NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed the ratings for Federal Realty Investment Trust (NYSE: FRT), including the Long-Term Issuer Default Rating (IDR) at 'A-'. A full list of rating actions follows at the end of this release.
KEY RATING DRIVERS
The consistent and steady cash flow growth provided by Federal's high-quality, well-located community shopping centers underpins Fitch's ratings and Outlook, together with the company's track record of prudent balance sheet management and creative redevelopment and mixed-use development.
The potential for near-term weakness in Federal's Washington, D.C. portfolio (approximately 31% of annualized base rent [ABR]) and some remaining execution risk and leasing related to its mixed-use developments under construction balance these credit positives.
Buy-And-Hold Strategy
Fitch views positively Federal's buy-and-hold strategy, which targets premier retail properties in supply-constrained markets with above average demographics. This strategy, augmented by the company's redevelopment activities, has enabled Federal to produce consistently robust operating performance, which has historically been stronger and more stable through the cycle than the retail real estate market generally, and its public shopping center REIT peers specifically.
Consistent and Superior Growth
Federal's property management expertise of its 96 properties comprising 22.3 million square feet as of June 30, 2016 is evidenced by consistently positive same store net operating income (SSNOI) growth, excluding redevelopments, through multiple cycles. Within the last 10 years, the lone exception was 2009 when SSNOI declined 0.3%. This compares to the average decline of 4.6% in 2009 amongst its public shopping center REIT peers.
When including NOI from redevelopment properties, Federal's SSNOI growth has not declined below 1.6% in any year over the last decade, resulting in year-over-year recurring operating EBITDA growth significantly stronger than its peers.
Federal's consistently strong rent growth on expiring leases largely reflects the high quality infill locations of its properties. Federal's releasing spreads have been higher than peers during this economic and commercial real estate recovery, and Fitch expects the company to continue to outperform its peers and the market broadly. Moreover, the company was unique among shopping center REITs in its ability to maintain positive leasing spreads throughout the economic downturn.
Appropriate Leverage
Fitch expects Federal's leverage to sustain in the mid 5x range, throughout the ratings horizon as the company's larger developments come online and begin to contribute to portfolio cash flows during the next two to three years. Leverage was 5.3x for the trailing-12-months (TTM) ending June 30, 2016 compared to 5.4x and 5.2x in 2015 and 2014, respectively. Federal has historically managed leverage at conservative levels, ranging between the mid-4x and mid-5x during the last 10 years.
Strong Fixed-Charge Coverage
Fitch expects fixed-charge coverage to improve modestly and remain in the low 4.0x range through 2018-end, which is strong for the rating. Federal's fixed-charge coverage was 4.1x for the TTM ending June 30, 2016 compared to 3.9x in 2015 and 3.5x in 2014.
Strong Contingent Liquidity
Federal's sizeable unencumbered asset pool provides additional protection to unsecured debt holders. As of June 30, 2016, 89% of the company's property EBITDA was unencumbered. Fitch calculates the company's unencumbered asset value coverage of unsecured debt (UA/UD) was 3.3x at June 30, 2016, based on applying a stressed 7% capitalization rate to the second quarter 2016 (2Q'16) unencumbered NOI.
Fitch's ratings for Federal incorporate the high quality of its unencumbered asset pool, which includes the company's three largest (by ABR) and most valuable properties: Santana Row (San Jose, CA), Bethesda Row (Bethesda, MD) and Assembly Row/Assembly Square Marketplace (Somerville, MA), which together comprise 14% of ABR.
Granular Tenant Base
High tenant credit quality and granularity within Federal's portfolio help mitigate tenant bankruptcy risk. Only one tenant (grocer Ahold USA, Inc.; 'BBB' IDR) represents more than 3% of ABR, and the top 25 tenants represent a relatively low 29.8% of total ABR as of June 30, 2016.
