DBRS Morningstar Confirms Rating on Class E Notes of Oranje (European Loan Conduit No. 32) DAC and Removes Rating from UR-Neg.; Changes Trends on All Classes to Negative from Stable

DBRS Ratings GmbH (DBRS Morningstar) confirmed its rating on the Class E commercial mortgage-backed floating-rate notes due November 2028 issued by Oranje (European Loan Conduit No. 32) DAC (the Issuer) as follows:

-- Class E notes at BBB (sf)

The confirmation reflects the stable performance of the underlying loan, which has been in line with expectations. DBRS Morningstar removed the rating from Under Review with Negative Implications (UR-Neg.) following the repayment of the deferred interest on May 2023 interest payment date (IPD). DBRS Morningstar also changed the trends on all classes of notes to Negative from Stable due to the uncertainty around the loan’s repayment at final maturity in August 2023.

RATING RATIONALE
At issuance, the transaction comprised five Dutch commercial real estate loans (i.e., the Cygnet, Cheetah, Phoenix, Desert, and Legion loans) advanced by Morgan Stanley Bank N.A. and totalled EUR 207.4 million. The Cygnet, Cheetah, and Phoenix loans were advanced as refinancing facilities, whereas the Desert and Legion loans were advanced as acquisition facilities. Currently, only the Phoenix loan remains in the transaction with other loans repaid in full. Repayment proceeds from the Cygnet, Cheetah, Desert and Legion loans were applied modified pro rata to the notes.

The Phoenix loan was initially scheduled to mature on 15 August 2021, with two one-year extension options available. The Issuer exercised its second extension option, and the loan maturity date was extended to 15 August 2023.

Following the sale of six properties over the loan term, the loan’s balance reduced by 24.2% to EUR 75.4 million as at the May 2023 IPD from EUR 99.5 million at origination. The loan is interest only with the prepayment proceeds applied 70% pro rata and then 30% sequentially to the notes.

The Phoenix loan is secured against a portfolio of 12 office properties (18 at issuance) across ten cities in the Netherlands. Savills Advisory Services Limited (Savills) revalued the portfolio in February 2022 and appraised the aggregate market value of the 12 properties at EUR 169.3 million which, on a like-for-like basis, is 7.8% above the 2021 valuation and 17.7% above the original valuation. Together, the reduced loan balance and the increased valuation led to the loan-to-value ratio (LTV) reducing to 44.5% as of February 2023 from 56.1% at origination. The debt yield (DY) stood at 13.8% in February 2023 compared with 13.2% at origination. As a result, the loan’s LTV and DY are in line with the transaction’s cash trap and financial covenants, which are set at 61.15% and 68.85% for LTV, respectively, and at 11.0% and 10.0% for DY, respectively.

In February 2023, DBRS Morningstar noted that the cash manager’s quarterly report for the February 2023 IPD prepared by U.S. Bank Global Corporate Trust Limited showed a full interest deferral of EUR 21,727.29 for the Class E notes, as the liquidity facility does not cover the most junior class. DBRS Morningstar also noted that a liquidity facility drawing of EUR 22,738.22 occurred in Q1 2023. DBRS Morningstar consequently placed its rating on the Class E notes UR-Neg. until DBRS Morningstar could gain more visibility into what drove the interest shortfall.

The cash manager has advised that the interest shortfall has been attributed to unusually high transaction costs, with several annual fees billed in the same period. As per cash manager’s report for May 2023 IPD, the transaction costs have reduced substantially, resulting in the full repayment of the interest deferred on Class E, as well as the repayment of the liquidity facility draw. Given most of the annual scheduled costs have now been billed, DBRS Morningstar does not expect further shortfalls to occur until the loan’s maturity in August 2023.

