DBRS Confirms Ratings on Merrill Lynch Financial Assets Inc., Series 2006- Canada 19

DBRS Limited (DBRS) has today confirmed the ratings on the Commercial Mortgage Pass-Through Certificates, Series 2006-Canada 19 issued by Merrill Lynch Financial Assets Inc., 2006-Canada 19 as follows:

-- Class A-3 at AAA (sf)
-- Class B at AAA (sf)
-- Class C at AA (high) (sf)
-- Class D at A (low) (sf)
-- Class E at BBB (sf)
-- Class F at BBB (low) (sf)
-- Class G at BB (sf)
-- Class H at BB (low) (sf)
-- Class J at B (high) (sf)
-- Class K at B (sf)
-- Class L at B (low) (sf)
-- Class XC at AAA (sf)

All trends are Stable.

The rating confirmations reflect the overall stable performance of the transaction. At issuance, the collateral consisted of 75 fixed-rate loans secured by 124 commercial properties. As of the February 2016 remittance, 45 loans remain in the pool, with an aggregate outstanding principal balance of $275.9 million, representing a collateral reduction of 53.3% since issuance. There is one defeased loan, representing 8.9% of the pool. In the last 12 months, seven loans have paid out from the trust, with all remaining loans scheduled to mature in 2016. Loans representing 62.1% of the current pool balance are reporting YE2014 financials. Based on those YE2014 figures, the 11 reporting non-defeased loans within the Top 15 had a weighted-average (WA) amortizing debt service coverage ratio (DSCR) of 1.11 times (x) with WA debt yield and WA exit debt yield of 9.7% and 9.8%, respectively. The relatively low coverage and debt yields for those loans, on a WA basis, can largely be attributed to the decline in performance for the largest two loans in Prospectus ID #1, 400 University (17.2% of the pool) and Prospectus ID #3, Castel Royale (9.2% of the pool), which had a YE2014 DSCR of 0.59x and 0.53x, respectively. When excluding these loans, the WA YE2014 DSCR rises to 1.60x with a WA debt yield and exit debt yield of 14.2% and 14.3%, respectively. Additionally, Prospectus ID #6, 219 Dufferin Street (6.1% of the pool), did not report YE2014 NCF figures, but shows a YE2015 DSCR of 3.03x.

The pool reported a WA DBRS refinance DSCR of 1.64x with three loans, including the two largest remaining in the pool, representing 27.5% of the pool, showing a DBRS refinance DSCR below 1.10x. The low refinance metrics for the largest loan are mitigated by the relatively low trust exposure of $131 psf and recent leasing activity that should improve the refinance scenario, and the weak refinance metrics for the second-largest loan are mitigated by full recourse to an experienced owner/operator with above-average access to credit.

DBRS maintains an investment-grade shadow rating on one loan in this transaction, representing 5.2% of the current pool balance. The shadow rating is reflective of the underlying collateral’s long-term lease to a single, investment-grade tenant.

As of the February 2016 remittance, there are nine loans on the servicer’s watchlist, representing 66.9% of the current pool balance; however, the majority of the loans were flagged as procedure for the respective upcoming maturity dates. Some loans are being monitored for a combination of reasons, including a near-term maturity and/or a decline in cash flows for the underlying collateral. One loan is in special servicing, representing 1.1% of the pool. The two largest watchlisted loans and the specially serviced loan are detailed below.

Prospectus ID #1, 400 University (17.2% of the current pool balance), is secured by a high-profile, Class B office tower located in downtown Toronto. The loan was added to the watchlist in January 2014 when the largest tenant, Zurich Insurance Company, vacated its space at lease expiration, resulting in a decline in occupancy to 61.7%. Since that time, occupancy has rebounded to 86.9% as of the September 2015 rent roll, as eight new tenants signed new leases in 2015 for a combined 25.9% of the net rentable area (NRA). The rental rates range from $22 psf to $24 psf and most tenants were signed without the incentive of a free rent period. The rates for these tenants compare with the Zurich rate of approximately $17.50 psf. The largest tenant, Province of Ontario – Ontario Minister of Infrastructure (Province of Ontario), occupies 50.1% of the NRA and has a lease that expired in October 2015, but it was confirmed by DBRS to still be at the property during a February 2016 visit to the site. DBRS has requested the servicer confirm the leasing status for that tenant and is awaiting a response. The second- and third-largest tenants occupy 8.7% of the NRA and 4.4% of the NRA, with leases expiring in 2024 and 2025, respectively. There are TI/LC reserves in place, with approximately $646,000 remaining of the original $900,000 reserve established for the Zurich space at closing and a $1.5 million leasing reserve remains available for the re-leasing of Province of Ontario’s space.

