DBRS Morningstar Confirms Ratings on FROSN-2018 DAC

DBRS Ratings GmbH (DBRS Morningstar) confirmed its ratings on all classes of the Commercial Mortgage-Backed Floating-Rate Notes due May 2028 issued by FROSN-2018 DAC (the Issuer) as follows:

-- Class RFN at AAA (sf)
-- Class A1 at AAA (sf)
-- Class A2 at AA (low) (sf)
-- Class B at A (sf)
-- Class C at BBB (high) (sf)
-- Class D at BB (high) (sf)
-- Class E at B (high) (sf)

The trend on the Class RFN remains Stable, while the trends on the Class A1 through Class E notes remain Negative.

The rating confirmations follow a slight deleveraging of the loan following a part repayment of EUR 10.7 million on the February 2022 interest payment date (IPD), as well as an accelerated capex spending by the borrower. The Negative trends on the Class A1 through Class E notes reflect the continuing uncertainty around the future rental cash flow generated by the property portfolio as its performance continues to deteriorate.

FROSN-2018 DAC is a securitisation of one floating-rate senior commercial real estate loan advanced by Morgan Stanley and Citibank, N.A., London Branch. The loan refinanced the existing indebtedness of the borrowers in addition to providing capex to the underlying collateral. At issuance, the collateral consisted of 63 mixed office and retail properties located across Finland. As of the Q1 2022 IPD, only 45 assets remain in the portfolio as further two properties were released from the security pool in Q1 2022 against an EUR 10.7 million voluntary repayment of the senior loan, which was allocated pro rata to the notes. As a result, the outstanding balance of the senior loan has reduced to EUR 297.1 million (EUR 274.8 million for the securitised part). Based on the valuation conducted by CBRE in October 2020, this translates into a loan-to-value (LTV) of 58.2%, a slight deleveraging from 60.2% at the last annual review.

The performance of the remaining portfolio continued to deteriorate over the past year, with gross rental income (GRI) declining to EUR 42.4 million in Q1 2022 from EUR 50.9 million in Q1 2021. When accounting for the two sold properties, this constitutes a decline of 14.6%, which is only partially driven by vacancy, but largely by contract renewals at lower rent as occupier demand in the Finish office market has shifted towards modern premises, and assets are facing strong competition in the local markets. The portfolio continues to suffer from a high vacancy rate, which increased by 1.4 percentage points to 44.2% since the last review in Q1 2021. The borrower accelerated its capital expenditure with the capex account balance reducing to zero in February 2022 from EUR 6.5 million 12 months earlier, which could facilitate leasing activity going forward. However, uncertainty remains around the future cash flows of the portfolio, as nearly half of in-place leases has a break date or expires in the next 12 months.

The portfolio’s deteriorating performance caused the loan to breach its debt yield (DY) cash trap covenant in Q3 2020. The loan remains in cash trap as of February 2022 and DBRS Morningstar does not expect this to change given the current level of GRI and the step-up in the DY cash trap covenant to 11.0% in year five of the transaction. The transaction’s DY stood at 8.4% as of the February 2022 IPD.

DBRS Morningstar has removed the released properties from its analysis, and adjusted its vacancy assumptions to account for the increased vacancy. This led to DBRS Morningstar’s net cash flow (NCF) reducing to EUR 26.6 million, compared with EUR 28.1 million at the last annual review. As a result, DBRS Morningstar’s value declined to EUR 322.0 million, which represents a 36.3% haircut to the current valuation. This did not trigger any changes to the current ratings, which were confirmed with Negative trends on the Class A1 through Class E notes, reflecting the continuing uncertainty around the future rental cash flow of the property portfolio. The trend on Class RFN remains Stable.

The transaction includes the reserve fund notes (RFN), which fund the note share part (95%) of the liquidity reserve. At issuance, the EUR 16.7 million RFN proceeds and the EUR 878,947.37 VRR Loan Interest contribution were deposited into the transaction’s liquidity reserve, which can be used to pay property protection advances, senior costs, and interest shortfalls (if any) in relation to the corresponding VRR Loan Interest, RFN, Class A1, Class A2, and Class B notes. The liquidity reserve currently amounts to EUR 9.1 million and, according to DBRS Morningstar’s analysis, is equivalent to approximately 28 months and 12 months’ coverage on the covered notes, based on the interest rate cap strike rate of 1.0% per annum and the Euribor cap after loan maturity of 4.25% per annum, respectively.

