Morningstar DBRS Downgrades Credit Ratings on Seven Classes of Real Estate Asset Liquidity Trust, Series 2019-1, Assigns Negative Trends to Three Classes

DBRS Limited (Morningstar DBRS) downgraded its credit ratings on seven classes of Commercial Mortgage Pass-Through Certificates, Series 2019-1 (the Certificates) issued by Real Estate Asset Liquidity Trust, Series 2019-1 as follows:

-- Class X to A (low) (sf) from A (high) (sf)
-- Class C to BBB (high) (sf) from A (sf)
--Class D-1 to C (sf) from BBB (sf)
--Class D-2 to C (sf) from BBB (sf)
--Class E to C (sf) from BBB (low) (sf)
--Class F to C (sf) from BB (sf)
--Class G to C (sf) from B (sf)

In addition, Morningstar DBRS confirmed the following credit ratings:

-- Class A-2 at AAA (sf)
-- Class B at AA (sf)

Morningstar DBRS also changed its trends for Classes B, C, and X to Negative from Stable. The trends for Classes D-1, D-2, E, F, and G were removed as they now carry credit ratings that do not typically carry trends in commercial mortgage-backed securities (CMBS) transactions. Morningstar DBRS maintained its Stable trend on Class A-2.

All credit ratings have been removed from the Under Review with Negative Implications designation where they had been placed on June 19, 2024, following the shorting of interest to several bonds in the capital stack that began in February 2024. These shortfalls have been attributed to the largest loan in the pool, WSP Place (Prospectus ID#1; 13.7% of the pool), which was transferred to special servicing in December 2023. In addition, the Group Guzzo Retail Terrebonne loan (Prospectus ID#14; 4.5% of the pool), was transferred to special servicing in May 2024. There are now two delinquent loans, representing 18.1% of the pool, in special servicing.

The driver of the credit rating downgrades on Classes D-1, D-2, E, F, and G are sustained interest shortfalls for all five classes, which have exceeded Morningstar DBRS' tolerance levels for bonds rated B (sf) and above. Classes E and below have not received any interest since February 2024, and Classes D-1 and D-2 have been shorted partial interest since March 2024. Morningstar DBRS has varying levels of tolerance for unpaid interest relative to a bond's assigned credit rating, limited to one to two remittance periods at the AA and A credit rating categories, three to four remittance periods for the BBB credit rating category, and six remittance periods for the BB and B credit rating categories.

As of the August 2024 remittance, cumulative unpaid interest to the trust has doubled since the June 2024 credit rating action, when all credit ratings were placed Under Review with Negative Implications. The servicer has confirmed that the shortfalls thus far have stemmed from the accumulating principal and interest advances, and servicing and legal fees related to the WSP Place and Group Guzzo Retail Terrebonne loans.

The downgrade to Class C, as well as the Negative trends on Classes B and C, primarily reflect the implied reduction in credit support for those classes with the liquidation scenario considered for the WSP Place loan, as further described below. Morningstar DBRS notes the transaction's structure, which features narrow tranches below the Class A-2 certificate, is a factor that could increase the likelihood of downgrades should Morningstar DBRS' loss projections and/or interest shortfalls increase.

The credit rating confirmation of Class A-2, which represents approximately 77.0% of the total pool balance, reflects the otherwise stable performance of the non-specially serviced loans in the pool, which Morningstar DBRS generally expects to repay at maturity based on the most recent year-end (YE) weighted-average (WA) debt service coverage ratio (DSCR) that is above 1.50 times (x), and a WA debt yield in excess of 11.0%.

With this review, Morningstar DBRS considered a liquidation scenario for the WSP Place loan based on a haircut to the most recent appraised value, resulting in an implied loss of in excess of $28.0 million, which would completely erode the nonrated Class H, as well as the balance of rated Classes E, F, and G, and part of the balance of Class D-1 and D-2 (pro rated and pari passu certificates), significantly reducing credit support for the transaction as a whole. The loan is secured by a 184,707-square-foot (sf) office tower in Edmonton, which was re-appraised in February 2024 at an as-is value of $14.5 million per the appraisal report. This updated value represents a negative 71.4% variance from the issuance value of $51.0 million. The stabilized value was reported to be $26.9 million, approximately 21.9% below the current outstanding loan balance of $34.4 million.

