DBRS Morningstar Assigns Provisional Ratings to CSMC 2021-GATE

DBRS, Inc. (DBRS Morningstar) assigned provisional ratings to the following classes of Commercial Mortgage Pass-Through Certificates, 2021-GATE to be issued by CSMC 2021-GATE:

Class A 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 collateral for the CSMC 2021-GATE transaction consists of three office buildings totaling 1.7 million square feet (sf), two parking structures, and a surface lot totaling 1,010 spaces in downtown Newark, New Jersey. The properties are part of a larger complex known as the Gateway, which includes an above-ground, enclosed concourse that connects the buildings to each other and to Newark Penn Station. A fourth office building and a Doubletree (formerly a Hilton) hotel are owned by unrelated third parties. The complex was originally developed by Prudential beginning in the 1970s and, over time, individual buildings were sold to individual owners. The lack of development in Newark led to soft occupancy within the Gateway complex and, since 2005, all four buildings experienced some form of distress, including defaults and foreclosures.

Beginning in 2019, the sponsors acquired several of the assets with the aim of unifying the ownership and conducting renovations on the buildings as well as the concourse. Upon completion, the partnership expects to increase the occupancy to about 80% from 67.9% today with higher rents generated from new tenants. Part of the business plan included acquiring proxy votes from other owners within the Concourse Association in order to renovate and improve the concourse. In the years since the initial development, the concourse had begun to deteriorate physically and in terms of the tenant mix. Most of the tenants were small shops and cafes that did little to attract tenants or outsiders to the area. Despite a desire to improve the fortunes of the concourse, the fractured ownership structure and the makeup of the Concourse Association board left individual owners unable to effect positive change without the votes and funding of other owners.

As Newark has experienced an increase in interest from developers and companies, the sponsors saw an opportunity to improve the interior and exterior of the complex to draw larger and more desirable tenants, and make the complex more desirable, given its proximity to the transit hub at Newark Penn Station. The sponsors have reserved more than $60.5 million in funds to use for capital improvements and accretive tenant-improvement and leasing commission costs over the loan term. The general capital expenditure budget is to be used to construct a new entrance facing Newark Penn Station that will include a food hall and to renovate the concourse with new tenants. Construction on the entrance was underway at the time of loan closing, and several sections of the concourse have been renovated. The funding will complete the work and allow for new leasing to occur.

Newark began seeing new development in the mid-2010s with the construction of new apartment towers in the Military Park area, just north of the Gateway, and the continued relocation of Mars Wrigley’s headquarters from Chicago in 2018. The company took space in Ironside Newark, a disused warehouse, across the street from Gateway. In addition to Prudential, which renewed its commitment to the city with the construction of a new headquarters building in 2015, technology companies including Audible.com are finding Newark as a potential destination given its access to New York and the lower rent. Indeed, the sponsors executed a lease with WebMD, an internet health portal, in 2021, which is taking more than 100,000 sf at Gateway II upon the completion of its build-out.

In addition to WebMD, the planned changes to the concourse and exterior have been met with new leases from food and beverage tenants, including Serafina, which has expanded in New York. Once limited in terms of dining options, commuters to Newark may be able to enjoy several new eateries over the next few years.

The amount of capital invested will result in a more attractive property than before, and the recent leasing demonstrates demand from area tenants in the Gateway complex. More residents are moving to Newark, which could lead more firms to relocate in the city, closer to their employees. Gateway has a strong location across the street from Newark Penn Station, which is a hub for Amtrak, NJ Transit, and the PATH trains to Manhattan. The city also has ample parking and an easier commute by car from locations in Northern New Jersey than to Jersey City or New York.

However, there are risks to the plan. The Newark redevelopment story is still in its early stages and, although the area has seen a significant improvement compared with over 10 years ago, the city continues to have high levels of poverty and crime. In addition, the Coronavirus Disease (COVID-19) pandemic has resulted in an increase in remote working, which could result in reduced office leasing going forward. Finally, the assets have a checkered performance history, with some of the portfolio properties having experienced loan defaults or foreclosures by other owners that believed they could stabilize the properties. The properties are encumbered by $40 million in mezzanine financing that will drain cash flow from the partnership and result in an initial debt service coverage ratio (DSCR) of only 1.16 times (x), leaving little room for disruption in the cash flow. With the mezzanine debt, the all-in loan-to-value ratio (LTV) is 71.4% and the debt yield is 5.8% net operating income Debt Yield. The projected stabilized value still results in an LTV of 65.0%, which may not be readily refinancable.

