Johannesburg, 22 April 2016 — Global Credit Ratings has today affirmed the national scale ratings assigned to Fortress Income Fund Limited of A(ZA) and A1(ZA) for the long and short term respectively; with the outlook accorded as Positive.
SUMMARY RATING RATIONALE
Global Credit Ratings has accorded the above credit rating(s) to Fortress Income Fund Limited (“Fortress”) based on the following key criteria:
Fortress’ acquisition of Capital Property Fund Limited (“Capital”) increased the size of its balance sheet to R53.8bn at 1H F16, from R18.4bn at FYE15, and fundamentally changed the REIT’s profile. Accordingly, Fortress is now included in the JSE Top 40 and MSCI world indices, notably enhancing the tradability of its shares.
The significantly enlarged property portfolio, which made up 48% of total investments at 1H F16, now includes SA’s largest listed logistics portfolio and a large pool of well-positioned retail centres. These respectively accounted for 46% and 31% of Fortress’ property investments at 1H F16. The property portfolio has well-spaced lease maturities, with exposure to mostly ‘A’ grade tenants, none of which make up more than 5% of contractual rentals. The vacancy rate of 6.2% of GLA at 1H F16 reflects pressure from office properties, but the much better contained logistics and retail vacancy rates, together with the sound overall property fundamentals, are supportive of the existing ratings. Growth in the property portfolio will mainly draw from logistics and retail, and over time, the REIT intends to exit office and any industrial assets that are not purely logistics-oriented.
Despite the change in its sectoral exposure, management continues to specialise, with the aim of maintaining modern, niche properties with strongly defensive characteristics. Overall, Fortress will continue to be managed as a fully hybridised fund, supporting atypically low encumbrances and a strong Rand hedge from its holding in offshore securities. The REIT reported a R4.8bn pipeline of logistics developments (including the landmark Clairwood project) at 1H F16, which could go up to R6bn over the next three years. This development exposure is higher than GCR previously factored into the analysis, and could be a ratings pressure point going forward.
Interim results mostly reflect the balance sheet impact of the acquisition, but mask the inherent performance of the much larger REIT. As such, earnings based indicators are only meaningful if calculated on a rolling basis, and historical comparatives are only significant as a reference to the conservative nature of the REIT’s strategy. That said, the combined operating margin is expected to trend above 100%, despite the impact of market volatility on indirect investment returns and cost pressures from utilities and rates. Interest cover ratios are projected to remain above GCR’s benchmarks for ‘A’ band rated funds, and comfortably ahead of covenants. Fortress is expected to adhere to its very conservative interest and currency hedges, although the impact of the upward rate cycle on the all-in cost of financing is also considered.
At 1H F16, borrowings of R13bn (FYE15: R4.2bn) still translated to a very conservative LTV metric, which will be managed below 35% going forward through conservatively geared property developments and acquisitions. This was considered in mitigation of expected rolling debt to EBITDA of between 400%-500%, which is outside GCR’s 400% upper limit for ‘A’ rated REITs. Fortress has ample unutilised facilities at hand, while unencumbered securities represent very robust recoveries for unsecured noteholders. This lends much more flexibility in terms of securing debt funding than is typically evidenced in the REIT space.
Looking ahead, upward movement in the ratings is contingent upon adherence to a conservative strategy in bedding down the enlarged REIT. Rolling debt to EBITDA metrics especially, would be expected to trend towards, or to be managed close to GCR’s 400% threshold for ‘A’ band rated funds. However, the adverse operating environment is expected to slow returns from REITs across the board. Coupled with adverse socio-political developments, this could materially weaken performance benchmarks.
