DBRS Morningstar Confirms Ratings on VMC Finance 2022-FL5 LLC

DBRS Limited (DBRS Morningstar) confirmed its ratings on all classes of notes issued by VMC Finance 2022-FL5 LLC as follows:

-- 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)

The trends on all ratings are Stable.

In conjunction with this press release, DBRS Morningstar has published a Surveillance Performance Update report with in-depth analysis and credit metrics for the transaction and with business plan updates on select loans. For access to this report, please click on the link under Related Documents below or contact us at [email protected].

The rating confirmations reflect the overall stable performance of the transaction since DBRS Morningstar’s last review in November 2022. Although the overall performance has remained stable in the last year, DBRS Morningstar does note performance challenges for several loans secured by office collateral. As of the August 2023 reporting, the trust includes six loans, representing 29.5% of the pool, secured by office collateral. Several of these loans have struggled to stabilize, with borrowers progressing with their respective business plans slower than originally anticipated at issuance. Given the shift in demand for office space, DBRS Morningstar anticipates upward pressure on vacancy rates in the broader office market, presenting an additional challenge in leasing these properties to market levels and increasing the potential for value declines. In the analysis for this review, DBRS Morningstar reflected these risks by stressing property values across all these six loans. The stressed loan-to-value ratios (LTVs) ranged from 96.4% to 200.0% on an as-is basis and 69.2% to 120.9% on a stabilized basis, resulting in a weighted-average expected loss that is 23.0% greater than the pool average.

The transaction closed in March 2022 with an initial collateral pool of 20 floating-rate mortgage loans secured by 20 mostly transitional real estate properties, with a cut-off pool balance totaling $650.0 million. The transaction is a managed vehicle with a 24-month Reinvestment Period scheduled to end with the March 2024 Payment Date. As of August 2023, the pool comprises 21 loans secured by 21 properties with an outstanding balance of $636.8 million. There is currently $13.2 million in the Reinvestment Account. The pool composition remains unchanged since DBRS Morningstar’s last rating action in November 2022. Since issuance, one loan with a former trust balance of $49.3 million was repaid from the trust and two loans with a cumulative trust balance of $48.9 million have been added to the trust.

Beyond the loans secured by office properties noted above, the transaction is concentrated by property type as 11 loans, representing 52.2% of the current trust balance, are secured by multifamily properties. Outside of those loans secured by multifamily or office collateral; two loans, representing 8.7% of the current trust balance, are secured by hotel properties; one loan, representing 6.8% of the current trust balance, is secured by a mixed-use property; and one loan, representing 2.8% of the pool, is secured by an industrial property. The property type composition remains relatively unchanged from issuance, with the exception of hotel loans, which increased to two loans representing 8.7% of the pool as of the August 2023 remittance, from one loan, representing 3.8% of the pool at issuance.

The loans are primarily secured by properties in suburban markets as 14 loans, representing 72.3% of the pool, are secured by properties in suburban markets, as defined by DBRS Morningstar, with a DBRS Morningstar Market Rank of 3, 4, or 5. The remaining seven loans, representing 27.7% of the pool, are secured by properties with a DBRS Morningstar Market Rank of 6, 7, or 8, denoting urban markets. In comparison at closing, properties in suburban markets represented 70.9% of the pool and properties in urban markets represented 29.1% of the pool.

Through August 2023, the lender had advanced loan future funding of $38.8 million to 12 of the outstanding individual borrowers, with $38.2 million of future funding remaining allocated to 13 borrowers. Available loan proceeds for each respective borrower are for planned capital expenditures or tenant improvements, with the largest portion of available funds, $10.0 million, allocated to the borrower of the Mountain View Corporate Center loan (Prospectus ID#7, 5.8% of the pool). The loan is secured by a four-building, Class A office park in Broomfield, Colorado. Loan future funding is available to the borrower to help fund leasing costs in order to manage tenant rollover and lease up vacant space. According to the Q1 2023 collateral manager update, the sponsor sold one of the four buildings, resulting in a principal paydown of $14.0 million. Two of the three remaining buildings have reached stabilized occupancy, while the third is just 30.0% occupied. According to the T-12 ended March 31, 2023, financials, the loan reported a debt service coverage ratio (DSCR) of 1.24 times (x) with a debt yield of 8.1%.

