DBRS Morningstar Confirms Ratings on Real Estate Asset Liquidity Trust, Series 2019-HBC, Places Negative Trends on All Classes

DBRS, Inc. (DBRS Morningstar) confirmed the ratings on the Commercial Mortgage Pass-Through Certificates, Series 2019-HBC issued by Real Estate Asset Liquidity Trust, Series 2019-HBC as follows:

-- Class A at AAA (sf)
-- Class X at AA (high) (sf)
-- Class B at AA (sf)
-- Class C at A (sf)

DBRS Morningstar removed all classes from Under Review with Negative Implications, where it placed them on April 24, 2020. With this review, DBRS Morningstar placed Negative trends on all classes as a reflection of ongoing concerns with the underlying collateral amid the Coronavirus Disease (COVID-19) pandemic, as further described below.

The transaction includes two cross-collateralized and cross-defaulted loans secured by Hudson’s Bay (The Bay) flagship stand-alone department stores in downtown Montréal and Ottawa. The sponsor acquired the properties in 2015 as part of a five-property portfolio sale-leaseback transaction with an allocated purchase price of approximately $535.0 million. The vendor, Hudson’s Bay Company (HBC), retains an 87.5% ownership interest in the properties through RioCan-HBC Limited Partnership, the purchaser of the properties, which is a joint venture (JV) between HBC and RioCan Real Estate Investment Trust (RioCan; rated BBB (high) with a Negative trend by DBRS Morningstar). Although HBC signed 20-year absolute-net leases that include five six-year renewal options, DBRS Morningstar considers the net cash flow (NCF) from these properties to be more volatile given that the rental revenue stream is closely linked to HBC’s retail operating business, which has been affected by the decline in traffic for some The Bay stores in recent years, even prior to the pandemic.

The Bay stores in Montréal and Ottawa are flagship stores that have been operating in both locations for more than 50 years. However, HBC and RioCan announced their plan to redevelop the Montréal location and add roughly 1 million square feet (sf) of office space over a four-year construction period. Construction is expected to begin in 2023, and be completed in 2027. According to news reports, the redevelopment would shrink The Bay’s current footprint down to 295,000 sf from 655,000 sf at issuance. The existing HBC store will remain open and continue to operate during construction. DBRS Morningstar has requested confirmation of these developments, and the servicer’s response is pending.

At issuance, the Montréal property was the second-best performer within The Bay department store chain in Canada. Although the Ottawa property was an underperforming asset in 2018, the transaction benefits from the cross-collateralization with the Montréal property. Furthermore, the properties are well located in primary urban markets fronting prominent commercial streets where retail spaces are in high demand. Therefore, if HBC decides to downsize or close the Ottawa location, or should the plans to redevelop the Montréal property change to only downsize The Bay’s footprint, the properties should generate good sublease demand. Additionally, there is significant cash equity of $252.0 million behind the subject loan, resulting in a current loan-to-cost-basis ratio of only 45.7% based on the 2015 allocated purchase price. At issuance, the loan sponsor had invested more than $31.7 million in capital expenditures (capex) to improve the properties since the acquisition and had reportedly committed to invest at least $20.0 million in additional capex over the subsequent few years. Finally, the loans benefit from a full-recourse guarantee from a strong sponsor that is required to maintain minimum equity of $750.0 million throughout the loan terms.

According to the August 2021 remittance report, the loans are current and have performed as agreed. As of August 2021, the unpaid principal balance was $240.4 million. The two underlying loans do have different terms. The loan secured by the Montréal property will mature 20 months before (October 2022) the loan secured by the Ottawa property (June 2024). This is especially noteworthy given that the reported trailing 12 months EBITDA from the HBC Ottawa store as of Q3 2018 was not sufficient to cover the contractual rental payments.

At YE2020, both properties reported an occupancy of 100%. NCF, largely derived from contractual rental payments made by HBC to the RioCan-HBC JV, increased between issuance and YE2020. At the Montréal property, NCF saw positive growth of 8.0% during this period, pushing DSCR to 1.96 times (x) from 1.81x. At the Ottawa property, NCF increased by 16.2% during the same period, pushing DSCR to 2.21x from 1.90x.

The DBRS Morningstar ratings for all classes are generally higher than those results implied by the LTV Sizing Benchmarks from the October 2020 review and for this year’s review. The variances were the result of NCF declines that DBRS Morningstar assumed at that time as part of the Coronavirus Impact Analysis. For additional information on that analysis, please see the press release dated October 29, 2020, regarding this transaction. The variances are warranted because of ongoing concerns with the impact of the coronavirus pandemic on the collateral assets, which are reflected in the Negative trends for all classes placed with this review.

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.

Class X 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.

The DBRS Viewpoint platform provides additional information on this transaction and underlying loans including DBRS Morningstar metrics, commentary, servicer-reported cash flows, and other performance-related data.

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 Canadian dollars unless otherwise noted.

The principal methodology is North American CMBS Surveillance 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.

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.

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

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