DBRS Morningstar Assigns Ratings to BAMLL Commercial Mortgage Securities Trust 2017-SCH, Places One Class Under Review with Negative Implications

DBRS Limited (DBRS Morningstar) assigned ratings to the Commercial Mortgage Pass-Through Certificates, Series 2017-SCH issued by BAMLL Commercial Mortgage Securities Trust 2017-SCH as follows:

-- Class A-F at AAA (sf)
-- Class X-FEX at AAA (sf)
-- Class B-F at AA (sf)

The trends on Classes A-F and X-FEX are Negative because the underlying collateral continues to face performance challenges associated with the Coronavirus Disease (COVID-19) global pandemic.

DBRS Morningstar also placed Class B-F Under Review with Negative Implications, given the negative impact of the coronavirus on the underlying collateral.

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 October 15, 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upon withdrawal of MCR’s outstanding ratings, the DBRS Morningstar ratings will become the successor ratings to the withdrawn MCR ratings.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, at www.dbrsmorningstar.com. On March 27, 2020, DBRS Morningstar placed the ratings on its outstanding SASB transactions secured by hospitality properties Under Review with Negative Implications while MCR placed the ratings on its outstanding SASB transactions secured by hospitality properties Under Review Negative as the global shelter-in-place and travel restrictions related to the coronavirus have had an extreme impact on the short-term performance of this asset class. For further information on these rating actions, please see the DBRS Morningstar press release dated March 27, 2020, at www.dbrsmorningstar.com and the MCR press release dated March 27, 2020, at www.morningstarcreditratings.com.

To assign ratings to this transaction, DBRS Morningstar considered both the impact of the updated NA SASB Methodology and its scenarios attributable to the ongoing coronavirus pandemic on the ratings.

Because of the coronavirus’ significant impact on hospitality performance, DBRS Morningstar first considered the application of the updated NA SASB Methodology in conjunction with the “North American CMBS Surveillance Methodology” to arrive at a baseline result, which incorporated qualitative assumptions, capitalization rates, and loan-to-value (LTV) ratio sizing benchmark quality/volatility adjustments and excluded any potential changes in current or future expected asset performance resulting from the coronavirus.

DBRS Morningstar then overlaid scenarios incorporating market value declines (MVDs) consistent with the projections in its “Global Macroeconomic Scenarios: September Update” published on September 10, 2020, on top of the baseline result to determine the impact of coronavirus-related changes in asset performance on the subject transaction on a tranche-by-tranche basis. For more information on these scenarios, please refer to the Coronavirus Impact Analysis section of this document. The global macroeconomic scenarios include a moderate decline of 15% for all commercial real estate (CRE), which acts as an average for all CRE property types. However, DBRS Morningstar expects a higher stress for hospitality properties, ranging from 25% to 45% based on the type of demand segmentation and asset location, and expects corporate demand and remote fly-to locations to be at the higher end of the value decline.

LOAN/PROPERTY OVERVIEW
The loan is backed by a $140.0 million single floating-rate, first-mortgage loan secured by the borrower’s fee interest in the 2.33 acres of land occupied by the Sheraton Grand Hotel. The subject is a 1,218 key full-service convention hotel in downtown Chicago on prime land adjacent to the Chicago River. The hotel has 125,000 square feet (sf) of dedicated meeting space comprising 43 rooms including a 40,000-sf ballroom that holds 4,500 people. Other amenities include the fitness centre, an indoor heated pool, sun deck, dry sauna, and a FedEx business centre.

The financing was used to facilitate the continued bifurcation of the fee and leasehold interests in the property. The $68.0 million of prior existing debt on the leased fee interest was repaid with the subject leased fee mortgage of $140.0 million, and, simultaneously, a $115.0 million leasehold mortgage was used to repay the $171.5 million prior existing leasehold debt. The refinancing paid off existing debt, paid closing costs, and returned $1.3 million of cash equity to the sponsor. The interest rate on the fee interest mortgage loan is set at one-month Libor plus 125 basis points.

The land is leased to the owner and operator of the Sheraton Grand Hotel on a 99-year ground lease that began on January 1, 2017. Ground rent payments start at $9.0 million per year and escalate by 10.5% every five years. The initial term of the fee interest mortgage loan is three years, in which the initial maturity date in November 2020, and is structured with four one-year extension options (subject to the ground lease remaining in place). Each extension from the second to the fourth extension is subject to a 0.25% extension fee. The ground lessor and ground lessee are affiliated entities owned by the sponsor, Tishman Hotel & Realty L.P. (Tishman). Tishman originally developed the hotel and opened it in 1992. Tishman continues to maintain the hotel with $33.9 million invested from 2012 through 2017. The capital investment included a multiphase renovation used to completely redesign and refurbish the guest rooms, meeting spaces, public areas, and amenities. At issuance, the sponsor projected an additional $29.2 million of capital improvements from 2017 through 2021.