|NATIONAL SCALE RATINGS HISTORY|
|Initial rating (April 2012)|
|Long term: A-(ZA); Short term: A1-(ZA)|
|Last rating (April 2015)|
|Long term: A(ZA); Short term: A1(ZA)|
|Sector Head: Corporate & Public Sector Debt Ratings|
APPLICABLE METHODOLOGIES AND RELATED RESEARCH
Criteria for Rating Property Funds, updated April 2015
Criteria for Rating Corporate Entities, updated February 2016
Fortress Rating Reports, 2012-2015
|Balance Sheet||Also known as Statement of Financial Position. A statement of a company’s assets and liabilities provided for the benefit of shareholders and regulators. It gives a snapshot at a specific point in time of the assets the company holds and how they have been financed.|
|Covenant||A provision that is indicative of performance. Covenants are either positive or negative. Positive covenants are activities that the borrower commits to, typically in its normal course of business. Negative covenants are certain limits and restrictions on the borrowers’ activities.|
|Credit Rating||An opinion regarding the creditworthiness of an entity, a security or financial instrument, or an issuer of securities or financial instruments, using an established and defined ranking system of rating categories.|
|Credit Rating Agency||An entity that provides credit rating services.|
|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.|
|Debt||An obligation to repay a sum of money. More specifically, it is funds passed from a creditor to a debtor in exchange for interest and a commitment to repay the principal in full on a specified date or over a specified period.|
|Default||Failure to meet the payment obligation of either interest or principal on a debt or bond. Technically, a borrower does not default, the initiative comes from the lender who declares that the borrower is in default.|
|EBITDA||EBITDA is useful for comparing the income of companies with different asset structures. EBITDA is usually closely aligned to cash generated by operations.|
|Exposure||Exposure is the amount of risk the holder of an asset or security is faced with as a consequence of holding the security or asset. For a company, its exposure may relate to a particular product class or customer grouping. Exposure may also arise from an overreliance on one source of funding.|
|GLA||Or gross lettable area, is the portion of the total floor area of a building that is available for tenant leasing, and is usually expressed in square meters or square feet.|
|Hedge||A form of insurance against financial loss or other adverse circumstances.|
|Interest||Scheduled payments made to a creditor in return for the use of borrowed money. The size of the payments will be determined by the interest rate, the amount borrowed or principal and the duration of the loan.|
|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.|
|Interest Rate||The charge or the return on an asset or debt expressed as a percentage of the price or size of the asset or debt. It is usually expressed on an annual basis.|
|JSE||Johannesburg Stock Exchange.|
|Liabilities||All financial claims, debts or potential losses incurred by an individual or an organisation.|
|Liquidity||The speed at which assets can be converted to cash. It can also refer to the ability of a company to service its debt obligations due to the presence of liquid assets such as cash and its equivalents. Market liquidity refers to the ease with which a security can be bought or sold quickly and in large volumes without substantially affecting the market price.|
|LTV||Principal balance of a loan divided by the value of the property that it funds. LTVs can be computed as the loan balance to most recent property market value, or relative to the original property market value.|
|Margin||A term whose meaning depends on the context. In the widest sense, it means the difference between two values.|
|National Scale Rating||The national scale provides a relative measure of creditworthiness for rated entities only within the country concerned. Under this rating scale, a ‘AAA’ long term national scale rating will typically be assigned to the lowest relative risk within that country, which in most cases will be the sovereign state.|
|Operating Margin||Operating margin is operating profit expressed as a percentage of a company’s sales over a given period.|
|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.|
|Principal||The total amount borrowed or lent, e.g. the face value of a bond, excluding interest.|
|Redemption||The repurchase of a bond at maturity by the issuer.|
|REIT||A Real Estate Investment Trust is a company that owns or finances income-producing real estate. REITs are subject to special tax considerations and generally pay out all of their taxable income as distributions to shareholders.|
|Risk||The possibility that an investment or venture will make a loss or not make the returns expected. There are many different types of risk including basis risk, country risk, credit risk, currency risk, economic risk, inflation risk, liquidity risk, market or systemic risk, political risk, settlement risk and translation risk.|
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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.
Fortress 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 Fortress Income Fund Limited with no contestation of the rating(s).
The information received from Fortress Income Fund Limited and other reliable third parties to accord the credit rating(s) included:
- the 2015 audited annual financial statements (plus four years/periods of comparative numbers);
- Fortress’ Category 1 Circular and other SENS guidance to shareholders regarding the Capital acquisition;
- condensed unaudited interim financial statements for the six months ended 31 December 2015;
- corporate governance and enterprise risk framework;
- industry comparative data; and
- a breakdown of facilities available and related counterparties at 31 December 2015 and 31 March 2016.
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.
GCR affirms Fortress Income Fund Limited’s rating of A(ZA); Outlook Positive.