Scope Ratings today downgraded the EUR 30m corporate bond (maturity 2019) of the Kassel-based real estate company Immobilien-Projektgesellschaft Salamander-Areal Kornwestheim mbH (“IPSAK“) to BBB from A-. The rating outlook is stable.

This rating action follows Scope’s review for a possible downgrade, which was initiated on 17 September 2014. The review was prompted by Scope´s finalisation of its rating methodology for corporates and their debt instruments.

According to this methodology, the rating of a corporate debt instrument is primarily determined by the Corporate Issuer Credit Rating (CICR). The CICR can be adjusted up- or downwards depending on the assumed recovery rate upon default of the issuer. In its rating approach, Scope estimates the assumed recovery rate upon default by taking into account the estimated value of claims available for creditors at the time of default, as well as the size and ranking of claims in the waterfall of claims.

The issuer’s anticipated business developments are factored into the rating.

Positive rating factors include IPSAK’s moderate Loan-To-Value (“LTV”) of 43% in 2013 and its good tenant structure, notably the fact that the federal state of Baden-Württemberg accounts for 20% of expected 2014 rental income. Another positive rating factor is the relatively long weighted average unexpired lease term (“WAULT”) of 6.8 years. This provides Scope Ratings with comfort with regard to the predictability and stability of rental revenues and partially mitigates the volatility of IPSAK’s development activities. The company’s high 69% EBITDA margin in 2013 is also regarded as rating positive.

These positive rating factors are partly offset by IPSAK’s small size, with a total consolidated asset value of about EUR 140m at year-end 2013, its strong reliance on its top customers (the top 3 account for 32% of rental revenues), its focus on only a few illiquid markets and some key person risk.

IPSAK’s FFO/Debt ratio stood at a low 8.8% in 2013, while the FFO fixed charge cover (x) was 1.7x (2013), which is considered adequate for the rating.

KEY RATING DRIVERS

A small-sized property company. With a total consolidated asset value of EUR 140m in 2013, IPSAK is a small property company in the highly fragmented German real estate market. Its main activities are letting (66% of expected 2014 sales of EUR 8.7m), which contributes to predictable and stable revenues, revitalizing and converting heritage-protected properties as well as the construction of condominiums (34%).

A geographical focus on just a few regional markets. Although IPSAK has begun to diversify geographically with operations in Kassel (“Schönfeld Carree”), it still focuses on two core markets: Kornwestheim/Ludwigsburg (81% of total revenues in 2013) and Heidenheim (19%). Both markets are considered relatively illiquid.

Market leader for residential developments in Kassel and Kornwestheim/Ludwigsburg. IPSAK has a powerful market presence in property development in Kornwestheim/Ludwigsburg and Kassel, where its market share is expected to reach 50% as from 2015.

A very profitable business, but which is subject to the volatility of project development. IPSAK’s profitability measured by its EBITDA margin stood at a high 69% in 2013. However, due to the nature of IPSAK’s business model of combining letting and developing activities, this margin has been quite volatile (±30pp) during the last three years.

This said, the EBITDA margin is expected to increase to 80% for 2014 supported by upcoming disposals, including those of urban villas on the Salamander Areal in the fourth quarter of 2014, with pre-sale rates of about 50%. Going forward, it still will be exposed to execution risk associated with the timely delivery and disposal of IPSAK’s project subsidiaries. However Scope Ratings expects a lower volatility due to the increase and stabilization of the disposal activities.

Key person risk. Scope Ratings sees a key person risk arising from the company’s current structure, in which the main strategic decisions are made by IPSAK’s CEO and founder.

Moderate Loan-to-Value of 43% in 2013. With a moderate LTV of 43%, IPSAK is among the least leveraged property companies in Scope’s rating portfolio. Scope Ratings does not expect a siginificant increase of the LTV during the next two years.

Low FFO/Debt (%) of 8.8% in 2013 expected to increase to 18% in 2014. A negative rating factor is IPSAK’s relatively low FFO/Debt ratio (%) of 8.8% in 2013. This is due foremost to the increase in the net debt position after the EUR 30m bond issue in 2012 and the lack of revenues from asset disposals in 2013. The ratio is expected to improve to 18% in 2014, when IPSAK’s development pipeline (Salamander Areal) should start to materialize.

Very solid liquidity profile. IPSAK’s current liquidity profile is very solid with operating cash flow, cash and equivalents, marketable securities and undrawn bank facilities totalling EUR 10.4m at YE2013 and no short-term debt on the liabilities side. IPSAK’s FFO fixed charge cover (x) of 1.7x (2013) is deemed adequate.

