely tradeable shortly after closing and the remaining 90% will be held in escrow to be released in equal amounts on the first three anniversaries following closing. After completion and following a substantial issuer bid, RFGL had the largest ownership interest representing 43.7% of the consolidated entity. GMP shareholders and the Richardson Wealth investment advisors and management retained 25.5% and 30.8%, respectively. Furthermore, on November 23, 2020, GMP formally changed its name to RF Capital.

RF Capital is one of Canada’s leading independent wealth managers with AUA of $33 billion. The Company operates through 19 offices across the country with 160 advisor teams serving 31,000 high-net-worth clients. The wealth management industry in Canada is dominated by the large banks with a suite of smaller independent firms competing to gain market share. RF Capital has been successful in acquiring market share over the years supported through the reputation of its majority owners, the Richardson family, who have a long proven track record in the business. As the consolidation has been competed, RF Capital’s management will deploy an ambitious multi-year strategy aimed at growing the Company’s adjusted EBITDA to between $200 million to $300 million and triple the Company’s AUA to $100 billion by 2025. This will done both organically through the addition of advisor teams and the investment in technology to improve platforms and product offerings, and inorganically through opportunistic acquisitions and strategic partnerships.

The Company reported consolidated results for the first time in Q1 2021, which makes it difficult to compare with prior periods. However, Richardson Wealth’s historical results provide a good indicator of the underlying wealth management business. The Company benefits from solid revenue that has a steady proportion of fee income. The adjusted EBITDA margin (which excludes transformation and other one-time costs) stood at 17.5% for Q1 2021, in line with other Canadian peers.

Following the sale of its capital markets business, RF Capital’s on balance sheet risk mainly lies with its carrying broker services, which include trade execution, clearing, settlement, custody, and other middle- and back-office services. These carrying broker services are used internally, as well as by Stifel Nicolaus Canada Inc., which is the Canadian capital markets business of Stifel. This market risk is well managed has minimal impact on the Company’s financial position. However, RF Capital faces operational risk as it implements various initiatives, including the introduction of new technology platforms, to grow its business.

The Company is well funded and holds subordinated bank debt of $67 million in addition to a promissory note of $12 million related to the acquisition of the former FirstEnergy business, which was part of the former capital markets business. Both of these facilities expire in the third quarter of 2021 and the Company is looking at renewing and marginally increasing its financial leverage in order to finance advisor team acquisition. The Company reported a fixed charge coverage ratio (using adjusted EBITDA) of 10.3x in Q1 2021. Furthermore, RF Capital holds appropriate working capital levels to manage its day-to-day liquidity needs. The Company employs modest leverage with a debt (including preferred shares) to adjusted EBITDA of 2.0x in Q1 2021.

ESG CONSIDERATIONS
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

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

The principal methodologies are Global Methodology for Rating Investment Management Companies (December 7, 2020; https://www.dbrsmorningstar.com/research/370957/global-methodology-for-rating-investment-management-companies) and DBRS Morningstar Criteria: Preferred Share and Hybrid Security Criteria for Corporate Issuers (November 2, 2020; https://www.dbrsmorningstar.com/research/369165/dbrs-morningstar-criteria-preferred-share-and-hybrid-security-criteria-for-corporate-issuers). Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (February 3, 2021; https://www.dbrsmorningstar.com/research/373262/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings).

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

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 [email protected].

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

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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