Morningstar DBRS Confirms Dividend Growth Split Corp.'s Preferred Shares at Pfd-3 (low)

DBRS Limited (Morningstar DBRS) confirmed the credit rating on the Preferred Shares issued by Dividend Growth Split Corp. (the Company) at Pfd-3 (low). The Company invests in a portfolio consisting primarily of equity securities of Canadian dividend growth companies (the Portfolio). In addition, the Company may hold, at the Brompton Funds Limited's (the Manager) discretion, up to 20% of the total assets of the Portfolio directly in global dividend growth companies or indirectly through exchange-traded funds for diversification and improved return potential. As of May 31, 2024, the Portfolio was invested in 33 equity securities across 11 sectors and one exchange-traded fund investment, including financials (29.9%), industrials (17.3%), energy (16.2%), investment funds (9.8%), consumer discretionary (9.4%), consumer staples (7.9%), information technology (4.3%), utilities ( 2.2%), materials (2.2%), communication services (1.1%), and real estate (1.0%). To qualify for inclusion in the Portfolio, at the time of investment and at the time of each periodic reconstitution and/or rebalancing, each dividend growth company included directly in the Portfolio must (1) have a market capitalization of at least $2.0 billion and (2) have a history of dividend growth. Investments will generally be equal weighted at the time of investment; however, after rebalancing the Portfolio, the Company may hold nonequal weight positions.

The Preferred Shares are scheduled to mature on September 27, 2024. Upon approval from the Company's board of directors, the maturity date has already been extended for an additional term of approximately five years to August 30, 2029.

Dividends received from the portfolio are used to pay fixed cumulative quarterly dividends equal to $0.55 per annum to each Preferred Shareholder, yielding 5.5% on the original issue price of $10.00. Holders of Class A Shares receive monthly distributions targeted at $1.20 p.a. The net asset value (NAV) test in place prevents any distributions to the Class A Shares if the Company's NAV falls below 1.5 times (x) the principal amount of the outstanding Preferred Shares. The Company's NAV remained below $15.00 per unit (one unit consists of one Preferred Share and one Class A Share) during February 2023 to November 2023 resulting in the suspension of distributions to the Class A shareholders during this period. However, from December 2023 onwards, the NAV per unit has stayed above the $15.00 threshold and resultingly, the distributions have resumed.

As of June 6, 2024, the downside protection stood at 36.8%, compared with 32.6% as on June 30, 2023. Dividend coverage based on the current dividend yield on the portfolio was 0.6x indicating that the current dividend income earned by the Company is not enough to fully cover the Company's targeted distributions on the Preferred Shares, which increases the reliance on the Manager to generate a high yield to meet distributions without having to liquidate portfolio securities. To supplement the Portfolio income, the Company may engage in securities lending or covered call and put options writing on all or a portion of the shares held in the Portfolio. Without giving consideration to the capital appreciation potential or any source of income other than the dividends earned by the portfolio, the Preferred Share distributions together with the current distributions on the Class A Shares will create a projected grind on the NAV of the Portfolio of approximately 2.6% per year over the next 5 years. However, the grind in the portfolio is mitigated by a 1.5x NAV test.

Considering the amount of downside protection available to holders of the Preferred Shares, the Portfolio diversification, the dividend coverage, the term extension and the expected grind, Morningstar DBRS confirmed the credit rating on the Preferred Shares at Pfd-3 (low).

Recent Updates/Treasury Offerings:

(1) March 12, 2024
The Company announced that the board of directors has approved an extension of the maturity date of the Class A Shares and Preferred Shares of the Company. The current maturity date of September 27, 2024 will be extended for an additional term of approximately 5 years to August 30, 2029.

The main constraints to the credit rating are as follows:

(1) Volatility of price and changes in the dividend policies of the underlying issuers may result in significant reductions in the Preferred Shares' dividend coverage or downside protection from time to time.

(2) Dividends and interest received on the Portfolio are currently unable to fully cover distributions on the Preferred Shares.

(3) The Company relies on the Portfolio manager to generate additional income, through security lending or option writing, to meet distributions and other trust expenses without having to liquidate the portfolio's securities.

(4) Stated monthly distributions on the Class A Shares will likely create a grind on the portfolio. This risk is mitigated by an asset coverage test of 1.5x that ensures sufficient levels of downside protection to the holders of the Preferred Shares.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance (ESG) factors that had a significant or relevant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://dbrs.morningstar.com/research/427030 (January 23, 2024).

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

The principal methodology applicable to the credit rating is Rating Canadian Split Share Companies and Trusts (June 16, 2023; https://dbrs.morningstar.com/research/415986).

Other methodologies referenced in this transaction are listed at the end of this press release.

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-DBRS@morningstar.com.

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada
Tel. +1 416 593-5577

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

A description of how Morningstar DBRS analyzes structured finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/410863.

For more information on this credit or on this industry, visit dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.