(The following statement was released by the rating agency) Overview
-- Spirit Realty Capital Inc. recently completed an IPO of common stock.
-- Spirit used proceeds from the IPO to repay a portion of its outstanding term loan and extinguished the remainder of the term loan through a conversion into common shares.
-- As a result of these transactions, we are raising the corporate credit rating on Spirit to 'B' from 'CCC+' and withdrawing our ratings on the company's term loan (a '4' recovery rating and 'CCC+' senior secured rating).
Rating Action On Oct. 5, 2012, Standard & Poor's Ratings Services raised its corporate credit rating on Spirit Realty Capital Inc. (Spirit) to 'B' from 'CCC+' and revised our outlook on the company to stable from developing. We also withdrew our rating on the company's senior secured term loan after the company repaid and extinguished it. Rationale The upgrade reflects Spirit Realty Capital Inc.'s successful completion of an initial public offering (IPO) of its common stock, which raised $465 million of net proceeds. The company also completed related contingent deleveraging transactions, as it detailed in S-11 filings. Specifically, Spirit retired a $729 million term loan outstanding that was due to mature in August 2013. The term loan consisted of two tranches: term loan B ($399 million), which Spirit repaid with IPO proceeds, and term loan C ($330 million), which Spirit extinguished and converted into shares of its common stock. The IPO reduced leverage; however, low debt coverage metrics contribute to our view of the company's financial risk profile as "aggressive." We consider the company's liquidity "adequate", despite a high dividend payout ratio, as liquidity is bolstered with the addition of access to a revolving credit facility ($100 million). While we expect continued stability in portfolio occupancy, rents, and cash flows, tenant concentration is high. Should a large tenant default, the impact to Spirit's cash flow could be severe. As a result, we continue to consider Spirit's business profile "weak."
Spirit is a publicly traded REIT that focuses on the ownership of triple-net-leased retail properties under long-term leases (average remaining lease term 11.4 years). Spirit's balance sheet included $3.6 billion in gross investments in real estate and loans at June 30, 2012, and its debt totaled $1.9 billion after the term loan repayment/conversion (all of which is secured). The company owned or financed 1,183 properties (1,096 owned) in 47 states. Spirit leases the properties in its owned portfolio to approximately 165 tenants in 18 different industry sectors, including general, specialty and discount retail; movie theaters; automotive dealers; educational and recreational facilities; supermarkets, and restaurants.
Portfolio occupancy remained high at 98.2% as of June 30, 2012, partly reflecting the company's strategy of selling or re-leasing properties that become vacant. However, Spirit's tenant base is highly concentrated. Following the February 2012 merger between ShopKo Stores Operating Co. LLC (not rated) and Pamida Stores Operating Co. LLC (not rated), the combined company constitutes 30.2% of Spirit's revenues. Property-level rent coverage for the Shopko/Pamida stores in Spirit's portfolio was over 2x at June 30, somewhat mitigating the concentration risk.
Pro forma for the IPO, we believe that Spirit's debt service coverage improves to the mid-1x area and leverage declines to roughly 60% on a book basis, but dividend coverage has little downside cushion. Under our base-case scenario, we assume that modest contractual rent increases offset potential rental losses due to stress among a few of the company's smaller tenants. We also assume the company reduces leverage modestly over time by meeting regularly scheduled principal amortization of its secured debt through operating cash flow.
We consider the company's liquidity as "adequate."
Our liquidity assessment reflects the following factors and assumptions:
-- We expect the company's liquidity sources through October 2013 to be more than 1.2x its uses, even if EBITDA were to decline by 15%.
-- Spirit faces $29 million of consolidated debt payments as of June 30, 2012 (including principal amortization and balloon payments at maturity) for the remainder of 2012 and roughly $48 million for the full year 2013.
-- Spirit also faces roughly $106 million of annual common dividends and modest (less than $10 million) portfolio related capital expenses.
We expect Spirit will fund these obligations with cash on hand ($104 million at June 30, 2012, pro forma for the IPO), operating cash flow of roughly $125 million for the next four quarters, and its new secured revolving credit facility ($100 million, due Sept. 25, 2015, and subject to a one-year extension at the company's option). One of the covenants governing Spirit's revolving credit facility requires the company to maintain a minimum unencumbered asset base of 1.75x outstanding commitments. Outlook The outlook is stable. The company materially reduced balance-sheet leverage through a recent IPO and related term loan repayment/conversion transaction. Despite our expectation for stability in portfolio occupancy, rents, and cash flows over the next 12 months, the timeframe of our outlook, we would likely lower the rating if the company's liquidity becomes constrained or debt coverage measures deteriorate, perhaps due to tenant challenges. The high dividend payout ratio and highly concentrated tenant base contribute to our view that an additional upgrade is unlikely in the next year.
Related Criteria And Research
-- Issuer Ranking: North American REITs, Strongest To Weakest, July 26, 2012
-- Takeaways From The 2012 ICSC Convention: The Mood Among Retail Landlords Is Cautiously Optimistic, June 14, 2012
-- Industry Report Card: Improvements In Operating Fundamentals Bode Well For North American REITs, May 4, 2012
-- General Criteria: Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Key Credit Factors: Global Criteria For Rating Real Estate Companies, June 21, 2011 Ratings List Ratings Raised; Outlook Revised To From Spirit Realty Capital Inc. B/Stable/-- CCC+/Developing/-- Ratings Withdrawn Spirit Realty Capital Inc. Senior Secured NR CCC+ Recovery Rating NR 4
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