DBRS Morningstar Downgrades Credit Ratings on Six Classes of SBALR Commercial Mortgage 2020-RR1 Trust

DBRS Limited (DBRS Morningstar) downgraded its credit ratings on six classes of Commercial Mortgage Pass-Through Certificates, Series 2020-RR1 issued by SBALR Commercial Mortgage 2020-RR1 Trust as follows:

-- Class A-S to AA (high) (sf) from AAA (sf)
-- Class B to B (high) (sf) from AA (low) (sf)
-- Class C to CCC (sf) from A (low) (sf)
-- Class D to C (sf) from BBB (low) (sf)
-- Class E to C (sf) from BB (low) (sf)
-- Class F to C (sf) from CCC (sf)

In addition, DBRS Morningstar confirmed its credit ratings on the remaining classes as follows:

-- Class A-3 at AAA (sf)
-- Class A-AB at AAA (sf)
-- Class X-A at AAA (sf)

With these credit rating actions, the credit ratings on Classes B, C, D, E, and F have been removed from Under Review with Negative Implications, where they were placed on September 1, 2023. In addition, DBRS Morningstar changed the trends on Classes A-3, A-AB, A-S, and X-A to Negative from Stable while Class B, which did not previously carry a trend, has also been assigned a Negative trend. Classes C, D, E, and F have credit ratings that do not typically carry a trend in commercial mortgage-backed securities (CMBS) credit ratings. Lastly, DBRS Morningstar also discontinued the credit rating on Class X-B, as one of its reference obligations is now rated CCC (sf).

The credit rating downgrades and Negative trends reflect DBRS Morningstar’s loss projections for the pool, which are primarily associated with the transaction’s largest loan group, Emerald Bronx Multifamily Portfolio (the Emerald portfolio; Prospectus ID#s 2, 3, 4, 5, 6, 10, 11, and 13; 30.5% of the pool). In May and June 2023, six of the eight loans within the group (representing 22.5% of the pool) transferred to special servicing because of imminent monetary default. Broker Opinion of Values (BOVs) dated June and August 2023 for the properties backing the six defaulted loans have been publicly reported in the transaction remittance data, and those reflected sharp value declines from the issuance appraised values, suggesting considerable losses could be realized at resolution. Currently, all eight loans within the Emerald portfolio are specially serviced, all of which are flagged as delinquent, per the November 2023 reporting. Furthermore, another loan in special servicing, Clarion Suites Anchorage (Prospectus ID#7; 3.7% of the pool), is in default and is also expected to be liquidated from the pool at a loss, as further detailed below.

As of the November 2023 reporting, 52 of the original 59 loans remain in the pool with an aggregate principal balance of $360.0 million, representing collateral reduction of 10.0% since issuance, as a result of loan amortization, loan repayments, and the liquidation of one loan from the trust. There are 19 loans, representing 28.5% of the pool, on the servicer’s watchlist, and eight loans, representing 31.0% of the pool, in special servicing. To date, one loan has been liquidated from the trust with realized loss totaling $1.1 million, which was contained to the nonrated Class G certificate.

The transaction is highly exposed to rent-stabilized, workforce housing, located in New York City (NYC), which represents 37.1% of the current pool balance, as both the Emerald portfolio and another group of loans, Gutman and Hoffman Multifamily Portfolio (Gutman portfolio; Prospectus ID#s 9 and 12; 6.6% of the pool), are collateralized by that property type. In the analysis for this review, DBRS Morningstar assumed a liquidation scenario for the Emerald portfolio loans (based on the provided BOVs) and the Clarion Suites Anchorage loan (based on a haircut to the most recent appraisal). Although both loans within the Gutman portfolio are current and the reported cash flows are relatively in line with the issuance figures, DBRS Morningstar considered a stressed scenario for those two loans based on an as-is value decline for the underlying properties. This analysis was considered appropriate given the notes in the BOVs for the Emerald portfolio properties cited increased challenges for rent-stabilized assets located in NYC. The Housing Stability & Tenant Protection Act of 2019, high inflation rates, increasing operating expenses – which continue to outpace permitted rental increases for rent stabilized apartments, and an inability to collect rents have critically impaired the value of rent-stabilized assets in NYC over the past five years. The scenarios analyzed for this review resulted in an aggregate forecasted loss projection in excess of $50.0 million, which would fully erode Classes D, E, F, and G and reduce the Class C balance by 45.0%.

The Emerald portfolio comprises eight loans secured by smaller portfolios of multifamily properties, typically classified as workforce housing. In total, the portfolio consists of 28 properties and 747 units located within multiple neighborhoods in the Bronx. As previously noted, seven of the eight loans are specially serviced, having transferred between May and August 2023 for imminent monetary default with the sponsor, Emerald Equity Group citing nonpaying tenants and inflated expenses as the source of the payment issues. The servicer initially noted that legal counsel was in the process of drafting a loan modification while discussions with the sponsor regarding plans for correcting various property condition and general performance issues across the portfolio were ongoing. Ultimately, the execution of that forbearance agreement was unsuccessful as the guarantor was unwilling to sign off on the representations and warranties, indicating that unconditional releases must be provided. As such, the special servicer no longer believes the proposed forbearance agreement is viable and has instructed its legal counsel to move forward with filing receiver applications and foreclosure motions.

