Morningstar DBRS Finalizes Provisional Credit Rating of Pfd-3 (high) on Canadian Large Cap Leaders Split Corp.’s Preferred Shares

DBRS Limited (Morningstar DBRS) finalized its provisional credit rating of Pfd-3 (high) on the Preferred Shares issued by Canadian Large Cap Leaders Split Corp. (the Company). Ninepoint Partners LP will act as the manager of the Company (the Manager). The Company issued an equal number of Preferred Shares and Class A Shares at an issue price of $10.00 per Preferred Share and $15.00 per Class A Share. The Preferred Shares and Class A Shares are issued only on the basis that an equal number of Preferred Shares and Class A Shares will be outstanding at all material times. The Preferred Shares are scheduled to mature on February 28, 2029. The term of the Company may be extended beyond the maturity date for additional terms of five years each as determined by the Company’s board of directors.

Net proceeds from the offering will be used to invest in an initially equally weighted portfolio (the Portfolio) consisting of equity securities from the following 10 investment-grade companies, that are diversified by sector allocation: Bank of Montreal, Canadian Natural Resources Limited, Enbridge Inc., Fortis Inc., Manulife Financial Corporation, Royal Bank of Canada, Sun Life Financial Inc., Suncor Energy Inc., TELUS Corporation, and The Toronto-Dominion Bank.

At the Manager’s discretion, the Portfolio may be rebalanced more frequently than annually, be reconstituted, or hold nonequal weight positions. In order to qualify for inclusion in the Portfolio, at the time of investment and following each reconstitution and rebalancing, each Canadian dividend growth company must (1) be listed on a Canadian exchange, (2) pay a dividend, (3) have a market capitalization of at least $10 billion, (4) have options in respect of its equity securities that in the Manager’s opinion are sufficiently liquid to permit the Manager to write options in respect of such securities, and (5) have a history of dividend growth or in the Manager’s view have high potential for future dividend growth. The Portfolio may consist of a minimum of eight and up to 15 Canadian dividend growth companies. The entire Portfolio’s investments will be denominated in Canadian dollars.

The Preferred Shares are entitled to fixed cumulative preferential quarterly cash distributions of $0.1875 (or $0.75 annually) per share, representing a 7.5% per annum return on the issue price of $10.00. Holders of the Class A Shares are expected to receive regular monthly noncumulative distributions targeted to be $0.125 (or $1.50 annually) per Class A Share to yield 10.0% per annum on the issue price of $15.00. No monthly distributions to the Class A Shares will be made if (1) distributions to the Preferred Shares are in arrears or (2) in respect of a cash distribution, the Company’s net asset value (NAV) falls below 1.5 times (x) the principal amount of the outstanding Preferred Shares. To supplement Portfolio income, the Manager may write covered call options on all or a portion of the shares held in the Portfolio, engage in securities lending, and rely on realized capital gains.

Based on the initial asset coverage of 2.4x, the Company’s NAV would have to fall by approximately 58% for the holders of the Preferred Shares to be in a loss position. The initial dividend coverage ratio is above 1.0x.

The Company may establish a loan facility for working capital purposes, with the maximum amount of 5% of the Company’s NAV. The Company may pledge the Portfolio securities as collateral for amounts borrowed under the loan facility.

The Company may issue an unlimited number of Preferred Shares, Class A Shares, and Class J Shares. The Preferred Shares rank in priority to the Class A Shares with respect to the payment of distributions and the repayment of capital on the dissolution, liquidation, or winding up of the Company. The Class A Shares rank subsequent to the Preferred Shares, with respect to distributions and the repayment of capital on the dissolution, liquidation, or winding up of the Company. The Class J Shares rank subsequent to both the Preferred Shares and the Class A Shares. There are 100 Class J Shares issued and outstanding at an issue price of $1 per share, and no additional Class J Shares can be issued until all the Class A Shares and Preferred Shares have been retracted, redeemed, or purchased for cancellation. The holders of the Class J Shares are not entitled to receive dividends.

On maturity, the holders of the Preferred Shares will be entitled to the value of the Portfolio up to the face value of the Preferred Shares and any accrued and unpaid dividends in priority to the holders of the Class A Shares and the Class J Shares.

The Pfd-3 (high) credit rating reflects (1) the level of downside protection available to holders of the Preferred Shares, (2) the initial Portfolio quality and underlying securities correlation, (3) the effect of stated distributions to the Class A Shares, and (4) term to maturity of the Preferred Shares.

The main constraints to the credit rating are the following:

(1) The downside protection available to holders of the Preferred Shares will depend on the value of the securities held in the Portfolio.

(2) Volatility of price and changes in the dividend policies of the underlying issuers may result in significant reductions in interest coverage or downside protection from time to time.

(3) Reliance on the Manager to generate additional yield on the Portfolio to meet distributions, without having to liquidate portfolio securities.

(4) Stated monthly distributions on the Class A Shares, which will create a grind on the Portfolio mitigated by an asset coverage test of 1.5x, which ensures sufficient levels of downside protection to the holders of the Preferred Shares.

Morningstar DBRS’ credit rating on the Preferred Shares addresses the credit risk associated with the identified financial obligations in accordance with the relevant transaction documents. The associated financial obligations are the fixed cumulative preferential quarterly cash distributions and the return of the original issue price to holders of the Preferred Shares on the maturity date.

Morningstar DBRS’ credit rating does not address nonpayment risk associated with contractual payment obligations contemplated in the applicable transaction documents that are not financial obligations.

Morningstar DBRS’ long-term credit ratings provide opinions on risk of default. Morningstar DBRS considers risk of default to be the risk that an issuer will fail to satisfy the financial obligations in accordance with the terms under which a long-term obligation has been issued. The Morningstar DBRS short-term debt rating scale provides an opinion on the risk that an issuer will not meet its short-term financial obligations in a timely manner.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://dbrs.morningstar.com/research/427030 (January 23, 2024).

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

The principal methodology applicable to the credit rating is Rating Canadian Split Share Companies and Trusts (June 16, 2023), https://dbrs.morningstar.com/research/415986.

Other methodologies referenced in this transaction are listed at the end of this press release.

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@morningstar.com.

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

The full report providing additional analytical detail is available by clicking on the link under Related Research below or by contacting us at info-DBRS@morningstar.com.

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada
Tel. +1 416 593-5577

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

A description of how Morningstar DBRS analyses structured finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/410863.

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