DBRS Morningstar Assigns Provisional Ratings to BWAY Commercial Mortgage Trust 2022-26BW

DBRS, Inc. (DBRS Morningstar) assigned provisional ratings to the following classes of Commercial Mortgage Pass-Through Certificates, Series 2022-26BW to be issued by BWAY Commercial Mortgage Trust 2022-26BW:

Class A at AAA (sf)
Class X at BBB (high) (sf)
Class B at AA (sf)
Class C at A (sf)
Class D at BBB (sf)
Class E at BB (low) (sf)

All trends are Stable.

The collateral for the BWAY Commercial Mortgage Trust 2022-26BW transaction consists of a 29-story, 839,712-square-foot (sf) office building in the Financial District of Manhattan, New York. It is located on Broadway Avenue across from Bowling Green and the well-known Charging Bull statue. The property has good access to transit with the 1, 2, 3, 4, 5, J, and Z subway lines in close proximity; the PATH station at World Trade Center and ferry stops at Battery Park are also nearby. The property includes 18,960 sf of street-level retail space. The property was built in 1885 for Standard Oil of New York with the tower added in 1926; it is now leased to 44 tenants.

The property is a generally stable asset that is 82.2% leased with credit tenants accounting for more than 40.0% of the rentable square footage. The New York City Department of Education occupies 288,090 sf (34.3% of the net rentable area) and was granted long-term credit tenant treatment in the DBRS Morningstar Net Cash Flow (NCF) for its leases that expire in 2039 and 2041. Other tenants with investment-grade credit include the New York State Court of Claims (the Court of Claims), HSBC Bank, and Cornell University. No other tenant accounts for more than 9.0% of the space at the property. The remaining tenants include law, media, education, and technology firms. The rollover for only one year, 2027, accounts for more than 10% of lease rollover in any single year, and only 46.8% of the space expires during the loan term.

DBRS Morningstar expresses some concern related to a coworking tenant, Live Primary LLC (Live Primary). The company is a small operator in New York with limited scale and it filed for federal bankruptcy protection in 2020, although it is not in bankruptcy anymore. The tenant remains at the property under reduced rent through 2023. The coworking environment continues to be competitive with major players consolidating and aligning with brokerage firms to improve tenancy, which may pressure smaller operators. At the same time, the uncertainty of return to office plans following the Coronavirus Disease (COVID-19) pandemic complicates the future prospects for the coworking industry in general as contracts come up for renewal. Finally, DBRS Morningstar views coworking space with concern because the customized build-outs that were common prior to the pandemic may require additional cost to tear down in order to backfill spaces with conventional office tenants. To account for these risks, the DBRS Morningstar NCF includes elevated tenant improvement (TI) assumptions of $100.00 per sf (psf) for new space and $50.00 psf for renewal space versus $60.00 psf and $30.00 psf for conventional tenants. DBRS Morningstar also employed a renewal probability of 50% against the more standard assumption of 65%. The loan is structured with a Live Primary Rent Replication Reserve of $1.15 million to the difference between the reduced Live Primary rent through March 31, 2023, and the rent payable after April 1, 2023.

The long-term effects of the coronavirus pandemic on office buildings remain unclear; however, DBRS Morningstar believes that CBD office markets may experience a flight to quality as the dust settles on the disruption of the past two years. The ability of older buildings to retain tenants may be limited to those seeking the lowest cost of occupancy in the market. At the same time, operating expenses continue to increase and environmental regulations may put additional margin pressure on older assets. The loan was structured with a $1.5 million capital expenditure (capex) reserve to address the physical needs of the property.

The Court of Claims is on a month-to-month lease pending renewal of its long-term lease, which is expected to have an expiration date in September 2031, just prior to loan maturity. Should this tenant vacate at expiration, the borrower could face hurdles to a cash-neutral refinancing. The loan is structured with a $31.0 million upfront reserve for the Court of Claims lease to be released upon its lease renewal, or leasing of the space to an acceptable replacement tenant(s). After 60 days, the release of funds from the reserve will be subject to a 6.7% debt yield test. If the space is not leased after five years, then the remaining balance of the reserve would be used to pay down the mortgage loan balance. The loan is also structured with a cash flow sweep in the event that the tenant goes dark or fails to execute a lease renewal.