Overall, the loan’s performance continues to be in line with DBRS Morningstar’s expectations at issuance, with annual contracted rent of EUR 12.4 million, a vacancy rate of 22.7%, and a weighted-average lease term of 5.4 years reported in February 2023. Consequently, DBRS Morningstar confirmed its rating on Class E notes, with ratings on senior notes previously confirmed on 28 February 2023. However, DBRS Morningstar changed the trend on all classes of notes to Negative from Stable reflecting uncertainty around the loan’s refinancing in a high interest rate environment, as there has not been a confirmation regarding the loan’s repayment amid approaching maturity.

DBRS Morningstar did not change its underwriting assumptions since the last annual review conducted in February 2023, with DBRS Morningstar net cash flow (NCF) and value assumptions remaining at EUR 7.8 million and EUR 108.2 million, respectively. DBRS Morningstar value represents a haircut of 36.1% to the most recent appraised value.

The Phoenix loan carries a floating interest rate equal to three-month Euribor (floored at zero) plus a margin of 1.9% per annum. The loan is fully hedged with an interest rate cap provided by Australia and New Zealand Banking Group Limited with a strike rate of 2.5%. The cap agreement’s expiry coincides with the loan’s fully extended maturity date, which falls on 15 August 2023. The final legal maturity of the notes is in November 2028, five years after the fully extended loan term.

The transaction benefits from a EUR 3.3 million liquidity facility (EUR 9.0 million at closing) provided by Wells Fargo Bank, N.A., London, that can be used to cover interest on the Class A, Class B, Class C, and Class D notes. According to DBRS Morningstar’s analysis, the commitment amount could provide interest payments on the covered notes of up to 13 months and eight months based on the interest rate cap strike rate of 2.5% and the Euribor cap of 5.0% after loan maturity, respectively.

The transaction includes a Class X diversion trigger event over two levels, which depend on the percentage of the defaulted outstanding loan amount in the transaction. If between 25% and 50% of the outstanding loan balance is in default, 25% of the excess spread will be diverted into the Issuer transaction account and credited to the Class X diversion ledger. If the defaulted loan amount increases to over 50% of the then-total outstanding loan amount, all excess spread will be diverted and credited to the Class X diversion ledger.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/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.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology applicable to the ratings is: “European CMBS Rating and Surveillance Methodology” (14 December 2022), https://www.dbrsmorningstar.com/research/407379/european-cmbs-rating-and-surveillance-methodology.

Other methodologies referenced in this transaction are listed at the end of this press release.

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 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 this rating include servicer reports prepared by Mount Street Mortgage Servicing Limited, as well as investor and cash management reports prepared by U.S. Bank Global Corporate Trust Limited.

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

At the time of the initial rating, 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 28 February 2023, when DBRS Morningstar confirmed its ratings on the Class A through Class D notes with Stable trends, and placed its rating on the Class E notes UR-Neg.

Information regarding DBRS Morningstar ratings, including definitions, policies, and methodologies, is available on 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):

Class A Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating on Class A notes to AA (high) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating on Class A notes to AA (sf)

Class B Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating on Class B notes to AA (low) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating on Class B notes to A (low) (sf)

Class C Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating on Class C notes to BBB (high) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating on Class C notes to BBB (sf)

Class D Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating on Class D notes to BBB (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating on Class D notes to BB (high) (sf)

Class E Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating on Class E notes to BB (high) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating on Class E notes to BB (sf)

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 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: 6 November 2018

DBRS Ratings GmbH
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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 (14 December 2022),
https://www.dbrsmorningstar.com/research/407379/european-cmbs-rating-and-surveillance-methodology.
-- Derivative Criteria for European Structured Finance Transactions (20 September 2021),
https://www.dbrsmorningstar.com/research/384624/derivative-criteria-for-european-structured-finance-transactions.
-- Legal Criteria for European Structured Finance Transactions (22 July 2022),
https://www.dbrsmorningstar.com/research/400166/legal-criteria-for-european-structured-finance-transactions.
-- Interest Rate Stresses for European Structured Finance Transactions (22 September 2022),
https://www.dbrsmorningstar.com/research/402943/interest-rate-stresses-for-european-structured-finance-transactions.
-- DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (17 May 2022), https://www.dbrsmorningstar.com/research/396929/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].