Morningstar DBRS Downgrades Credit Ratings on Four Classes of Wells Fargo Commercial Mortgage Trust 2014-LC18, Changes Trends on Four Classes to Negative from Stable

DBRS Limited (Morningstar DBRS) downgraded its credit ratings on the Commercial Mortgage Pass-Through Certificates, Series 2014-LC18 issued by Wells Fargo Commercial Mortgage Trust 2014-LC18 as follows:

-- Class X-E to B (high) (sf) from BB (sf)
-- Class E to B (sf) from BB (low) (sf)
-- Class F to CCC (sf) from B (low) (sf)
-- Class X-F to CCC (sf) from B (sf)

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

-- Class A-4 at AAA (sf)
-- Class A-5 at AAA (sf)
-- Class A-SB at AAA (sf)
-- Class A-S at AAA (sf)
-- Class X-A at AAA (sf)
-- Class B at AA (sf)
-- Class C at A (sf)
-- Class PEX at A (sf)
-- Class D at BBB (low) (sf)
-- Class X-B at BBB (sf)

In addition, Morningstar DBRS changed the trends on Classes D, E, X-B, and X-E to Negative from Stable. Classes F and X-F have credit ratings that do not generally carry a trend in commercial mortgage-backed securities (CMBS) credit ratings. All other classes have Stable trends.

As of the February 2024 remittance, 79 of the original 99 loans remain in the trust, with an aggregate balance of $794.4 million, representing a collateral reduction of 30.2% since issuance. The credit rating downgrades and Negative trends reflect increased loss projections for loans in special servicing, primarily driven by one new loan in special servicing since the last credit rating action, as well as concerns regarding a number of loans at increased risk of maturity default. All of the remaining loans in the pool are scheduled to mature within the next 12 months. While Morningstar DBRS expects the majority will repay from the pool, a concentrated number of loans exhibit increased default risk given weak credit metrics and/or upcoming rollover. Seven loans collectively, representing 9.0% of the pool balance, have been identified by Morningstar DBRS to be at risk for maturity default. Should these loans default as they near their respective maturity dates, Morningstar DBRS’ loss projections may increase to reflect additional adverse selection. This, in addition to increased propensity for interest shortfalls as the deal winds down, are also drivers of the downgrades and Negative trends. There are now three loans in special servicing, representing 5.4% of the current pool balance. In its analysis, Morningstar DBRS used liquidation scenarios for the three specially serviced loans, resulting in projected losses approaching $13.0 million.

The largest loan in special servicing is the YRC Headquarters (Prospectus ID#13, 2.2% of the current pool balance) loan, which is secured by a 332,937-square-foot (sf) office property built in 1972 and located in the Kansas City suburb of Overland Park, Kansas. The loan transferred to the special servicer in June 2023 for imminent monetary default and was last paid through October 2023. The property previously served as the headquarters of its sole tenant, YRC Enterprise (YRC), until the tenant relocated to Nashville, Tennessee, in 2021, leaving the building fully vacant. However, the tenant continued to uphold its lease obligations, until its parent company, Yellow Corp., filed for bankruptcy in August 2023. The full building is currently listed as available in online listings located by Morningstar DBRS. The servicer has advised that they are pursuing rights and remedies, including a receivership sale.

Although a cash sweep was initiated with YRC’s nonrenewal of its lease, which was scheduled to expire in March 2024, the parent company’s bankruptcy filing and YRC’s nonpayment of rents has resulted in a collection of only $179,000 to date. As per the February 2024 reserve report, there is $3.1 million across tenant reserve, capital improvements reserve, and other reserve accounts. According to Reis, office properties in the Overland Park/South Johnson submarket reported a vacancy rate of 11.9% as of Q4 2023, and an average asking rental rate of $26.70 per sf (psf), more than double the property’s asking rent of $13.00/psf as per online listings. The rent roll dated June 2023 indicates that YRC paid $10.14 psf on its space prior to its departure, which is half of the Reis reported submarket effective rate of $20.8 psf. Although there has not been an updated appraisal since issuance, value has likely declined significantly given the fully vacant status of the building, softening submarket conditions, below-market rental rates, and lack of leasing activity. In its analysis, Morningstar DBRS considered a liquidation scenario based on a dark value analysis of the underlying property, resulting in a projected loss severity approaching 35%.

The second largest specially serviced loan is the Hilton Garden Inn Austin Northwest (Prospectus ID#16, 2.1% of the current pool balance) which is secured by a 138-room hotel in Austin, Texas. The loan transferred to the special servicer at the onset of the pandemic in May 2020 for imminent monetary default, and a forbearance agreement was executed in October 2021. The loan was never returned to the master servicer following the forbearance. According to the most recent STR report, the hotel reported a trailing-12-month (T-12), ended month September 30, 2023, occupancy rate of 66.7%, average daily rate of $127.66, and revenue per available room (RevPAR) of $85.21, slightly outperforming its competitive set with a RevPAR penetration of 108.1%. Although the debt service coverage ratio (DSCR) has remained below breakeven since 2020, there are some incremental improvements year over year, driven by recovering occupancy rates. The property was appraised in August 2023 at $18.5 million, which is unchanged from the December 2022 appraisal, but ultimately 39.4% decline from the issuance value of $30.4 million. Given the performance fluctuations in recent years, oversaturated submarket, and value decline since issuance, Morningstar DBRS’ analysis included a liquidation scenario for this loan, resulting in a projected loss severity of approximately 20%.

As mentioned above, Morningstar DBRS identified seven loans, representing 9.0% of the pool balance, to be at increased risk for maturity default. The largest loan in this category is the Hilton Garden Inn Cupertino (Prospectus ID#8, 4.0% of the current pool balance), secured by a 164-room limited-service hotel in Cupertino, California. This loan was transferred to the special servicer in June 2020 because of coronavirus pandemic-related performance concerns and was returned to the master servicer in December 2022. Although the cash flows have rebounded since the pandemic, with the most recent DSCR reported at 1.27 times as per the T-12 ended September 30, 2023, period, the loan’s interest-only (IO) structure provides no amortization benefit against the possible decline in the property’s value and rise in cap rates in the last few years. As such, Morningstar DBRS expects there will be a significant refinance gap that could exceed $20 million, thereby increasing the risk for this loan. The remaining loans in this category have experienced performance declines which may pose challenges given the loans’ near-term maturity.

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 (January 23, 2024), https://dbrs.morningstar.com/research/427030).

Classes X-A, X-B, X-E, and X-F are IO certificates that reference a single rated tranche or multiple rated tranches. The IO ratings mirror 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 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 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 these credit rating actions.

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

These are 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 Morningstar DBRS 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. Morningstar DBRS’ outlooks and credit ratings are monitored.

DBRS Limited
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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://dbrs.morningstar.com/about/methodologies.

-- North American CMBS Multi-Borrower Rating Methodology (November 3, 2023)/North American CMBS Insight Model v 1.2.0.0, https://dbrs.morningstar.com/research/422859
-- Rating North American CMBS Interest-Only Certificates (December 13, 2023), https://dbrs.morningstar.com/research/425261
-- 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
-- Legal Criteria for U.S. Structured Finance (December 7, 2023); https://dbrs.morningstar.com/research/425081

A description of how Morningstar DBRS analyzes structured finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/417279.

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