OREANDA-NEWS. S&P Global Ratings today raised its long - and short-term corporate credit ratings on Abu Dhabi-based property developer Aldar Properties PJSC to 'BBB/A-2' from 'BBB-/A-3'. The outlook is stable.

At the same time, we raised to 'BBB' from 'BBB-' our issue rating on the $750 million 4.348% senior unsecured sukuk certificates due December 2018, issued by Aldar's subsidiary Sukuk Funding (No. 3) Ltd.

The upgrade reflects the transition in Aldar's business model, which now generates significant profitability from more stable rental activities. Since the opening of the Yas Mall 18 months ago, Aldar's investment property portfolio has strengthened significantly, generating about 50% of the company's profitability. S&P Global Ratings' adjusted EBITDA margins improved to 52.9% as of June 30, 2016, from 23.2% in Dec. 31, 2014, despite softening market conditions. We have thus revised upward our assessment of Aldar's business risk profile to fair from weak and its financial risk profile to modest from intermediate.

The 'BBB' rating on Aldar is based on our view of the company's stand-alone credit profile (SACP), which we now assess at 'bbb-', up from 'bb'. These positive developments are partly offset by our view that there is now a moderate likelihood that the government of the Emirate of Abu Dhabi (AA/Stable/A-1+) would provide timely and sufficient extraordinary support to Aldar in the event of financial distress, compared with moderately high previously. As a result, our 'BBB' rating on Aldar now incorporates one notch of uplift instead of two notches.

While we consider Aldar to be a government-related entity (GRE), the amount of government projects to be undertaken by Aldar has significantly reduced. Although we continue to see Aldar as a vehicle for the government with potential for future government transactions, we believe the company's public policy role has diminished.

At the same time, we understand that Aldar now undertakes all of the government projects and infrastructure work for a management fee rather than assuming the risks of these on its balance sheet. In our view, this marks a clearer delineation between Aldar's government-sponsored and non-government related projects and could also indicate that the government is primarily interested in the former, rather than the company's overall credit standing. These factors lead us to reassess the company as having a role of limited importance for the government, compared to an important role previously.

We now see a moderate likelihood that the government of Abu Dhabi would provide timely and sufficient extraordinary support to Aldar if needed, based on our assessment of Aldar's:Limited public policy role as the company operates essentially as a profit-seeking enterprise in a competitive environment; and Strong link with the Emirate of Abu Dhabi, given its close to 40% direct and indirect ownership of Aldar, along with government representation on Aldar's board and related influence on its strategic and business plans. Our assessment of Aldar's business risk profile reflects company's position as the largest property company in the emirate, its close relationship with the government, and its good-quality investment property portfolio, including an attractive land bank. These factors are mitigated by Aldar's ongoing exposure to potentially volatile demand and pricing for residential and commercial properties in Abu Dhabi. We believe that Aldar is taking a measured approach to new property developments, and we expect the recurring income from rental assets will continue generating about one-half of Aldar's EBITDA, which is supportive of the business.

Our view of Aldar's financial risk profile has improved, reflecting our forecast of EBITDA interest coverage exceeding 10x and debt to EBITDA sustainably lower than 2x. These ratios were 10.5x and 1.3x, respectively, for the 12 months ended June 30, 2016. Under our operating base-case scenario, we assume that Aldar's EBITDA growth will continue to benefit from a high share of recurring income in total revenue, and new residential development launches. Improving EBITDA generation will likely allow ratios of EBITDA interest cover to remain better than 10x in the medium term.

Moreover, we believe that the company's funding policy for future government projects is prudent, relative to other developers, because it is fee-based with no development risk on Aldar's balance sheet.

The stable outlook reflects our view that Aldar's credit metrics will remain commensurate with the current rating over the next 24 months. We believe the company's maintenance of a significant share of recurring rental income in its total revenue base and its cautious approach toward development activities should translate into stable credit metrics, namely debt to EBITDA below 2x and funds from operations to debt of more than 45% as determined by our general corporate methodology, which is in line with the current rating.

We could raise the rating if we expected a further decrease of Aldar's exposure to development risk (including government transactions) to less than 20% of its total gross profit over several years. Recurring income would therefore be large enough to fully mitigate fluctuations in operating cash flow and working capital of development-related activities. This is likely to depend on how much development exposure Aldar takes on and conditions on the Abu Dhabi property market.

We might lower the ratings if the company failed to maintain the credit metrics listed above. This could result from speculative development launches, the late collection of government receivables, or an unexpected deterioration in profitability. We could also lower the ratings if we believed Aldar's strong link with the government of Abu Dhabi had weakened, perhaps due to a significant reduction in the government's shareholding.