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Research Update: AMP Capital Wholesale Office Fund Outlook Revised To Negative On Higher Expected Leverage; 'A-' Rating Affirmed

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Research Update: AMP Capital Wholesale Office Fund Outlook Revised To Negative On Higher Expected Leverage; 'A-' Rating Affirmed

Rating Action Overview

  • We believe the proposed sale of AMP Capital Wholesale Office Fund's (AWOF) share in 200 George Street, to satisfy equity redemptions due in fiscal 2022, will reduce attributable income for the Australia-based REIT without a corresponding offset in debt.
  • At the same time, elevated capex over the next fiscal year as Quay Quarter Tower comes to completion will contribute to weakened credit metrics, in our view.
  • We therefore revised our outlook on AWOF to negative from stable. At the same time, we affirmed our 'A-' issuer credit rating on the fund.
  • We could lower our ratings on AWOF if we expect FFO to debt to remain below 12% after fiscal 2022. This could occur if the fund increases capex or makes further equity redemptions, which could constrain its deleveraging path.

Rating Action Rationale

We expect AWOF's weakened leverage metrics to remain under pressure over the next 18 months.  The fund's S&P Global Ratings-adjusted ratio of funds from operations (FFO) to debt decreased below 12% in fiscal 2020 (ended Dec. 31, 2020), down from approximately 20% in fiscal 2019. We expect this metric to remain at similar levels through to the start of fiscal 2023. Elevated capital expenditure (capex) over the next year in tandem with equity redemption requests, particularly in 2022, have diminished the rating headroom. Furthermore, the sale of 200 George Street, Sydney, will reduce income without any offsetting reduction in debt.

Nevertheless, we expect AWOF's Sydney developments at Quay Quarter Tower (QQT) and Brookfield Place, which are both more than 80% precommitted, to buttress rental income following their completion. We expect healthy rental income from the Brookfield Place development to commence in late fiscal 2021, with QQT expected from early fiscal 2022.

AWOF's gearing will increase but remain within its target range of 15% to 25%.  The fund's gearing ratio (company's measure--total liabilities to total tangible assets) increased to 22.0% in March 2021 from 16.2% in March 2020, driven by a ramp up in capex as well as equity redemptions. Borrowings will increase as developments progress, yet we anticipate the fund's gearing will stay within its 15%-25% target range, albeit at the higher end.

We expect any near-term future developments opportunities to be funded prudently. While not in our base case, we acknowledge that the fund is planning to redevelop 33 Alfred Street, Sydney. We understand that AWOF has received development application approval from Sydney council, which includes internal and external refurbishments. AMP, which is currently the sole tenant of the asset, will be vacating to relocate to QQT once that asset is completed. Plans for 33 Alfred Street remain uncertain given the change in responsible entity manager for the joint owner in the asset. In addition, we note that the development at AWOF's partly owned Cockle Bay asset is being considered. A Stage 2 development application is slated for later in 2021 and a tenant precommitment would likely be required to underpin this project's feasibility.

Outlook

The negative outlook reflects our view that leverage is likely to remain elevated over the next 12-18 months following a peak in capex coupled with higher-than-expected equity redemptions. During this period, a large proportion of the asset base is transitioning from a development phase to income stabilization. In addition, the forecasted loss of income from the sale of 200 George Street, to satisfy upcoming equity redemption payouts, will erode credit metric headroom in the rating.

We project adjusted FFO to debt to remain below 12% in 2021 and 2022. Nevertheless, we expect AWOF to successfully complete its upcoming developments, which are more than 80% precommitted and maintain a high level of occupancy across the property portfolio.

Downside scenario

We could lower the rating in the next one to two years if higher levels of development capex, additional equity redemptions, or weaker occupancy and rental income results in FFO to debt remaining below 12% beyond the next 18 months. We could also lower the rating if significant further asset sales materially reduce the fund's size and diversity, without an offsetting reduction in financial risk.

Upside scenario

We could revise the outlook to stable if:

  • We expect the fund to sustain FFO to debt above 12%;
  • Operating performance is in line with our expectations, with no material effect from tenants downsizing their office footprints due to changes in working-from-home habits; and
  • The fund maintains adequate liquidity.

