Category: Issue Comments

DBRS has announced that it:

has today downgraded the Issuer Rating and the Senior Unsecured Debt & Medium-Term Notes of Atlantic Power Limited Partnership (APLP) to B (high) from BB, and the rating of Atlantic Power Preferred Equity Ltd.’s Cumulative Preferred Shares to Pfd-5 (high) from Pfd-4. The trends on all ratings are now Negative. The ratings of APLP are based on the credit quality of Atlantic Power Corporation (ATP or the Company; not rated by DBRS) given that APLP guarantees the majority of ATP’s debt at the holding company level (22% of consolidated debt as at June 30, 2013).
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The Negative trend reflects DBRS’s view that the Company’s key ratios could weaken further as a meaningful recovery of the wholesale power market will be challenging. The wholesale electricity market outlook remains weak and creates uncertainties associated with the renewal of certain long-term contracts, such as Selkirk (expires in August 2014), Tunis (December 2014) and Greeley (August 2013). In the absence of business environment improvement, ATP will likely have to execute a combination of the following to improve its financial profile: (1) capital and operating expense spending curtailment, (2) dividend reduction and (3) further asset sales. If ATP is successful in implementing a sustainable recovery, which would be largely influenced by the timing of the electricity price recovery, DBRS could consider changing the trend to Stable. However, should ongoing weak business fundamentals remain and key financial metrics deteriorate further, DBRS will likely take a further negative rating action.

These issues were recently downgraded to P-5 by S&P.

Standard & Poor’s has announced:

• We are revising our outlook on Montreal-based Bombardier Inc. to negative from stable.
• The outlook revision follows two recently announced delays to the first flight of Bombardier’s CSeries plane. We believe these delays create a heightened risk of further capital costs for the CSeries program, as well
  as a possible delay in our expected timeline for the recovery of Bombardier’s credit metrics.

• The negative outlook reflects our opinion that Bombardier will be challenged in the next 24 months to improve its credit metrics to be commensurate with a ‘BB’ rating.
• We are also affirming our ‘BB’ long-term corporate credit rating on the company.

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As of June 30, 2013, the company’s adjusted debt-to-EBITDA leverage ratio was 9x, which we view as very weak for a ‘BB’ rating. The negative outlook also reflects our opinion that Bombardier could be challenged in the next 24 months to improve its credit metrics to be commensurate with a ‘BB’ rating.
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We could downgrade the company if it is unable to achieve an adjusted debt-to-EBITDA leverage ratio of 8x or lower at year-end 2013. In addition, we could lower our rating on Bombardier if there are further delays in the CSeries program, resulting in increased capital expenditures that would ultimately delay improvement in the adjusted leverage ratio from our current expectations in the next two years and weaken our assessment of the company’s financial risk profile. Furthermore, should Bombardier’s liquidity deteriorate to a point where we believe it will need additional funds over the next two years, we could downgrade the company.

A return to a stable outlook would require Bombardier to be on a definitive path to successfully placing the CSeries into service, which in our view, would support the recovery of its credit metrics, including a funds from operations-to-debt ratio of about 12% or higher by year-end 2014.

This follows the Review-Negative from DBRS.

Bombardier has three series of preferreds outstanding: BBD.PR.B (Ratchet Rate); BBD.PR.C (PerpetualDiscount) and BBD.PR.D (FixedFloater). All are tracked by HIMIPref™; all are assigned to the Scraps index on Credit concerns.

Financial 15 Split Corp. has released its Semi-Annual Report to May 31, 2013.

Figures of interest are:

MER: 1.19%

Average Net Assets: We need this to calculate portfolio yield. The Total Assets of the fund at year end was $133.2-million, compared to $147.0-million on May 31, so call it an average of $140.1-million. Total Preferred Share Distribution for the six months was $2.427-million, at $0.525/share p.a. implies an average of 9.25-million units, at an average NAV of ((15.89 + 14.37) / 2 = 15.13, so call it $140.0-million. Pretty close! Call the average net assets $140-million

Underlying Portfolio Yield: Semi-annual dividends received (net of withholding) of 2,066,050 divided by average net assets of 140-million is 2.95%

Income Coverage: Net Investment Income of 1,218,283, divided by Preferred Share Distributions of 2,426,598 is 50.2%.

