DBRS Morningstar Assigns Ratings to KNDL 2019-KNSQ Mortgage Trust

DBRS, Inc. (DBRS Morningstar) assigned ratings to the Commercial Mortgage Pass-Through Certificates, Series 2019-KNSQ issued by KNDL 2019-KNSQ Mortgage Trust (the Issuer) as follows:

-- Class A at AAA (sf)
-- Class B at AAA (sf)
-- Class C at AA (high) (sf)
-- Class X-CP at AA (low) (sf)
-- Class X-EXT at AA (low) (sf)
-- Class D at A (high) (sf)
-- Class E at BBB (low) (sf)
-- Class F at BB (low) (sf)

All trends are Stable.

These certificates are currently also rated by DBRS Morningstar’s affiliated rating agency, Morningstar Credit Ratings, LLC (MCR). In connection with the ongoing consolidation of DBRS Morningstar and MCR, MCR previously announced that it had placed its outstanding ratings of these certificates Under Review–Analytical Integration Review and that MCR intended to withdraw its outstanding ratings; such withdrawal will occur on or about May 11, 2020. In accordance with MCR’s engagement letter covering these certificates, upon withdrawal of MCR’s outstanding ratings, the DBRS Morningstar ratings will become the successor ratings to the withdrawn MCR ratings. Information about the MCR ratings, including the history of the MCR ratings, can be found at www.morningstarcreditratings.com.

On March 1, 2020, DBRS Morningstar finalized its “North American Single-Asset/Single-Borrower Ratings Methodology” (the NA SASB Methodology), which presents the criteria for which ratings are assigned to and/or monitored for North American single-asset/single-borrower (NA SASB) transactions, large concentrated pools, rake certificates, ground lease transactions, and credit tenant lease transactions. For further information on the NA SASB Methodology, please see the press release dated March 1, 2020, on the DBRS Morningstar website at www.dbrsmorningstar.com.

The subject rating actions are the result of the application of the NA SASB Methodology in conjunction with the “North American CMBS Surveillance Methodology,” as applicable. Qualitative adjustments were made to the final loan-to-value (LTV) sizing benchmarks used for this rating analysis.

The collateral for the trust is a $628.0 million first-lien mortgage loan secured by three properties totaling 589,987 square feet and 2,147 below-grade parking spaces. The capital stack includes mezzanine debt of $180.0 million, which is subordinate to and held outside the trust. Deutsche Bank AG, New York Branch; Goldman Sachs Bank USA; and Citi Real Estate Funding Inc. originated the five-year (two years plus three one-year extensions) loan that pays floating-rate interest of Libor plus 1.353121% on an interest-only (IO) basis throughout the loan term. The $80 million mezzanine senior loan pays interest of Libor plus 2.9500% on an IO basis and the $100 million mezzanine junior loan pays interest of Libor plus 4.1712% on an IO basis. Both mezzanine loans are secured by interests in the borrowing entities’ equity. The trust mortgage loan and mezzanine loans are all subject to a 15-basis point spread increase in year three.

The collateral for the underlying loan is Kendall Square, which is part of the largest life sciences and biotechnology center in the United States with proximity to the Massachusetts Institute of Technology, Harvard University, and Massachusetts General Hospital. Multiple sources, including CBRE Group, Inc. and Jones Lang LaSalle Incorporated, have identified Cambridge, Massachusetts, as the top location for biotechnology companies. New construction in Cambridge is limited, especially within the Cambridge East submarket where Kendall Square is located, because of the already-heavily developed and limited land area in the market, which borders the Charles River to the east and established residential areas to the west. As the aging global population and extended life expectancies continue to fuel strong demand and funding for new therapeutic treatments of cancer and other life-threatening chronic and rare diseases, DBRS Morningstar expects ongoing growth and consolidation in the biotechnology industry. As bioscience and pharmaceutical companies increasingly cluster into urban areas such as Cambridge, where they are convenient to large demand drivers, vacancy rates in high-quality office/laboratory buildings should remain low, allowing for strong steady cash flows.

DBRS Morningstar notes that there is little scheduled rollover in the initial two-year loan term and during the five-year fully extended loan term. No office/laboratory space is subject to rollover during the loan term, although Ipsen’s lease, representing 10.6% of DBRS Morningstar’s analyzed gross rent, expires within seven months of final loan maturity. At issuance, the office/laboratory and retail portions of the portfolio were 100.0% leased to three office/laboratory tenants and nine retail tenants. Three office/laboratory tenants that are major public bioscience companies generate about 71.6% of the portfolio’s income and a single investment-grade tenant generates 27.2% of the portfolio’s income. The remaining income stream includes $13.2 million, or 24.0% of total income, generated by the two parking garages and only 2.2% attributable to retail tenants. The three office/laboratory tenants, representing 97.1% of DBRS Morningstar’s gross potential rent, are concentrated in the life sciences and biotechnology industries. Companies in these industries heavily depend on funding from external sources, particularly government and venture capital firms, both of which are subject to fluctuations. Additionally, biotechnology and pharmaceutical companies are subject to governmental approvals of drugs in development. Tenants in the biotechnology industry require high improvement allowances for specialized laboratory and fit-out requirements as well as amenities to attract and retain skilled employees in a highly competitive industry.

Individual properties are permitted to be released with customary requirements; however, the prepayment premium for the release of individual assets is 110% of the allocated loan amount. DBRS Morningstar considers the release premium for this transaction to be weaker than those of previously rated single-borrower multi-property deals.

In the analysis for these rating actions, the DBRS Morningstar net cash flow (NCF) figure of $45.7 million and a cap rate of 6.50% was applied, resulting in a DBRS Morningstar Value of $704 million, a variance of 34% from the appraised value at issuance of $1.06 billion. The DBRS Morningstar Value implies an LTV of 115% compared with the LTV of 76% on the appraised value at issuance.

The DBRS Morningstar NCF was reanalyzed for the subject rating action to confirm its consistency with the “DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria.” The NCF figure applied as part of the analysis represents a 12.0% variance from the Issuer’s NCF, primarily driven by tenant improvements/leasing commissions, rent steps, and management fees.

DBRS Morningstar applied a cap rate at the lower end of the DBRS Morningstar Cap Rate Ranges for office properties, reflecting the strong market, investment-grade tenancy, and excellent property quality. In addition, the 6.50% cap rate DBRS Morningstar applied is above the implied cap rate of 4.9% based on the Issuer’s underwritten NCF and appraised value.

DBRS Morningstar made positive qualitative adjustments to the final LTV sizing benchmarks used for this rating analysis, totaling 7.5% to account for cash flow volatility, property quality, and market fundamentals.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

Classes X-CP and X-EXT are 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 Morningstar.

DBRS Morningstar provides updated analysis and in-depth commentary in the DBRS Viewpoint platform for this transaction.

For complimentary access to this content, please register for the DBRS Viewpoint platform at www.viewpoint.dbrsmorningstar.com The platform includes loan-level data for most outstanding CMBS transactions (including non-DBRS Morningstar-rated), as well as loan-level and transaction-level commentary for most DBRS Morningstar-rated and -monitored transactions.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodologies are the North American Single-Asset/Single-Borrower Ratings Methodology and North American CMBS Surveillance Methodology, which can be found on www.dbrsmorningstar.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 Morningstar Global Structured Finance Related Methodologies document, which can be found on www.dbrsmorningstar.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.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

For more information regarding structured finance rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/358308.

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. Please note a sensitivity analysis is not performed for CMBS bonds rated CCC or lower. The DBRS Morningstar 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.

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

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