The hotel is managed by Sheraton Operating Corporation, a subsidiary of Starwood Hotels & Resorts Worldwide LLC which is in turn owned by Marriott International Inc. (Marriott). The first of two 10-year extension options to the management agreement expires December 31, 2022. Hotel ownership has limited termination rights under the agreement. Two violations of noncompete clauses, one by Sheraton in 2013 and one by Marriott, resulted in settlement agreements between the parties. As a key provision of the agreement, Marriott provides a six-year net operating income guarantee of $34.5 million (including the ground rent payment) that increases by 2.0% per year and expires in 2023. The agreement also provides the leasehold owner with an option to put the leasehold interest to Marriott in 2022. Marriott also has a call option to buy the fee interest for another $200 million.

DBRS Morningstar based its analysis on a look-through analysis of sustainable operating cash flow generated by the Sheraton Grand Hotel. If a default occurs on the ground lease, the ground lessor could ultimately gain ownership and control of the hotel improvements and its cash flow-generating capabilities. In terms of performance, Smith Travel Research’s trailing 12 months ended February 29, 2020, data showed occupancy, average daily rates, and revenue per available room of 73.3%, $211.68, and $155.18, respectively. The subject is relatively in line with or outperforming its respective competitive set.

The coronavirus pandemic has caused economic strain on the hotel for most of 2020. The resulting nationwide lockdown and drastic reduction in corporate and leisure travel, especially convention business which entirely slowed down, has curtailed revenues on all fronts. However, the hotel remains in operation and payments continue on the ground lease supporting the fee mortgage debt. The fee mortgage loan remains current.

DBRS Morningstar reanalyzed the net cash flow (NCF) derived at issuance for the subject rating action to confirm its consistency with the “DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria.” The resulting NCF figure was $24.3 million and DBRS Morningstar applied a cap rate of 9.00%, which resulted in a DBRS Morningstar Value of $270.5 million, a variance of 47.6% from the appraised value of $516.0 million at issuance. The DBRS Morningstar Value implies an LTV of 51.8% compared with the LTV of 27.1% on the appraised value at issuance.

The cap rate DBRS Morningstar applied is at the middle end of the range of DBRS Morningstar Cap Rate Ranges for lodging properties, reflecting the cash flow stability provided by the ground rent payments, desirable location, and asset quality.

DBRS Morningstar made no qualitative adjustments to the final LTV sizing benchmarks used for this rating analysis.

Coronavirus Impact Analysis
DBRS Morningstar overlaid various scenarios incorporating MVDs consistent with the projections in the “Global Macroeconomic Scenarios: September Update” (https://www.dbrsmorningstar.com/research/366542) to estimate the impact of coronavirus-related changes in asset performance on a tranche-by-tranche basis for the subject transaction. The scenarios included subjecting the most recent appraised collateral value to generalized CRE asset value decline projections with an assumption of approximately 45% under the moderate scenario. In cases where the rated debt exceeded the scenario value, DBRS Morningstar assumed that a principal writedown had occurred to account for the difference. Because of the reverse-sequential allocation of losses in commercial mortgage-backed security (CMBS) transactions, DBRS Morningstar’s analysis considered the most subordinate certificate first and, if a complete principal writedown of the certificate had occurred during the scenario, DBRS Morningstar repeated the analysis for the second-most subordinate certificate and so on until the rated debt no longer exceeded the scenario value.

Under the moderate scenario, the cumulative rated debt was insulated from loss.

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.

Class X-FEX is an interest-only (IO) certificate that references 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 (March 1, 2020) and North American CMBS Surveillance Methodology (March 6, 2020), 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.

For more information regarding the structured finance rating approach and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/359905.

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.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are monitored.

DBRS Morningstar’s North American CMBS analytical team will continue to monitor the transaction to evaluate the increased risk factors related to the coronavirus pandemic. As information (e.g., updated property-level financials, Smith Travel Research Reports, new valuations for specially serviced loans, and workout and/or modification specifics, if applicable) becomes available, DBRS Morningstar will address the Under Review with Negative Implications rating actions over the near to moderate term. DBRS Morningstar typically endeavors to resolve an Under Review rating action within 90 days, but the circumstances surrounding these rating actions (i.e., the unknown length of the pandemic-related downturn) may result in a prolonged resolution period.

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

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