DBRS Morningstar Finalizes its Provisional Ratings on VMC Finance 2022-FL5 LLC

DBRS, Inc. (DBRS Morningstar) finalized its provisional ratings on the following classes of notes to be issued by VMC Finance 2022-FL5 LLC (the Issuer):

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

All trends are Stable.

The initial collateral consists of 20 floating-rate mortgage loans secured by 20 mostly transitional real estate properties with a cut-off date pool balance of approximately $650.0 million, excluding nearly $69.2 million of future funding commitments that remained outstanding as of the mortgage loan cut-off date. Most loans are in a period of transition with plans to stabilize and improve asset value. During the Reinvestment Period, the Issuer may acquire Funded Companion Participations and Reinvestment Mortgage Assets subject to eligibility criteria, including receipt of a no-downgrade confirmation from DBRS Morningstar (commonly referred to as a rating agency confirmation or RAC), except that such confirmation will not be required with respect to the acquisition of a Participation if the principal balance of the Participation being acquired is less than $500,000.

For all 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 with the remaining fully extended loan 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 property-level as-is appraised values were measured against the fully funded mortgage loan commitments, the pool exhibited a relatively high DBRS Morningstar weighted-average (WA) as-is loan-to-value (LTV) ratio of 77.1%. However, DBRS Morningstar estimates the pool’s WA LTV ratio will improve to 70.0% through stabilization. When the debt service payments associated with the fully funded loan balances were measured against the DBRS Morningstar as-is net cash flow (NCF), 14 loans, representing 69.8% of the cut-off date pool balance, had a DBRS Morningstar as-is debt service coverage ratio (DSCR) below 1.00 times (x), a threshold indicative of higher default risk. The properties are often transitional 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 are insufficient to support such treatment. Furthermore, even with the structure provided, DBRS Morningstar generally does not assume the assets will stabilize above market levels.

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, affected more immediately. Accordingly, DBRS Morningstar may apply additional short-term stresses to its rating analysis by, for example, front-loading default expectations and/or assessing 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 pandemic, please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/384482.

The borrowers for 17 loans (87.9% of the cut-off date pool balance) have purchased Libor caps with strike prices that range from 0.75% to 3.00% to protect against rising interest rates through the duration of the loan term. The remaining three loans have springing provisions for Libor caps. In addition to the fulfillment of certain minimum performance requirements, exercise of any extension options would also require the repurchase of interest rate cap protection through the duration of the respectively exercised options.

The loans are generally secured by traditional property types (i.e., retail, multifamily, and office), with only one loan, East Miami, representing 3.8% of the cut-off date pool balance, secured by a hospitality asset at issuance. Another loan, Cadence Nashville (3.7% of the cut-off date pool balance), is a multifamily property that was analyzed as a hospitality property pursuant to the sponsor's business plan to convert it into a hotel. Additionally, no loans are secured by student housing properties, which often exhibit higher cash flow volatility than traditional multifamily properties.

Six loans, representing 29.2% of the cut-off date pool balance, exhibited either Average + or Above Average property quality; no loans exhibited Average - or Below Average property quality.

The business plan score (BPS) for loans DBRS Morningstar analyzed was between 1.20 and 3.88, with an average of 2.06. On a scale of 1 to 5, a higher DBRS Morningstar BPS is indicative of more risk in the sponsor’s business plan. Consideration is given to the anticipated lift at the property from current performance, planned property improvements, sponsor experience, projected time horizon, and overall complexity. Compared with similar transactions, the subject has a relatively low average BPS, which is generally indicative of lower business plan execution risk.

Six loans, representing 20.5% of the cut-off date pool balance, are secured by properties in areas with a DBRS Morningstar Market Rank of 6, 7, or 8, which are characterized as urbanized locations. These markets generally benefit from increased liquidity that is driven by consistently strong investor demand. Such markets, therefore, tend to benefit from lower default frequencies than less dense suburban, tertiary, or rural markets. Areas with a DBRS Morningstar Market Rank of 7 or 8 are especially densely urbanized and benefit from significantly elevated liquidity. Three loans, comprising 10.9% of the cut-off date pool balance, are secured by properties in such areas. Additionally, no loans are secured by properties in an area with a DBRS Morningstar Market Rank of 2 or lower. Areas with a DBRS Morningstar Market Rank of 2 or lower are generally tertiary or rural markets.

The Class F, Class G, and Class H notes will be initially acquired by VMC Finance 2022-FL5 Holdco, LLC, a direct wholly owned subsidiary of VMC Master Lender REIT, LLC, and an indirect wholly owned subsidiary of VMC Master Lender, L.P., as the retention holder. The Class F, Class G, and Class H notes collectively represent 16.625% of the transaction balance.

The pool consists of mostly transitional assets. Given the nature of the assets, DBRS Morningstar determined an above-average sample size, representing 83.3% of the cut-off date pool balance. While physical site inspections were not performed because of health and safety constraints associated with the ongoing coronavirus pandemic, DBRS Morningstar notes that, in the future when its analysts visit the markets, they may actually visit properties more than once to follow the progress (or lack thereof) toward stabilization. The servicer is also in constant contact with the borrowers to track progress.

