Announcements

GCR accords Dipula Income Fund Limited an initial rating of BBB(ZA); Outlook Stable

Johannesburg, 02 Sep 2014 — Global Credit Ratings (“GCR”) has today accorded Dipula Income Fund Limited initial national scale issuer ratings of BBB(ZA) and A3(ZA) in the long term and short term respectively, with the outlook accorded as Stable

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SUMMARY RATING RATIONALE

GCR has accorded the above credit ratings to Dipula Income Fund Limited (“Dipula”) based on the following key criteria:

Dipula was listed in August 2011, and has since finalised property acquisitions worth R3bn, leveraging management’s sound real estate and B-BBEE credentials. This has seen its value double since listing to R4bn at 1H F14, with the carrying value set to rise to around R5.4bn (before revaluations or the impact of revamps) once all properties acquired as of August 2014 transfer. The fund’s manager, Dipula Asset Management Trust, has long standing relationships with established funds (notably Redefine Properties), private vendors and developers, with whom a number of fairly high value transactions have been finalised. Dipula’s relatively short listed track record, however constrains the rating somewhat.

The fund plans to boost asset quality through strategic acquisitions and disposals, raising the mean value per property to R40m (1H F14: R22m), and the total carrying value to R10bn within 5 years. Associated investment risk will, however, curtail upward rating migration until the strategy is bedded down in the medium term. By virtue of the fairly small scale of its legacy properties, the fund has a very large tenant base. Although the high number of properties elevates the administrative burden, 69% of rental income was derived from ‘A’ grade tenants leasing primarily single tenant buildings at FYE13. The lease expiry profile is, however, fairly lumpy, with the majority lapsing within 36 months. Vacancies spiked to 11.8% at 1H F14 (FYE13: 9.1%), mainly due to redevelopments. Although this was transitional and has since eased to 8%, note is taken of the tougher operating climate, to which secondary grade tenants are particularly sensitive.

Rental income peaked at R375m in F13 (F12: R300m), rising by an annualised 29% in 1H F14. Paced acquisitive activity over the medium term will continue to drive relatively sound rental income growth, albeit at more moderate rates, given the fund’s larger scale in comparison to the size and timing of transactions. Albeit having eased to 78% in 1H F14 (F13: 79% normalised), the EBITDA margin is atypically robust for REITs with similar granularity and a large retail exposure (61% of rental income). Rising cost pressures, mainly stemming from utility costs, rates and taxes, however, are likely to lead to progressive margin compression over the medium term.

Affiliated funds and other institutional investors have actively funded Dipula’s growth strategy, providing direct capital support or taking up linked units as part payment for properties sold to the fund. Management has in turn maintained its strategic shareholding, with active unit buying evidenced in recent months. As such, debt has risen gradually over the review period to R1.6bn at 1H F14 (FYE13: R1.5bn). Nearly 60% of the fund’s borrowings are set to mature by FYE16, elevating refinancing risk. Dipula also relies significantly on one bank for the majority of its credit lines. The planned DMTN programme is therefore positively viewed, as it provides an important financing alternative. Properties held as at 1H F14 are largely encumbered, with moderate overcollateralisation on existing facilities implying limited recovery prospects for unsecured bondholders. Albeit comfortable for a ‘BBB’ rated fund, the 1H F14 LTV ratio and debt to EBITDA of 40% and 429% reflect fairly limited funding flexibility in view of these encumbrances (FYE13: 39%; 478%). As such, linked unitholders’ support will be required to fund further growth. In 1H F14, net interest cover was at 3.3x (F13: 4.1x), and is expected to remain comfortably above the 2.5x threshold for highly rated funds, as progressively stronger income feeds through from higher quality acquisitions.

Improving the debt maturity profile by successfully rolling maturing obligations will be necessary to maintain the current ratings. Looking further ahead, the proven ability to bed down larger acquisitions, translating to sound medium term cash flows, would be supportive of an enhanced credit risk profile in a challenging operating environment. However, LTVs persistently above the 45% mark would indicate excessive gearing. Given its weighting, underperformance in retail would restrict cash flows, impairing Dipula’s ability to service debt or expand the property portfolio, and thereby placing downward pressure on the ratings.