Dividend 15 Split Corp. has released its Semi-Annual Report to May 31, 2013.

Figures of interest are:

MER: 1.29% of the whole unit value, excluding one time initial offering expenses.

Average Net Assets: We need this to calculate portfolio yield. The Total Assets of the fund at year end was $307.8-million, compared to $320.1-million on May 31, so call it an average of $314-million. Total Preferred Share Distribution for the six months was $4.363-million, at $0.525/share p.a. implies an average of 16.62-million units, at an average NAV of ((19.22 + 18.45) / 2 = 18.84, so call it $313.1-million. Pretty close! Call the average net assets $314-million

Underlying Portfolio Yield: Dividends received of $5.779-million divided by average net assets of $314-million, multiplied by two because it’s semiannual is 3.68%.

Income Coverage: Dividends of 5.779-million less expenses before issuance fees of 2.055-million is 3.72-million, to cover preferred dividends of 4.36-million is 85%.

Fortis Inc. has announced:

the applicable annual fixed dividend rate for its Cumulative Redeemable Five-Year Fixed-Rate Reset First Preference Shares, Series G (the “Series G Shares”).

Holders of the Series G Shares will be entitled to receive quarterly fixed cumulative preferential cash dividends, if, as and when declared by the Board of Directors of Fortis. The annual fixed dividend rate for the five-year period from and including September 1, 2013 to but excluding September 1, 2018 will be 3.883%, being equal to the Five-Year Government of Canada bond yield determined as at August 2, 2013 plus 2.13%, as determined in accordance with the terms of the Series G Shares.

Fortis has designated the preference share dividends as eligible dividends for federal and provincial dividend tax credit purposes.

Fortis is the largest investor-owned distribution utility in Canada, with total assets exceeding $17 billion and fiscal 2012 revenue totalling approximately $3.7 billion. Its regulated utilities account for 90% of total assets and serve approximately 2.4 million gas and electricity customers across Canada and in New York State and the Caribbean. Fortis owns non-regulated hydroelectric generation assets in Canada, Belize and Upstate New York. The Corporation’s non-utility investments are comprised of hotels and commercial real estate in Canada and petroleum supply operations in the mid-Atlantic region of the United States.

The Common Shares; First Preference Shares, Series E; First Preference Shares, Series F; First Preference Shares, Series G; First Preference Shares, Series H; First Preference Shares, Series J; and First Preference Shares, Series K are listed on the Toronto Stock Exchange and trade under the ticker symbols FTS, FTS.PR.E, FTS.PR.F, FTS.PR.G, FTS.PR.H, FTS.PR.J and FTS.PR.K, respectively.

Fortis information can be accessed on the Corporation’s website at www.fortisinc.com and on SEDAR at www.sedar.com.

Note that this issue does not have an option to convert into FloatingResets – the structure was very new at the time of issue and provisions had not yet standardized although, of course, there is nothing stopping a new issuer from coming out with an equivalent issue.

The prospectus for this issue is available on SEDAR, dated May 15, 2008. I am, of course, unable to link directly to this prospectus because the bank-owned CDS has been granted a monopoly by the regulators and abuses this monopoly by prohibiting links and access to its API. The regulators, many of whom will be employed by banks in the future, think this is just a dandy way to run a public service.

The new rate of 3.883% is quite a come-down from the issue rate of 5.25% or, to put it another way, from $1.3125 p.a. to $0.97075.

DBRS has announced that it:

has today placed the Issuer Rating, Preferred Shares and Senior Unsecured Debentures of Bombardier Inc. (BBD or the Company) Under Review with Negative Implications. The rating action mainly reflects the recent deterioration in the financial profile, caused by rising debt levels. This is largely due to the elevated capital outlays associated with the C-series aircraft program, resulting in large negative free cash flows, further borrowing and higher leverage as evident during the most recent earnings release. The C-series program is being pushed further out, as delays in the overall systems integration of the flight test vehicle have caused the Company to postpone first test flight and entry-into-service dates.

