DBRS Morningstar Assigns Provisional Ratings to KREF 2021-FL2 Ltd.

DBRS, Inc. (DBRS Morningstar) assigned provisional ratings to the following classes of notes to be issued by KREF 2021-FL2 Ltd. (the Issuer):

-- 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 (sf)
-- Class E at BBB (low) (sf)
-- Class F at BB (low) (sf)
-- Class F-E at BB (low) (sf)
-- Class F-X at BB (low) (sf)
-- Class G at B (low) (sf)
-- Class G-E at B (low) (sf)
-- Class G-X at B (low) (sf)

All trends are Stable.

With regard to the Coronavirus Disease (COVID-19) pandemic, the magnitude and extent of performance stress posed to global structured finance transactions remain highly uncertain. This considers the fiscal and monetary policy measures and statutory law changes that have already been implemented or will be implemented to soften the impact of the crisis on global economies. Some regions, jurisdictions, and asset classes are, however, feeling more immediate effects. Accordingly, DBRS Morningstar may apply additional short-term stresses to its rating analysis. For example, DBRS Morningstar may front-load default expectations and/or assess the liquidity position of a structured finance transaction with more stressful operational risk and/or cash flow timing considerations.

For more information regarding rating methodologies and the coronavirus, please see the following DBRS Morningstar press releases: https://www.dbrsmorningstar.com/research/357883 and http://www.dbrsmorningstar.com/research/358308.

The initial collateral consists of 20 floating-rate mortgage loans secured by 29 mostly transitional properties with a cut-off balance totaling $1.0 billion, excluding $260.5 million of remaining future funding commitments and $1.8 billion of pari passu debt. One loan, 727 West Madison, representing 7.3% of the initial pool balance, is contributing both senior and mezzanine loan components that will both be held in the trust. The transaction is structured with a 24-month Reinvestment Period whereby the Issuer may acquire Companion Participations in either the form of a mortgage loan, a combination of a mortgage loan and a related mezzanine loan, or a fully funded pari passu participation. Companion Participations in the form of a combination of a mortgage loan and related mezzanine loan are designated for 727 West Madison (#1), Glenn Gardens (#14), and Portofino Place (#16). In addition, the transaction is structured with a Replenishment Period, which begins the first day after the Reinvestment Period and ends on the earlier of the date the Issuer acquired 10% of the cut-off balance after the Reinvestment Period or the sixth payment date after the Reinvestment Period. Any Companion Participation acquired during either the Reinvestment or Replenishment Periods is subject to Eligibility Criteria that, among other criteria, includes a no downgrade rating agency confirmation (RAC) by DBRS Morningstar for all new mortgage assets and funded Companion Participations exceeding $5.0 million. The Issuer is not required to obtain RAC for acquisitions of Companion Participations less than $5.0 million.

The loans are mostly secured by cash flowing assets, many of which are in a period of transition with plans to stabilize and improve the asset value. In total, 13 loans, representing 67.9% of the pool, have remaining future funding participations totaling $260.5 million, which the Issuer may acquire in the future.

For the floating-rate loans, DBRS Morningstar used the one-month Libor index, which is based on the lower of a DBRS Morningstar stressed rate that corresponded to the remaining fully extended term of the loans or the strike price of the interest rate cap with the respective contractual loan spread added to determine a stressed interest rate over the loan term. When the debt service payments were measured against the DBRS Morningstar As-Is Net Cash Flow (NCF), 14 loans, comprising 70.1% of the pool, had a DBRS Morningstar As-Is Debt Service Coverage Ratio (DSCR) below 1.00 times (x), a threshold indicative of elevated default risk. However, the DBRS Morningstar Stabilized DSCRs for only three loans, representing 16.9% of the initial pool balance, are below 1.00x. The properties are often transitioning with potential upside in cash flow; however, DBRS Morningstar does not give full credit to the stabilization if there are no holdbacks or if other structural features in place are insufficient to support such treatment. Furthermore, even with the structure provided, DBRS Morningstar generally does not assume the assets to stabilize above market levels.

Ten loans, representing a very high 47.4% of the pool, are in areas with a DBRS Morningstar Market Rank of 7 or 8, which are generally characterized as highly dense urbanized areas that benefit from increased liquidity driven by consistently strong investor demand, even during times of economic stress. Market Ranks 7 and 8 benefit from lower default frequencies than less dense suburban, tertiary, and rural markets. Urban markets represented in the deal include Boston, Chicago, Minneapolis, New York City, Los Angeles, Philadelphia, Seattle, and Washington, D.C.

