Morningstar DBRS Confirms H&R Real Estate Investment Trust at BBB, Stable

DBRS Limited (Morningstar DBRS) confirmed the Issuer Rating and Senior Unsecured Debentures rating of H&R Real Estate Investment Trust (H&R or the Trust) at BBB with Stable trends.

KEY CREDIT RATING CONSIDERATIONS
The Stable trends reflect H&R's stable operating performance, the continued incremental execution of its repositioning strategy, and Morningstar DBRS' expectation that the Trust's key financial risk metrics will remain near current levels in the near to medium term. H&R's operating performance was supported by robust rental rate growth in its industrial portfolio, and continued lease-up and rental growth of the retail and residential components of its River Landing project in Miami. H&R's office portfolio is likely to continue to present headwinds to operating income growth for the foreseeable future as the Trust seeks to advance select office properties through the rezoning process in preparation for redevelopment while its residential segment continues to benefit from rental growth at Jackson Park in New York City. H&R continued to execute its capital recycling initiatives, selling two sizeable office assets in the year to date, among others, and progressing its development pipeline of industrial and residential projects in Canada and the U.S., respectively.

CREDIT RATING DRIVERS
Morningstar DBRS would consider negative rating actions if H&R's total debt-to-EBITDA ratio rises above 9.8 times (x) and EBITDA interest coverage declines below 2.3x, on a sustained basis, in combination with a decline in one or more of the Trust's business risk assessment factors (e.g., lease maturity profile / tenant quality, market position, etc.). Given the challenges noted below, a positive rating action would require a material change in H&R's financial policy (e.g., significantly lower leverage, unencumbered balance sheet, etc.) and is thus not currently contemplated.

FINANCIAL OUTLOOK
In the near to medium term, Morningstar DBRS expects that H&R's total debt-to-EBITDA and EBITDA interest coverage ratios will remain near current levels, i.e., 9.0x and 2.57x for the last 12 months ended June 30, 2024, respectively, as the Trust's operating income continues to demonstrate modest growth, supported by its residential and industrial assets, and as H&R continues to execute its repositioning strategy, recycling capital into its residential and industrial development pipeline.

CREDIT RATING RATIONALE
The credit ratings remain supported by H&R's (1) high-quality real estate portfolio, particularly its residential assets, with strong positioning in key markets; (2) highly creditworthy commercial tenants with long-term leases; and (3) solid asset type, tenant, and geographic diversification with a broadly diversified portfolio across real estate subsectors and in several markets in Canada and the U.S. The credit ratings remain constrained by the Trust's (1) elevated leverage, (2) relatively smaller portfolio size, (3) property concentration, and (4) execution risk related to the strategic plan such that Morningstar DBRS would expect a greater buffer to threshold leverage levels for a given credit rating in light of capital recycling and development initiatives as well as potential downward revisions to H&R's business risk assessment factors, such as its lease maturity profile, tenant quality, and market position.

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 Factors in Credit Ratings (August 13, 2024) at https://dbrs.morningstar.com/research/437781.

BUSINESS RISK ASSESSMENT (BRA) AND FINANCIAL RISK ASSESSMENT (FRA)
(A) Weighting of BRA Factors
In the analysis of H&R, the BRA factors are considered in the order of importance contemplated in the methodology.

(B) Weighting of FRA Factors
In the analysis of H&R, the FRA factors are considered in the order of importance contemplated in the methodology.

(C) Weighting of the BRA and the FRA
In the analysis of H&R, the BRA carries greater weight than the FRA.

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

Morningstar DBRS applied the following principal methodology:
Global Methodology for Rating Entities in the Real Estate Industry (April 15, 2024)
https://dbrs.morningstar.com/research/431170

Morningstar DBRS credit ratings may use one or more sections of the Morningstar DBRS Global Corporate Criteria (April 15, 2024; https://dbrs.morningstar.com/research/431186) which covers, for example, topics such as holding companies and parent/subsidiary relationships, guarantees, recovery, and common adjustments to financial ratios.

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 corporate finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/431153.

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

Information regarding Morningstar DBRS credit ratings, including definitions, policies, and methodologies, is available on dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.

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