DBRS Assigns Provisional Ratings to SAGRES – Sociedade de Titularização de Créditos, S.A. (Lusitano SME No. 3)

DBRS Ratings Limited (DBRS) has today assigned provisional ratings to the following notes issued by SAGRES – Sociedade de Titularização de Créditos, S.A. (Lusitano SME No. 3) (the Issuer):

-- EUR 385,600,000 Class A asset backed securitisation Notes, due 2037: AA (low) (sf)
-- EUR 62,700,000 Class B asset backed securitisation Notes, due 2037: BBB (high) (sf)
-- EUR 62,700,000 Class C asset backed securitisation Notes, due 2037: B (high) (sf)

The Issuer is a limited liability company incorporated under the laws of Portugal. The transaction is a cash flow securitisation collateralised by a portfolio of bank loans originated by NOVO BANCO, S.A. (Novo Banco or the Originator) to Portuguese corporates, small and medium-sized enterprises (SMEs) and self-employed individuals.

The rating on the Class A Notes addresses the timely payment of interest and the ultimate payment of principal payable on or before the Final Legal Maturity Date in 2037. The ratings on the Class B Notes and Class C Notes address the ultimate payment of interest and the ultimate payment of principal payable on or before the Final Legal Maturity Date in 2037.

As of 9 September 2016 (the Collateral Determination Date), the transaction portfolio consisted of 4,545 loans extended to 3,321 borrower groups, with an outstanding principal balance equal to EUR 627 million. As of the Collateral Determination Date, all of the portfolio was fully performing.

The portfolio exhibits significant borrower concentration, with the top ten obligor groups each representing more than 1.00% of the total portfolio balance. The largest obligor group represents 2.3% of the portfolio balance, and the top ten and top 20 borrowers represent 20.5% and 31.1% of the outstanding pool balance, respectively. As per DBRS’s industry classification, the pool exhibits a high industry concentration in the Building & Development sector, which represents 20.8% of the pool balance, followed by the Lodging & Casinos and Clothing & Textiles sectors, representing 8.6% and 8.3%, respectively. The exposure to the Building & Development sector remains a source of concern, considering the challenging economic situation in Portugal. DBRS has assumed a conservative probability of default (PD) for the obligors in the sector.

These ratings are based upon DBRS’s review of the following items:
-- The transaction structure, the form and sufficiency of available credit enhancement and the portfolio characteristics.
-- At closing, the Class A Notes benefit from a total credit enhancement of 40%, which DBRS considers to be sufficient to support the AA (low) (sf) rating. The Class B Notes benefit from a credit enhancement of 30.0%, which DBRS considers to be sufficient to support the BBB (high) (sf) rating. The Class C Notes benefit from a total credit enhancement of 20% which DBRS considers to be sufficient to support a B (high) (sf) rating. Credit enhancement is provided by subordination and the Reserve Fund.
-- The Cash Reserve Account will be funded at closing with EUR 9.5 million, corresponding to 1.5% of the initial aggregate balance of the Floating Rate Notes. The Cash Reserve Account will be available to cover interest shortfalls of the Class A Notes and expenses senior to the replenishment of the Cash Reserve Account. The Cash Reserve Account will also support the Class B Notes and Class C Notes once the Class A Notes have been redeemed in full. The Cash Reserve Account is allowed to amortise if certain conditions relating to the performance of the portfolio and deleveraging of the transaction are met.
DBRS determined these ratings as follows, as per the principal methodology specified below:
-- The PD for the portfolio was determined using the historical performance information supplied. However, the data provided was not detailed enough to determine the historical performance for all the four different segments included in the portfolio: SME, Small Business, Corporates and Real Estate. From the data provided, DBRS was able to determine a base case PD for SME and Small Business segments of 3.53%. For the Corporates and Real Estate segments, DBRS assumed a conservative PD of 18.79% (equivalent to the PD for CCC (high) rated loans). The weighted-average PD assumed for the portfolio was 7.9%.
-- The assumed weighted-average life (WAL) of the portfolio was 2.51 years.
-- The PD and WAL were used in the DBRS Diversity Model to generate the hurdle rates for the target ratings.
-- The recovery rate was determined considering the market value declines for Portugal, the security level and type of the collateral. For the Class A Notes, recovery rates of 42.96% and 15.75% were used for the secured and unsecured loans, respectively, at the AA (low) (sf) rating level. For the Class B Notes, recovery rates of 50.70% and 17.00% were used for the secured and unsecured loans, respectively, at the BBB (high) (sf) rating level. For the Class C Notes, recovery rates of 57.35% and 21.50% were used for the secured and unsecured loans, respectively, at the B (high) (sf) rating level.
-- The break-even 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 and criteria 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 sovereign risk impact on Structured Finance ratings, please refer to DBRS’s “The Effect of Sovereign Risk on Securitisation in the Euro Area” commentary at http://www.dbrs.com/industries/bucket/id/10036/name/commentaries/