DBRS will likely remove the rating from Under Review with Negative Implications and downgrade Bombardier if the financial profile metrics do not show improvement from current levels or if they deteriorate further by the end of the third quarter of this fiscal year. Additionally, DBRS would downgrade the rating should the Company announce further program delays, or continue to have similar levels of capital outlays, negative free cash flows and leverage during the same time frame.

Bombardier has three series of preferreds outstanding: BBD.PR.B (Ratchet Rate); BBD.PR.C (PerpetualDiscount) and BBD.PR.D (FixedFloater). All are tracked by HIMIPref™; all are assigned to the Scraps index on Credit concerns.

On July 8, Quadravest announced:

Canadian Life Companies Split Corp. (the “Company”) is providing the following update to its shareholders. The net asset value (NAV) of the Company has grown over the past number of months due to increasing valuations of its underlying portfolio of life insurance companies. The Company invests primarily in the common shares of Manulife Financial, Sun Life Financial, Great-West Lifeco, and Industrial Alliance. The NAV of the Company today is approximately $14.50 ($13.68 fully diluted). This provides an intrinsic value for the Class A shareholder (LFE) of approximately $4.50 ($3.68 fully diluted). The Company would also like to take this opportunity to re-iterate its dividend policy on its Class A shares. The Company is restricted from paying dividends on its Class A shares until the undiluted NAV reaches $15.00. When, and if, the undiluted NAV exceeds $15.00, dividends will be re-instated.

On July 23, Quadravest announced:

– As stated in a previously disseminated press release on July 8, 2013, Canadian Life Companies Split Corp. (“the Company”) intends to reinstate dividends on its Class A share (TSX: LFE) when the undiluted net asset value (NAV) per unit of the Company exceeds $15. The NAV as of July 23, 2013 is above $14.75.

The Board of Directors indicates that the initial dividend, if and when reinstated, will be in the amount of $0.05 per month ($0.60 per annum). This dividend once reinstated will provide a current dividend yield of 17% based on the latest closing price of LFE on the Toronto Stock Exchange. The directors have taken into account the cash flow and sustainability of the dividend in determining the amount of the dividend. Due to the Company’s unique structure, the additional return to fund this payment is equivalent to a 4% return on the underlying portfolio. Future market value increases and cash flow increases will be used to increase this dividend up to $0.10 per month ($1.20 per annum) as circumstances warrant.

The Company invests primarily in the common shares of Manulife Financial, Sun Life Financial, Great-West Lifeco, and Industrial Alliance. As stated above, the current NAV of the Company today exceeds $14.75 ($13.88 fully diluted). This provides an intrinsic value for the Class A shareholder (LFE) of approximately $4.75 ($3.88 fully diluted).

According to the company, the undiluted NAV was 14.33 on July 31, and 13.69 fully diluted.

They have also released the 13H1 Financials for LFE, whence the following information can be extracted:

MER: The “Base Management Expense Ratio”, which excludes issuance costs and dividends paid on preferreds, is 1.05%.

Average Net Assets: Calculation of this figure is complicated by the exercise of warrants. Assets were 148.3-million at May 31 and 103.7-million at November 30. Giving the latter figure double weight (as the big warrant exercise was at the end of March) provides an average of 118.6-million. Considering dividends paid on the preferreds were $3.342-million and the preferreds pay 0.625 p.a., this implies an average of 10.69-million units outstanding, with an average NAVPU of (13.56 + 12.48) / 2 = 13.02, for a total of 13.02 x 10.69-million = 139.2-million. Taking the average of these two estimates provides a guess of Average Net Assets = 128.9-million.

Underlying Portfolio Yield: Dividends received of 2.178-million time 2 (semi-annual) divided by average net assets of 128.9-million is 3.38%. The main holdings of the fund are the Big Four Insurers:

The agreement is astonishing (there have to be compensating errors in there somewhere) and justifies the use of 3.36% portfolio yield.

