DBRS Assigns Provisional Ratings to Real Estate Asset Liquidity Trust, Series 2019-HBC

DBRS Limited (DBRS) assigned provisional ratings to the following classes of Commercial Mortgage Pass-Through Certificates, Series 2019-HBC to be issued by Real Estate Asset Liquidity Trust, Series 2019-HBC:

-- Class A at AAA (sf)
-- Class X at AA (high) (sf)
-- Class B at AA (sf)
-- Class C at A (sf)

All trends are Stable.

Class C will be privately placed. The Class X balance is notional.

The transaction includes two cross-collateralized and cross-defaulted loans secured by Hudson’s Bay (The Bay) flagship stand-alone department stores in downtown Montréal (the Montréal property) and Ottawa (the Ottawa property). The properties were acquired in 2015 as part of a five-property portfolio sale-leaseback transaction with an allocated purchase price of approximately $535.0 million. The vendor, Hudson’s Bay Company (HBC), retains an 87.5% ownership interest in the properties through RioCan-HBC Limited Partnership, the purchaser of the properties, which is a joint venture between HBC and RioCan Real Estate Investment Trust (RioCan; rated BBB (high) with a Stable trend by DBRS). Although HBC signed 20-year absolute net leases that include five six-year renewal options, the net cash flow from these properties is considered more volatile than typical multi-tenant properties given the rental revenue stream is closely linked to HBC’s retail operating business. However, The Bay is Canada’s largest department store chain and has a dominant market share. These two The Bay flagship stores have been operating in both locations for more than 50 years; its parent company and tenant, HBC, will likely continue to fulfill its debt service obligation along with its partner, RioCan, even in a downturn to maintain its presence in these two desirable downtown locations. Additionally, the Montréal property is the second-best performer within The Bay department store chain in Canada with reported annual sales of over $135.0 million and a gross profit margin of 42.6% as at November 3, 2018, which is higher than HBC’s company-wide margin of 39.9% for the same period. Although the Ottawa property is an underperforming asset, it benefits from cross-collateralization with the Montréal property. On a consolidated basis, the properties demonstrated a 41.2% gross profit margin, which is still higher than the company-wide ratio, and generated sufficient EBITDA to pay rents and cover realty taxes and property insurances. As HBC continues to improve business efficiency by reducing operating expenses and improving inventory management and cost structure, its cash flow is expected to improve, which in turn should improve the affordability of rental payments. Furthermore, the properties are well located in primary urban markets fronting prominent commercial streets where retail spaces are in high demand; therefore, in the event of The Bay downsizing or closing down, the properties should be easily subleased.

The DBRS value, on a consolidated basis, represents a 41.3% discount to the appraised value and a 35.5% discount to the 2015 allocated purchase price. There is a significant amount of cash equity ($252.0 million) behind the subject loan, resulting in a loan-to-cost basis ratio of only 46.7% based on the 2015 allocated purchase price. Additionally, the loan sponsor has invested over $31.7 million in capital expenditures (capex) to improve the properties since the acquisition and has reportedly committed to invest at least $20.0 million in additional capex over the next few years. This high level of cash investment incentivizes the loan sponsor to carry the property should there be any debt service shortfalls in the event of a downturn. The loans benefit from a full-recourse guarantee from a strong sponsor with a reported $1.2 billion in equity as at September 30, 2018, and is required to maintain a minimum of $750.0 million in equity throughout the loan terms.

The Class 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.

For supporting data and more information on this transaction, please log into www.viewpoint.dbrs.com.

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

With regard to due diligence services, DBRS 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’s methodology, DBRS used the data file outlined in the independent accountant’s report in its analysis to determine the ratings referenced herein.

The principal methodology is the North American Single-Asset/Single-Borrower Methodology, which can be found on www.dbrs.com under Methodologies & Criteria. For a list of the structured-finance-related methodologies that may be used during the rating process, please see the DBRS Global Structured Finance Related Methodologies document, which can be found on www.dbrs.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 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 under Related Documents or by contacting us at info@dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the rating process. Please note a sensitivity analysis is not performed for CMBS bonds rated CCC or lower. The DBRS long-term rating scale definition indicates that ratings of CCC or lower are assigned when the bond is highly likely to default or default is imminent, thereby prevailing over a sensitivity analysis.

The full report providing additional analytical detail is available by clicking on the link under Related Documents below or by contacting us at info@dbrs.com.

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