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Rating action

Scope has affirmed the issuer rating of B+/Stable and the BB- senior unsecured debt rating of Lisi Lake Development JSC.

Rating rationale

The affirmation is driven by i) LLD’s conservative financing structure, which relies on equity and a largely unencumbered asset portfolio that bears little net debt compared to the asset base (Scope-adjusted loan/value ratio of approx. 10%); and ii) the stable operating results in 2020, with a slightly larger overall sales volume for both apartments and plots at the main project, Lisi Green Town. In addition, the gradual ramp-up of recurring rental revenues, started in 2020, is expected to continue over the next several business years.

The issuer’s business risk profile (rated B+) is still constrained by i) LLD’s current lack of size and scope, being a small residential property developer that is dependent on the sales of properties and/or land to end-customers; ii) low diversification with substantial cluster risk with regards to the Lisi Lake projects in Tbilisi; and iii) economic risks, especially given the Covid-19 pandemic, high inflation, foreign exchange risks, and low liquidity of Georgia’s premium real estate market compared with the more mature western European market. With regards to project concentration risk, the second largest project – a large, upscale design hotel with adjacent serviced apartments/villas at the Black Sea near Batumi – is still on hold, pending a building permit. For this project, Scope still assumes about USD 5m in sunk costs and zero sales revenue within our forecast period. The company has stated it may revise the project’s plans, with the alternative approach to sell parts of the project plots to retail clients and small third-party developers. On a positive note, as of 2021, recurring rental income from a ski resort joint venture and the small commercial rental portfolio have started to partially mitigate cluster risk on the development sales for Lisi Green Town. Operating profitability is expected to stay at about a 30% Scope-adjusted EBITDA margin in Scope’s financial base case.

Scope’s assessment of the financial risk profile (rated BB-) assumes financial leverage to remain moderate at less than 2.0x, as measured by Scope-adjusted debt (SaD) to Scope-adjusted EBITDA, as well as low balance sheet leverage, as measured by a single-digit Scope-adjusted loan/value ratio (LTV). However, if projects are delayed significantly or sales slump, LLD may have to depend on external financing to cover future interest payments.

However, Scope believes external financing is available as the company has a large pool of unencumbered assets (properties and a land bank), which allows for additional secured financing. Scope expects free operating cash flows for the next 2-3 years to stay volatile, depending on the pace of expansion into new projects and/or stages as well as potential acquisitions of rental properties.

SaD is expected to grow slower in Scope’s updated financial model since it excludes material development activity in Buknari. Scope now forecasts SaD to stay in the USD 10m-12m range for the next 24 months. The company’s financial leverage (SaD/Scope-adjusted EBITDA), usually below 1.0x in past business years, is very low for a real estate developer. After a temporary spike in leverage during 2019, due to the weak Scope-adjusted EBITDA, Scope forecasts financial leverage to return to the 1.0x-2.0x range over the next 2-3 business years, excluding operating profits from the Buknari project and solely based on ongoing project sales at Lisi Lake with margins at previous years’ levels.

Liquidity is still adequate, based on Scope’s view that the issuer will continue to benefit from good access to external, secured financing given the low LTV of around 10% after the placement of the corporate bond. Scope nevertheless flags the upcoming maturity of the USD 12m senior unsecured corporate bond in 2021.

Outlook and rating-change drivers

The Stable Outlook is supported by robust sales at the core development Lisi Green Town – even during the pandemic – as well as access to funding ensured by low balance-sheet and financial leverage. It also incorporates the expectation that LTV will remain moderate at less than 10%. The Outlook also reflects Scope’s assumption of USD 5m in sunk costs for the Buknari project due to the current delay and ongoing project sales to occur only at Lisi Lake with similar margins as in the previous years. The Outlook further anticipates a successful refinancing of the USD 12m bond due in December as a consequence of the issuers low leverage, high unencumbered asset position and good access to bank financing.

A negative rating action is possible if SaD to Scope-adjusted EBITDA were to reach above 5x on a sustained basis. This could happen through a sales volume slump caused by i) further delays in the execution of developments; or ii) a serious deterioration in Georgia’s real estate market.

Scope would consider a positive rating action if the business risk profile improved significantly through an execution of the planned diversification of the development portfolio and/or a substantial share of recurring revenues independent from continued asset sales that limit cash flow volatility.

Long-term and short-term debt instrument ratings

Scope affirms the debt class rating on senior unsecured debt at BB- reflecting an above-average expected recovery rate in a hypothetical liquidation scenario as of 2023. The recovery assumptions are driven by elevated risks related to the issuers project development activities, evidenced by delays of the Buknari project. Moreover, Scope hints at the structural subordination of all unsecured debt under any current or future senior secured debt that the company might occur, given its large, unencumbered asset base.  

Stress testing & cash flow analysis
No stress testing was performed. Scope performed its standard cash flow forecasting for the company.

Methodology
The methodologies used for this rating(s) and/or rating outlook(s): Corporate Rating Methodology 26 February 2020; European Real Estate Corporates 15 January 2021 are available on https://www.scoperatings.com/#!methodology/list.
Information on the meaning of each rating category, including definitions of default and recoveries can be viewed in the “Rating Definitions - Credit Ratings and Ancillary Services” published on https://www.scoperatings.com/#!governance-and-policies/rating-scale. Historical default rates of the entities rated by Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. Please also refer to 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 definitions of default and rating notations can be found at https://www.scoperatings.com/#governance-and-policies/rating-scale. Guidance and information on how Environmental, Social or Governance factors (ESG factor) are incorporated into the rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The rated entity and/or its agents participated in the rating process.
The following substantially material sources of information were used to prepare the credit rating: public domain, the rated entity, third parties, the rated entities’ agents and Scope internal sources.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the rating or outlook action, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds on which the credit rating and/or outlook is based. Following that review, the rating was not amended before being issued.

Regulatory disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The credit rating and/or outlook is UK endorsed.
Lead analyst: Denis Kuhn, Associate Director
Person responsible for approval of the rating: Philipp Wass, Executive Director
The credit ratings/outlooks were first released by Scope Ratings on 10 July 2018. The credit ratings/outlooks were last updated on 4 February 2020.

Potential conflicts
Please see www.scoperatings.com under Governance & Policies/EU Regulation/Disclosures for a list of potential conflicts of interest related to the issuance of credit ratings.

Conditions of use / exclusion of liability
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