The largest cumulative advance to one borrower, totaling $10.7 million, has been made to the borrower of the Rolling Hills loan (Prospectus ID#11, 4.3% of the pool). The loan is secured by a 107-unit, Class C multifamily property in Torrance, California. The advanced funds have been used to fund the borrower’s extensive $10.0 million gut renovation of the property, which includes interior renovations and the addition of 14 new units. According to the Q1 2023 update from the collateral manager, 80 units had been fully renovated with 15 additional units in progress and scheduled for completion shortly thereafter. Of the renovated units, 40 had been leased, with one- and two-bedroom units averaging rental rates of $3,056 per unit and $3,908 per unit, respectively, exceeding the issuer’s underwritten renovated rental rates of $2,588 per unit and $3,038 per unit, respectively. There remains an additional $252,000 of available future funding.

As of the August 2023 reporting, six loans, representing 30.0% of the pool, had received some form of loan modification. The loan modifications were generally related to the adjustments of interest rate cap agreements; however, one loan, 1700 California (Prospectus ID#2, 6.8% of the pool), was modified twice to amend various collateral release provisions, extend the loan’s maturity one year to June 2025, and convert the loan into an A/B note structure. No loans are delinquent or in special servicing, but six loans, representing 36.1% of the current trust balance, are on the servicer’s watchlist. The loans have been flagged for performance issues with low occupancy rates and below breakeven DSCRs.

The largest loan on the servicer’s watchlist, Elements on 3rd (Prospectus ID#1, 10.5% of the pool), is secured by a 431-unit multifamily apartment complex in St. Petersburg, Florida. The loan was added to the watchlist for a below breakeven DSCR and low occupancy rate. The property reported a May 2023 occupancy rate of 77.3% and was achieving rental rate premiums for renovated units between 12.0% and 24.0% over the issuer’s underwritten figures. The renovation project continues to progress in line with issuance expectations, with an expected stabilization by Q2 2024. Only one of the six loans on the servicer’s watchlist is secured by an office property. Wilshire Palm (Prospectus ID#9, 5.0% of the pool), is secured by a Class A office building in Beverly Hills. The sponsor’s business plan was to complete a series of capital improvements in order to raise in-place rental rates and attract new tenants to lease the property to market levels. As of the Q1 2023 collateral manager update, the sponsor had only been able to lease up 3.8% of NRA since issuance, with occupancy falling to 43.0% in April 2023 after Avalon Entertainment (formerly 6.0% of NRA) vacated its space. Another tenant, Mozaic (4.2% of NRA) will vacate its space at lease expiration in December 2023. The sponsor is reportedly actively negotiating with a prospective tenant that is looking to occupy 8.8% of NRA and continues to fund all debt service shortfalls with equity. DBRS Morningstar analyzed this loan with stressed in-place and stabilized loan-to-value ratios as well as an additional probability of default penalty to reflect the current risk profile.

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/416784 (July 4, 2023).

All credit ratings are subject to surveillance, which could result in credit ratings being upgraded, downgraded, placed under review, confirmed, or discontinued by DBRS Morningstar.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is North American CMBS Surveillance Methodology (March 16, 2023; https://www.dbrsmorningstar.com/research/410912).

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

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

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at [email protected].

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

DBRS Morningstar had access to the accounts, management and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

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

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada
Tel. +1 416 593-5577

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

North American CMBS Multi-Borrower Rating Methodology (March 16, 2023)/North American CMBS Insight Model Version 1.1.0.0, https://www.dbrsmorningstar.com/research/410913

DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria (September 12, 2022),
https://www.dbrsmorningstar.com/research/402646

North American Commercial Mortgage Servicer Rankings (August 23, 2023),
https://www.dbrsmorningstar.com/research/419592

Interest Rate Stresses for U.S. Structured Finance Transactions (June 9, 2023),
https://www.dbrsmorningstar.com/research/415687

Legal Criteria for U.S. Structured Finance (December 7, 2022),
https://www.dbrsmorningstar.com/research/407008

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/417279.

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