Company Description

AWOF is an unlisted Australian REIT with a total portfolio value of A$7.4 billion (includes 200 George Street) as of March 31, 2021. The fund invests in office properties and owns 12 assets in Australian CBD markets.

Our Base-Case Scenario

Assumptions
  • Australian real GDP growth rate of 4.0% in 2021 and 3.3% in 2022;
  • Consumer price inflation of 1.6% in 2021 and 1.8% in 2022;
  • Capex over the next 12 months of around A$340 million;
  • Assumed divestment proceeds of 200 George Street, Sydney, and Loftus Lane Apartments, Sydney, totaling A$780 million in 2021;
  • Acquisition of increased stake in Brookfield Place of approximately A$290 million in 2021;
  • Higher-than-expected equity redemptions over the next two fiscal years;
  • Distributions in line with previous years; and
  • Active distribution reinvestment program in line with current participation rates.
Key metrics
  • S&P Global Ratings' adjusted FFO to debt of about 11.0% to 11.5% in fiscal 2021, remaining under 12% in fiscal 2022; and
  • Debt to EBITDA of mid-7x in both fiscal 2021 and fiscal 2022.

Liquidity

AWOF's satisfactory liquidity reflects our expectation that the fund's liquidity sources would cover its uses by 1.2x over the next 12 months. We expect its net sources and uses of liquidity to remain positive even if EBITDA were to decline by 10%. In addition, we expect AWOF to remain compliant with its financial covenants.

In our opinion, AWOF has sound relationships with banks. The fund also has a track record of accessing equity from its institutional equity providers to support its funding requirements.

As of March 31, 2021, the fund had the following liquidity profile:

Sources:

  • FFO of about A$175 million to A$185 million over the next 12 months;
  • Cash on hand of about A$33 million;
  • Asset sales of around A$780 million;
  • Active distribution reinvestment plan in line with current participation rates; and
  • About A$445 million of committed undrawn bank facilities maturing beyond 12 months.

Uses

  • No upcoming debt maturities in the next 12 months;
  • Capex of about A$320 million to A$340 million;
  • Acquisition costs of about A$340 million;
  • Equity redemption payout; and
  • Distribution payout consistent with previous reporting periods.

Ratings Score Snapshot

Issuer Credit Rating: A-/Negative/--

Business risk: Strong

  • Country risk: Very Low
  • Industry risk: Low
  • Competitive position: Strong

Financial risk: Intermediate

  • Cash flow/Leverage: Intermediate

Anchor: bbb+

Modifiers

  • Diversification/Portfolio effect: Neutral (no impact)
  • Capital structure: Neutral (no impact)
  • Financial policy: Neutral (no impact)
  • Liquidity: Adequate (no impact)
  • Management and governance: Fair (no impact)
  • Comparable rating analysis: Positive (1+ notch)

Related Criteria

Ratings List

Ratings Affirmed

AMP Capital Wholesale Office Fund

Senior Unsecured A-
Ratings Affirmed; CreditWatch/Outlook Action
To From

AMP Capital Wholesale Office Fund

Issuer Credit Rating A-/Negative/-- A-/Stable/--

S&P Global Ratings Australia Pty Ltd holds Australian financial services license number 337565 under the Corporations Act 2001. S&P Global Ratings' credit ratings and related research are not intended for and must not be distributed to any person in Australia other than a wholesale client (as defined in Chapter 7 of the Corporations Act).

Certain terms used in this report, particularly certain adjectives used to express our view on rating relevant factors, have specific meanings ascribed to them in our criteria, and should therefore be read in conjunction with such criteria. Please see Ratings Criteria at www.standardandpoors.com for further information. Complete ratings information is available to subscribers of RatingsDirect at www.capitaliq.com. All ratings affected by this rating action can be found on S&P Global Ratings' public website at www.standardandpoors.com. Use the Ratings search box located in the left column.

Primary Credit Analyst:Rhys Corry, Melbourne + 61 3 9631 2109;
Rhys.Corry@spglobal.com
Secondary Contact:Craig W Parker, Melbourne + 61 3 9631 2073;
craig.parker@spglobal.com

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