DBRS Morningstar Confirms Teranet Holdings LP at BBB with Stable Trends

DBRS Limited (DBRS Morningstar) confirmed the Issuer Rating and the Senior Secured Debt of Teranet Holdings LP (Teranet or the Company) at BBB with Stable trends. The ratings continue to be supported by the Company’s position as an exclusive service provider in Ontario and Manitoba, healthy margins, and low capital needs, but are tempered by the uncertainty around transaction volumes as a result of the Coronavirus Disease (COVID-19) pandemic and high household debt.

Teranet operates primarily in Ontario (Ontario or the Province; rated AA (low) with a Stable trend by DBRS Morningstar), with operations in Ontario contributing 90.3% of total gross revenue in 2019. The remainder is contributed by operations in the Province of Manitoba (Manitoba; rated A (high) with a Stable trend by DBRS Morningstar). Ontario registration volumes in 2019 were 3.6% higher compared with those in 2018 because the real estate market had adjusted to the Ontario Fair Housing Plan introduced on April 20, 2017, and the new Office of the Superintendent of Financial Institutions (OSFI) mortgage regulations that became effective January 1, 2018, along with the historically low interest rate environment. Gross revenues increased by 4.9% in 2019 from the prior year. Teranet’s operations in Manitoba represented approximately 9.7% of total gross revenue in 2019.

While the positive trend in registration volumes in Ontario continued for Q1 2020, the coronavirus pandemic placed downward pressure on registration volumes and financial performance as result of stay-at-home orders and social distancing measures. While the Toronto Regional Real Estate Board reported that April and May home sales and resale volumes in the Greater Toronto Area, declined by 67.1% and 53.8%, respectively, the Ontario real estate market has shown some resilience, with a volume recovery in July shown by an increase of 29.5% when compared with the same month in 2019. Total revenue in H1 2020 remained relatively unchanged while total expenses, excluding depreciation, declined by 22.2% as a result of cost containment efforts related to the pandemic, resulting in an increase of EBITDA of 8.9% compared with the same period last year. Despite the market softening observed in Q2 2020, the debt service coverage ratio (DSCR) improved modestly to 1.82 times (x) at June 30, 2020, from 1.81x for the same period a year ago as a result of the strong momentum seen in Q4 2019 and Q1 2020. While a positive trend for June, July, and August 2020 home sales activity provided some indication of recovery in the real estate market, year-over-year declines are expected in Q3 2020 as the lower sales in Q2 2020 will affect registration volumes in Q3 because of the two- to three-month lag effect from home sales to registration.

While home sales activity showed some signs of recovery in the months of June, July, and August 2020, Management forecasts an overall decline in registration volumes of approximately 7% for 2020 compared with 2019 in its base-case forecast assumptions, including average home sale/resale activity registration (registrations related to transfers and discharges) declines of 13% for the months of August to December 2020, when compared with the same period in 2019. Management’s base case assumes less of an impact on the other sources of revenue, including refinancing, second mortgages, and life-events activity. This results in the expected DSCR dropping to a forecast 1.67x (1.75x with Manitoba) for 2020. Teranet has made no change to its 2021 forecast and beyond as the Company views the coronavirus pandemic as a temporary disruption to the market, with the medium- and longer-term fundamentals (strong immigration/population growth, low interest rates, housing density, and continued economic growth) of the Ontario real estate market remaining intact. Under a downside scenario, for the remainder of 2020, DBRS Morningstar assumes a dampening effect on home sales and registrations from a more muted second wave of coronavirus-related restrictions with an average 30% lower forecast registrations from August to December, compared with the same period in 2019, before returning to forecast 2021 volume activity expectations. This results in a more conservative DSCR forecast, as at December 31, 2020, of 1.60x (1.68x with Manitoba), based on DBRS Morningstar’s calculations.

On June 11, 2020, Teranet issued $550 million 3.544% Series 2020-1 Senior Secured Bonds. The Senior Bonds were issued from the May 21, 2020, Offering Memorandum and will mature on June 11, 2025. DBRS Morningstar notes that the Company will also issue and settle $300 million 3.940% Series 2020-2 Senior Secured Bonds in the U.S. market in December 2020. The total amount raised is $850 million and the intended use of the proceeds from the Senior Bonds issue will be to refinance the $700 million Series 2010-2 Senior Secured Bonds, which mature on December 16, 2020, with the excess amount of $150 million to be used for general corporate purposes.

DBRS Morningstar noted in its last rating report for the Company that a negative rating action could result from an economic downturn or a protracted material softening of the real estate market, leading to markedly weaker financial metrics, with the DSCR declining to a forecast average of roughly 1.45x. While there could be further negative effects of the pandemic on housing market conditions occurring in the latter half of this year, DBRS Morningstar expects the decline in the Company’s performance to be temporary with a return to financial metrics in the rating category in 2021. Should the downturn in affected real estate market regions extend for a protracted period beyond current expectations, a negative rating action could result.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology is Rating Public-Private Partnerships (August 19, 2020), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at info@dbrsmorningstar.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

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