The sources of information used for these ratings include the parties involved in the ratings, including, but not limited to, the Originator (NOVO BANCO, S.A.) and provider via the co-arrangers (on behalf of the originator): J.P. Morgan Securities Plc and Deutsche Bank AG, London Branch.

DBRS does not rely upon third-party due diligence in order to conduct its analysis; DBRS was supplied with third party assessments. However, this did not impact the rating analysis.

DBRS determined key inputs used in its analysis based on historical performance data provided for the Originator and Servicer as well as analysis of the current economic environment. The PD for the portfolio was determined using the historical performance information supplied. However, the data provided was not detailed enough to determine the historical performance for all the four different segments included in the portfolio: SME, Small Business, Corporates and Real Estate. From the data provided, DBRS determined a base case PD for SME and Small Business segments of 3.53%. For the Corporates and Real Estate segments, where granular vintage data was not available, DBRS assumed a conservative PD of 18.79% (equivalent to the PD for CCC (high) rated loans). Despite the above, DBRS considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

Further information on DBRS’s analysis of this transaction will be available in a rating report on http://www.dbrs.com or by contacting us at info@dbrs.com.

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.

These ratings concern newly issued financial instruments. 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 a change of the transaction parameters would have on the ratings, DBRS considered the following stress scenarios as compared with the parameters used to determine the rating (the Base Case):
-- Probability of Default Rates Used: Base Case PD of 7.91%, a 10% increase of the base case and a 20% increase of the base case PD.
-- Recovery Rates Used: Base Case Recovery Rates of 26.20% at AA (low) (sf), 29.76% at BBB (high) (sf) and 35.27% at B (high) (sf) stress levels and a 10% and 20% decrease in the respective base case Recovery Rates.

With respect to the Class A Notes, DBRS concludes that a hypothetical increase of the Base Case PD by 20% or a decrease of the recovery rate by 20%, ceteris paribus, would each lead to a downgrade of the Class A Notes to A (high) (sf). 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 A (high) (sf).

With respect to the Class B Notes, DBRS concludes that a hypothetical increase of the base case PD by 20% would lead to a downgrade of the Class B Notes to BBB (low) (sf). A hypothetical decrease of the recovery rate by 20% would lead to a downgrade of the Class B Notes to BBB (sf). 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 B Notes to BBB (low) (sf).

With respect to the Class C Notes, DBRS concludes that a hypothetical increase of the base case PD by 20% would lead to a downgrade of the Class C Notes to CCC (high) (sf). A hypothetical decrease of the recovery rate by 20%, ceteris paribus, would lead to a downgrade of the Class C Notes to B (sf). 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 C Notes to B (low) (sf).

It should be noted that the interest rates and other parameters that would normally vary with the rating level, including the recovery rates, were allowed to change as per the DBRS methodologies and criteria.

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 regulations only.

Lead Analyst: Carlos Silva
Rating Committee Chair: Jerry van Koolbergen
Initial Rating Date: 7 November 2016

DBRS Ratings Limited
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The rating methodologies and criteria 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
-- Legal Criteria for European Structured Finance Transactions
-- Master European Residential Mortgage-Backed Securities Rating Methodology and Jurisdictional Addenda
-- Unified Interest Rate Model for European Securitisations
-- Rating CLOs and CDOs of Large Corporate Credit
-- Cash Flow Assumptions for Corporate Credit Securitizations
-- Operational Risk Assessment for European Structured Finance Servicers
-- Operational Risk Assessment for European Structured Finance Originators

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.