Morningstar DBRS Confirms Prime Dividend Corp.’s Preferred Shares Credit Rating at Pfd-3

DBRS Limited (Morningstar DBRS) confirmed its credit rating on the Preferred Shares issued by Prime Dividend Corp. (the Company) at Pfd-3. The Company holds a portfolio (the Portfolio) of common shares of the six major Canadian banks, life insurance companies (Great-West Lifeco Inc., Manulife Financial Corporation, and Sun Life Financial Inc.), investment management companies (AGF Management Limited, CI Financial Corp., and IGM Financial Inc.), and companies in other industries (BCE Inc., TransAlta Corporation, TC Energy Corporation, Power Corporation of Canada, and TMX Group Limited). The Company may also invest up to 20% of the net asset value (NAV) in equity securities of issuers in the financial services or utilities sectors in Canada or the United States other than the Core Holdings. Individual Portfolio holdings cannot represent more than 10% of the NAV of the Company at the time of purchase. All Portfolio holdings are denominated in Canadian dollars and therefore, there is no currency risk. The Portfolio is actively managed by Quadravest Capital Management Inc.

The termination date of the Company is December 1, 2028. At maturity, the holders of the Preferred Shares will be entitled to the value of the Company, up to the face amount of the Preferred Shares, in priority to the holders of the Class A Shares. Holders of the Class A Shares will receive the remaining value of the Company. The termination date can be extended further for additional terms of five years at the Company's discretion.

Dividends received from the Portfolio are used to pay the Preferred Shares a monthly floating-rate distribution equal to the prevailing prime rate in Canada plus 2.35% per annum (p.a.) with a minimum of 5% p.a. and maximum of 8% p.a. based on the original issue price of $10. Holders of the Preferred Shares are currently receiving the monthly payment of $0.06667 per share (yielding 8% p.a.). The distribution rate to holders of the Class A Shares is equal to 10% p.a. of the volume-weighted-average market price of the Class A Shares over the last five trading days of the preceding month. The NAV test in place prevents any distributions to the Class A Shares if the NAV per unit (one unit consists of one Preferred Share and one Class A Share) falls below $15. Distributions to the Class A Shares were suspended from August 2023 to November 2023 as the NAV per unit dropped below the $15.0 threshold but recovered thereafter. Part of the recovery resulted from the consolidation of the Class A Shares. In connection with the extension of the termination date of the Company, a special retraction right was offered under which more Preferred Shares were tendered for retraction than Class A Shares. As a result, a Class A Share consolidation was done to maintain the requirement that an equal number of Class A Shares and Preferred Shares remain outstanding at all material times. As the aggregate intrinsic value of the Class A shareholders' holdings remained the same, the NAV per Class A Share increased on a proportionate basis for each post-consolidation share on the consolidation date. This increased the overall NAV per unit, the downside protection and asset coverage ratio for the Preferred Shares as highlighted below.

As of April 30, 2024, the downside protection available to the Preferred Shares was 39.8%. As of April 30, 2024, the asset coverage stood at 1.7 times (x); whereas the dividend coverage at 0.4x indicates that the current dividend income earned by the Company is not enough to fully cover the Company's expenses and targeted distributions on the Preferred Shares, which increases the reliance on the Manager to generate a high yield to meet distributions and other expenses without having to liquify portfolio securities. To supplement the Portfolio income, the Company may engage in covered call options and put option writing on all or a portion of the shares held in the Portfolio. Without giving consideration to capital appreciation potential or any source of income other than the dividends earned by the Portfolio, the Preferred Share distributions, together with the current distributions on the Class A Shares, will create a projected grind on the NAV of the Portfolio of approximately 4.8% per year over the next five years. However, the grind in the portfolio is mitigated by an asset coverage test of 1.5x.

Morningstar DBRS confirmed the rating of the Preferred Shares at Pfd-3 based on the amount of downside protection, the term to maturity, the projected grind on the Portfolio, and portfolio diversification.

Recent Updates/Treasury Offerings

(1) On September 21, 2023
In connection with the extension of termination date from December 1, 2023, to December 1, 2028, the Company has decided to retain the distribution rate of the Preferred Shares at previous levels.

The main constraints to the credit rating are as follows:

(1) Volatility in stock prices, along with changes in the dividend policies of the underlying issuers, may result in significant reductions in the Preferred Shares' dividend coverage or downside protection from time to time.

(2) The Company relies on the Portfolio manager to generate additional income through methods such as option writing on the investment portfolio to meet distributions and other expenses without having to liquidate portfolio securities.

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

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance (ESG) 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.

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 analyzes 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.