NEW YORK--(BUSINESS WIRE)--Fitch Ratings has assigned 'B-/RR4' credit ratings to the $565 million aggregate principal amount 3.875% senior unsecured notes due 2016 and 4.875% senior unsecured notes due 2018 issued by iStar Financial Inc. (NYSE: SFI).
The 3.875% notes were issued at 100% of par, representing a 353 basis point spread to the benchmark treasury yield. The 4.875% notes were issued at 100% of par, representing a 413 basis point spread to the benchmark treasury yield.
The company intends to use the net proceeds to redeem the remaining $97 million of its 8.625% senior notes due 2013, and the remainder of the net proceeds, together with cash on hand, to redeem the remaining $448 million of its 5.95% senior notes due 2013.
Fitch currently rates iStar Financial Inc. as follows:
--Issuer Default Rating (IDR) 'B-';
--2012 senior secured tranche A-1 due March 2016 'BB-/RR1';
--2012 senior secured tranche A-2 due March 2017 'B+/RR2';
--February 2013 secured credit facility due 2017 'BB-/RR1';
--Senior unsecured notes 'B-/RR4';
--Convertible senior notes 'B-/RR4';
--Preferred stock 'CCC-/RR6'.
The Rating Outlook is Positive.
KEY RATING DRIVERS
Fitch revised iStar's Outlook to Positive on March 18, 2013 based on the company's demonstrated access to the unsecured debt market, which, combined with certain secured debt refinancings, have significantly improved SFI's near-term debt maturity profile. The affirmation was also driven by continued weak portfolio metrics, particularly non-performing loans relative to the size of the total loan portfolio.
Improvements in the company's loan and operating property portfolios should increase its ability to repay upcoming indebtedness. Stronger performance should be driven by the mild improvement in commercial real estate fundamentals, value stabilization, and financing markets (which increases the likelihood of iStar's borrowers to repay their debt).
MIXED PORTFOLIO QUALITY
The quality of SFI's loan portfolio has remained roughly the same, with non-performing loans representing approximately 39% of the company's gross loan portfolio balance as of March 31, 2013, down from 42% as of Dec. 31, 2012.
As of March 31, 2013, commercial operating properties, excluding hotels and multifamily properties, were 60.7% leased compared to 44.2% leased as of March 31, 2012, indicative of improving commercial real estate fundamentals. As of March 31, 2013, net lease assets were 95.0% leased compared to 94.4% leased as of March 31, 2012.
The land segment represented 18% of the company's total portfolio assets. Value realization from this segment may be protracted and weigh on fixed charge coverage and leverage.
HIGH LEVERAGE
Despite an improved debt maturity profile, the company's leverage measured on a GAAP earnings basis (defined as net debt divided by annual recurring operating EBITDA) of approximately 17x as of March 31, 2013 remains stubbornly high, although it is down from approximately 26x as of Dec. 31, 2011. Reported EBITDA may understate SFI's cash generation power, given that the accounting for non-performing loans and real estate owned (REO) allows it to recognize income only upon cash receipt or resolution of the loan. For example, the company has generated approximately $1.6 billion of asset monetizations over the last 12 months, mostly from repayments of and principal collections on loans, driving a $1.5 billion reduction in total debt during that same time period.
LOW COVERAGE
Fixed charge coverage (defined as recurring operating EBITDA before non-cash impairments, provisions and gains divided by the sum of interest expense and preferred stock dividends) was only 0.6x for the 12 months ended March 31, 2013 and was 0.6x for the year ended Dec. 31, 2012, compared with 0.5x and 1.1x for the years ended Dec. 31, 2011 and 2010, respectively. Fitch expects this ratio to strengthen moderately as the company reduces debt from asset sales and begins to recognize additional GAAP earnings from lease-up of assets within its operating property segment and sales of residential properties.
CONSTRAINED GROWTH
The company is moderately constrained by non-compliance with an unsecured bond fixed charge incurrence covenant, which limits the company's ability to incur any additional debt to grow its investment portfolio. SFI's growth will occur via investment of asset sales proceeds, such as the recently announced sale of LNR Property LLC and from external capital raising, such as the company's recent $200 million convertible preferred stock offering.
LOWER QUALITY UNENCUMBERED POOL
SFI's corporate unsecured obligations will need to be serviced by the company's unencumbered pool, income from assets serving as collateral for the 2012 secured financings, and external sources of liquidity, given that both the 2012 senior secured financing and February 2013 secured credit facility debt transactions require that collateral repayments, sales proceeds and other monetizations be used primarily to repay debt encumbering collateral pools for each financing. Fitch believes there may be adverse selection whereby higher-quality assets are collateral for SFI's secured financings, leaving lower-quality assets in the unencumbered pool.
A portion of SFI's unencumbered assets is liquid and could be sold to meet corporate obligations. The company's recent sale of its 24% ownership interest of LNR Property LLC generated $220 million in net proceeds to SFI, indicative of some liquidity of the company's unencumbered asset base.