Income Coverage: Net Investment Income of 1,424,271 divided by Preferred Share Distributions of 3,342,072 is 42%. This figure is undoubtedly brought down by delays in investing the proceeds of the warrant exercise, and therefore of earning dividend income. If we say that the fully diluted NAV is 13.69 (as at 7/31) and the portfolio earns 3.36% (calculated above), that’s $0.4600 p.a. before about 0.10 expenses to pay 0.625 preferred dividends, is about 58%, which sounds like a better guess.

Given all this computation, we can now take a stab at estimated credit quality:

Note that there are some problems with the above calculation, beyond all the estimates discussed above: Capital Unit dividends will be paid based on the undiluted NAV and hence will generally be more than estimated by the credit quality calculator, which is based on diluted NAV.

Update: Assiduous Reader prefhound asks in the comments about the sensitivity of the Expected Default Loss to the expected total return. Actually it’s surprisingly little:

Click for Big

The above chart is taken from the December, 2010, edition of PrefLetter, in which the model is discussed in detail. This is part of the PrefLetter 2010 Collection, sold on the PrefLetter website for the low, low price of only $50. That’s right, only $50! Click on PrefLetter right now to purchase the 2010 Collection for only $50! My server is standing by!

Since there is a cash drag, the big problem is sensitivity to return distribution assumptions; see Split Share Credit Quality; as might be expected, sensitivity to everything increases as the NAV declines; see It’s All About Sequence.

Sun Life Financial has announced:

that it has completed the sale of its domestic U.S. annuity business and certain life insurance businesses to Delaware Life Holdings, LLC, which was announced last December.

Updated information regarding the financial impact of the sale and Sun Life Financial’s 2015 financial objectives will be included in the Company’s second quarter financial disclosure, which is scheduled to be released after markets close on Wednesday, August 7, 2013.

“The completion of this transformational transaction significantly reduces Sun Life Financial’s risk profile and earnings volatility,” said Dean Connor, President and CEO. “Our U.S. operations are now focused on our successful employee benefits business and our voluntary benefits business, which have achieved substantial growth during the past two years. We are also continuing to support growth in MFS Investment Management, our highly successful U.S.-based asset manager, which has more than US$350 billion of assets under management globally.”

“We are pleased to transfer this business to a buyer who is committed to customers and the approximately 500 outstanding employees who will continue to support them,” he said.

The transaction includes the sale of 100% of the shares of Sun Life Assurance Company of Canada (U.S.), which includes Sun Life Financial’s domestic U.S. variable annuity, fixed annuity and fixed index annuity products, corporate and bank-owned life insurance products and variable life insurance products.

DBRS comments:

There are no rating implications as DBRS’s ratings of Sun Life already incorporate the completion of this sale.

This continues a trend in the US insurance business:

Investment firms are pursuing annuity deals to add assets, betting they can manage the funds more skillfully. Philip Falcone’s publicly traded Harbinger Group Inc. (HRG), which bought a life and annuity business in 2011, and Apollo Global Management LLC (APO)’s Athene arm, which agreed in December to buy Aviva Plc (AV/)’s U.S. life and annuity unit, were also being reviewed by Lawsky’s office, a person with knowledge of the matter said in May.

Guggenheim Partners, run by Chief Executive Officer Mark Walter, has expanded from a family office with a handful of employees into a $180 billion global asset manager through deals including the acquisitions of Claymore Group and Rydex ETF owner Security Benefit Corp.

Walter, who shot to prominence as the man behind the $2 billion purchase of the Los Angeles Dodgers, has hired investing veterans including Henry Silverman, the former chief operating officer of Apollo, to advise on expansion.

The DFS honcho highlighted the trend in April:

If you look at the deals completed or announced to date, private equity-controlled insurers now account for nearly 30 percent of the indexed annuity market (up from 7 percent a year ago) and 15 percent of the total fixed annuity market (up from 4 percent a year ago).
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There can be exceptions, but generally private equity firms follow a model of aggressive risk-taking and high leverage, typically making high-risk investments. If just a few of these investments work out, then the firm can be very successful – and the failed ventures are just viewed as a cost of doing business.