NATIONAL SCALE RATINGS HISTORY

Initial rating (Sep/2014)
Long term: BBB(ZA); Short term: A3(ZA)
Outlook: Stable

ANALYTICAL CONTACTS

Primary Analyst
Patricia Zvarayi
Senior Analyst
(011) 784-1771
patricia@globalratings.net

Committee Chairperson
Eyal Shevel
Sector Head: Corporate Ratings
(011) 784-1771
shevel@globalratings.net

APPLICABLE METHODOLOGIES AND RELATED RESEARCH

GCR’s Global Master Criteria for Rating Corporate Entities, updated August 2014
GCR’s Criteria for Rating Property Funds; updated July 2014
Dipula Income Fund Limited (“Dipula”) Rating Report, 2014

RATING LIMITATIONS AND DISCLAIMERS

ALL GCR’S CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://GLOBALRATINGS.NET/UNDERSTANDING-RATINGS. IN ADDITION, GCR’S RATING SCALES AND DEFINITIONS ARE ALSO AVAILABLE FOR DOWNLOAD AT THE FOLLOWING LINK: HTTP://GLOBALRATINGS.NET/RATINGS-INFO/RATING-SCALES-DEFINITIONS. GCR’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, PUBLICATION TERMS AND CONDITIONS AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE AT HTTP://GLOBALRATINGS.NET.

SALIENT FEATURES OF ACCORDED RATINGS

GCR affirms that a.) no part of the rating was influenced by any other business activities of the credit rating agency; b.) the rating was based solely on the merits of the rated entity, security or financial instrument being rated; c.) such rating was an independent evaluation of the risks and merits of the rated entity, security or financial instrument; and d.) the validity of the rating is for a maximum of 12 months, or earlier as indicated by the applicable credit rating document.

Dipula Income Fund Limited participated in the rating process via face-to-face management meetings, teleconferences and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible.

The credit rating/s has been disclosed to Dipula Income Fund Limited with no contestation of the rating.

The information received from Dipula Income Fund Limited and other reliable third parties to accord the credit rating included the 2013 audited annual financial statements (plus four years of comparative numbers), profitability projections for the years 2014-2017, unaudited interim results for the six months to February 2014, information on the property portfolio and a summary of available banking facilities. In addition, information specific to the rated entity and/or industry was also received.

The ratings above were solicited by, or on behalf of, the rated client, and therefore, GCR has been compensated for the provision of the ratings.

GLOSSARY OF TERMS/ACRONYMS USED IN THIS REPORT

Cash Flow

The inflow and outflow of cash and cash equivalents. Such flows arise from operating, investing and financing activities.

Credit Risk

The possibility that a bond issuer or any other borrowers (including debtors/creditors) will default and fail to pay the principal and interest when due.

DMTN programme

Domestic Medium Term Note Programme

EBITDA

Earnings before interest, taxes, depreciation and amortisation is useful for comparing the income of companies with different asset structures as it calculated before excluding non-cash expenses related to assets.

Gearing

With regard to corporate analysis, gearing (or leverage) refers to the extent to which a company is funded by debt and can be calculated by dividing its debt by shareholders’ funds, EBITDA or by the value of investments.

Gross lettable area (“GLA”)

This is the amount of floor space available to be rented in a commercial property.

Institutional Investors

Financial institutions such as pension funds, asset managers and insurance companies, which invest large amounts in financial markets on behalf of their clients.

Interest Cover

Interest cover is a measure of a company’s interest payments relative to its profits. It is calculated by dividing a company’s operating profit by its interest payments for a given period.

Liquidity Risk

The risk that a company may not be able to take or meet its financial obligations or other operational cash requirements due to an inability to timeously realise cash from its assets.

Loan to value (“LTV”)

A ratio used to assess lending risk, usually calculated by expressing the principal balance on a mortgage as a percentage of the market or carrying value of investment properties.

Operating Profit

Profits from a company’s ordinary revenue-producing activities, calculated before taxes and interest costs.

Portfolio

A collection of investments held by an individual investor or financial institution. They may include stocks, bonds, futures contracts, options, real estate investments or any item that the holder believes will retain its value.
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