Morningstar DBRS Confirms Credit Ratings on All Classes of BDS 2020-FL5 Ltd., Changes Trends on Two Classes to Negative

DBRS, Inc. (Morningstar DBRS) confirmed its ratings on all classes of notes issued by BDS 2020-FL5 Ltd. as follows:

-- Class B Notes at AAA (sf)
-- Class C Notes at A (high) (sf)
-- Class D Notes at A (sf)
-- Class E Notes at A (low) (sf)
-- Class F Notes at BB (high) (sf)
-- Class G Notes at B (high) (sf)

Morningstar DBRS discontinued the ratings on Classes A and AS after the bonds were paid in full with the February 2024 remittance.

The trends on all classes are Stable except for Classes F and G, which carry Negative trends. Morningstar DBRS changed the trends on Classes F and G to Negative from Stable to reflect increased credit risks associated with the remaining loans in the transaction, the majority of which are secured by office properties. As of February 2024 reporting, five loans in the transaction, representing 68.6% of the current trust balance, were secured by office properties. Most of these loans are scheduled to mature in 2024 and given the hesitancy exhibited by lenders for that property type in 2023, Morningstar DBRS expects refinance difficulty to continue for those borrowers over the near to medium term. The credit rating confirmations reflect the increased credit support to the bonds as a result of successful loan repayments, with collateral reduction of 62.5% since issuance.

In conjunction with this press release, Morningstar DBRS has published a Surveillance Performance Update report with in-depth analysis and credit metrics for the transaction as well as 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 pool’s collateral initially consisted of 24 floating-rate loans secured by 26 properties with a cut-off pool balance of $492.2 million. The trust featured a two-year reinvestment period that expired with the February 2022 payment date. As of the February 2024 remittance, eight loans remain in the transaction with a current trust balance of $206.0 million. Since Morningstar DBRS’ previous credit rating action in April 2023, five loans, with a former cumulative trust loan balance of $133.4 million, have been repaid from the transaction or repurchased by the issuer. Beyond the office concentration noted above, there are two multifamily properties, representing 17.0% of the current pool balance, and one hospitality property, representing 14.5% of the current pool balance.

The loans are primarily secured by properties in suburban markets with four loans, representing 73.9% of the current trust balance, in locations with Morningstar DBRS Market Ranks of 4 and 5. The remaining two loans, representing 20.1% of the pool, are secured by properties in urban locations with Morningstar DBRS Market Ranks of 6 and 7. In comparison with the pool composition in April 2023, loans comprising 73.9% of the pool were in suburban markets and 26.1% were in urban markets.

The collateral pool exhibits elevated leverage from issuance with a current weighted-average (WA) appraised loan-to-value ratio (LTV) of 63.9% and a WA stabilized LTV of 79.7%. In comparison, these figures were 75.1% and 73.9%, respectively, at closing. As the majority of individual property appraisals were conducted between 2019 and 2022, it is possible individual property values may have decreased since that time, particularly for the office property types, given the current interest rate and capitalization rate environment. In the analysis for this review, Morningstar DBRS considered the likelihood of refinance for each of the remaining loans, based on a stressed value estimate where merited. The results of that analysis showed the pool’s cumulative potential exposure to loans with LTV ratios of more than 100.0% would be contained to the unrated preferred equity bond, which has a current balance of $45.4 million; however, the increased credit stress to the bond, according to that analysis, supports the Negative trends on Classes F and G.

