Overview

• We expect BHC will reduce its development pipeline over the next three years compared with our previous expectations. As a result, we expect borrowing and interest coverage ratios will remain very strong and not deteriorate.
• BHC benefits from robust demand for its high-quality assets and operating in a low-risk environment. It is also supported by a moderately high likelihood of receiving extraordinary support from the state of Queensland.
• We are therefore revising the outlook on our 'AA-/A-1+' issuer credit ratings on BHC to stable from negative.
• The stable outlook reflects our view that strong demand, combined with BHC's reduced development pipeline, will support its credit profile.

Rating Action

On Sept. 22, 2021, S&P Global Ratings revised the outlook on its foreign and local currency issuer credit ratings on Brisbane Housing Co. Ltd. (BHC) to stable from negative. At the same time, we affirmed our 'AA-/A-1+' ratings and removed them from under criteria observation (UCO).

Outlook

The stable outlook reflects our view that BHC operates in a low-risk environment and enjoys strong demand for its offerings, mitigating the potential volatility of its finances due to its relatively small size. It also reflects BHC's low borrowing levels.

Downside scenario

We could lower the ratings on BHC if demand for its offerings weakens, as seen with rising vacancy rates, or if it commences large developments. This could see its borrowing, interest coverage, and liquidity ratios materially underperforming our base-case forecast.

Our view of a lower likelihood of timely extraordinary support from Queensland could also result in a lower rating. This could occur if we consider either the role or link to the government to be weakening. Likewise, we could lower our ratings if we took similar action on Queensland.

Upside scenario

We could raise our ratings on BHC if its EBITDA margins strengthened to more than 30% of revenues or its liquidity coverage ratio and access to external liquidity improved while it delivers its development pipeline.

We could also raise our ratings on BHC if its role or link to Queensland improved its likelihood of extraordinary support.

Rationale

Our ratings on BHC reflect the strong demand for its high-quality offerings, its low debt levels, and the social and affordable housing sector's low risk profile. BHC's vacancies compare favorably with its peers, indicating a strong pipeline of tenants. Its low debt levels represent a key strength underpinning its financial profile. We expect BHC to borrow much less than our previous forecasts because it will not be commencing as many major developments as previously indicated. These low borrowing expectations and strong liquidity levels offset weaknesses associated with BHC's relatively thin operating margins.

Our 'AA-' rating on BHC is one notch above the standalone credit profile, reflecting our view of a moderately high likelihood that the state of Queensland (AA+/Stable/A-1+) would provide timely and sufficient extraordinary support to BHC in the event of financial distress.

Enterprise risk profile: BHC operates in a low-risk environment with strong demand for its properties

We believe that BHC's market position is robust. This is underpinned by our view of the strong regulatory framework and systemic support in Queensland, the state in which BHC operates (see "Global Regulatory Framework Report Card: Public And Nonprofit Social Housing Providers," published on June 9, 2021).

BHC benefits from strong demand for its offerings. BHC's vacancy rates are low, at about 1.1% in 2021, and falling. Most vacancies are because of turnover between tenants rather than a lack of demand. There is a large waiting list in Queensland. The government estimates the wait list in BHC's primary market to be about 26,000 families and growing. We assume BHC's vacancy rates are similar to its domestic peers because data are difficult to ascertain. Demand is supported by growing housing affordability issues, BHC's high-quality and well-maintained assets, a fast-growing population, and the effects of the COVID-19 pandemic. More than 80% of tenants are sourced from the Queensland Housing Register, with most evaluated as being high needs or above.

BHC's average rent is about 72% of market price. It limits total rent to 74.9% of market rent each year to ensure it satisfies the definition of a charitable supplier. This ensures that BHC doesn't lose its exemption from goods and services tax.

BHC has become the largest affordable housing provider in the state's capital, Brisbane. BHC owns and manages 1,789 units, most of which are one- or two-bedroom apartments located within 10km of the central business district. BHC manages about 277 apartments on behalf of private investors as part of the National Rental Affordability Scheme. BHC was established in 2002 by Queensland and Brisbane City Council. It has between seven and 15 community shareholders and two ordinary shareholders--Queensland and Brisbane City Council.

BHC's management and governance practices support the rating. BHC's strategy involves growing its portfolio by maintaining a steady development pipeline that is less reliant on government grants. This will eventually see debt levels rise. However, this strategy is taking time to implement because the company still relies on government involvement. For example, BHC joined with the Queensland Department of Housing and Public Works to help deliver the state's "Partnering for Growth" initiative. The initiative is part of Queensland's Housing Strategy 2017–2027, in which BHC aims to deliver, directly or indirectly, several hundred properties. BHC was the first provider to reach an agreement under "Partnering for Growth" stage 1, securing a A$28 million capital grant from the department. BHC aims to deliver about 190 dwellings under this initiative by June 2023.

Management is experienced in affordable housing and is generally risk averse. Risk-management practices and governance are strong, with regular reporting to the board. BHC undertakes external reviews of its practices. All new developments undergo stringent evaluations, and developments are subject to comprehensive asset management plans. The board is experienced and stable. It provides strong oversight of BHC. Debt-management policies are prudent, with predetermined gearing limits and borrowing strategies, while liquidity policies determine minimum cash holdings. The National Regulatory System for Community Housing reaffirmed BHC's Tier 1 status in May 2021.

