DBRS Morningstar Finalizes Provisional Ratings on BMW Canada Auto Trust, Series 2020-1

DBRS Limited (DBRS Morningstar) finalized its following provisional ratings on Class A-1, Class A-2, and Class A-3 Notes, Series 2020-1 (collectively, the Notes) issued by BMW Canada Auto Trust:

-- AAA (sf) on the Class A-1 Notes, Series 2020-1 (the Class A-1 Notes)
-- AAA (sf) on the Class A-2 Notes, Series 2020-1 (the Class A-2 Notes)
-- AAA (sf) on the Class A-3 Notes, Series 2020-1 (the Class A-3 Notes)

The Notes are supported by a portfolio of retail closed-end lease contracts of new passenger cars and sport-activity vehicles (the Portfolio of Assets). The lease contracts were originated by authorized BMW dealers in Canada.

Repayment of the Notes will be made from collections from the Portfolio of Assets, which includes scheduled monthly lease payments (including residual value payments in the case of customer-retained vehicles) as well as proceeds from vehicle sales either at the end of the lease term or earlier, in the case of prepayments and defaults. Proceeds from excess mileage and wear-and-tear charges, if any, also form part of the collections used to repay the Notes.

The pass-through structure repays the Notes as monthly principal payments are collected from the Portfolio of Assets. The Notes will be repaid in sequential order, with the Class A-1 Notes being repaid first, followed by repayment of the Class A-2 Notes and then the Class A-3 Notes. The ratings assigned are based on the full repayment of the Notes by their respective Maturity Dates.

The ratings incorporate the following considerations:

HIGH LEVEL OF CREDIT ENHANCEMENT
Target overcollateralization (OC) of 17.25% of the initial securitization value plus 0.25% of cash plus excess spread. On the closing date, 15.50% of credit enhancement will be available (0.25% of cash and 15.25% of OC). Excess collections will be applied monthly to repay outstanding principal of the Notes until the OC reaches the target, which is expected by month five based on scheduled payments. In addition, 4.54% (annualized) of excess spread, net of the cost of funds and the Replacement Servicer Fee provision, will be available to offset any collection shortfalls on a monthly basis.

NON-AMORTIZING CREDIT ENHANCEMENT
The requirement to maintain the cash account and the OC amounts at their target levels provides a deleveraging structure as principal on the Notes is repaid. Residual values represent the largest risk in closed-end auto lease securitizations, and the exposure to such risk is highest at contract maturity. Non-amortizing credit enhancement ensures that an increasing level of protection is available to offset potential vehicle disposition losses as these contracts mature.

CONSERVATIVE ADVANCE RATE ON RESIDUAL VALUES
The Base Residual Value is determined by using the lower of the contract residual values and the ALG-estimated values as of November/December 2019. The reference to the ALG values in setting the advance rate on the Notes ensures that expected embedded losses (negative equity in relation to residual values) are not funded on the closing date, effectively reducing residual value risk in the Portfolio of Assets. ALG projects its residual values primarily based on auction proceeds and forecasts of economic factors, such as used vehicle supply. Overall, the ALG values represent an independent estimate of the expected wholesale value of the vehicles in the portfolio at maturity.

STRONG OBLIGOR PROFILE
The obligors of the underlying lease contracts represent high-credit-quality customers, as the weighted-average FICO score is 809. Over 60% of the pool has a FICO score of greater than 800. The strong credit profile is also supported by the low credit losses and delinquency levels of BMW Canada Inc.’s (BMW Canada or the Seller; rated A (high) with a Stable trend by DBRS Morningstar) owned and managed portfolio in the last five years.

ESTABLISHED REMARKETING STRATEGY
BMW Canada has an established vehicle remarketing strategy to maximize the disposition proceeds and minimize the time to remarket the vehicles should they be returned at or prior to maturity. Historical trends demonstrate BMW Canada’s ability to leverage its dealer network and other dealer groups across Canada to purchase off-lease vehicles. Certified pre-owned and pull-ahead programs offered by BMW Canada improve the management and value of off-lease inventory, and the strategy of selling directly to the dealers reduces the reliance on remarketing vehicles through physical auctions, which generally yield lower proceeds. In 2016, BMW Canada implemented a business strategy that focuses on dealership preference to purchase vehicles through the online auction channel, resulting in an increase in online auction sales and a decrease in physical auction sales compared with previous years. The enhancement levels support a turn-in rate above 95% and disposition through third-party auctions applying a 30% haircut to the SV, assuming the more attractive channels are unavailable.

OPERATIONAL AND BRAND STRENGTH OF SELLER
The Seller and its parent, BMW AG (the Company), were confirmed at A (high) with a Stable trend by DBRS Morningstar on July 24, 2019. The confirmation recognizes the Company’s solid business risk assessment as a global manufacturer. The Company has a conservative financial policy and solid revenue and earnings performance. BMW AG continues to invest in vehicle electrification and autonomous driving. As a subsidiary of BMW AG, BMW Canada benefits from its parent’s strong financial standing, global presence, and brand values, allowing it to leverage the experience and expertise of BMW AG’s other financial services companies worldwide to ensure sound and consistent underwriting standards and efficient servicing operations. As of December 2019, BMW Canada’s market share has slightly decreased to 1.9% from 2.0% as of December 2018. Year-over-year sales of BMW vehicles were down 6.1% while overall market sales dipped 3.6%.

STABLE DEMAND IN LUXURY VEHICLE SEGMENT
Demand for luxury vehicles in Canada has been strong over the past 10 years, leading to strong credit and residual value experience in this segment. The demand in this segment is the result of the large baby boomer demographic in the country, the expansion of the product line-up (notably the introduction of the luxury compact segment), and the development of certified pre-owned programs by luxury manufacturers. In 2019, however, the luxury segment saw a decline in new vehicle sales relative to the overall market. If a decline in luxury vehicle sales persists, then residual value performance will likely be affected.

Notes:
The principal methodology is Rating Canadian Auto Retail Loan and Lease Securitizations (October 2019), which can be found on dbrs.com under Methodologies & Criteria.

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 [email protected].

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar 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.

The full report providing additional analytical detail is available by clicking on the link under Related Documents below or by contacting us at [email protected].

For more information on this credit or on this industry, visit www.dbrs.com or contact us at [email protected].

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