Morningstar DBRS Downgrades Credit Rating on One Class of Ready Capital Mortgage Financing 2022-FL9, LLC

DBRS, Inc. (Morningstar DBRS) downgraded its credit ratings on one class of notes issued by Ready Capital Mortgage Financing 2022-FL9, LLC (the Issuer) as follows:

-- Class F to CCC (sf) from BB (low) (sf)

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

-- Class A at AAA (sf)
-- Class A-S at AAA (sf)
-- Class B at AA (low) (sf)
-- Class C at A (low) (sf)
-- Class D at BBB (sf)
-- Class E at BBB (low) (sf)
-- Class G at CCC (sf)

All trends are Stable with the exception of Classes F and G, which have credit ratings that do not typically carry trends in commercial mortgage-backed securities (CMBS) credit ratings. 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 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 credit rating downgrade on Class F is the result of ongoing accumulated interest shortfalls, which have persisted since November 2023 and have surpassed the maximum Morningstar DBRS tolerance for the BB or B credit rating category of six months. As of May 2024 reporting, cumulative interest shortfalls on the Class F Notes totaled $1.8 million and cumulative interest shortfalls on Class G total $2.3 million.

The credit rating confirmations on the remaining classes reflect the overall stable performance on the remaining loan collateral as borrowers are generally progressing in the stated business plans to increase property cash flow and value. While there are three loans, representing 25.7% of the current trust balance, in special servicing, including the third- and fourth-largest loans in the transaction, the increased credit support to the bonds as a result of successful loan repayment serves as a mitigant to the increased credit risk on these loans. As of the May 2024 remittance, there has been collateral reduction of 21.1% since issuance.

The initial collateral pool consisted of 25 floating-rate mortgages secured by 75 transitional properties totaling $754.2 million, excluding $82.3 million of remaining future funding commitments. The collateral pool for the transaction is static; however, the Issuer can acquire funded loan participation interests into the trust subject to stated criteria and provided the monthly Par Value Ratio and Interest Coverage Ratio tests are passed. As of May 2024, the Interest Coverage Ratio test was failed as the ratio was 108.7%, below the minimum 120.0% requirement. The Permitted Funded Companion Participation Acquisition Period ends with the June 2024 Payment Date, and, as such, the Issuer is unlikely to cure the failed test prior to the expiration of the Acquisition Period. As of May 2024 reporting, the Acquisition Account had a minimal balance of $27.54.

As of the May 2024 remittance, the pool comprises 18 loans secured by 65 properties with a cumulative trust balance of $603.8 million. Since issuance, seven loans with a former cumulative trust balance of $202.1 million have been successfully repaid from the pool, including three loans, totalling $67.8 million, since the previous Morningstar DBRS credit rating action in August 2023. The transaction is concentrated by property type as 17 loans are secured by multifamily properties, totaling 96.3% of the current cumulative trust loan balance, while the remaining loan is secured by a student-housing property.

The loans are primarily secured by properties in suburban markets with 14 loans, representing 85.6% of the current trust loan balance, secured by properties in suburban markets, as defined by Morningstar DBRS, with a Morningstar DBRS Market Rank of 3, 4, or 5. An additional four loans, representing 14.4% of the current cumulative trust loan balance, are secured by properties with a Morningstar DBRS Market Rank of 6 or 7, denoting an urban market.

Leverage across the pool has also remained consistent as of May 2024 reporting, as the current weighted-average (WA) as-is appraised loan-to-value ratio (LTV) is 72.1%, with a current WA stabilized LTV of 65.2%. In comparison, these figures were 71.6% and 67.4%, respectively, at issuance. Morningstar DBRS recognizes that select property values may be inflated as the majority of the individual property appraisals were completed in 2022 and may not reflect the current rising interest rate or widening capitalization rate (cap rate) environment. In the analysis for this review, Morningstar DBRS applied upward LTV adjustments for 15 loans, representing 91.2% of the current trust balance.

Through May 2024, the lender had advanced cumulative loan future funding of $32.2 million to 14 of the 18 remaining individual borrowers to aid in property stabilization efforts. The largest advance, $10.8 million, has been made to the borrower of the Premier Apartments and 300 Riverside loan, which is secured by a portfolio of two multifamily properties totaling 500 units in Austell, Georgia. Funds were advanced to the borrower to complete various unit-interior and propertywide capital expenditure (capex) projects across both properties. The loan was structured with future funding up to $13.0 million for capex with all advanced funds to date provided to the borrower since July 2023. As of YE2023 reporting, the portfolio was 79.0% occupied, a continued increase from the March 2023 occupancy rate of 60.4% and issuance rate of 50.9%, as the borrower continues to implement its business plan.

An additional $13.3 million of loan future funding allocated to all 13 individual borrowers remains available. The largest portion of available funds, $4.0 million, is allocated to the borrower of The Boulders loan, which is secured by a multifamily property in Garland, Texas. Future funding is available to the borrower to fund unit-interior and exterior upgrades across the property. Since loan closing, the lender has advanced $2.5 million in future funding to the borrower; however, only an additional $0.3 million has been advanced since July 2023, suggesting the pace of the originally planned capex may have slowed significantly. As of the December 2023 rent roll, the property was 92.0% occupied with an average rental rate of $1,325 per unit, and at YE2023, the property generated net cash flow (NCF) of $2.4 million. In its original stabilized analysis, the Issuer projected stabilized metrics of 95.5%, $1,476 per unit, and $3.5 million, respectively.