Based on the initial pool balances, the overall DBRS Morningstar WA As-Is DSCR of 0.73x and WA As-Is LTV of 77.1% are generally reflective of 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 (LGD) 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 is 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 DBRS Morningstar WA DSCR is estimated to improve to 0.94x, suggesting that the properties are likely to have improved NCFs once the sponsor’s business plan has been implemented.

All the loans in the pool have floating interest rates and are interest only (IO) through their initial loan terms (and 15 loans comprising 68.7% of the cut-off date pool balance are IO through the fully extended loan period) with original terms ranging from 36 to 60 months, creating interest rate risk. All identified floating-rate loans are short-term loans with maximum fully extended loan terms of 60 months or less. Additionally, for all 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 with 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.

Five loans, comprising 31.3% of the cut-off date pool balance, are structured to be IO through all of the initial loan term but switch to fixed amortization payment schedules during at least one of the extension periods. Loans structured with partial IO periods generally exhibit higher-than-average default frequencies relative to loans structured with full-term IO periods or no IO periods. All identified floating-rate loans have extension options and, in order to qualify for such options, must generally meet minimum and/or maximum leverage, debt yield, and/or DSCR requirements. Given the requirements surrounding the extension options DBRS Morningstar analyzed these loans based on their shorter initial IO term.

DBRS Morningstar did not conduct interior or exterior tours of the properties because of health and safety constraints associated with the ongoing coronavirus pandemic. As a result, DBRS Morningstar relied more heavily on third-party reports, online data sources, and information provided by the Issuer to determine the overall DBRS Morningstar property quality assigned to each loan. Recent third-party reports were provided for all loans and contained property quality commentary and photos.

Nine loans, comprising 50.0% of the cut-off date pool balance, represent refinancings. The refinancings within this securitization generally do not require the respective sponsor(s) to contribute material cash equity as a source of funding in conjunction with the mortgage loan, resulting in a lower sponsor equity basis in the underlying collateral. Generally speaking, the refinance loans are performing at a higher level and have less stabilization to do. Of the nine refinance loans, five loans, comprising 29.0% of the pool cut-off date balance (and 58% of the refinance loans’ cut-off date balance), reported occupancy rates higher than 75.0%. Additionally, the nine refinance loans exhibited a WA growth between as-is and stabilized appraised value estimates of 14.2% compared with the overall WA appraised value growth of 15.5% of the pool and the WA appraised value growth of 16.8% exhibited by the pool’s acquisition loans.

DBRS Morningstar has analyzed the loans to a stabilized cash flow that is, in some instances, above the current in-place cash flow. There is a possibility that the sponsor will not execute its business plan as expected and that the higher stabilized cash flow will not materialize during the loan term. Failure to execute the business plan could result in a term default or the inability to refinance the fully funded loan balance. DBRS Morningstar made relatively conservative stabilization assumptions and, in each instance, considered the business plan to be rational and the future funding amounts to be sufficient to execute such plans. In addition, DBRS Morningstar analyzes LGD based on the DBRS Morningstar As-Is LTV, assuming the loan is fully funded.

When the cut-off date loan balances were measured against the DBRS Morningstar As-Is NCF, 14 loans representing 69.8% of the cut-off date pool balance had a DBRS Morningstar As-Is DSCR below 1.00x. When the fully funded loan balances were measured against the DBRS Morningstar Stabilized NCF, 10 loans, representing a combined 47.7% of the cut-off date pool balance, had a DBRS Morningstar Stabilized DSCR of at least 1.05x; seven loans, representing a combined 33.4% of the cut-off date pool balance, exhibited a DBRS Morningstar Stabilized DSCR of at least 1.15x; and four loans, representing a combined 15.6% of the cut-off date pool balance, exhibited a DBRS Morningstar Stabilized DSCR of at least 1.25x. DBRS Morningstar received coronavirus and business plan updates for all loans in the pool, confirming that all debt service payments have been received in full through February 2022. Furthermore, no loans are in forbearance or other debt service relief, and no loan modifications were requested. Given the uncertainty and elevated execution risk stemming from the coronavirus pandemic, five loans, totaling 24.1% of the cut-off date pool balance, include upfront interest reserves.

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.

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#01 – Elements on 3rd (10.3% of the pool)
-- Prospectus ID#02 – 1700 California (8.6% of the pool)
-- Prospectus ID#03 – Iron Flats Apartments (7.6% of the pool)
-- Prospectus ID#04 – The Realm at Castle Hills (7.6% of the pool)
-- Prospectus ID#05 – Broadstone Sawyer Yards (6.5% of the pool)
-- Prospectus ID#06 – Citi on Camelback (6.3% of the pool)
-- Prospectus ID#07 – Mountain View Corporate Center (5.6% of the pool)
-- Prospectus ID#08 – Crabtree Terrace (5.3% of the pool)
-- Prospectus ID#09 – Wilshire Palm (4.9% of the pool)
-- Prospectus ID#10 – Valor at the Realm (4.9% 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.

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.

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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