DBRS Morningstar Confirms Ratings of ACRE Commercial Mortgage 2017-FL3 Ltd.

DBRS Limited (DBRS) confirmed the ratings on the following classes of secured Floating Rate Notes (the Notes) issued by ACRE Commercial Mortgage 2017-FL3 Ltd.:

-- Class A at AAA (sf)
-- Class A-S at AAA (sf)
-- Class B at AA (low) (sf)
-- Class C at A (low) (sf)
-- Class D at BBB (low) (sf)
-- Class E at BB (low) (sf)
-- Class F at B (low) (sf)

All trends are Stable.

The rating confirmations reflect the overall stable performance of the transaction since issuance. Amid the effects of the Coronavirus Disease (COVID-19) pandemic, DBRS Morningstar is monitoring this and other transactions for relief requests, new delinquencies, and any other impacts. In its analysis of the transaction, DBRS Morningstar applied probability of default (POD) adjustments to loans with confirmed issues caused in part by these events. Because of the transitional nature of the underlying collateral and the general state of flux amid the pandemic, proposed business plans that are necessary to bring the assets to stabilization may be delayed and, in some cases, borrowers may be in need of payment relief or other loan modification to address unforeseen cash flow disruptions. DBRS Morningstar applied the POD adjustments to reflect these increased risks to increase the expected loss for each respective loan in the analysis. For additional information regarding the DBRS Morningstar process for addressing the coronavirus impact to ratings, please see the press release links in the Notes at the end of this document.

At issuance, the collateral for the transaction consisted of 12 floating-rate mortgages secured by 16 transitional commercial real estate properties, with a total balance of $341.2 million. The transaction is structured with a reinvestment period that expires in March 2021 during which Ares Management can substitute collateral in the pool subject to certain reinvestment criteria, including RAC by DBRS Morningstar. As of the May 2020 remittance, there were 12 floating-rate mortgages with a total loan balance of $425.9 million as all of the original collateral from the pool has been replaced with reinvestment assets, with the exception of Sheraton Ann Arbor (Pros ID#5, 8.3% of the pool). The majority of the loans were structured with three-year initial terms with two 12-month extension options that are performance-based. These assets are in various stages of stabilization and six of these loans, representing 52.5% of the outstanding loan pool balance, have a pari passu companion participation held by a subsidiary of the trust asset seller and sponsor, ACRC Lender LLC.

All loans remained current as of the May 2020 remittance. However, the collateral manager has confirmed there were forbearance requests made for two loans, Hyatt Regency Deerfield (Prospectus ID#24 – 7.8% of the pool) and Sheraton Ann Arbor. The collateral manager noted that a 90-day forbearance agreement was in the process of execution for the Hyatt Regency loan, while the request for Sheraton Ann Arbor was denied, with the collateral manager and sponsor continuing to discuss options going forward.

As of May 2020, four loans, representing 26.7% of the current trust balance, are on the servicer’s watchlist because of low occupancy and/or a low debt service coverage ratio (DSCR), upcoming maturity, or for failure to report financials. However, these loans are secured by properties that are generally in the process of executing their respective stabilization plans. There is only one loan, representing 5.7% of the current trust balance, secured by a property in a tertiary or rural market. Two pivotal loans within the top 10 are highlighted below.

The Old Orchard Towers loan (Prospectus ID#23, 13.3% of the trust balance) is secured by a 355,195-sf office building in the Chicago suburb of Skokie, Illinois. At issuance, the borrower’s business plan was to retenant or secure a long-term renewal for the largest tenant at the property, National Louis University (NLU), which represents 24.7% of the NRA on a lease that is scheduled to expire in July 2021. At loan contribution in October 2018, the sponsor was in ongoing discussions with NLU for a lease renewal. According to the May 2020 portfolio update, provided by the collateral manager, the tenant has not provided notice to renew or vacate by the renewal notice period in November 2019. As a result, all excess cash from project operations is being swept and any request for capital expenditures or leasing dollars will be drawn from excess cash before future funding is released. According to the December 2019 rent roll, the property was 87.8% occupied with an average rental rate of $21.95 psf. The four largest tenants represent 68.8% of the NRA with leases that are scheduled to expire between July 2021 and October 2024. The YE2019 DSCR was reported at 1.31x, which is above DBRS Morningstar stabilized estimates at issuance. DBRS Morningstar will continue to monitor the loan for developments related to the renewal status of the largest tenant.

The Sheraton Ann Arbor loan is secured by a 197-key, six-story, full-service hotel in Ann Arbor, Michigan. In 2010, the property underwent an extensive $11.2 million ($57,000 per key) renovation to convert the hotel to the Sheraton brand. In conversations with DBRS Morningstar, the collateral manager noted that the borrower made a forbearance request, which was subsequently denied. The loan was added to the servicer’s watchlist in April 2020 as a result of the upcoming loan maturity in July 2020. The near-term maturity with no extension options poses a challenge given the ongoing performance declines as a direct result of the pandemic, which has significantly affected the travel and lodging industry. The collateral manager noted discussions with the loan sponsor to address the ongoing concerns and need for relief. As of the May 2020 portfolio update provided by the collateral manager, the borrower is completing a mandated property improvement plan (PIP) renovation at a cost of $8.0 million ($40,000 per key), which began post-loan contribution. The borrower has funded the renovation out-of-pocket and has completed 50% of the PIP requirements, with a scheduled completion date of the project in Q2 2020. As of YE2019, the occupancy, average daily rate, and revenue per available room were reported at 68.1%, $153.35, $104.37, respectively, and the YE2019 DSCR was reported at 1.18x, which is below the DBRS Morningstar stabilized estimates at issuance. This loan was analyzed with an elevated POD to reflect DBRS Morningstar’s concerns about the hospitality industry and the ultimate delay in property stabilization.

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.

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 the following loans in the transaction:

-- Prospectus ID#23 – Old Orchard Towers (13.3% of the pool)
-- Prospectus ID#32 – DoubleTree Portfolio (12.9% of the pool)
-- Prospectus ID#33 – Transform-Innovel Distribution (12.3% of the pool)
-- Prospectus ID#31 – Victoria Landing (9.9% of the pool)
-- Prospectus ID#34 – Northridge Commons (8.6% of the pool)
-- Prospectus ID#5 – Sheraton Ann Arbor (8.3% of the pool)
-- Prospectus ID#24 – Hyatt Regency Deerfield (7.8% of the pool)

The deal and accompanying loan commentary will be available on the DBRS Viewpoint platform in the near term. For complimentary access to this content, please register for the DBRS Viewpoint platform at www.viewpoint.dbrsmorningstar.com The platform includes issuer and servicer 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 methodology is North American CMBS Surveillance Methodology (March 6, 2020), which can be found on 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 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 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. 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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