DBRS Morningstar accounted for these risks by concluding to an NCF and sizing using only the in-place leasing and giving no credit to additional cash flow upside. In addition, the credit provided the LTV hurdles are minimal at 2.0%, well below the average for similar assets in New York or more established areas of northern New Jersey. The $22.7 million upfront reserve sets aside nearly $41.38 per vacant sf for additional leasing, which will help the partnership offer generous incentives to secure new tenants.

The property is in downtown Newark, across the street from Newark Penn Station, a major transit hub with connections to New York and New Jersey. Downtown Newark has seen an influx of investment with new residents and companies seeking a lower cost while maintaining strong access to New York.

The largest tenant, Broadridge Securities, accounts for 12.5% of the property’s base rent and was granted Long Term Credit Tenant treatment owing to its investment-grade quality. Other major tenants include Prudential, which is headquartered in Newark and is part of the ownership, and McCarter & English, LLP, a Newark-based law firm that renewed its lease in 2020 for an additional 14 years. Through the fully extended maturity date in 2026, leases representing about 39.6% of the total base rent will expire, which is a manageable burden over five years.

The loan sponsors are Onyx, Garrison, Taconic, and Axonic, all of which are well-capitalized real estate investment companies. In addition, Prudential, which originally developed the properties and controls some of the concourse proxy votes, is an investor in Garrison.

The properties are supported by an upfront reserve of more than $60.5 million for accretive TI/LC in addition to a new modern entrance with a food hall and an updated concourse. This investment could bring more visitors to the property and make it more attractive to potential tenants.

The properties that make up the portfolio have had a history of weak cash flow and loan defaults and foreclosures over the past 15 years. The defaults have resulted in losses via liquidation and highlight the risk of older office assets outside of central business districts. DBRS Morningstar recognizes that the current loan sponsor was not the subject of the prior defaults or foreclosures and has made a significant investment into the property to cure or remediate some of the factors that led to the poor past performance of the assets.

The ongoing coronavirus pandemic continues to pose challenges and risks to virtually all major commercial real estate property types, creating an element of uncertainty around future demand for office space.

The DBRS Morningstar LTV is high at 124.0% based on the $285 million in total mortgage debt. In order to account for the high leverage, DBRS Morningstar programmatically reduced its LTV benchmark targets for the transaction by 2.50% across the capital structure.

The loan is structured with four recycled special-purpose entities (SPEs). The borrowers have given backward-looking representation, from the date of a SPE’s formation, that it does not carry any prior liabilities. Additionally, if the borrower’s SPE representations are breached, a guarantee from the sponsor is triggered.

The loan has three one-year extension options that may be exercisable by the borrower subject to following conditions: (1) at least 30 days' and not more than 120 days' prior written notice to the lender, (2) no event of default existing as of the commencement of the applicable extension term, (3) the borrower’s purchase of a cap agreement for each extension term providing for a cap on Libor at a minimum DSCR of 1.15x, and (4) minimum debt yields of 7.50% on the second extension and 8.00% on the third extension.

The underlying mortgage loan for the transaction will pay a floating rate, which presents potential benchmark transition risk as the deadline approaches for the elimination of Libor. The transaction documents provide for the transition to an alternative benchmark rate, which is primarily contemplated to be either the Term Secured Overnight Financing Rate plus the Benchmark Replacement Adjustment or the Compounded SOFR plus the applicable Benchmark Replacement Adjustment.

ESG CONSIDERATIONS

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.

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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, 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.

The DBRS Morningstar Sovereign group releases baseline macroeconomic scenarios for rated sovereigns. DBRS Morningstar analysis considered impacts consistent with the baseline scenarios as set forth in the following report: https://www.dbrsmorningstar.com/research/384482/baseline-macroeconomic-scenarios-application-to-credit-ratings.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the rating process.

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

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