In our view, BHC lags international peers with regard to its long-term development pipeline and publicly available financial information. While BHC's strategy involves moving toward greater self-funding of projects, the development pipeline remains subject to government funding decisions. In our view, this creates volatility in financial forecasts and means our debt and liquidity assessments can weaken when new developments are unexpectedly approved. Financial reporting is in line with the Australian Charities and Not-For-Profit Commission (ACNC) requirements, which means it publishes limited financial information. Full financial statements are prepared, independently audited, and submitted to the ACNC.

Globally, we classify social housing as a low-risk industry. The industry tends to be stable, with relatively high barriers to entry and ongoing government subsidies in many jurisdictions.

Financial risk profile: Debt profile and access to external liquidity counter thin EBITDA margins

BHC's debt levels underpin the company's financial profile. Debt levels are very low and consist of only small leases. We expect BHC to borrow much less than our previous forecasts. We forecast debt-to-EBITDA to be about 2x in 2024, well below our forecast of 10x, and EBIDTA-to-interest to average about 15x compared with our previous forecast of 6.5x. These forecasts reflect our view that BHC pared back its development pipeline after it was not shortlisted to deliver Queensland's Quay Street "Built-to Rent" initiative in August 2021. We expect BHC will borrow for the first time in 2023 to fund a new development within the "Partnering for Growth" initiative. This will consist of A$10 million of borrowings from National Housing Finance and Investment Corp. (NHFIC; AAA/Stable/A-1+). NHFIC is a Commonwealth government borrowing aggregator for community housing providers.

BHC's operating margins are relatively thin compared with its peers. Our adjusted EBITDA margins as a percentage of revenues will average about 22% during the five-year period between 2020 and 2024. This is lower than most of its peers' and excludes capital grants, which make up a relatively higher proportion of BHC's revenues. Margins could improve over time as BHC expands its portfolio and grows its rental revenue base. BHC's main revenue source is rental income from affordable housing. It has low arrears, given that about 67% of its rental income comes directly through welfare agencies. Capital grants are an important source of funding for developments. We exclude these from our definition of EBITDA because they are not available for debt service. The government historically funded more than 90% of new developments through ad-hoc grants, which meant BHC had no need for borrowing.

Liquidity

BHC's liquidity position is sound, with a coverage ratio of 1.48x. BHC's liquidity coverage consists of our forecast EBITDA margins of A$4.6 million, BHC's A$22.5 million cash reserves, and government grants of about A$12 million, which covers its A$27 million of capital expenditure over the next 12 months from October 2021. The coverage ratio has declined in recent years as capital expenditure increased and, more recently, BHC cancelling its bank facility. The ratio stood at 2.83x in 2020.

We consider BHC's access to external liquidity to be satisfactory. BHC has not yet accessed funding from NHFIC. Therefore, we don't believe it has sufficient access to well-established and effective operating sources of liquidity from NHFIC yet. NHFIC provides low-cost, longer-tenor loans to registered community housing providers to support the provision of more social and affordable housing. BHC does not have direct access to loans or on-lent borrowings from Queensland.

Moderately high likelihood of extraordinary support

We believe there is a moderately high likelihood of extraordinary support from Queensland if BHC were in financial distress. This is based on our assessment of BHC's:

• Important role: BHC was established by Queensland and Brisbane City Council to provide an important public service. BHC is the largest affordable housing provider in Brisbane and one of only a few housing associations that own their own assets, as opposed to simply managing them on behalf of the state.
• Strong link: Queensland is BHC's largest shareholder--with Brisbane City Council and eight small community shareholders owning the remaining shares--which strongly influences its strategy. The state cannot directly intervene in board or management decisions. Under section 18 of the shareholder agreement, it can provide support during a stress event. The state and council can take full control only if BHC triggers a "default event/failure event," such as breaching its constitution or shareholder agreement. BHC is not required to pay dividends to shareholders; all funds must be reinvested in social housing.

We believe a credit default by BHC would have an important but manageable effect on Queensland. This is because such a default likely would have a limited effect on the government's ability to access capital markets and meet its own financial commitments.

Key Statistics

Table 1

Ratings Score Snapshot

Table 2

Related Criteria

• Criteria | Governments | General: Methodology For Rating Public And Nonprofit Social Housing Providers, June 1, 2021
• General Criteria: Methodology For Linking Long-Term And Short-Term Ratings, April 7, 2017
• General Criteria: Rating Government-Related Entities: Methodology And Assumptions, March 25, 2015
• General Criteria: Principles Of Credit Ratings, Feb. 16, 2011
• General Criteria: Stand-Alone Credit Profiles: One Component Of A Rating, Oct. 1, 2010

Related Research

• Global Regulatory Framework Report Card: Public And Nonprofit Social Housing Providers, June 9, 2021
• Ratings On Nine Social Housing Providers Placed Under Criteria Observation On Criteria Update, June 2, 2021
• National Housing Finance and Investment Corp., March 10, 2021
• State of Queensland, Dec. 16, 2020

Ratings List