DBRS Morningstar Downgrades Credit Ratings on Eight Classes of Bank of America Merrill Lynch Commercial Mortgage Trust 2016-UBS10, Confirms Remaining Classes

DBRS Limited (DBRS Morningstar) downgraded its credit ratings on the Commercial Mortgage Pass-Through Certificates, Series 2016-UBS10 issued by Bank of America Merrill Lynch Commercial Mortgage Trust 2016-UBS10 as follows:

-- Class C to BBB (high) (sf) from at A (sf)
-- Class X-D to B (sf) from BBB (high) (sf)
-- Class D to B (low) (sf) from BBB (sf)
-- Class E to CCC (sf) from BB (high) (sf)
-- Class X-E to C (sf) from BBB (low) (sf)
-- Class X-F to C (sf) from BB (sf)
-- Class F to C (sf) from BB (low) (sf)
-- Class G to C (sf) from CCC (sf)

DBRS Morningstar also confirmed the credit ratings on the remaining classes as follows:

-- Class A-3 at AAA (sf)
-- Class A-4 at AAA (sf)
-- Class A-S at AAA (sf)
-- Class A-SB at AAA (sf)
-- Class X-A at AAA (sf)
-- Class X-B at AA (high) (sf)
-- Class B at AA (sf)

Classes E, X-E, F, X-F, and G have credit ratings that do not generally carry a trend in Commercial Mortgage-Backed Security (CMBS) credit ratings. All other classes have Stable trends.

The credit rating downgrades reflect the increased loss expectations regarding the largest specially serviced loan, Belk Headquarters loan (Prospectus ID #3, 9.2% of the current trust balance), a dark office property in Charlotte, North Carolina, which the borrower plans to transfer ownership to the trust. The loan is further discussed below. DBRS Morningstar also notes the increased credit risk profile to loans backed by office properties, which is the highest property concentration comprising 35.3% of the current pool balance. A noteworthy loan is 2100 Ross (Prospectus ID#7, 5.7% of the current pool balance), which is secured by a Class A high-rise building in the central business district (CBD) of Dallas and occupancy at the subject has been trending downward. In general, the office sector has been challenged, given the low investor appetite for that property type and high vacancy rates in many submarkets as a result of the shift in workplace dynamics. Office loans and other loans that have exhibited increased risk were analyzed with stressed loan-to-value ratios (LTVs) and/or elevated probability of default (POD) penalties, as applicable. The resulting weighted-average (WA) expected loss for these loans was approximately 85% higher than the pool’s WA expected loss. The credit rating confirmations reflect the continued performance of the remaining loans in the transaction that have generally experienced minimal changes since the last credit rating action, and reported a WA debt service coverage ratio (DSCR) of 1.84 times (x) based on the most recent year-end financials available.

As of the November 2023 remittance, 41 of the original 52 loans remain in the trust, with an aggregate balance of $578.5 million, representing a collateral reduction of 34.0% since issuance. The pool benefits from seven loans that are fully defeased, representing 10.8% of the pool. Five loans, representing 17.7% of the pool, are on the servicer’s watchlist and are being monitored primarily for low DSCR and/or occupancy concerns. There are two specially serviced loans, representing 11.0% of the pool. Since DBRS Morningstar’s last review, Comfort Inn - Cross Lanes, WV (Prospectus ID#34), which was previously special serviced, was liquidated from the trust in March 2023 at a loss of $430,660. To date, a cumulative loss of $1.0 million has been incurred, which is well contained in the nonrated Class H.

The Belk Headquarters loan is secured by a 473,698-square-foot (sf) Class B office property in suburban Charlotte. The subject previously served as the headquarters for single tenant, Belk, which had a lease extending to March 2031 but the tenant had gone dark after shifting to a fully remote policy for its corporate-level employees in 2021. The loan transferred to special servicing in December 2022 at the request of the borrower and the special servicer is working toward transferring the title of the property to the lender. While the loan has remained current with a YE2022 DSCR of 1.46x as Belk continues to honor its lease terms, the value has likely declined significantly from the issuance value of $96.9 million, given the challenged office landscape and soft submarket. According to Reis, the Q3 2023 vacancy rate for the Airport/Parkway submarket was 25.2% with an average asking rental rate of $24.62 per sf (psf), which is approximately double Belk’s annual rental rate of $12.30 psf, providing upside potential in rental revenue if the space is re-leased at market rates. A cash flow sweep was triggered as a result of Belk’s failure to occupy its space and DBRS Morningstar has inquired about the balance on this cash management account but a response is pending as of this press release. As per the November 2023 reserve report, the loan reported a total of $6.8 million in reserves, with $5.4 million held in other reserves.

Considering the significant headwinds to backfill a completely vacant office building in a challenging submarket, as well as the low investor demand for this property type, DBRS Morningstar liquidated this loan with a stressed value, resulting in a loss approaching $48.0 million, which erodes the credit enhancement of the trust, thereby supporting the credit rating downgrades.

The 2100 Ross loan is secured by a Class A high-rise building in the Dallas CBD. Following the departure of its former largest tenant, CBRE Group, Inc. (CBRE; formerly occupied 15.2% of the net rentable area), at its March 2022 lease expiration, occupancy declined with the September 2023 rent roll reporting an occupancy rate of 63.4%, compared with YE2021 occupancy rate of 79.8%. DSCR is expected to drop to near breakeven to account for CBRE’s departure, compared with the YE2022 DSCR of 1.15x, YE2021 DSCR of 1.32x, and issuance at 1.36x. Reis indicates a softening submarket as office properties within the Dallas CBD submarket reported a Q3 2023 vacancy rate of 34.1%, up from the Q3 2022 vacancy rate of 29.6%. The loan is structured with a cash flow sweep tied to the departure of CBRE, with the cash flow sweep subject to a cap of $2.2 million (approximately $17 psf on CBRE’s space). DBRS Morningstar has requested an update from the service regarding the balance of the cash management account. While the cash flow sweep is a benefit, it is unlikely the amount will be sufficient to cover a tenant improvement package for a new tenant. Given the increased vacancy at the subject, coupled with the softening submarket conditions, DBRS Morningstar analyzed this loan with an elevated POD penalty to increase the loan’s expected loss, resulting in an expected loss that was 80% more than the pool’s WA expected loss.

ENVIRONMENTAL, SOCIAL, AND 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 (July 4, 2023) at https://www.dbrsmorningstar.com/research/416784.

Classes X-A, X-B, X-D, X-E, and X-F are interest-only (IO) certificates that reference 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 the 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. 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.

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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 13, 2023; https://www.dbrsmorningstar.com/research/425261)

-- 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, 2023, https://www.dbrsmorningstar.com/research/425081)

A description of how DBRS Morningstar analyzes 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].