Overall, the cash flow over the loan term is expected to be stable given the good in-place tenancy. While the vacancy is elevated, DBRS Morningstar concluded to the in-place occupancy with no upside in cash flow. There are risks related to the coworking tenant and surrounding the lease of the Court of Claims; however, DBRS Morningstar believes that adjustments to cash flow and the upfront reserves are partially mitigating factors.

The Financial District in Manhattan is accessible to major transit nodes and continues to draw interest from tenants. The Federal Courthouse and the New York courts are less than a mile away and act as a demand driver for law firms seeking proximity to the courthouses. The vacancy rate in the Reis Downtown submarket was modest at 10.8% and was stable through the coronavirus pandemic.

More than 51% of the space is leased to tenants with investment-grade characteristics, including the New York City Department of Education, which occupies 34.3% of the space under two leases that will expire in 2039 and 2041, although the tenant has termination rights in 2029 and 2031. Less than half of the space will roll during the loan term and the roll is well dispersed with only one year having more than 10% roll.

Chetrit Group is a New York-based real estate investment company that operates more than 14 million sf of office space, the majority of which is in New York City. Since acquiring the property in 2007, the sponsor has spent $54.7 million in capex and TIs at the property.

The second-largest tenant is a coworking operator with a prior bankruptcy filing. The future of coworking operators (in particular, smaller locally based operators) remains risky over the near term. The Court of Claims has a lease the expires shortly before the loan maturity date. It is likely that the borrower will need to secure a renewal of this tenant as it seeks to refinance the loan. DBRS Morningstar reduced the renewal probability and increased the concluded TI assumption for the coworking tenant, which has the effect of reducing the DBRS Morningstar NCF. The loan is also structured with a rent replication reserve for the Live Primary lease. With regard to the Court of Claims, the loan is structured with an upfront reserve and cash flow sweeps that will hold cash which may be used to renew or replace the tenant.

The ongoing coronavirus pandemic continues to pose challenges and risks to virtually all major commercial real estate property types, creating an element of uncertainty around future demand for office space.

The DBRS Morningstar LTV on the $290.0 million first mortgage is high at 124.5%. In addition, the property is encumbered by a $40.0 million mezzanine loan, which increases the DBRS Morningstar total debt-to-LTV to 141.7%. In order to account for the high leverage and additional financing, DBRS Morningstar programmatically reduced its LTV benchmark targets for the transaction by 3.0% across the capital structure.

ESG CONSIDERATIONS
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

Classes X certificates are interest-only (IO) certificates that reference a single rated tranche or multiple rated tranches. The IO rating mirrors the lowest-rated applicable reference obligation tranche adjusted upward by one notch if senior in the waterfall.

All ratings are subject to surveillance, which could result in ratings being upgraded, downgraded, placed under review, confirmed, or discontinued by DBRS Morningstar.

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Notes:
All figures are in U.S. dollars unless otherwise noted.

With regard to due diligence services, DBRS Morningstar was provided with the Form ABS Due Diligence-15E (Form-15E), which contains a description of the information that a third party reviewed in conducting the due diligence services and a summary of the findings and conclusions. While due diligence services outlined in Form-15E do not constitute part of DBRS Morningstar’s methodology, DBRS Morningstar used the data file outlined in the independent accountant’s report in its analysis to determine the ratings referenced herein.

The principal methodology is North American Single-Asset/Single-Borrower Ratings Methodology (March 2, 2021), which can be found on dbrsmorningstar.com under Methodologies & Criteria. For a list of the structured-finance-related methodologies that may be used during t he rating process, please see the DBRS Morningstar Global Structured Finance Related Methodologies document, which can be found on dbrsmorningstar.com in the Commentary tab under Regulatory Affairs. Please note that not every related methodology listed under a principal structured finance asset class methodology may be used to rate or monitor an individual structured finance or debt obligation.

The DBRS Morningstar Sovereign group releases baseline macroeconomic scenarios for rated sovereigns. DBRS Morningstar analysis considered impacts consistent with the baseline scenarios as set forth in the following report: https://www.dbrsmorningstar.com/research/384482/baseline-macroeconomic-scenarios-application-to-credit-ratings.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the rating process.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

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