IPSAK’s debt of about EUR 72m as of January 2014 consists of bank debt at the holding (EUR 22m) and subsidiary levels (EUR 20m) and a corporate bond (EUR 30m). The average maturity of IPSAK’s debt is 11.7 years with no upcoming loan redemptions until 2017 when EUR 4.4m will fall due.

Corporate bond rating of BBB due to over-collateralisation by 1.9x. The BBB corporate bond rating reflects IPSAK’s unsecured issuer credit quality as well as the seniority and asset pledges of IPSAK’s debt positions. The bond benefits from a very valuable collateral package. This consists of a second-ranked “Buchgrundschuld” on the Salamander Areal (valued at EUR 81m) behind first-ranked debt of currently EUR 22m (maximum of EUR 30m) and a fixed cash deposit of EUR 2m. Scope Ratings acknowledges this over-collateralisation by 1.9x to be a strong factor for the bond rating.

OUTLOOK

The outlook on the EUR 30m corporate bond rating is stable. Solid cash flow generation is expected to continue and financial measures are expected to improve if the solid development pipeline materializes.

Important information
Information pursuant to Regulation (EC) No 1060/2009 on credit rating agencies, as amended by Regulations (EU) No. 513/2011 and (EU) No. 462/2013

Responsibility
The party responsible for the dissemination of the financial analysis is Scope Ratings AG, Berlin, District Court for Berlin (Charlottenburg) HRB 161306 B, Chief Executive Officer: Florian Schoeller.

The rating analysis has been prepared by Philipp Wass, Lead Analyst
Responsible for approving the rating: Dr. Britta Holt, Committee Chair

Rating history of the Corporate Bond Rating of Immobilien-Projektgesellschaft Salamander-Areal Kornwestheim mbH
17.09.2014 Review for possible downgrade A- No outlook
29.11.2013 Downgrade A- Stable
03.12.2012 Initial Rating A No outlook

Usually a credit rating is accompanied by a rating outlook, which can be Stable, Positive or Negative. The Positive and Negative outlooks would normally refer to a time period of 12-18 months. These outlooks do not necessarily signal that a rating upgrade or downgrade, respectively, will automatically follow. The probability of such a rating outcome, however, would be higher than 50%.

Information on interests and conflicts of interest
The rating was prepared independently by Scope Ratings but for a fee based on a mandate of the rated entity.

As at the time of the analysis, neither Scope Ratings AG nor companies affiliated with it hold any interests in the rated entity or in companies directly or indirectly affiliated to it. Likewise, neither the rated entity nor companies directly or indirectly affiliated with it hold any interests in Scope Ratings AG or any companies affiliated to it. Neither the rating agency, the rating analysts who participated in this rating, nor any other persons who participated in the provision of the rating and/or its approval hold, either directly or indirectly, any shares in the rated entity or in third parties affiliated to it. Notwithstanding this, it is permitted for the above-mentioned persons to hold interests through shares in diversified undertakings for collective investment, including managed funds such as pension funds or life insurance companies, pursuant to EU Rating Regulation (EC) No 1060/2009. Neither Scope Ratings nor companies affiliated with it are involved in the brokering or distribution of capital investment products. In principle, there is a possibility that family relationships may exist between the personnel of Scope Ratings and that of the rated entity. However, no persons for whom a conflict of interests could exist due to family relationships or other close relationships will participate in the preparation or approval of a rating.

Key sources of Information for the rating
Prospectus; Website of the rated entity/issuer; Valuation reports, other opinions; Annual reports/semi-annual reports of the rated entity/issuer; Detailed information provided on request;  Annual financial statements; Data provided by external data providers; Interview with the rated entity; External market reports; Interview with the issuer; Press reports / other public information.

Scope Ratings considers the quality of the available information on the evaluated company to be satisfactory. Scope ensured as far as possible that the sources are reliable before drawing upon them, but did not verify each item of information specified in the sources independently.

Examination of the press release by the rated entity prior to publication / Modification of the press release after the examination
The rated entity was given the opportunity to examine the press release prior to publication. Following that examination, the press release was modified without impact on the rating.

Methodology
The methodology applicable for this rating is the current Methodology for corporates and their debt instruments, available on www.scoperatings.com. The historical default rates of Scope Ratings can be viewed on the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s default rating, definitions of rating notations and further information on the analysis components of a rating can be found in the documents on methodologies on the rating agency’s website.

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