DBRS Ratings Limited (DBRS) finalised its provisional ratings of the following classes of notes issued by Arrow CMBS 2018 DAC (the Issuer):
-- Class A1 at AAA (sf)
-- Class A2 at AAA (sf)
-- Class B at AA (sf)
-- Class C at A (low) (sf)
-- Class D at BBB (low) (sf)
-- Class E at BB (high) (sf)
-- Class F at BB (low) (sf)
All trends are Stable.
Arrow CMBS 2018 DAC is the securitisation of 95% interest of a EUR 308.2 million senior commercial real estate loan jointly advanced by Deutsche Bank AG, London Branch and Société Générale, London Branch (together, the Loan Sellers) to various borrowers located in France, the Netherlands and Luxembourg (together, the Borrowers). The loan is ultimately owned by Onyx, a joint-venture company set up by Blackstone Real Estate Partners (Blackstone), which holds 95% of the equity, and M7 Real Estate (together with Blackstone, the Sponsors), which holds the remaining 5% of equity. There is an additional EUR 78.1 million mezzanine facility, which is structurally and contractually subordinated to the senior loan. However, the mezzanine facility is not part of the transaction.
The logistic portfolio securing the senior loan, which was valued by Cushman & Wakefield at EUR 442.0 million, has assets located across France (69.5% of the portfolio by market value or MV), Germany (23.1% of the portfolio by MV) and the Netherlands (7.5% of the portfolio by MV). A large part of the collateral is from the previous loan portfolio sale, Project Aberdonia, which Lloyds Banking Group sold to Marathon Asset Management in 2014.
There are 89 assets in the portfolio and, according to Blackstone, 77 assets are categorised as logistics, industrial or mixed-use assets, which represent 86.7% of the portfolio’s MV. The Sponsors plan to dispose the portfolio’s non-logistics assets and two mixed-used assets to integrate the remaining part of the portfolio into its pan-European logistics platform. DBRS estimates that should all 14 assets (two mixed-used assets and 12 non-logistics assets) be disposed, and their release prices be paid, the portfolio will slightly deleverage to a 67.7% loan-to-value (LTV) ratio from 69.7% LTV at issuance.
Approximately 69.5% of the MV is located in France, with a concentration in the strong economic region of Île-de-France (35.6% of the portfolio). Within France, DBRS notes that the majority of assets are located along the French
logistics belt, which extends from Lille to Marseille. The German assets in the portfolio are mostly located in the northwestern part the country whereas most of the Dutch assets are located in the Randstad region.
Arrow CMBS 2018 DAC is the first European post-financial-crisis CMBS transaction with a large French asset exposure. The workout process of several defaulted French loans securitised in certain pre-financial crisis transactions revealed that the enforcement against borrowers holding mainly French assets would be complicated should the borrower be granted a safeguard plan (plan de sauvegarde) by a French court. A double-Lux Co. structure, however, should mitigate the risk of Borrowers filing a hostile safeguard. In addition, the Loan Sellers benefit from Dailly assignments of rental income pursuant the Dailly law (loi Dailly), which would remain effective notwithstanding the opening of safeguard. Moreover, the transaction is supported by a tail period of six-and-a-half years and liquidity facility coverage up to almost two years’ of interest payments on the covered notes in case of a long workout process. DBRS has undertaken a legal analysis in light of these mitigants and concluded that the transaction’s credit quality is commensurate with DBRS’s highest-assigned rating.
As of 30 April 2018 (the cut-off date), the portfolio generated a total EUR 33.5 million gross rental income from approximately 350 tenants. The net operating income (NOI) of the portfolio is estimated to be EUR 31.1 million, representing a debt yield (DY) of 10.1%. The portfolio benefits from a high physical occupancy rate of 90.7%. However, the appraiser deemed 2.9% of the vacant areas as structural vacancies. As such, no rental or sales value was allocated for that space. As a result, the portfolio’s MV of EUR 442.0 million is net of structural vacancy. The senior loan LTV ratio is 69.7%. DBRS further stressed the portfolio by applying a 10% vacancy assumption, resulting in an underwritten physical vacancy of approximately 13.0%.
The senior loan carries a floating interest rate equal to three-month Euribor (subject to zero floor) plus a margin of 2.075%. The base interest rate risk is hedged by a prepaid cap with a strike rate of 2.0% and is provided by Société Générale, London branch.
Similar to other Blackstone-sponsored loans, the senior loan does not provide for default financial covenants, but only has a cash trap mechanism set at 77.2% LTV and 9.45% DY based on net rental income (NRI). The loan has an initial term of two years with three one-year extension options available subject to the satisfaction of certain conditions. While the Sponsors remain the same, there is no amortisation scheduled during the loan term.
