DBRS Ratings Limited (DBRS) downgraded the rating of the interest rate swap (IRS) termination amount that is owed by Deco 8 – UK Conduit 2 P.L.C. (the Issuer or Deco 8) to D (sf). In conjunction with this rating action, DBRS also withdrew the rating. This termination amount, payable to Deutsche Bank AG (Deutsche Bank or the Swap Counterparty), amounts to 31 million GBP.
The rating action reflects DBRS’s view that the swap mark to market (MtM) will not be paid in full.
Because of failure to pay the swap counterparty, a hedge counterparty event of default (EOD) occurred on 11 August 2017. The defaulted MtM at the time of swap termination was GBP 31,255,852.51. The swap referenced loan, the Fairhold loan, was repaid via a discounted pay-off to the amount of GBP 56.5 million (see DBRS’s press release dated 2 November 2017 for more information). DBRS did not receive any information from the swap counterparty regarding the settlement of the defaulted swap MtM. As such, DBRS believes such amount is still outstanding.
Following a note EOD on Deco 8, the trustee delivered a note acceleration notice on 19 January 2018. Consequently, the transaction waterfall switched to a post-enforcement priority of payment, in which the swap payment ranks pari passu to the Class A2 principal and interest.
After the notes have been accelerated, the special servicer works out the remaining outstanding loans. The work out proceeds have been applied to pay down the loans and per the July 2018 investor report, there was a GBP 121.9 million loan balance outstanding and all properties have been sold. The special servicer expects to receive a total of GBP 110.5 million sales proceeds, which will be applied to pay down the loans.
The issuer cash manager is holding all the work-out proceeds and has not made any contributions since July 2017. Therefore, it is unclear how much money is available to the Issuer. Nevertheless, based on DBRS’s estimations, it is highly likely that there would be a shortfall between the available proceeds and the sum of swap MtM, Class A2 principal and Class A2 unpaid interests. As mentioned above, the swap MtM and Class A2 principal and interest payments rank pari passu; therefore, the shortfall will be crystallised on the swap payment on a pro rata basis, hence the D (sf) rating.
The IRS in the CMBS are issuer-level swaps that provide for a fixed-rate payment to Deutsche Bank in exchange for a floating-rate (LIBOR) payment by Deutsche Bank to the bond. The swaps were intended to protect the individual loans and the capital structure in the commercial mortgage-backed securities (CMBS) against interest rate rises. As part of its rating analysis, DBRS considers the adequacy of the collateral backing the respective loan and the CMBS to cover the swap termination payments, the performance of the collateral and the quality of the legal and financial structure. When rating swap termination payments, DBRS assesses the ability of the securities to make the swap termination payments to the counterparty by the legal final maturity date of the transaction. DBRS also takes into account the position of the swap payment in the pre- and post-enforcement priorities of payment. DBRS uses its “European CMBS Rating and Surveillance Methodology” to assess the recoverability of the value of the swap termination fees to determine if there is sufficient coverage to make these termination payments by the legal final maturity of the CMBS. To calculate the swap termination payments, DBRS first derives the net swap cash flow for each period by comparing (1) the fixed stream of payments from the notes to the swap counterparty against (2) the LIBOR payments that the counterparty would expect to pay to the notes. Next, DBRS aggregates the net swap cash flow for all future periods to derive the total potential swap termination payments. A rating is only assigned when, under such rating scenario, there is sufficient coverage of collateral to ultimately pay the swap termination payments should the notes default on swap payment obligations on any distribution date. The rating does not address (1) the likelihood that a swap termination event occurs on or before the swap termination date, (2) the payment of any swap termination payment owed by Deutsche Bank to the bond and (3) termination payments owed by the bond to Deutsche Bank if it is the defaulting party.
All figures are in British pound sterling unless otherwise noted.
The principal methodology applicable to the rating is: “European CMBS Rating and Surveillance Methodology”.
DBRS has applied the principal methodology consistently and conducted a review of the transaction in accordance with the surveillance section of the principal methodology.
A review of the transaction legal documents was not conducted as the legal documents have remained unchanged since the most recent rating action.
Other methodologies referenced in this transaction are listed at the end of this press release.
These may be found on www.dbrs.com at: http://www.dbrs.com/about/methodologies.
For a more detailed discussion of the sovereign risk impact on Structured Finance ratings, please refer to “Appendix C: The Impact of Sovereign Ratings on Other DBRS Credit Ratings” of the “Rating Sovereign Governments” methodology at: http://dbrs.com/research/319564/rating-sovereign-governments.pdf.
The sources of data and information used for this rating include Irish Stock Exchange, Deutsche Bank AG, London Branch, Situs Asset Management Limited and Solutus Advisors Limited.
DBRS did not rely upon third-party due diligence in order to conduct its analysis.
At the time of the initial rating, DBRS was not supplied with third-party assessments. However, this did not impact the rating analysis.
DBRS considers the data and information available to it for the purposes of providing this rating to be of satisfactory quality.
DBRS does not audit or independently verify the data or information it receives in connection with the rating process.
The last rating action on this transaction took place on 2 November 2017, when DBRS downgraded the swap to CCC (low) (sf) with a Stable trend from B (low) (sf) with a Stable trend.
Information regarding DBRS ratings, including definitions, policies and methodologies, is available on www.dbrs.com.
To assess the impact of changing the transaction parameters on the rating, DBRS considered the following stress scenarios, as compared to the parameters used to determine the rating (the “Base Case”):
Swap ref 1475920L Sensitivity:
-- 10% decrease in DBRS NCF: D (sf)
-- 20% decrease in DBRS NCF: D (sf)
For further information on DBRS historical default rates published by the European Securities and Markets Authority (“ESMA”) in a central repository, see: http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.
Ratings assigned by DBRS Ratings Limited are subject to EU and US regulations only.
Lead Surveillance Analyst: Rick Shi, Assistant Vice President
Rating Committee Chair: Christian Aufsatz, Managing Director
Initial Rating Date: 30 June 2014
DBRS Ratings Limited
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The rating methodologies used in the analysis of this transaction can be found at: http://www.dbrs.com/about/methodologies
-- European CMBS Rating and Surveillance Methodology
-- Legal Criteria for European Structured Finance Transactions
-- Derivative Criteria for European Structured Finance Transactions
-- Interest Rate Stresses for European Structured Finance Transactions
A description of how DBRS analyses structured finance transactions and how the methodologies are collectively applied can be found at: http://www.dbrs.com/research/278375.
For more information on this credit or on this industry, visit www.dbrs.com or contact us at email@example.com.