DBRS Confirms BPM Securitisation 3 S.r.l.’s Class A Notes at AAA (sf) following Transaction Restructuring

DBRS Ratings Limited (DBRS) has today confirmed the Class A Notes (ISIN: IT0005046039) issued by BPM Securitisation 3 S.r.l. (the Issuer or BPM 3) at AAA (sf).

The rating on the Class A Notes addresses the timely payment of interest and ultimate payment of principal payable on or before the Final Maturity Date in January 2057.

The transaction originally closed on 30 September 2014. BPM 3 is a cash flow securitisation collateralised by a portfolio of secured and unsecured loans to Italian small- and medium-sized enterprises (SMEs), entrepreneurs, artisans and producer families that were granted by Banca Popolare di Milano S.C.a.r.l. (BPM), but also by Banca di Legnano S.p.A. and Cassa di Risparmio Alesandria S.p.A. (both banks have been merged into BPM in 2013).

The original capital structure consisted of EUR 573,000,000.00 of senior notes (Class A Notes) and EUR 304,000,000.00 of junior notes (Class Z Notes) backed by a EUR 863.80 million portfolio (First Portfolio). Following the amendments that became effective on 20 July 2016, the Issuer acquired from BPM a Second Portfolio of newly originated performing loans (EUR 635.44 million as of 25 June 2016; 58.3% originated in 2015 and 2016).

Following the 20 July payment date, the pre-restructuring balance of Class A Notes was EUR 120.66 million. The balance of the First Portfolio as of 30 June 2016 was EUR 447.19 million (excluding loans classified as “sofferenza”).

To finance the purchase of the Second Portfolio (which also includes EUR 2.16 million of accrued interest) and the increase of the Cash Reserve (to EUR 14.39 million from EUR 3.26 million) on 20 July 2016 (after payments on the existing notes described above), BPM 3 has increased the principal balance of the Class A and Class Z Notes by an aggregate amount of EUR 648.83 million. In particular, the Class A Notes have been increased by EUR 534.13 million and the Class Z Notes by EUR 114.70 million.

The new structure replicates exactly the initial one and the existing and new notes of each class are considered as a single class (they also have the same ISIN) and therefore any reference found in the documents to the Notes after the restructuring is intended to also apply to the increased balance. Aside from marginal changes to the floor and target amount of the Cash Reserve, no other changes have been made to the priority of payments. After the restructuring, the balance of Class A Notes is equal to EUR 654.78 million.

As of 30 June 2016, the overall portfolio consisted of 14,301 loans extended to 12,389 borrowers with an aggregate principal balance of EUR 1,052.74 million (which excludes EUR 4.63 million of loans classified as sofferenza). Loans in arrears between 31 days and 90 days represented 0.67% of the outstanding principal balance of the portfolio, while delinquencies greater than 90 days were 0.44%. Collections received on the Second Portfolio from 25 June till 30 June (EUR 28.89 million) will form part of the Issuer available funds on the next payment date falling in October 2016.

The above-mentioned rating action is based on the following analytical considerations:

PORTFOLIO CHARACTERISTICS
-- The portfolio benefits from a short weighted-average life (WAL) of 3.30 years, but Servicer permitted variations allow increases of the loans’ maturities. To account for such extensions, DBRS has estimated a portfolio WAL equal to 3.48 years.
-- The portfolio benefits from a high portion of secured loans (51.10% as per DBRS definition) with relatively low loan-to-values (the weighted-average current loan-to-value is 41.95%).
-- The portfolio is very granular, with the exposure to the top one, ten and 20 borrowers representing, respectively, 0.91%, 6.30% and 10.29% of the portfolio. The portfolio geographical concentration in the Lombardy, Lazio and Piedmont regions reflect BPM’s presence across Italy.
-- As per DBRS’s industry classification, the portfolio exhibits a high concentration towards the Building & Development sector (35.93%).

TRANSACTION CHARACTERISTICS
-- BPM acts as Servicer and Zenith Service S.p.A. acts as Backup Servicer Facilitator. The appointment of a Backup Servicer will occur once the Servicer’s appointment has been terminated. To account for the lack of adequate mitigants to the commingling risk, a loss has been factored into the rating analysis.
-- The transaction does not benefit from mechanisms to address the exposure to set-off risk which, as calculated by DBRS, is higher than what DBRS has estimated for other Italian transactions.
-- The priority of payments, which ensures that all excess interest is fully used to amortise Class A Notes before junior payments are made.
-- The ability of the transaction to withstand stressed cash flow assumptions and repay investors according to the terms in which they have invested.
-- The credit enhancement for the Class A Notes is 41.75%, which DBRS considers sufficient to cover expected losses assumed in line with an AAA (sf) rating level.
-- The soundness of the legal structure and the presence of legal opinions that address the true sale of the assets to the trust and the non-consolidation of the Issuer, as well as consistency with the DBRS “Legal Criteria for European Structured Finance Transactions” methodology.