This type of business model isn’t necessarily a natural fit for the insurance business, where a failure can put policyholders at sigifnicant risk.

Private equity firms typically manage their investments with a much shorter time horizon — for example, 3-5 years — than is typically required for prudent insurance company management. They may not be long term players in the insurance industry and their short-term focus may result in an incentive to increase investment risk and leverage in order to boost short-term returns.

Now, at DFS, we regulate both banks and insurance companies. And the differences between these two industries are quite striking when it comes to private equity investments.

Private equity firms rarely acquire control of banks, not because they are prohibited from doing so, but because the regulatory requirements associated with such acquisitions are more stringent than a private equity firm may like. These regulatory requirements in the banking industry are designed – in part – to encourage a long-term outlook, and ensure that the person controlling the company has real skin in the game.

The long term nature of the life insurance business raises similar issues, yet under current regulations it is less burdensome for a private equity firm to acquire an insurer than a bank.

We need to ask ourselves whether we need to modernize our regulations to deal with this emerging trend to protect retirees and to protect the financial system.

Approval from the New York Department of Financial Services did not come without a price:

The key heightened policyholder protections to which Guggenheim agreed include:

• Heightened Capital Standards. Guggenheim will maintain Sun Life New York’s Risk-Based Capital Levels (RBC Levels) at an amount not less than 450 percent. (Capital serves as a buffer that insurers use to absorb unexpected losses and financial shocks – better protecting policyholders.)
• Backstop Trust Account. Guggenheim will establish a separate backstop trust account totaling $200 million to provide additional protections to policyholders above and beyond the heightened capital levels. If Sun Life New York’s RBC levels fall below 450 percent, the funds in the backstop trust account will be used to replenish (“top up”) Sun Life New York’s RBC levels to at least 450 percent. The $200 million in the trust account will be held separately from other Sun Life New York funds for at least seven years and dedicated to the sole purpose of protecting policyholders.
• Enhanced Regulatory Scrutiny of Operations, Dividends, Investments, Reinsurance. Any material changes to Guggenheim’s plans of operations of Sun Life New York, including investments, dividends, or reinsurance transactions will require the prior written approval of DFS.
• Stronger Disclosure and Transparency Requirements. Sun Life New York will file quarterly RBC level reports to DFS – rather than just the annual reports required under New York Insurance Law. Additionally, the insurer will disclose to DFS necessary information concerning corporate structures, control persons, and other information regarding the operations of the company.

450% is a huge level of RBC compared to the standard:

There are five outcomes to the RBC calculation which are determined by comparing a company’s Total Adjusted Capital to its Authorized Control Level Risk-Based Capital. The level of required risk-based capital is calculated and reported annually. Depending upon the level of the reported risk-based capital, a number of remedial actions, if necessary, are available as
follows:

• 1. No action: Total Adjusted Capital of 200% or more of Authorized Control Level results in “no action.”
• …

Sun Life’s 2012 Annual Report states:

Our principal operating life insurance subsidiary in the United States, Sun Life (U.S.) is part of our Discontinued Operations. Sun Life U.S. is subject to the risk-based capital (“RBC”) rules issued by the National Association of Insurance Commissioners, which measures the ratio of the company’s total adjusted capital to the minimum capital required by the RBC formula. The RBC formula for life insurance companies measures exposures to investment risk, insurance risk, interest rate risk and other market risks and general business risk. A company’s RBC is normally expressed in terms of the CAL. If a life insurance company’s total adjusted capital is less than or equal to the CAL (100% of CAL or less), a comprehensive financial plan must be submitted to its state regulator. Sun Life (U.S.) has established an internal target range for its RBC ratio of 300% to 400% of the CAL.

I am not opposed in principle to higher capital requirements for companies that have less skin in the game than a regular insurer (in which all the sales profits will disappear if the investment side blows up) … but 450% plus a trust-fund buffer? One wonders how the DFS arrived at that figure.

