DBRS Morningstar Finalizes Provisional Ratings on KKR Industrial Portfolio Trust 2021-KDIP

On June 17, 2021, DBRS Morningstar updated the KKR Industrial Portfolio Trust 2021-KDIP rating report to clarify that the original loan-to-value (LTV) figures in the Capital Structure table were based on Issuer Value/Appraised Value. For additional transparency and comparison, we have added a column for the DBRS Morningstar corresponding LTV, which is consistent with the DBRS Morningstar Value and DBRS Morningstar LTV concluded in its analysis of the transaction and that which was disclosed in the rating report and press release. The analysis and ratings have not changed as a result of this clarification.

DBRS, Inc. (DBRS Morningstar) finalized its provisional ratings on the following classes of Commercial Mortgage Pass-Through Certificates, Series 2021-KDIP issued by KKR Industrial Portfolio Trust 2021-KDIP:

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

All trends are Stable.

DBRS Morningstar discontinued and withdrew its ratings on the Class X-CP, X-FP, and X-EXT interest-only (IO) certificates initially contemplated in the offering documents, as they were removed from the transaction.

KKR Industrial Portfolio Trust 2021-KDIP is a single-asset/single-borrower transaction that is collateralized by the borrower’s fee-simple interest in 96 industrial properties totaling approximately 10.9 million square feet. DBRS Morningstar continues to take a favorable view on the long-term growth and stability of the warehouse and logistics sector, despite the uncertainty and risk that the Coronavirus Disease (COVID-19) pandemic has created across all commercial real estate asset classes. The reliance on e-commerce and home delivery during the pandemic has only accelerated pre-pandemic consumer trends, and DBRS Morningstar believes that retail’s loss continues to be industrial’s gain. The portfolio benefits from both tenant granularity and largely last-mile urban infill property locations, both of which contribute to potential cash flow stability over time.

The portfolio has a property Herfindahl score of 50.9 by allocated loan amount (ALA), which is in line with other single-borrower industrial portfolios. The properties are located across nine U.S. states in multiple regions, and the portfolio also exhibits both tenant diversity and granularity. No tenant currently accounts for more than 3.3% of in-place base rent and no property accounts for more than 5.3% of net operating income. Additionally, the portfolio benefits from its position in several strong-performing industrial markets, including Chicago, Dallas/Fort Worth, and Atlanta. While these markets demonstrate slightly elevated average vacancy rates of 9.0%, 8.9%, and 12.5%, respectively, they are forecast to decline by 8.3%, 4.8%, and 10.5%, respectively, according to Reis.

The portfolio primarily consists of last-mile logistics properties in infill locations within their respective markets. Infill markets generally benefit from less new supply because of a scarcity of developable land, and zoning ordinances that restrict industrial development in suburban areas to business parks and away from residential and other commercial use. Because required delivery times have shortened for many online retailers and e-commerce companies, they have begun leasing smaller warehouse and distribution spaces closer to dense consumer bases. Furthermore, the portfolio exhibits a moderate WA DBRS Morningstar Market Rank of 3.3. The portfolio comprises 19.3% of ALA in MSA 0, 66.2% of ALA in MSA 1, 6.7% of ALA in MSA 2, and 7.8% of ALA in MSA 3.

The portfolio has been largely unaffected by the immediate-term disruptions from the coronavirus pandemic, with collections of 98.9% as of November 2020. Furthermore, DBRS Morningstar believes that industrial properties are among the best positioned to weather any short- and medium-term market dislocations related to the pandemic. The portfolio demonstrates strong occupancy of 96.6% as of the November 2020 rent roll and has an average occupancy of 94.0% since 2018. The subject portfolio exhibits stronger occupancy relative to comparable industrial portfolios analyzed by DBRS Morningstar.

The borrower contributed approximately $300.4 million of fresh equity into the transaction, representing 33.4% of the $989.5 million acquisition price. Acquisition financing involving a significant amount of equity provides a buffer against potential losses to the trust and is viewed as credit positive.

The sponsor for this transaction is KKR Real Estate Partners Americas II L.P., an affiliate KKR & Co. Inc. (KKR), a global investment firm with more than $233.8 billion in assets under management as of September 2020. In 2018, KKR founded Alpha Industrial Properties (AIP), which is an operator of industrial logistics and distribution properties across the U.S.

Leases representing 61.4% of DBRS Morningstar’s gross rent are scheduled to roll through the fully extended loan term. The rollover is especially concentrated in 2022 and 2024, when 15.7% and 16.6% of the gross rent is scheduled to expire, respectively. Significant portfolio rollover typically indicates the potential for future cash flow volatility, particularly if market rents or occupancy rates have become less favorable.

The portfolio will be encumbered by $45 million in mezzanine debt, which represents approximately 4.3% of the total financing package. While the mezzanine loan is not collateralized directly by any trust assets (but is collateralized by a pledge of 100% of the indirect equity interest in the mortgage loan borrowers) and there is an intercreditor agreement, it is still a form of subordinate debt that the sponsor must service.

The loan allows for pro rata paydowns for the first 25% of the original principal balance. The loan has a partial pro rata/sequential-pay structure. We consider this structure to be credit negative, particularly at the top of the capital stack. Under a partial pro rata structure, deleveraging of the senior notes through the release of individual properties occurs at a slower pace as compared with a sequential-pay structure and DBRS Morningstar applied a penalty to the transaction's capital structure.

The borrower/sponsor/arranger can release individual properties with customary debt yield and LTV tests. The prepayment premium for the release of individual assets is 105% of the ALA (aggregate prior releases must not exceed 15.0% of the original principal balance) and 110% of the ALA for the release of individual assets thereafter. As these release premiums are designed to reduce the risk of adverse selection over time, DBRS Morningstar considers the release premium to be weaker than a generally credit-neutral standard of 115%. Additionally, the borrower may release one or more pre-approved release parcels at a release price equal to 100.0% of the applicable allocated loan amount, provided the release of the properties does not exceed 10.0% of the original principal balance. DBRS Morningstar applied a penalty to the transaction's capital structure to account for the weak deleveraging premium.

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.

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

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

The principal methodology is North American Single-Asset/Single-Borrower Ratings Methodology (March 1, 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.

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 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.dbrsmorningstar.com or contact us at [email protected].

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