Press Release

DBRS Morningstar Upgrades Ratings on Lanterna Finance S.r.l. (2021)

Structured Credit

December 15, 2022

DBRS Ratings GmbH (DBRS Morningstar) upgraded its ratings on the notes issued by Lanterna Finance S.r.l. (2021) as follows:

-- Class A1 Notes to AA (high) (sf) from A (high) (sf)
-- Class A2 Notes to A (high) (sf) from A (low) (sf)

The ratings on the Class A1 and Class A2 Notes address the timely payment of interest and the ultimate payment of principal by the final maturity date in January 2061.

The upgrades follow an annual review of the transaction and are based on the following analytical considerations:
-- Portfolio performance, in terms of delinquencies, defaults, and losses, as of the October 2022 payment date;
-- The one-year base case probability of default (PD) and updated default and recovery rates on the receivables; and
-- Current available credit enhancement to the rated notes to cover the expected losses at their respective rating levels.

The transaction is a cash flow securitisation collateralised by a portfolio of performing mortgage and nonmortgage loans to Italian micro companies and small and medium-size enterprises (SMEs). The loans were granted by Banca Carige S.p.A. (Carige) and Banca del Monte di Lucca S.p.A. (BML; together with Carige, the originators). BML has been part of the Carige group since 2000. On 28 November 2022, the originators were merged into BPER Banca S.p.A. (BPER). Zenith Service S.p.A. is the backup servicer and will step in within 15 days of a servicer termination event.

The Class A1 Notes rank in priority to the Class A2 Notes with respect to both interest and principal payments. Interest on the Class A2 Notes ranks in priority to the principal on the Class A1 Notes. In a post-enforcement scenario, the Class A1 and Class A2 Notes will rank pari passu and pro rata with respect to both interest and principal payments.

Considering that the nontimely payment of interest on both the Class A1 and Class A2 Notes is defined as an event of default in the transaction documentation, the nontimely payment of interest on the Class A2 Notes might drive the event of default of the Class A1 Notes. DBRS Morningstar considered this feature in its analysis.

Of the current portfolio balance, 67.9% is assisted by the Fondo Centrale di Garanzia (FCG) guarantee, a state guarantee that covers up to 100% of the loan balance, compared with 66.6% at the closing date. The weighted average (WA) coverage for the current portfolio is 85.3%. DBRS Morningstar adjusted the unsecured recovery rates to recognise the benefit of the guarantee. DBRS Morningstar did not give full credit to the guarantee for rating scenarios above BBB (high) (sf), in line with the current Long-Term Issuer Rating on the Republic of Italy. Moreover, DBRS Morningstar assumed that, in all rating scenarios, a portion of the guarantee would not be honoured to account for possible rescissions due to noncompliance with the terms of the guarantee.

PORTFOLIO PERFORMANCE
As of the 30 September 2022 portfolio cut-off date, delinquencies were low, with both loans two to three months and 90+ days in arrears amounting to 0.1% of the outstanding portfolio balance. The gross cumulative default ratio stood at 0.5% of the initial portfolio.

PORTFOLIO ASSUMPTIONS AND KEY DRIVERS
The base case one-year PDs for the mortgage and nonmortgage loans have remained at 6.7% and 6.9%, respectively.

DBRS Morningstar conducted a loan-by-loan analysis of the remaining pool of receivables and updated its lifetime default and recovery assumptions on the outstanding portfolio to:
-- 46.8% and 36.0%, respectively, at the AA (high) (sf) rating level, and
-- 40.5% and 52.5%, respectively, at the A (high) (sf) rating level.

CREDIT ENHANCEMENT
Overcollateralisation of the outstanding collateral portfolio and the cash reserve provide credit enhancement to the Class A1 and Class A2 Notes. As of the October 2022 payment date, credit enhancement to the Class A1 and Class A2 Notes was 54.0% and 39.2%, respectively, up from 38.9% and 27.9%, respectively, as of the issue date in December 2021.

The cash reserve is available at all times to cover expenses, senior fees, and interest on both Class A1 and Class A2 Notes. The target cash reserve is equal to 1.5% of the principal outstanding of the Class A1 and Class A2 Notes (without any floor). As of the October 2022 payment date, the cash reserve was at its target of EUR 5.4 million.

The Bank of New York Mellon SA/NV - Milan Branch (BNYM Milan) acts as the account bank for the transaction. Based on DBRS Morningstar’s AA (high) long-term rating on the account bank, the downgrade provisions outlined in the transaction documents, and the structural mitigants inherent in the transaction structure, DBRS Morningstar considers the risk arising from the exposure to the account bank to be consistent with the ratings assigned to the Class A1 and Class A2 Notes, as described in DBRS Morningstar's "Legal Criteria for European Structured Finance Transactions" methodology.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
Social (S) Factors
DBRS Morningstar considered the presence of loans backed by the FCG guarantee to be a relevant social factor (Social Impact of Product & Services) as outlined within the “DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings”. DBRS Morningstar assumed reduced loss severity for the loans that are backed by the FCG guarantee. This is credit positive given the reduced loss expectations for guaranteed loans.

The S factor has changed from the prior credit rating disclosure and no longer affects the rating, as the lifetime assumptions of the portfolio have improved compared with the analysis at closing, making the rating output less sensitive to the effect of the FCG guarantee.

There were no Environmental/Governance factors that had a significant or relevant effect on the credit analysis.

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/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (17 May 2022).

DBRS Morningstar analysed the transaction structure in its proprietary Excel-based cash flow engine.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology applicable to the ratings is Rating CLOs Backed by Loans to European SMEs (10 June 2022).

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

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

A review of the transaction’s 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/401817/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 include investor reports provided by BNYM Milan, servicer reports by Carige, and loan-level data provided by the European DataWarehouse GmbH.

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 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.

This is the first rating action since the Initial Rating Date.

The lead analyst responsibilities for this transaction have been transferred to Pascale Kallas.

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

Sensitivity Analysis: To assess the impact of changing the transaction parameters on the rating, DBRS Morningstar considered the following stress scenarios as compared with the parameters used to determine the rating (the base case):

-- PD Rates Used: Base case PD of 6.7% for mortgage loans and of 6.9% for nonmortgage loans, and a 10% and 20% increase of the base case PD.
-- Recovery Rates Used: Base case recovery rates of 36.0% and 52.5% at the AA (high) (sf) and A (high) (sf) rating levels, respectively, and a 10% and 20% decrease in the base case recovery rates.

DBRS Morningstar concludes that a hypothetical increase of the base case PD by 20%, ceteris paribus, would lead to a downgrade on the Class A1 Notes to AA (low) (sf). A hypothetical decrease of the recovery rate by 20%, ceteris paribus, would lead to a downgrade on the Class A1 Notes to AA (sf). A scenario combining both an increase in the PD by 10% and a decrease in the recovery rate by 10% would also lead to a downgrade on the Class A1 Notes to AA (low) (sf).

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: Pascale Kallas, Senior Analyst
Rating Committee Chair: Alfonso Candelas, Senior Vice President
Initial Rating Date: 22 December 2021

DBRS Ratings GmbH
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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: http://www.dbrsmorningstar.com/about/methodologies.

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].

ALL MORNINGSTAR DBRS RATINGS ARE SUBJECT TO DISCLAIMERS AND CERTAIN LIMITATIONS. PLEASE READ THESE DISCLAIMERS AND LIMITATIONS AND ADDITIONAL INFORMATION REGARDING MORNINGSTAR DBRS RATINGS, INCLUDING DEFINITIONS, POLICIES, RATING SCALES AND METHODOLOGIES.

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