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Fitch Downgrades ProLogis' IDR to 'BB'; Outlook Negative

^{Published on 2010-07-28 12:20:43 - Market Wire}
 

NEW YORK--([ BUSINESS WIRE ])--Fitch Ratings has downgraded the Issuer Default Rating (IDR) and outstanding credit ratings of ProLogis (NYSE: PLD) as follows:

--Long-term IDR to 'BB' from 'BBB';

--$2.2 billion global line of credit to 'BB' from 'BBB';

--$4.7 billion senior notes to 'BB' from 'BBB';

--$1.9 billion convertible senior notes to 'BB' from 'BBB';

--$350 million preferred stock to 'B+' from 'BB+'.

The Rating Outlook remains Negative.

Given the limited likelihood of significant near-term de-levering equity capital raises by ProLogis as previously contemplated by Fitch, leverage is expected to remain more consistent with a 'BB' IDR given the significant scale of PLD's industrial property platform. The downgrade also reflects Fitch's expectation that ProLogis' fixed charge coverage will continue to be negatively impacted over the next 12-to-24 months by downward mark-to-market pricing on core portfolio leases. However, a gradual realization of cash flow from completed development properties in lease-up will bolster ProLogis' earnings power.

ProLogis' credit strengths include proven access to multiple sources of capital, a high-quality industrial property portfolio that includes a large pool of unencumbered assets, a good liquidity position, a staggered debt maturity schedule, and an experienced management team.

The Negative Outlook reflects execution risk associated with leasing up completed development properties and monetizing ProLogis' significant land holdings via asset sales and development starts.

ProLogis' leverage ratio was 11.9 times (x) as of June 30, 2010, compared with 12.5x as of Dec. 31, 2009 and 15.0x at Dec. 31, 2008. Fitch defines leverage as net debt to the last twelve months recurring operating EBITDA including Fitch's estimate of recurring cash distributions from unconsolidated investees. However, if annual cash distributions from unconsolidated investees revert back to a historical run rate of $130 to $150 million, net debt to recurring operating EBITDA would be above 12.0x. Fitch previously stated that ProLogis would experience negative rating pressure if net debt to recurring EBITDA were to remain above 10.0x.

Given that ProLogis no longer has a corporate distribution facilities services (CDFS) development business segment, leverage when including CDFS gains in EBITDA has increased to 11.9x as of June 30, 2010, compared with 9.8x as of Dec. 31, 2009 and 7.8x at Dec. 31, 2008. If ProLogis raises approximately $1 billion in follow-on equity capital (as previously contemplated by Fitch) utilized to repay indebtedness, leverage as of June 30, 2010 would have been over 10.0x. Over the next 12 months, Fitch anticipates leverage remaining above 10.0x, absent significant deleveraging transactions. ProLogis, however, has focused on meeting a longer-term leverage target of 6.5x to 7.5x via land monetization and development.

Given the fragile economic recovery, operating fundamentals remain challenging with year-over-year rental rates on renewal leases in ProLogis' same-store total portfolio declining by 12.3% in 1Q2010 and 15.7% in second-quarter 2010 (2Q'10), driving down year-over-year same-store net operating income by 3.1% in 1Q'10 and 3.4% in 2Q'10.

ProLogis' fixed charge coverage ratio was 1.4x for the trailing twelve months ended June 30, 2010, compared with 1.4x in 2009 and 1.3x in 2008. Fitch defines fixed charge coverage as recurring operating EBITDA excluding CDFS gains plus cash distributions from unconsolidated investees less recurring capital expenditures and straight-line rent adjustments, divided by cash interest expense, capitalized interest, and preferred dividends. ProLogis' fixed charge coverage ratio as defined by Fitch when including CDFS gains in EBITDA was also 1.4x for the trailing twelve months ended June 30, 2010 given that PLD no longer has a CDFS business segment, compared with 1.8x in 2009 and 2.6x in 2008.

Fitch projects that ProLogis will realize incremental cash flow from completed development properties in lease-up, albeit gradually, and that Fitch-defined fixed charge coverage will center around 1.3x through 2012 absent significant de-leveraging transactions.

The ratings take into account ProLogis' credit strengths, which include its global franchise and high-quality industrial property portfolio containing a large pool of unencumbered assets. As of June 30, 2010, ProLogis had $33.5 billion in total assets owned and under management including $15 billion in directly-owned assets, providing significant economies of scale and diversification. ProLogis' unencumbered asset coverage of senior debt as defined under the ninth supplemental senior notes indenture was 2.0x as of June 30, 2010, which is solid for a 'BB' IDR. However, unencumbered asset coverage based on a range of capitalization rates applied against unencumbered property net operating income and pro forma for the lease-up of completed development properties centered on a range around 1.3x, which Fitch deems more consistent with a 'BB' IDR.