RECOVERIES
While concepts of Fitch's Recovery Rating methodology are considered for all companies, explicit Recovery Ratings are assigned only to those companies with an IDR of 'B+' or below. At the lower IDR levels, there is greater probability of default so the impact of potential recovery prospects on issue-specific ratings becomes more meaningful and is more explicitly reflected in the ratings dispersion relative to the IDR.
The February 2013 secured credit facility and 2012 senior secured tranche A-1 ratings of 'BB-/RR1', or a three-notch positive differential from iStar's 'B-' IDR, are based on Fitch's estimate of outstanding recovery in the 91%-100% range. Together with 2012 senior secured tranche A-2, these obligations represent first lien security claims on collateral pools comprising primarily performing loans and credit tenant lease assets. The 2012 senior secured tranche A-1 has amortization payment priority relative to the A-2 tranche.
The 2012 senior secured tranche A-2 rating of 'B+/RR2', or a two-notch positive differential from iStar's 'B-' IDR, is based on Fitch's estimate of superior recovery. Together with the A-1 tranche, these obligations represent first lien security claims on a collateral pool comprising primarily performing loans and credit tenant lease assets, but would receive principal amortization only upon the full repayment of the A-1 tranche.
The senior unsecured notes and senior convertible notes ratings of 'B-/RR4' are in line with iStar's 'B-' IDR, based on Fitch's estimate of good recovery based on iStar's current capital structure.
While the application of Fitch's recovery criteria indicates a stronger 'RR3' recovery, the company may further encumber a portion of its unencumbered pool to repay unsecured indebtedness. This action benefits the IDR at the detriment of recoveries, and Fitch has incorporated the presence of the unencumbered pool in the 'B-' IDR. This adverse selection also results in less liquid and less traditional commercial real estate collateral remaining in the unencumbered pool to support bondholder recoveries, resulting in Fitch rating recoveries of the unsecured corporate obligations at 'RR4'.
The preferred stock rating of 'CCC-/RR6' or a three-notch negative differential from iStar's 'B-' IDR, is based on Fitch's estimate of poor recovery based on iStar's current capital structure. Fitch's recovery ratings criteria provide flexibility for a two- or three-notch negative differential between the IDR and instrument rating. A three-notch negative differential is based on the nature of iStar's perpetual preferred stock - a deeply subordinated security that has weak terms and remedies available both before and after a general corporate default (e.g. no stated maturity, an inability for holders to put the security back to the company, and iStar has the ability to defer dividends indefinitely without triggering a corporate default).
POSITIVE OUTLOOK
The Positive Outlook is based on iStar's ability to access the unsecured bond market five times since 2012, raising $1.3 billion. These offerings, combined with a refinancing of certain secured debt financings have created a stronger liquidity profile and manageable debt maturities until 2016. In addition, the nascent recovery in commercial real estate fundamentals and value should enable the company to further monetize assets within its operating property segment and its unencumbered asset pool more broadly.
RATING SENSITIVITIES
The following may have a positive impact on iStar's ratings and/or Outlook:
--The ability to incur additional debt under the company's debt incurrence fixed charge covenant;
--Improvement in the quality of the unencumbered pool, measured by the sum of non-performing loans, other real estate owned and real estate held for investment comprising less than 25% of the unencumbered pool;
--Monetization of the company's unencumbered real estate investment portfolio via asset sales to repay unsecured debt;
--Continued demonstrated access to the common equity or unsecured bond market.
The following may have a negative impact on the ratings and/or Outlook:
--Deterioration in the quality of iStar's loan portfolio, including an increase in non-performing loans and additional provisions for loan losses;
--An increase in the operating property segment as a percentage of the company's investments.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Fitch Affirms iStar Financial at 'B-'; Outlook to Positive' (March 18, 2013);
--'Criteria for Rating U.S. Equity REITs and REOCs' (Feb. 26, 2013);
--'Criteria for Rating U.S. Mortgage REITs and Similar Finance Companies' (Feb. 26, 2013);
--'Recovery Rating and Notching Criteria for REITs' (Nov. 12, 2012);
--'Recovery Ratings for Financial Institutions' (Aug. 15, 2012);
--'Global Financial Institutions Rating Criteria' (Aug. 15, 2012);
--'Corporate Rating Methodology' (Aug. 8, 2012).
Applicable Criteria and Related Research
Corporate Rating Methodology
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=684460
Criteria for Rating U.S. Equity REITs and REOCs
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=700091
Criteria for Rating U.S. Mortgage REITs and Similar Finance Companies
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=700092
Recovery Ratings and Notching Criteria for Equity REITs
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=693751
Recovery Ratings for Financial Institutions
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686295
Global Financial Institutions Rating Criteria
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=686181
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=790921
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