Morningstar DBRS Confirms Credit Ratings on All Classes of Arbor Realty Commercial Real Estate Notes 2022-FL1, Ltd.
CMBSDBRS Limited (Morningstar DBRS) confirmed its ratings on all classes of notes issued by Arbor Realty Commercial Real Estate Notes 2022-FL1, Ltd. 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 F at BB (low) (sf)
-- Class G at B (low) (sf)
All trends are Stable.
The credit rating confirmations reflect the overall stability of the transaction, which benefits from being solely composed of loans backed by multifamily properties, which have historically proved to better retain property value and cash flow when compared with other property types. In its analysis for the review, Morningstar DBRS determined the majority of individual borrowers are progressing with their business plans to increase property cash flow and value; however, many additional borrowers have incurred stress between increased construction costs, slowed rent growth, and increased debt service costs, which has increased the execution risk on select business plans and loan exit strategies. The unrated, first-loss bond of $187.1 million serves as a mitigant to this increased risk to the transaction. 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 info-DBRS@morningstar.com.
The initial collateral consisted of 44 floating-rate mortgages secured by 59 transitional multifamily properties with a cut-off date balance totaling $1.61 billion. Most loans were in a period of transition with plans to stabilize performance and improve the asset value. The trust reached its maximum funded balance of $2.05 billion in June 2022. The transaction is a managed vehicle with a 30-month reinvestment period scheduled to expire with the August 2024 Payment Date.
As of the July 2024 remittance, the pool comprises 54 loans secured by 69 properties with a cumulative trust balance of $1.85 billion as the Reinvestment Account has a cash balance of $195.8 million. Morningstar DBRS expects the issuer to use the majority if not all of the remaining cash to purchase additional loan collateral into the trust prior to the August 2024 Payment Date. Twenty-six of the original loans in the transaction at closing, representing 61.1% of the current trust balance, remain in the trust. Since issuance, 27 loans with a former cumulative trust balance of $715.5 million have been successfully repaid from the pool, including 16 loans totaling $457.1 million since the previous Morningstar DBRS credit rating action. An additional 13 loans, totaling $348.0 million, have been added to the trust since the previous Morningstar DBRS credit rating action.
The loans are primarily secured by properties in suburban markets as 48 loans, representing 88.8% of the pool, are secured by properties in suburban markets, as defined by Morningstar DBRS, with a Morningstar DBRS Market Rank of 3, 4, or 5. An additional three loans, representing 6.2% of the pool, are secured by properties with a Morningstar DBRS Market Rank of 1 and 2, denoting rural and tertiary markets, while three loans, representing 5.0% of the pool, is secured by a property with a Morningstar DBRS Market Rank of 6 or 7, denoting an urban market. In comparing the transaction to issuance, properties in suburban markets represented 89.5% of the collateral, properties in tertiary and rural markets represented 8.3% of the collateral, and properties in urban markets represented 2.2% of the collateral.
Leverage across the pool has increased slightly as of July 2024 reporting when compared with issuance metrics as the current weighted-average (WA) as-is appraised value loan-to-value ratio (LTV) is 83.0%, with a current WA stabilized LTV of 69.6%. In comparison, these figures were 78.5% and 72.3%, respectively, at issuance. Morningstar DBRS recognizes that select property values may be inflated as the majority of the individual property appraisals were completed in 2021 and 2022 and may not reflect the current rising interest rate or widening capitalization rate environments. In the analysis for this review, Morningstar DBRS applied LTV adjustments to 17 loans, representing 47.8% of the current trust balance, generally reflective of higher cap rate assumptions as compared with the implied cap rates based on the appraisals.
Through March 2024, the lender had advanced $157.6 million in cumulative loan future funding to 33 of the outstanding individual borrowers to aid in property stabilization efforts, including $84.6 million since the previous Morningstar DBRS credit rating action in August 2023. The largest advance to a single borrower ($25.1 million) has been made to the Diplomat Tower loan, which is secured by a 2022-vintage multifamily property in Hallandale Beach, Florida. The borrower's business plan is to complete the initial lease-up phase of the property. Future funding of up to $30.1 million was available at loan closing to fund operating and debt service shortfalls as well as an earnout tied to the borrower achieving multiple occupancy benchmarks. According to the April 2024 rent roll, the property was 76.4% occupied with an average rental rate of $5,127 per unit. Property cash flow does not currently cover debt service as the trailing 12-month ended April 30, 2024, debt service coverage ratio (DSCR) was 0.28 times (x).