The company maintains well laddered lease expirations by year with average annual lease expirations of 8.7% of ABR between 2016 and 2025 and a maximum of 12.6% of ABR expiring in a single year (excluding tenant lease extension options).
Adequate Liquidity Coverage; But Development A Factor
Fitch's base case analysis shows liquidity coverage, pro forma for the July 2016 unsecured bond offering, of 1.6x through the end of 2018. However, liquidity coverage declines to 0.8x when incorporating the cost to complete the development pipeline, which is weak for the rating. Development exposure, measured by cost-to-complete divided by total undepreciated assets, was 7.2% as of June 30, 2016, well above 'A'-rated peers' average of approximately 3.0%.
Federal's demonstrated access to multiple forms of capital offsets its refinancing and development funding risk. In addition, Federal's retained operating cash flow after dividend payments provides approximately $75 million of internally generated capital annually that can be used to fund investment activity and/or satisfy its financing obligations. Fitch calculates that the company's dividends represented 79.6% adjusted funds from operations during the LTM period ending June 30, 2016, in-line with the broader equity REIT median payout.
Fitch defines liquidity coverage as sources of liquidity (unrestricted cash, availability under the company's unsecured revolving credit facility pro forma for the recent commitment size increase, projected retained cash flows from operating activities after dividends and distributions) divided by uses of liquidity (pro rata debt maturities and projected recurring capital expenditures) for July 1, 2016 to Dec. 31, 2018.
Geographic Concentration
The portfolio's moderate asset and market concentrations and continued industry-wide weakness among select retailer tenants -- primarily local small-shop tenants -- are moderate credit concerns. Also, Federal generates approximately 31% of its ABR from the D.C. Metro market where commercial real estate market conditions weakened due to cutbacks in U.S. government spending, but more recently have recently stabilized. The company may also face near-term headwinds at Santana Row due to new supply pressures.
Preferred Stock Notching
The two-notch differential between Federal's IDR and preferred stock rating is consistent with Fitch's criteria for corporate entities with an IDR of 'A-'. Based on Fitch research titled 'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit Analysis', available on Fitch's web site at 'www.fitchratings.com', these preferred securities are deeply subordinated and have loss absorption elements that would likely result in poor recoveries in the event of a corporate default.
Stable Outlook
The Stable Outlook centers on Fitch's expectation that Federal's credit profile will remain appropriate for the 'A-' rating through economic cycles, barring any significant changes in the company's capital structure. The Stable Outlook reflects the high quality of management and consistency of cash flows resulting in stable credit metrics, in line with an 'A-' rating. Further, Federal continues to access various sources of capital and maintains a solid unencumbered asset base and liquidity profile.
KEY ASSUMPTIONS
Fitch's key assumptions within Fitch's rating case for the issuer include:
--GAAP SSNOI will grow by approximately 3% per year through 2018, primarily due to strongly positive leasing spreads.
--Acquisitions of $380 million combined 2016 - 2018.
--No dispositions 2016 - 2018.
--Annual development and redevelopment capex of $300 million in 2016, $250 million in 2017 and $250 million in 2018.
--Maintenance capex spending of $55 - $65 million per annum for tenant improvements, leasing costs and maintenance capex in 2016 - 2018.
--Federal issues $250 million and $300 million of senior unsecured notes in 2017 and 2018, respectively, each at rates of 3.75%.
--Federal issues $245 million, $50 million and $50 million of equity during 2016, 2017 and 2018, respectively.
RATING SENSITIVITIES
While Fitch does not expect near-term positive momentum on the rating, the following factors may have a positive impact on Federal's ratings and/or Outlook:
--Fitch's expectation of leverage sustaining below 4.5x (leverage was 5.3x at June 30, 2016);
--Fitch's expectation of fixed charge coverage sustaining above 3.5x (coverage was 4.1x at June 30, 2016);
--Reduction in development exposure to a level more consistent with 'A'-rated peers;
--Greater asset diversification of the portfolio via growth (Federal's three largest assets generate roughly 14% of total ABR).