According to the YE2014 financials, the property experienced a 69.2% net cash flow decline from the YE2013 figure, driven by the Zurich vacancy, resulting in a low YE2014 DSCR of 0.59x, as compared with the YE2013 DSCR of 1.44x and YE2012 DSCR of 1.48x. As occupancy has rebounded to historical levels, with leases signed at rates higher than those for the previous tenant, DBRS expects those factors will combine with the low leverage point for the trust loan and the desirable downtown Toronto location to enable the loan’s successful refinance on or around the scheduled May 2016 maturity date.

Prospectus ID #3, Castel Royale (9.2% of the current pool balance), is secured by a 250-unit independent living facility located in an affluent area of Montréal, Québec. This loan has been on the watchlist for the past several years because of a prolonged decrease in the occupancy rate (and corresponding decline in cash flows) at the subject, which was 63.4% at December 2014, resulting in a low DSCR of 0.53x. The occupancy had further declined to 61.2%, according to the servicer’s October 2015 site inspection. The report noted that the subject saw a decline in leasing activity because of exterior improvements that were completed from 2013 to 2014. Those improvements were completed as part of an effort to improve the property’s overall curb appeal and attract new residents. The borrower’s efforts to improve occupancy at the property also include hiring all new staff to facilitate the implementation of a new marketing strategy and conduct a recalibration of pricing to bring rents in line with the current market demographic. The inspection conducted by the servicer found the property to be in average condition overall; however, the report did cite deferred maintenance in the property’s parking garage, an ongoing issue that has prompted the borrower to engage an engineering firm to evaluate the necessary repairs. Although the condition issues and credit metrics do not speak strongly for the loan’s ability to refinance at maturity in May 2016, the loan benefits from full recourse to the sponsor, Chartwell Seniors Housing REIT, which is one of the largest operators of senior housing with over 175 properties in Canada. As such, DBRS believes the loan will be successfully repaid on or around the scheduled maturity date.

Prospectus ID #35, 425 Avenue Marien (1.1% of the current pool balance), is secured by a 226,000 sf industrial property located in northern Montréal, Québec, built in 1919. This loan was transferred to the special servicer in March 2015 for payment default. According to the servicer, the borrower acquired an unauthorized second mortgage and later defaulted on the obligation, resulting in legal action by the second lien holder. A judge granted the second lien holder’s request to install a receiver at the property, who has been remitting excess cash flow to cover the operating expenses at the property and is in the process of seeking approval from the court to auction the property. The special servicer is preparing for the auction, which may be held as early as March 2016, as the courts allow. The property was last appraised in July 2015 at $4.1 million, a $2.1 million decline from the issuance value of $6.2 million. Although the appraiser’s estimate implies value outside of the trust’s exposure of $3.2 million, DBRS believes that, as the sale price could be lower than the appraised value and proceeds could be impacted by fees and expenses incurred by the servicer, the potential for loss to the trust remains. As such, the loan was modeled with a stressed liquidation scenario that assumed a haircut to the appraised value.

DBRS continues to monitor this transaction in its Monthly CMBS Surveillance Report, with additional information on the DBRS viewpoint for this transaction, including details on the largest loans in the pool. The February 2016 monthly surveillance report for this transaction will be published shortly. If you are interested in receiving this report, contact DBRS at info@dbrs.com.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

The applicable methodologies are North American CMBS Rating Methodology (June 2015) and CMBS North American Surveillance (December 2015), which can be found on our website under Methodologies.