The loan was transferred to special servicing ahead of its January 2024 maturity date for payment default. According to the servicer's most recent commentary, a forbearance agreement was executed in June 2024 and in response to DBRS Morningstar's request for information on the forbearance, the servicer has confirmed that the loan has been extended to 2026, with an interest rate increase and the borrower's pledge of additional security in the form of proceeds on dispositions of multiple assets and mortgage charges on unsold assets. A principal paydown is also to be made by July 2025. Although the forbearance and borrower's commitment to the loan and asset are considered overall positive developments, the appraised value decline, driven by the performance declines for the collateral asset, is a significantly increased risk for the loan. In addition, the servicer has confirmed the shortfalls based on the appraisal reduction calculation are expected to continue and as such, the shortfall tolerances are expected to continue to be exceeded as previously described.

The loan is full recourse to the sponsor, wholly owned by GSRI Ltd., which invested over $40.0 million renovating and repositioning the property prior to securitization. Despite the capital improvements, the property has lost major tenants over the last several years, including Alberta Health Services (formerly 23.6% of net rentable area (NRA)) and Alberta Investment Management Corporation (formerly 8.5% of NRA). The largest tenant, WSP Canada Inc. (currently 17.5% of NRA, lease expiry in July 2026) also reduced its footprint by 50% in 2021. Per the February 2024 appraisal report, the subject property was 38.8% occupied, and cited one tenant, Zebra (currently 6.7% of the NRA) scheduled to expire in the near term (August 2024). During the same period, the property's average rental rate was $17.78 per sf (psf), which is in line with the Q1 2024 average asking rental rate of $17.25 psf for the Downtown Edmonton submarket per Colliers. The average submarket vacancy rate was 19.8%.

The Group Guzzo Retail Terrebonne loan is secured by a retail property in Terrebonne, Québec. The loan's last payment was made with the March 2024 reporting and the loan was transferred to special servicing in May 2024 after falling into arrears. The property's largest tenants are the Cinema Guzzo Mega-Plex and Cinema Guzzo Seige Social (collectively 94.0% of the NRA; lease expirations in February 2027 and February 2038, with four five-year extension options available). Given the residual impact of the COVID-19 pandemic and the recent film industry strike, the property's performance has been lagging expectations. While theatre sales have been showing signs of recovery, per the servicer's commentary, the borrower has elected to inject additional equity by selling other assets to bring the loan current and is currently negotiating a forbearance agreement with the servicer. The most recent financials available in the investor reporting package for this loan are dated as of December 2020 and reported a DSCR of 0.56x, a notable decline from the issuance DSCR of 1.16x as a result of the property's temporary closure during the pandemic. The property was reopened in May 2021. Given the increased risks from issuance in the outstanding delinquency and cash flow declines since issuance, Morningstar DBRS considered a stressed scenario to increase the expected loss for this loan.

Although this loan's increased risks are a noteworthy development, Morningstar DBRS notes that the stressed scenario applied in the analysis is not a primary driver for the credit rating actions taken with this review. Rather, it is the liquidation scenario considered for the WSP Place loan, based on the most recent appraised value, and the outstanding interest shortfalls, as previously described.

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

Class X is an interest-only (IO) certificates that references 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 Morningstar DBRS.

Notes:
All figures are in Canadian 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 [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.

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.

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
DBRS Tower, 181 University Avenue, Suite 700
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 (March 1, 2024)/North American CMBS Insight Model v 1.2.0.0 (https://dbrs.morningstar.com/research/428797)

Rating North American CMBS Interest-Only Certificates (June 28, 2024; https://dbrs.morningstar.com/research/435294)

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 Canadian Structured Finance (June 20, 2023; https://dbrs.morningstar.com/research/416101)

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].