According to the tax due diligence report received by DBRS, there is a potential tax liability of EUR 45.6 million (or EUR 55.2 million including penalty and late interests) accumulated over the past years and inherited from two French portfolios: Aberdonia and Mistral. DBRS understands that such liability was caused by the missing or incorrect tax filing by the previous owner who (like Blackstone) should have been exempt from such tax. Blackstone have undertaken to correctly file thus be exempt from such tax liability in future. However, there is no guarantee that the French tax authority would not claim amounts based on the missing or incorrect filings for previous years. DBRS has reflected such risk in its analysis by assuming that during the fully-extended loan term, all excess cash from the assets would be used to pay the overdue tax and deducted the remaining unpaid tax liability from each rating level’s proceeds proportionally.
The transaction will benefit from a liquidity facility of EUR 13.5 million, which equals to 7.6% of the total outstanding balance of the covered notes, and will be provided by Deutsche Bank AG, London Branch and Société Générale, London Branch (the Liquidity Facility Providers) on a 50-50 basis. The liquidity facility can be used to cover interest shortfalls on the Class A1, Class A2 and Class B notes. According to DBRS’s analysis, the commitment amount, as at closing, could provide interest payment on the covered notes up to approximately 26 months and 14 months based on the interest rate cap strike rate of 2.0% and the Euribor cap of 5% after loan maturity, respectively. At issuance, the portion of liquidity facility provided by Deutsche Bank AG, London branch, will be fully drawn and deposited on an account under the control of the Issuer at Elavon Financial Services Limited, UK branch.
The transaction is expected to repay on or before 22 November 2023, seven days after the fully-extended senior loan
maturity. Should the loan not be repaid by then, this will constitute, among others, a special servicing transfer event. The transaction will be structured with a 6.5 year tail period to allow the special servicer to work out the loan by 22 May 2030 at the latest, which is the legal final maturity of the notes.
The Class D, E and F notes are subject to an available funds cap where the shortfall is attributable to an increase in the weighted-average margin of the notes and/or a reduction of interest payment due to the partial prepayments of the senior loan.
The transaction includes a Class X diversion trigger event, meaning that if the loans’ DY falls below 8.66% and/or LTV increases over 82.02%, any interest and prepayment fees due to the Class X noteholders will instead be diverted into the Issuer transaction account and credited to the Class X diversion ledger. However, once the trigger is un-breached, the held amount will be released back to the Class X noteholder and following the delivery of a note acceleration notice or the expected note maturity, such funds will be used to amortise the notes.
To maintain compliance with the applicable regulatory requirements, the Loan Sellers will jointly hold approximately
5% of the senior loan.
All figures are in euros unless otherwise noted.
The principal methodology applicable to the ratings 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 principal methodology.
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 these ratings include Deutsche Bank AG, Société Générale London Branch and their delegates.
DBRS did not rely upon third-party due diligence in order to conduct its analysis.
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.
These ratings concerns a newly issued financial instrument. This is the first DBRS rating on this financial instrument.
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”):
Class A1 Notes Risk Sensitivity:
--10% decline in DBRS NCF, expected rating of Class A notes to AAA (sf)
--20% decline in DBRS NCF, expected rating of Class A notes to AA (high) (sf)
Class A2 Notes Risk Sensitivity:
--10% decline in DBRS NCF, expected rating of Class A notes to AA (high) (sf)
--20% decline in DBRS NCF, expected rating of Class A notes to A (sf)
Class B Notes Risk Sensitivity:
--10% decline in DBRS NCF, expected rating of Class B notes to A (sf)
--20% decline in DBRS NCF, expected rating of Class B notes to BBB (high) (sf)
Class C Notes Risk Sensitivity:
--10% decline in DBRS NCF, expected rating of Class C notes to BBB (sf)
--20% decline in DBRS NCF, expected rating of Class C notes to BB (high) (sf)
Class D Notes Risk Sensitivity:
--10% decline in DBRS NCF, expected rating of Class D notes to BB (high) (sf)
--20% decline in DBRS NCF, expected rating of Class D notes to BB (low) (sf)
Class E Notes Risk Sensitivity:
--10% decline in DBRS NCF, expected rating of Class E notes to B (high) (sf)
--20% decline in DBRS NCF, expected rating of Class E notes to CCC (sf)
Class F Notes Risk Sensitivity:
--10% decline in DBRS NCF, expected rating of Class F notes to B (sf)
--20% decline in DBRS NCF, expected rating of Class F notes to CCC (sf)
Ratings assigned by DBRS Ratings Limited are subject to EU and US regulations only.
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.
Lead Analyst: Rick Shi, Assistant Vice President
Rating Committee Chair: Jerry van Koolbergen, Managing Director
Initial Rating Date: 23 October 2018
DBRS Ratings Limited
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London EC3M 3BY
Registered in England and Wales: No. 7139960
The rating methodologies used in the analysis of this transaction can be found at: http://www.dbrs.com/about/methodologies.
-- Legal Criteria for European Structured Finance Transactions
-- Derivative Criteria for European Structured Finance Transactions
-- Interest Rate Stresses for European Structured Finance Transactions
-- European CMBS Rating and Surveillance Methodology
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 firstname.lastname@example.org.
On 3 December 2018, DBRS amended this press release to reflect the fact that it was not provided with third-party assessments.
On 4 December 2018, DBRS amended this press release to include the missing ESMA disclosure.