ProLogis' access to capital has been matched by few other equity REITs. ProLogis has raised equity capital via public offerings and the continuous equity offering program, and also issued senior notes, convertible senior notes, and preferred stock. Alongside its unconsolidated investment partners, ProLogis has also raised private equity and secured debt through property funds.

ProLogis' liquidity position is solid, with sources of liquidity (unrestricted cash, availability under its global line of credit facility net of borrowings outstanding, outstanding letters of credit and debt due within one year, expected retained cash flows from operating activities after dividends and distributions) divided by uses of liquidity (consolidated debt maturities and pro rata unconsolidated debt maturities, expected recurring maintenance capital expenditures and remaining costs to incur on in-process development) resulting in a liquidity coverage ratio of 1.7x for July 1, 2010 through Dec. 31, 2011. Given ProLogis' strong track record of refinancing mortgage debt maturities, its liquidity coverage ratio would be 2.2x if 80% of upcoming consolidated mortgage debt and pro rata unconsolidated mortgage debt is refinanced.

ProLogis has certain restrictive covenants under the global line of credit facility agreement that was amended on June 30, 2010 including, among others, a minimum net worth test of $6.8 billion and a minimum debt yield test limiting unencumbered net operating income to near-term recourse debt to at least 14%. ProLogis remains in compliance with all financial covenants. Although these covenants currently do not currently restrict ProLogis' financial flexibility, the company's compliance going forward may depend partially on PLD's ability to sell assets on favorable terms. In addition, ProLogis' senior creditors receive the benefit of intercompany receivables as collateral, as the company does not technically borrow on an unsecured basis.

The Negative Outlook is consistent with Fitch's sectorwide Outlook on industrial REITs and further reflects execution risk associated with leasing up completed development and monetizing land. The percentage of properties leased in the completed development portfolio was 71.9% as of June 30, 2010, up from 62.2% as of Dec. 31, 2009 and 43.5% as of Dec. 31, 2008. Annualized incremental EBITDA from leased but unoccupied space of approximately $40.4 million is expected to be realized in short order. However, annualized incremental EBITDA generated from occupancy at full stabilization of approximately $91.4 million will likely be realized over a longer timeframe. The Negative Outlook further reflects the implicit development risk associated with ProLogis' land holdings, which was valued at $2.3 billion (13.9% of total assets as of June 30, 2010) compared with $2.6 billion (15.2% of total assets) and $2.5 billion (12.9% of total assets) as of Dec. 31, 2009 and Dec. 31, 2008, respectively.

The two-notch differential between ProLogis' IDR and its preferred stock rating is consistent with Fitch's criteria for corporate entities with a 'BB' IDR. Based on Fitch's criteria report ('Equity Credit for Hybrids & Other Capital Securities'), ProLogis' preferred stock is 75% equity-like and 25% debt-like since it is perpetual and has no covenants but has a cumulative deferral option in a going concern. Net debt plus 25% of preferred stock to recurring EBITDA was 12.5x as of June 30, 2010, compared with 12.7x as of Dec. 31, 2009.

The following factors may have a positive impact on the ratings and/or Outlook:

--Net debt to recurring operating EBITDA including cash distributions from unconsolidated investees sustaining below 10.0x (as of June 30, 2010, leverage was 11.9x);

--Fitch-defined fixed charge coverage staying above 1.5x (for the twelve months ended June 30, 2010, fixed charge coverage was 1.4x);

--Unencumbered asset coverage as defined under ProLogis' ninth supplemental indenture maintaining above 2.5x (as of June 30, 2010, unencumbered asset coverage was 2.0x).

The following factors may have negative implications on the ratings:

--Net debt to recurring operating EBITDA remaining above 13.0x;

--Fitch-defined fixed charge coverage maintaining below 1.3x;

--A liquidity shortfall.

Relevant Fitch criteria available at '[ www.fitchratings.com ]':

--'Criteria for Rating U.S. Equity REITs and REOCs' (April 16, 2010);

--'Equity Credit for Hybrids & Other Capital Securities - Amended' (Dec. 29, 2009);

--'Rating Hybrid Securities' (Dec. 29, 2009);

--'Recovery Rating and Notching Criteria for REITs'(Dec. 23, 2009);

--'Corporate Rating Methodology' (Nov. 24, 2009);

--'Evaluating Corporate Governance' (Dec. 12, 2007).

ProLogis is an equity REIT that owns, manages, and develops distribution facilities, with operations in 34 target markets in the United States, as well as Mexico, Canada, 13 European countries, Japan, and South Korea. As of June 30, 2010, ProLogis owned and managed more than 475 million square feet of industrial space leased to more than 4,400 customers including manufacturers, retailers, transportation companies, and third-party logistics providers. As of June 30, 2010, ProLogis had $33.5 billion in total assets owned and under management, $18.2 billion in undepreciated book assets, and a common equity market capitalization of $4.8 billion.

Additional information is available at '[ www.fitchratings.com ]'

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