SLF has the following preferred shares outstanding: SLF.PR.A, SLF.PR.B, SLF.PR.C, SLF.PR.D and SLF.PR.E (DeemedRetractible) and SLF.PR.F, SLF.PR.G, SLF.PR.H and SLF.PR.I (FixedReset). All are tracked by HIMIPref™ and assigned to their respective indices.

Standard & Poor’s has announced:

• We are removing our ratings on Loblaw Cos. Ltd., George Weston Ltd. (GWL), and Choice Properties Real Estate Investment Trust from CreditWatch, where they were placed with negative implications July 16, 2013.
• At the same time, we are affirming our ‘BBB’ ratings on all three companies. GWL and Choice Properties are Loblaw’s parent and subsidiary, respectively.
• We are also keeping our ratings on Shoppers Drug Mart Corp. on CreditWatch with negative implications (where they were placed July 16), as we expect to equalize our ‘BBB+’ rating on Shoppers with our ‘BBB’ rating on Loblaw upon completion of Loblaw’s acquisition of Shoppers and remove Shoppers from CreditWatch.
• The stable outlook on Loblaw and its parent and subsidiary reflects our expectation that stronger profitability from synergies and debt reduction from free cash flow should enable the company to lower its leverage to about 3x in the next two years, which we view as consistent with the ‘BBB’ rating.

On Aug. 2, 2013, Standard & Poor’s Ratings Services removed its ratings on Loblaw Cos. Ltd., George Weston Ltd. (GWL), and Choice Properties Real Estate Investment Trust from CreditWatch, where they were placed with negative implications July 16, 2013. At the same time, Standard & Poor’s affirmed its ‘BBB’ ratings on all three companies. GWL and Choice Properties REIT are Loblaw’s parent and subsidiary, respectively. The outlook on all three companies is stable.

At the same time, Standard & Poor’s kept its ratings on Shoppers Drug Mart Corp. on CreditWatch with negative implications (where they were placed July 16), as we expect to equalize our ‘BBB+’ rating on Shoppers with our ‘BBB’ rating on Loblaw upon completion of Loblaw’s acquisition of Shoppers and remove Shoppers from CreditWatch. Should alternative acquisition proposals emerge, we would reassess all our ratings after considering each company’s response.
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Giving effect to the acquisition, Loblaw’s financial risk profile weakens somewhat, with leverage that is very high for the rating and is exposed to earnings risk amid the Shoppers integration, reduced cash flow protection because of higher debt service, and adequate liquidity to support a heavy debt repayment schedule. We estimate that Loblaw’s pro forma fully adjusted debt to EBITDA will be 3.8x at closing, which is consistent with the ‘BB’ median for industrials, but we expect this would improve gradually to about 3.5x in 2014 and approach 3.0x in 2015.
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We could lower the ratings if leverage remains above 3.5x with poor prospects for improvement, which we expect could occur if intense competition or integration disruptions stagnate revenues and margin improvements, or if unexpected increases in restructuring costs or capital expenditures reduce cash flow for debt reduction.

The placement of these companies on Watch Negative was reported on PrefBlog.

Loblaws has a single preferred share issue outstanding, L.PR.A, an OperatingRetractible.

Weston has four preferred share issues outstanding, WN.PR.A, WN.PR.C, WN.PR.D and WN.PR.E, all Straight Perpetuals.

TD.PR.T, the FloatingReset part of the TD.PR.S / TD.PR.T Strong Pair, commenced trading today and closed at a very impressive 25.47-55, 33×2, after trading 9,400 shares in a range of 25.50-65.

This compares with TD.PR.S, the FixedReset, closing at 24.60-74, 70×1, after trading 2,223 shares in a range of 24.53-73.

According to the “Quick Method” of the updated Pair Equivalency Calculator, this implies that the break-even 3-Month Bill rate is 2.59%.

Vital statistics are:

Both issues are tracked by HIMIPref™ and both are assigned to the FixedReset subindex; TD.PR.T will be assigned to a new FloatingReset index as soon as enough of these issues are outstanding to make such and index meaningful. As announced by TD Bank and reported on PrefBlog, slightly more TD.PR.S shares are outstanding.