DBRS Morningstar notes that the sponsor is having difficulty outside of the subject portfolios, with other defaults reported since 2020. In addition, the subject financing represented an $8.7 million cash out, with equity of just more than $500,000 remaining. The BOVs for the properties backing the defaulted loans indicate weighted-average (WA) value declines of approximately 55.0% when compared with the issuance appraised values. When considering these values in a hypothetical liquidation scenario, with a haircut to the most recent BOVs, the resulting liquidated loss amounts suggest a WA loss severity approaching 45.0% could be realized at disposition.

Updated appraisals for the 28 properties within the Emerald portfolio have not been ordered by the special servicer, to date. In addition, the master servicer noted that the special servicer has yet to calculate an appraisal reduction for any of the delinquent Emerald portfolio loans (most of which last paid in February and March 2023). As such, the master servicer is advancing full principal and interest due. The terms of the Pooling and Servicing Agreement require an updated appraisal be obtained within 60 days of the loan going 120 days delinquent. If an updated appraisal is not available, the terms call for the servicer to calculate an appraisal reduction based on a 25% reduction of the loan’s principal balance. Given the sponsor’s inability to address deferred maintenance issues and stabilize cash flows across the portfolio, as well as the property type and market specific difficulties noted in the BOVs, DBRS Morningstar notes that the updated appraisals, once obtained, are unlikely to come in significantly higher than the BOVs provided to date. However, should values come in significantly higher and/or the underlying properties’ performance materially improve on a sustained basis, DBRS Morningstar will evaluate the potential impact to credit risk for the transaction accordingly.

The Clarion Suites Anchorage loan is secured by a 112-room limited-service hotel in Anchorage, Alaska. The loan transferred to the special servicer in October 2020 and the lender subsequently modified the loan to interest-only (IO) payments for one year. While the loan modification provided temporary relief, performance failed to recover with the lender ultimately obtaining a final foreclosure judgment. The asset became real estate owned in December 2021. The hotel had an outstanding property improvement plan (PIP) that the borrower did not begin addressing before the Coronavirus Disease (COVID-19) pandemic, likely contributing to the declines in operational performance and value. The PIP cost estimate provided in July 2022, totaled approximately $2.2 million. According to the most recent servicer reporting, a portion of the PIP has been completed with the next phase scheduled to begin in January 2024. As part of the 20-year franchise agreement signed with Choice Hotels at issuance, the bulk of the PIP was required to be complete by January 2024; however, extensions and waivers have been provided by Choice Hotels to allow for more time to address various incomplete PIP items. The servicer has funded all outstanding interest on advances, to date and has been funding monthly debt service payments from operating proceeds each month for the past 12 months.

Operating performance has improved from the lows reported during the pandemic, with the property reporting trailing-twelve months ended October 31, 2023, occupancy rate, average daily rate, and revenue per available room metrics of 64.7%, $194.12, and $125.68, respectively, which compare favorably with the YE2022 figures of 57.5%, $163.6, and $94.1. However, reported net cash flow (NCF) remains subdued with the YE2022 figure of $970,563, 42.7% lower than the issuance figure of $1.7 million. The most recent appraisal, dated March 2022, valued the property at $16.0 million, substantially lower than the issuance appraisal value of $22.0 million; however, given that occupancy and NCF at the property have remained stressed for an extended period, DBRS Morningstar notes that the collateral’s as-is value has likely declined further, elevating the credit risk to the trust. Based on a haircut to the most recent appraisal, DBRS Morningstar projects a loss severity approaching 20.0% will be realized at liquidation.

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).

Class X-A is an IO certificate that references a single rated tranche or multiple rated tranches. The IO rating mirrors the lowest-rated applicable reference obligation tranche adjusted upward by one notch if senior in the waterfall.

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 ratings were 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.

These are a solicited credit ratings.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the credit rating process. Please note a sensitivity analysis is not performed for CMBS bonds rated CCC or lower. The DBRS Morningstar Long-Term Obligation Rating Scale definition indicates that credit ratings of CCC or lower are assigned when the bond is highly likely to default or default is imminent, thereby prevailing over a sensitivity analysis.

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 credit ratings are monitored.

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 (November 3, 2023)/North American CMBS Insight Model v 1.2.0.0 (https://www.dbrsmorningstar.com/research/422859)
-- Rating North American CMBS Interest-Only Certificates (December 19, 2022; https://www.dbrsmorningstar.com/research/407577)
-- DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria (September 22, 2023; https://www.dbrsmorningstar.com/research/420982)
-- 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].