In total, the lender had advanced $31.4 million in loan future funding to six of the remaining individual borrowers to aid in property stabilization efforts through December 2023. The largest advance have been made to the borrower of the Northridge I & II loan (Prospectus ID# 31; 19.2% of the pool balance). The loan, which represents the largest in the pool, is secured by two suburban office towers totaling 258,462 square feet (sf) in Herndon, Virginia. The advanced funds were used to pay for capital expenditure (capex) and leasing costs. According to the collateral manager, the capex program was completed as of Q4 2022, as the borrower shifted its focus toward leasing efforts. As of YE2023, the property was 79.4% occupied while generating net operating income (NOI) of $2.3 million, resulting in an NOI debt service coverage ratio (DSCR) of 0.70 times (x). Cash flow may improve in 2024 as the borrower has executed three letters of intent totaling 20,000 sf since Q2 2023, which would increase occupancy to 87.0% if the leases are signed. The loan has a final maturity date of January 2025 as the sponsor exercised both of its extension options. In its analysis, Morningstar DBRS applied a current market cap rate to the in-place NOI, which resulted in an elevated LTV exceeding 100.0%, suggesting a replacement loan will require a significant cash equity contribution from the sponsor.

An additional $11.4 million of loan future funding, allocated to two individual borrowers, remains outstanding. Of this amount, $10.3 million is allocated to the borrower of the Morris Corporate Center I and II loan, and $1.1 million is allocated to the borrower of the Forest City Medical Pavilion loan for further capex and prospective leasing costs.

Six loans, representing 68.5% of the pool balance, are the servicer’s watchlist. All these loans have been flagged for upcoming loan maturity, though select loans have also been flagged for below-breakeven DSCRs. The largest loan on the servicer’s watchlist is One Skyline Tower (Prospectus ID# 5; 17.0% of the pool balance), which is secured by a Class A office building totaling 520,463 sf in Falls Church, Virginia. The property is currently 100% occupied across two U.S. General Services Administration (GSA) tenants; however, occupancy is expected to decrease to 57.0% after the largest tenant, Social Security Administration (SSA;64.2% NRA), provided notice it will vacate 185,291 sf of its space upon its September 2024 lease expiration. According to the collateral manager the other remaining tenant at the property, U.S. Department of Justice (DoJ), may be interested in backfilling all or a portion of the forthcoming vacant space. Reportedly, the borrower plans to pursue this potential leasing opportunity prior to marketing the space to any other users in the market. Additionally, the collateral manager reported the borrower exercised its final extension option extending loan maturity through November 2024 allowing the borrower additional time to potentially secure an expansion lease with the DoJ or another replacement tenant. In its analysis, Morningstar DBRS applied a current market cap rate to the in-place net cash flow (net of the rent and operating expenses associated with the space the SSA is giving back), which resulted in an elevated LTV in excess of 100%, suggesting a replacement loan will require a significant equity contribution.

The second-largest loan on the servicer’s watchlist, Briarwood Office (Prospectus ID# 34; 12.9% of the pool balance), is secured by a four-building office property in Englewood, Colorado. As of the February 2024 rent roll, the property was 79.7% occupied.

The loan matures in March 2024 after the lender provided the borrower a six-month extension to allow the borrower time to divide the property into four separate parcels to sell the properties individually. As the property division and building sale process is still ongoing, Morningstar DBRS expects the loan will be extended further. As of September 2023, the loan reported a DSCR of 0.55x. In its current analysis, Morningstar DBRS applied a cap rate adjustment, which resulted in an LTV above 100.0%.

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 Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://dbrs.morningstar.com/research/427030 (January 23, 2024).

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

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

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

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

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.

Morningstar DBRS 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.

Morningstar DBRS notes that a sensitivity analysis was not performed for this review as the transaction is in wind-down, with only eight remaining loans. In these cases, Morningstar DBRS credit ratings are typically based on a recoverability analysis for the remaining loans.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS’ outlooks and credit ratings are monitored.

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

-- North American CMBS Multi-Borrower Rating Methodology (November 3, 2023)/North American CMBS Insight Model Version 1.2.0.0, https://dbrs.morningstar.com/research/422859
-- DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria (September 22, 2023), https://dbrs.morningstar.com/research/420982
-- North American Commercial Mortgage Servicer Rankings (August 23, 2023), https://dbrs.morningstar.com/research/419592
-- Interest Rate Stresses for U.S. Structured Finance Transactions (February 26, 2024), https://dbrs.morningstar.com/research/428623
-- Legal Criteria for U.S. Structured Finance (December 7, 2023), https://dbrs.morningstar.com/research/425081

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