The largest loan in special servicing, Crescent Ridge (Prospectus ID#3, 10.2% of the current trust balance), is secured by a 350-unit multifamily property in Jacksonville, Florida. The borrower’s business plan at closing was to complete an $8.5 million capex project across the property, including $4.4 million for the renovation of all unit interiors to allow it to increase rental rates and occupancy to market. The loan recently transferred to special servicing in May 2024 as the borrower requested relief. According to the servicer, negotiations are ongoing with the borrower regarding a potential loan modification and forbearance. Potential modification terms, if executed, are expected to include a maturity date extension, a change in the interest rate, and a deposit into a debt service reserve. The borrower would also be expected to make a principal curtailment on the loan and agree to cash management. According to the March 2024 rent roll, the property was 82.0% occupied with an average rental rate of $1,503 per unit, an increase of $250 over the average rental rate of closing, but below the Morningstar DBRS stabilized figure of $1,561 per unit and the Issuer’s stabilized figure of $1,801 per unit. Additional rental revenue upside may be limited as the lender had advanced loan future funding of $4.9 million to the borrower for the planned capex from loan closing through May 2024, including only an additional $0.9 million since July 2023. As such, the borrower’s original business plan is behind schedule. As of YE2023 reporting, the property generated NCF of $2.5 million, implying a low in-place cap rate of 3.4% based on the originally appraised As-Is property value of $75.8 million. In its current analysis, Morningstar DBRS applied upward As-Is and As-Stabilized LTV adjustments to reflect the increased credit risk on the loan. The resulting loan expected loss is above the expected loss for the pool.

The second-largest loan in special servicing, Trails Run Apartments (Prospectus ID#2; 9.9% of the current trust balance), is secured by a 312-unit multifamily property in Vernon, Connecticut, built between 2018 and 2021. The loan transferred to special servicing in February 2024 for maturity default as the sponsor was unable to secure take-out financing at the January 2024 maturity date. The loan was not structured with future funding and the borrower’s business plan was to stabilize operations prior to securing agency take-out financing. While property cash flow met the required minimum 6.5% debt yield to exercise the first, six-month extension option, the borrower did not exercise the option and the loan remains pending for the February 2024 payment. According to the special servicer, the property was 97.1% occupied as of December 2023 and it has proposed a loan modification with terms expected to include a principal curtailment and cash management in exchange for a maturity extension. A response and potential counter proposal are pending from the borrower. At loan closing, the property was valued at $94.0 million, indicative of an LTV of 80.0%, which is slightly elevated, especially considering the current interest rate environment. In its current analysis, Morningstar DBRS adjusted the LTV upwards to reflect the current credit risk of the loan amid the ongoing resolution process. The resulting loan expected is slightly above the expected loss for the pool.

As of the May 2024 remittance, there are eight loans on the servicer’s watchlist, representing 30.6% of the current trust balance. The loans have generally been flagged for low occupancy rates and debt service coverage ratios (DSCRs). The largest loan on the servicer’s watchlist is the previously mentioned Premier Apartments and 300 Riverside loan (10.5% of the current trust balance), which was flagged for a YE2023 DSCR of 0.35 times. The decline in performance is the result of increased debt service payments combined with lower occupancy rates and an increase in operating expenses experienced throughout the renovation process, which included tenant evictions. According to servicer commentary, performance is expected to improve as the occupancy rate across the collateral stabilizes.

Only two loans, representing 11.1% of the current trust balance, have been modified. The Chronos Portfolio loan (7.5% of the current trust balance), which is secured by a portfolio of five multifamily properties totaling 1,070 units throughout the Dallas metropolitan statistical area, was modified in January 2024 to allow a change in property management. The Orchard loan (3.7% of the current trust balance), which is secured by a student housing property in Columbia, South Carolina, was modified in September 2023 to allow a preferred equity investment in the property to purchase a replacement interest rate cap agreement.

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

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 1, 2024; https://dbrs.morningstar.com/research/428798).

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

The credit rating assigned to Class F materially deviates from the credit rating implied by the predictive model. Morningstar DBRS typically expects there to be a substantial likelihood that a reasonable investor or other user of the credit rating would consider a three-notch or more deviation from the credit rating stress implied by the predictive model to be a significant factor in evaluating the credit rating. The rationale for the material deviation is that the structural features (loan or transaction) and/or provisions in other relevant methodologies outweigh the quantitative model output as the accrued interest shortfalls to Class F have been outstanding for greater than six months.

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.

DBRS, Inc.
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Tel. +1 312 332-3429

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 (March 1, 2024)/North American CMBS Insight Model Version 1.2.0.0, https://dbrs.morningstar.com/research/428797
-- 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/interest-rate-stresses-for-us-structured-finance-transactions
-- Legal Criteria for U.S. Structured Finance (April 15, 2024), https://dbrs.morningstar.com/research/431205/legal-criteria-for-us-structured-finance

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/410863.

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