The collateral manager reported two loans, representing 2.8% of the current pool balance, as specially serviced. The largest loan in special servicing, Gainesville Portfolio (Prospectus ID#19, 2.4% of the current pool balance) is secured by a portfolio of two multifamily properties totaling 380 units in Gainesville, Florida. The loan transferred to special servicing in December 2023 for payment default. A notice of default was sent to the borrower and, ultimately, an affiliate of the sponsor remitted the November payment. The collateral manager confirmed the borrower remains dedicated to completing the business plan; however, a loan modification was requested by the borrower in April 2024 to defer monthly tax, insurance, and replacement reserve escrow payments for four months. The request is under review and no formal agreement has been provided. The loan has a maturity date in October 2024 and while the borrower has largely completed its business plan to complete $5.0 million in capital expenditures across the portfolio, including upgrades to 300 units, property cash flow remains well below stabilized expectations and the loan is likely overleveraged. As such, Morningstar DBRS applied upward LTV adjustments as well as an increased probability of default penalty in its current analysis, with the resulting loan expected loss approximately 1.5x greater than the expected loss for the overall pool.
The second loan in special servicing, Beldon Spring Lake (Prospectus ID#42, 0.4% of the current pool balance), is secured by a 100-unit multifamily property in Columbia, South Carolina. The loan transferred to special servicing in December 2023 for payment default following the borrower's inability to make the November 2023 loan payment. The property is currently listed for sale and, reportedly, a purchase and sale agreement has been executed at a price in excess of the outstanding loan balance of $6.8 million. If the potential property sale falls through, the collateral manager plans to initiate foreclosure proceedings. The property was appraised in December 2023 for $7.6 million, above the original As-Is valuation of $7.3 million. The borrower's original business plan was to spend $1.7 million to renovate unit interiors and property exteriors and address deferred maintenance items. As of the March 2024 reporting, $1.0 million of future funding had been disbursed with an average rental rate of $992 per unit, which exceeded the appraiser's original projection of $957 per unit. In its analysis, Morningstar DBRS analyzed the loan with a liquidation scenario, resulting in a loss severity of approximately 20.0%.
The servicer did not report loans on the servicer's watchlist as of March 2024 reporting; however, using the most recently available trailing 12-month cash flow reporting for all loans in trust, ranging from March 31, 2024, to May 31, 2024, only one loan, representing 1.1% of the current pool balance was reporting a DSCR above 1.0x. In total, 30 loans, representing 68.6% of the current pool balance, have been modified. Terms for individual loan modifications vary; however, some common terms have allowed borrowers to extend maturity dates without meeting required property performance tests, extend renovation completion dates, and waive or defer the requirement to purchase new interest rate cap agreements with some borrowers securing subordinate preferred equity financing to purchase new rate cap agreements. In return, borrowers have made fresh equity deposits into renovation or operating reserves.
Throughout 2024, 26 loans, representing 52.3% of the current pool balance, have scheduled maturity dates. All 26 loans have extension options and, if property performance does not qualify to exercise the related options, Morningstar DBRS expects the borrower and lender to negotiate mutually beneficial loan modifications to extend loans, which would likely include fresh sponsor equity to fund principal curtailments, fund carry reserves, or purchase a new interest rate cap agreement.
Morningstar DBRS' credit ratings on the applicable classes address the credit risk associated with the identified financial obligations in accordance with the relevant transaction documents. Where applicable, a description of these financial obligations can be found in the transactions' respective press releases at issuance.
Morningstar DBRS' long-term credit ratings provide opinions on risk of default. Morningstar DBRS considers risk of default to be the risk that an issuer will fail to satisfy the financial obligations in accordance with the terms under which a long-term obligation has been issued. The Morningstar DBRS short-term debt rating scale provides an opinion on the risk that an issuer will not meet its short-term financial obligations in a timely manner.
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 1, 2024; https://dbrs.morningstar.com/research/428798).
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 info-DBRS@morningstar.com.
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.
Please see the related appendix for additional information regarding the sensitivity of assumptions used in the credit rating process.
DBRS Limited
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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 (March 1, 2024)/North American CMBS Insight Model v 1.2.0.0 (https://dbrs.morningstar.com/research/428797)
Interest Rate Stresses for U.S. Structured Finance Transactions (February 26, 2024; https://dbrs.morningstar.com/research/428623)
Morningstar DBRS North American Commercial Real Estate Property Analysis Criteria (June 28, 2024; https://dbrs.morningstar.com/research/435293)
North American Commercial Mortgage Servicer Rankings (August 23, 2023; https://dbrs.morningstar.com/research/419592)
Legal Criteria for U.S. Structured Finance (April 15, 2024; https://dbrs.morningstar.com/research/431205)
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 (July 17, 2023).
For more information on this credit or on this industry, visit dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.
Ratings
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