The following factors may result in negative momentum on the rating and/or Outlook:
--Shift in management strategy away from owning and redeveloping retail assets in infill locations;
--Unencumbered asset coverage of unsecured debt below 2.5x (coverage was 3.3x at June 30, 2016 utilizing a stressed 7% capitalization rate);
--Fitch's expectation of leverage above 5.5x;
--Fitch's expectation of fixed charge coverage sustaining below 2.5x.
FULL LIST OF RATING ACTIONS
Fitch has affirmed the following ratings:
--Long-Term Issuer Default Rating (IDR) at 'A-';
--Unsecured revolving credit facility at 'A-';
--Senior unsecured term loan at 'A-';
--Senior unsecured notes at 'A-';
--Redeemable preferred shares at 'BBB'.
The Rating Outlook is Stable.
Summary of Financial Statement Adjustments - Financial statement adjustments that depart materially from those contained in the published financial statements of the relevant rated entity or obligor are disclosed below:
--Historical and projected recurring operating EBITDA is adjusted to add back non-cash stock-based compensation;
--50% of cumulative perpetual preferred stock is included as debt to calculate leverage ratios.
Additional information is available on www.fitchratings.com.
Applicable Criteria
Criteria for Rating Non-Financial Corporates (pub. 27 Sep 2016)
https://www.fitchratings.com/site/re/885629
Recovery Ratings and Notching Criteria for Equity REITs (pub. 03 Dec 2015)
https://www.fitchratings.com/site/re/874214
Treatment and Notching of Hybrids in Non-Financial Corporate and REIT Credit Analysis (pub. 29 Feb 2016)
https://www.fitchratings.com/site/re/878264
Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1012830
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1012830
Endorsement Policy
https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTPS://WWW.FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.
Copyright © 2016 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY 10004. Telephone: 1-800-753-4824, (212) 908-0500. Fax: (212) 480-4435. Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch's factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent third- party verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch's ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. As a result, despite any verification of current facts, ratings and forecasts can be affected by future events or conditions that were not anticipated at the time a rating or forecast was issued or affirmed.
The information in this report is provided "as is" without any representation or warranty of any kind, and Fitch does not represent or warrant that the report or any of its contents will meet any of the requirements of a recipient of the report. A Fitch rating is an opinion as to the creditworthiness of a security. This opinion and reports made by Fitch are based on established criteria and methodologies that Fitch is continuously evaluating and updating. Therefore, ratings and reports are the collective work product of Fitch and no individual, or group of individuals, is solely responsible for a rating or a report. The rating does not address the risk of loss due to risks other than credit risk, unless such risk is specifically mentioned. Fitch is not engaged in the offer or sale of any security. All Fitch reports have shared authorship. Individuals identified in a Fitch report were involved in, but are not solely responsible for, the opinions stated therein. The individuals are named for contact purposes only. A report providing a Fitch rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. Ratings may be changed or withdrawn at any time for any reason in the sole discretion of Fitch. Fitch does not provide investment advice of any sort. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from US$1,000 to US$750,000 (or the applicable currency equivalent) per issue. In certain cases, Fitch will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from US$10,000 to US$1,500,000 (or the applicable currency equivalent). The assignment, publication, or dissemination of a rating by Fitch shall not constitute a consent by Fitch to use its name as an expert in connection with any registration statement filed under the United States securities laws, the Financial Services and Markets Act of 2000 of the United Kingdom, or the securities laws of any particular jurisdiction. Due to the relative efficiency of electronic publishing and distribution, Fitch research may be available to electronic subscribers up to three days earlier than to print subscribers.
For Australia, New Zealand, Taiwan and South Korea only: Fitch Australia Pty Ltd holds an Australian financial services license (AFS license no. 337123) which authorizes it to provide credit ratings to wholesale clients only. Credit ratings information published by Fitch is not intended to be used by persons who are retail clients within the meaning of the Corporations Act 2001