The third, and final, one year extension option was exercised, extending the loan maturity date to 15 February 2023. The final maturity of the notes is on 21 May 2028, approximately five years after the date of the fully extended senior loan maturity.

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.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology applicable to the ratings is: “European CMBS Rating and Surveillance Methodology” (17 December 2021).

Other methodologies referenced in this transaction are listed at the end of this press release. These may be found at: https://www.dbrsmorningstar.com/about/methodologies.

DBRS Morningstar has applied the principal methodology consistently and conducted a review of the transaction in accordance with the principal methodology.

A review of the transaction legal documents was not conducted as the legal documents have remained unchanged since the most recent rating action.

For a more detailed discussion of the sovereign risk impact on Structured Finance ratings, please refer to “Appendix C: The Impact of Sovereign Ratings on Other DBRS Morningstar Credit Ratings” of the “Global Methodology for Rating Sovereign Governments” at: https://www.dbrsmorningstar.com/research/381451/global-methodology-for-rating-sovereign-governments.

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 sources of data and information used for these ratings mainly include quarterly investor reports provided by Mount Street Mortgage Servicing Limited, as well as EIRP files and latest available tenancy schedules.

DBRS Morningstar did not rely upon third-party due diligence in order to conduct its analysis.

At the time of the initial ratings, DBRS Morningstar was not supplied with third-party assessments. However, this did not impact the rating analysis.

DBRS Morningstar considers the data and information available to it for the purposes of providing these ratings to be of satisfactory quality.

DBRS Morningstar does not audit or independently verify the data or information it receives in connection with the rating process.

The last rating action on this transaction took place on 23 April 2021, when DBRS Morningstar downgraded its ratings on the Class A2 notes to AA (low) (sf) from AA (high) (sf) and on the Class B notes to A (sf) from A (high) (sf); confirmed its ratings on the Class RFN, Class A1, Class C, Class D, and Class E notes at AAA (sf), AAA (sf), BBB (high) (sf), BB (high) (sf), and B (high) (sf), respectively. Along with these rating actions, DBRS Morningstar also changed the trends on the Class A1 through Class E notes to Negative from Stable, with the trend on Class RFN remaining Stable.

The lead analyst responsibilities for this transaction have been transferred to Violetta Volovich.

Information regarding DBRS Morningstar ratings, including definitions, policies, and methodologies, is available on www.dbrsmorningstar.com.

To assess the impact of changing the transaction parameters on the ratings, DBRS Morningstar considered the following stress scenarios as compared with the parameters used to determine the ratings (the Base Case):

Class RFN Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class RFN at AAA (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class RFN at AAA (sf)

Class A1 Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class A1 at AA (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class A1 at A (sf)

Class A2 Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class A2 at A (low) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class A2 at BBB (high) (sf)

Class B Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class B at BBB (high) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class B at BBB (sf)

Class C Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class C at BBB (low) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class C at BB (sf)

Class D Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class D at B (high) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class D at CCC (high) (sf)

Class E Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class E at CCC (high) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class E at CC (high) (sf)

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are monitored.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.
These ratings are endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: Violetta Volovich, Senior Analyst
Rating Committee Chair: Christian Aufsatz, Managing Director
Initial Rating Date: 22 March 2018

DBRS Ratings GmbH
Neue Mainzer Straße 75
60311 Frankfurt am Main Deutschland
Tel. +49 (69) 8088 3500
Geschäftsführer: Detlef Scholz
Amtsgericht Frankfurt am Main, HRB 110259

The rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

-- European CMBS Rating and Surveillance Methodology (17 December 2021), https://www.dbrsmorningstar.com/research/389947/european-cmbs-rating-and-surveillance-methodology.
-- Legal Criteria for European Structured Finance Transactions (29 July 2021), https://www.dbrsmorningstar.com/research/382171/legal-criteria-for-european-structured-finance-transactions.
-- Interest Rate Stresses for European Structured Finance Transactions (24 September 2021), https://www.dbrsmorningstar.com/research/384920/interest-rate-stresses-for-european-structured-finance-transactions.
-- Derivative Criteria for European Structured Finance Transactions (20 September 2021), https://www.dbrsmorningstar.com/research/384624/derivative-criteria-for-european-structured-finance-transactions.
-- DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (3 February 2021), https://www.dbrsmorningstar.com/research/373262/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.

A description of how DBRS Morningstar analyses structured finance transactions and how the methodologies are collectively applied can be found at: https://www.dbrsmorningstar.com/research/278375.

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