Seven loans, representing 33.5% of the pool balance, have collateral in metropolitan statistical area (MSA) Group 3, which is the best-performing group in terms of historical commercial mortgage-backed securities (CMBS) default rates among the top 25 MSAs. MSA Group 3 has a historical default rate of 17.2%, which is nearly 10.8 percentage points lower than the overall CMBS historical default rate of 28.0%.

The ongoing coronavirus pandemic continues to pose challenges and risks to the commercial real estate sector, and the long-term effects on the general economy and consumer sentiment are still unclear. 13 loans, representing 62.9% of the initial pool balance, were originated prior to the onset of the pandemic. All loans include timely property performance reports and recently completed third-party reports, including appraisals. Six loans, representing 35.4% of the pool, are secured by newly built or recently renovated properties with relatively simple business plans, which primarily involve the completion of an initial lease-up phase. The sponsors behind these assets are using the loans as traditional bridge financing, enabling them to secure more permanent financing once the properties reach stabilized operations. Given the uncertainty and elevated execution risk stemming from the coronavirus pandemic, 11 loans, representing 59.6% of the initial pool balance, are structured with upfront interest and/or carry reserves, some of which are expected to cover one year or more of interest shortfalls. Additionally, seven loans, representing 37.1% of the initial pool balance, are structured with springing interest and/or carry reserves.

Based on the initial pool balances, the overall weighted-average (WA) DBRS Morningstar As-Is DSCR of 0.80x and WA DBRS Morningstar As-Is Loan-to-Value (LTV) of 78.4% generally reflect high-leverage financing. Most of the assets are generally well positioned to stabilize, and any realized cash flow growth would help to offset a rise in interest rates and improve the overall debt yield of the loans. DBRS Morningstar associates its loss severity given default based on the assets’ as-is LTV, which does not assume that the stabilization plan and cash flow growth will ever materialize. The DBRS Morningstar As-Is DSCR at issuance does not consider the sponsor’s business plan, as the DBRS Morningstar As-Is NCF was generally based on the most recent annualized period. The sponsor’s business plan could have an immediate impact on the underlying asset performance that the DBRS Morningstar As-Is NCF does not account for. When measured against the DBRS Morningstar Stabilized NCF, the WA DBRS Morningstar DSCR is estimated to improve to 1.20x, suggesting that the properties are likely to have improved NCFs once the sponsor’s business plan has been implemented.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

All ratings are subject to surveillance, which could result in ratings being upgraded, downgraded, placed under review, confirmed, or discontinued by DBRS Morningstar.

For supporting data and more information on this transaction, please log into www.viewpoint.dbrsmorningstar.com. DBRS Morningstar provides analysis and in-depth commentary in the DBRS Viewpoint platform.

DBRS Morningstar provides updated analysis and in-depth commentary in the DBRS Viewpoint platform for the following loans in the transaction:

-- Prospectus ID#1 – 727 West Madison (7.3% of the pool)
-- Prospectus ID#2 – The Sur (7.0% of the pool)
-- Prospectus ID#3 – The Edison (6.8% of the pool)
-- Prospectus ID#4 – 9th & Colorado (6.6% of the pool)
-- Prospectus ID#5 – FiveTwo at Highland (5.2% of the pool)
-- Prospectus ID#6 – Alesio Urban Center (5.0% of the pool)
-- Prospectus ID#7 – Aven (5.0% of the pool)
-- Prospectus ID#8 –The Boathouse (5.0% of the pool)
-- Prospectus ID#9 – Boston South End Life Science Campus (5.0% of the pool)
-- Prospectus ID#10 – Legacy Central (5.0% of the pool)
-- Prospectus ID#11 – One on Centre (5.0% of the pool)
-- Prospectus ID#12 – 451 D Street (4.2% of the pool)
-- Prospectus ID#13 – Fifth Street Towers (4.2% of the pool)
-- Prospectus ID#14 – Glenn Gardens (4.2% of the pool)
-- Prospectus ID#17 – The Lewis (4.2% of the pool)
-- Prospectus ID#18 – W Fort Lauderdale (3.9% of the pool)

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.

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 CMBS Multi-Borrower Rating Methodology (March 26, 2021), 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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