DBRS determined the rating of the Class A Notes as follows, as per the principal methodology specified below:

-- Due to data consistency issues, DBRS decided not to consider the dynamic arrears data provided (which are typically used to calculate Base Case assumptions for Italian deals due to the limitation of the default definition used for static data). Considering DBRS Base Case probability of default (PD) assumptions for other Italian SME collateralised loan obligation (CLO) transactions, the strong historical performance of SME CLO transactions originated by BPM and the data received on the internal rating model of BPM, a Base Case PD of 4.67% was assumed to be conservative enough to account for limitations on the historical data provided.
-- The PD and WAL were used in the DBRS Diversity Model to generate the hurdle rate for the target rating.
-- The recovery rate was determined by considering the market value declines for Italian commercial real estate properties and the security level. Weighted-average recovery rates of 58.46% and 13.50% were used for the secured and unsecured loans, respectively, at the AAA (sf) rating level.
-- The Break-Even Default Rates for the interest rate stresses and default timings were determined using the DBRS Cash Flow Model.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology applicable is: “Rating CLOs Backed by Loans to European SMEs.”

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 DBRS commentary “The Effect of Sovereign Risk on Securitisations in the Euro Area” on: http://www.dbrs.com/industries/bucket/id/10036/name/commentaries/

The sources of information used for this rating include data provided by BPM via the Arranger BNP Paribas SA, Milan branch.

DBRS does not rely upon third-party due diligence in order to conduct its analysis.

DBRS was supplied with two third-party assessments, on the First Portfolio in 2014 and on the Second portfolio in 2016. However, this did not impact the rating analysis.

The vintage performance data provided did not match the definition that DBRS bases its analysis on. The historical performance data was based on the sofferenza definition of default, which is different to the standard of 90 days past due definition used by DBRS. Additional dynamic arrears data was provided by BPM to determine a conservative average annual default rate. Due to data integrity issues, DBRS decided not to consider the dynamic arrears data provided (which is typically used to derive the Base Case assumptions for Italian deals due to the limitation of the default definition used for static data). Considering DBRS Base Case PD assumptions for other Italian SME CLO transactions, the strong historical performance of SME CLO transactions originated by BPM and the data received on the internal rating model of BPM, a Base Case PD of 4.67% was assumed to be conservative enough to account for limitations on the historical data provided. Despite the above, DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

The last rating action on this transaction took place on 1 October 2015, when DBRS upgraded the rating on the Class A Notes to AAA (sf).

The lead responsibilities for this transaction concerning today’s rating action have been transferred to Marcello Bonassoli.

Information regarding DBRS ratings, including definitions, policies and methodologies are available on www.dbrs.com.

To assess the impact of the 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):

-- PD rates used: Base Case PD of 4.67%, a 10% and 20% increase on the Base Case PD.
-- Recovery rates used: Base Case recovery rate of 36.48% at AAA (sf) stress level and a 10% and 20% decrease in the Base Case recovery rate. Note that the percentage decreases in the recovery rates are assumed for the other stress recovery rate levels.

DBRS concludes that either a hypothetical increase of the Base Case PD by 10%, a hypothetical decrease of the recovery rate by 10%, or a scenario combining both an increase in the PD by 10% and a decrease in the recovery rate by 10% would lead to a downgrade of the Class A Notes to AA (high) (sf). Either a hypothetical increase of the Base Case PD by 20%, a hypothetical decrease of the recovery rate by 20%, or a scenario combining both an increase in the PD by 20% and a decrease in the recovery rate by 20% would lead to a downgrade of the Class A Notes to AA (high) (sf).

For further information on DBRS historic default rates published by the European Securities and Markets Administration (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 regulations only.

Initial Lead Analyst: Marcello Bonassoli
Initial Rating Date: 1 October 2014
Initial Rating Committee Chair: Jerry van Koolbergen

Lead Surveillance Analyst: Marcello Bonassoli, Assistant Vice President
Rating Committee Chair: Jerry van Koolbergen, Managing Director, Head of US and European SC

DBRS Ratings Limited
20 Fenchurch Street, 31st Floor,
London EC3M 3BY
United Kingdom
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

-- Rating CLOs Backed by Loans to European SMEs
-- Rating CLOs and CDOs of Large Corporate Credit
-- Legal Criteria for European Structured Finance Transactions
-- Unified Interest Rate Model for European Securitisations
-- Cash Flow Assumptions for Corporate Credit Securitizations
-- Operational Risk Assessment for European Structured Finance Servicers
-- Operational Risk Assessment for European Structured Finance Originators
-- Master European Residential Mortgage-Backed Securities Rating Methodology and Jurisdictional Addenda

A description of how DBRS analysis structured finance transactions and how the methodologies are collectively applied can be found at: http://www.dbrs.com/research/278375.