NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed the credit ratings of iStar Financial Inc. (NYSE: SFI) as follows:
--Issuer Default Rating (IDR) at 'B-';
--Senior secured A-1 tranche due June 2013 at 'BB-/RR1';
--Senior secured A-2 tranche due June 2014 at 'B+/RR2';
--Unsecured revolving credit facilities at 'B-/RR4';
--Senior unsecured notes at 'B-/RR4';
--Convertible senior floating-rate notes at 'B-/RR4';
--Preferred stock at 'CC/RR6'.
In addition, Fitch has assigned the following ratings:
--Senior secured A-1 tranche due March 2016 at 'BB-/RR1';
--Senior secured A-2 tranche due March 2017 at 'B+/RR2'.
The Rating Outlook is Stable.
The IDR affirmation is based on a manageable debt maturity profile of the company, pro forma for the recently-consummated secured financing that extends certain of the company's debt maturities, relieving the overhang of significant unsecured debt maturities in 2012 and 2013. While this 2012 financing does not reduce the amount of total debt outstanding, the company's debt maturity profile is more manageable over the next two years, with only 48% of debt maturing pro forma, down from 61%. Given the mild improvement in commercial real estate fundamentals and value stabilization, the company's loan and real estate owned portfolio performance will likely improve going forward, which should increase the company's ability to repay upcoming indebtedness.
The quality of the company's loan portfolio has remained roughly the same over the last year, with non-performing loans representing approximately 38% of the company's gross loan portfolio balance as of Dec. 31, 2011, which is unchanged from Dec. 31, 2010. However, illustrative of the company's lending activity focus on higher-risk, weaker performing collateral, 55% of the company's gross non-performing loans are condominium and land loans.
Further, 71% of the company's real estate owned and real estate held for investment, which represent loans on which the company has foreclosed, consist of condominium and land collateral. The monetization cycle for condominium unit sales can be short. However, land collateral in particular has a longer monetization cycle than most assets, which will likely result in a protracted process for iStar to realize cash to repay debt.
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 before non-cash impairments and provisions and including Fitch's estimate of recurring cash distributions from unconsolidated entities) of 21.1 times (x) is the highest leverage level the company has had throughout the financial downturn, and is up from 18.1x as of Dec. 31, 2010. Reported EBITDA understates the company's cash generation power, given that the accounting for non-performing loans and real estate owned allows the company to recognize income only when certain thresholds are met. Fitch expects that reported earnings will improve going forward as certain of these thresholds are achieved related to unit sales at iStar's owned condominium properties.
Fixed charge coverage (defined as recurring operating EBITDA including Fitch's estimate of recurring cash distributions from unconsolidated entities before non-cash impairments, provisions and gains divided by the sum of interest expense and preferred stock dividends) was only 0.7x for the year ended Dec. 31, 2011, compared with 1.0x and 1.2x for the years ended Dec. 31, 2010 and 2009, respectively. Fitch expects this ratio to strengthen as the company reduces debt and begins to recognize GAAP earnings from sales of residential properties as noted above.
The company is moderately constrained by an unsecured bond fixed charge incurrence covenant, which limits the company's ability to incur any additional debt above existing levels. This constraint is not currently hindering the company given that the company's strategy is to manage its existing portfolio, as opposed to grow the company at this stage in the cycle.
The company's corporate unsecured obligations will need to be serviced by the company's unencumbered pool, income from assets serving as collateral for the 2011 and 2012 secured financings and external sources of liquidity, given that both the 2011 and 2012 secured financings require that collateral repayments, sales proceeds and other monetizations be used to repay only debt encumbering collateral pools for each financing.
Pro forma for the 2012 secured financing, a large majority of the company's unencumbered loans are non-performing, and the liquidity of these assets is uncertain. While a portion of the company's unencumbered assets is likely liquid and could be sold to meet corporate obligations, the borrowing bases for the 2011 and 2012 secured financings are of higher quality.
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 2011 and 2012 A-1 tranche 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 the 2011 and 2012 A-2 tranches, these obligations represent first lien security claims on specific collateral pools comprised primarily of performing loans and credit tenant lease assets, and have amortization payment priority relative to the A-2 tranches.
The 2011 and 2012 A-2 tranche ratings of 'B+/RR2', or a two-notch positive differential from iStar's 'B-' IDR are based on Fitch's estimate of superior recovery. Together with the A-1 tranches, these obligations represent first lien security claims on specific collateral pools comprised primarily of performing loans and credit tenant lease assets, but would receive principal amortization or repayment only upon the full repayment of their respective A-1 tranches.
The unsecured revolving credit facility, senior unsecured notes and convertible senior floating rate notes ratings of 'B-/RR4' are in line with iStar's 'B-' IDR, based on Fitch's estimate of average recovery based on iStar's current capital structure. While the application of Fitch's recovery criteria indicates a stronger 'RR3' recovery, Fitch also considered that, similar to the recent 2012 secured financing, 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 bonds at 'RR4'.
The Preferred Stock rating of 'CC/RR6' or a 2-notch negative differential from iStar's 'B-' IDR is based on Fitch's estimate of poor recovery based on iStar's current capital structure.
The Stable Outlook is based on iStar's stronger liquidity profile given manageable pro forma debt maturities until the end of 2013. In addition, the stabilization in commercial real estate fundamentals and value should enable the company to monetize its unencumbered asset pool to repay unsecured indebtedness.
The following may have a positive impact on the ratings and/or Outlook:
--Monetization of the company's unencumbered real estate investment portfolio via asset sales to repay unsecured debt;
--Reduction of other real estate owned and real estate held for investment as a percentage of the company's investments;
--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;
--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 other real estate owned and real estate held for investment as a percentage of the company's investments.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'Criteria for Rating U.S. Equity REITs and REOCs' (Feb. 27, 2012);
--'Criteria for Rating U.S. Mortgage REITs and Similar Finance Companies' (Feb. 27, 2012);
--'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit Analysis' (Dec. 15, 2011);
--'Global Financial Institutions Rating Criteria' (Aug. 16, 2011);
--'Recovery Ratings for Financial Institutions' (Aug. 16, 2011);
--'Corporate Rating Methodology' (Aug. 12, 2011);
--'Recovery Rating and Notching Criteria for REITs' (May 12, 2011).
Applicable Criteria and Related Research:
Criteria for Rating U.S. Equity REITs and REOCs
Criteria for Rating U.S. Mortgage REITs and Similar Finance Companies
Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit Analysis
Global Financial Institutions Rating Criteria
Recovery Ratings for Financial Institutions
Corporate Rating Methodology
Recovery Rating and Notching Criteria for Equity REITs