Morningstar DBRS Changes Trends on Seven Classes of Citigroup Commercial Mortgage Trust 2016-C3 to Negative From Stable and Confirms All Credit Ratings

DBRS Limited (Morningstar DBRS) confirmed the credit ratings on all classes of Commercial Mortgage Pass-Through Certificates, Series 2016-C3 issued by Citigroup Commercial Mortgage Trust 2016-C3 as follows:

-- Class A-3 at AAA (sf)
-- Class A-4 at AAA (sf)
-- Class A-AB at AAA (sf)
-- Class A-S at AAA (sf)
-- Class B at AA (sf)
-- Class C at A (sf)
-- Class D at BBB (low) (sf)
-- Class E at BB (sf)
-- Class F at B (high) (sf)
-- Class X-A at AAA (sf)
-- Class X-B at AA (high) (sf)
-- Class X-D at BBB (sf)
-- Class X-E at BB (high) (sf)
-- Class X-F at BB (low) (sf)

The trends on Classes C, D, E, F, X-D, X-E, and X-F were changed to Negative from Stable. The trends on all remaining classes are Stable.

The Negative trends reflect Morningstar DBRS' concerns about loans collateralized by office properties, which collectively represent 30.7% of the current pool balance, as well as the largest loan in the pool, Briarwood Mall (Prospectus ID#1; 11.1% of the pool), which has experienced deterioration in operating performance as evidenced by the sustained decline in net cash flow (NCF) and occupancy since issuance.

Morningstar DBRS' analysis includes an additional stress for five of the seven office loans that have exhibited declines in occupancy or are exposed to dark tenants. These five loans have been identified by Morningstar DBRS as candidates for elevated refinance risk based on the in-place performance and/or projected equity contribution needed for successful take-out financing upon their respective 2026 maturity dates. Where applicable, Morningstar DBRS increased the probability of default (POD) and, in certain cases, applied stressed loan-to-value ratios (LTVs) for these loans, resulting in a weighted-average (WA) expected loss that was approximately 50% greater than the pool average. Should the performance of these loans deteriorate further or lead to default, the classes with Negative trends may be subject to credit rating downgrades.

The pool is concentrated by property type, with loans backed by office and retail properties representing 30.7% and 27.6% of the current pool balance, respectively. As of the July 2024 remittance, 37 of the original 44 loans remain in the pool with a trust balance of $585.8 million, reflecting a collateral reduction of 22.6% since issuance. Eleven loans, representing 16.4% of the pool, are fully defeased and one loan, representing 0.8% of the pool, is specially serviced. Eight loans, representing 43.1% of the pool, including five of the seven office loans as well as the Briarwood Mall loan, are being monitored on the servicer's watchlist. These loans are being monitored mainly for occupancy declines, low debt service coverage ratios (DSCRs), and/or cash management initiations.

The largest loan in the pool, Briarwood Mall, is secured by a 370,000-square-foot (sf) portion of a super-regional mall in Ann Arbor, Michigan, sponsored by a joint venture between Simon Property Group (Simon) (50.0% beneficial interest) and General Motors Pension Trust (50.0% beneficial interest). The subject mall is anchored by noncollateral tenants Macy's, JCPenney, and Von Maur, with a vacant box formerly occupied by Sears. The loan has been monitored on the servicer's watchlist since September 2021 for occupancy-related concerns stemming from several tenant departures. The loan's DSCR has declined every year since issuance, most recently being reported at 1.77 times (x) at YE2023, well below the Morningstar DSCR-derived DSCR of 2.82x at issuance, with an occupancy rate of 74.9% as of the March 2024 rent roll.

Despite the declines in cash flow and low occupancy rate, Simon appears to be committed to the property, as evidenced by its planned redevelopment of the former Sears space, which it acquired in 2022. The development was approved in December 2023 and is expected to include a grocery store, additional retail space, and more than 300 apartment units. Several local online news articles indicate that the grocery store is planned to open in Q4 2025, with the apartment units scheduled to become available in 2026. The positive effects of the development could aid in refinance efforts as the loan's September 2026 maturity date approaches. However, given that the collateral's in-place cash flow remains more than 40% below the at-issuance level, Morningstar DBRS believes the property's at-issuance appraised value of $336.0 million has likely declined significantly. To recognize the increased credit risk and uncertainty surrounding the loan maturity in September 2026, Morningstar DBRS applied an elevated POD adjustment in its analysis, resulting in an expected loss that was approximately 75% greater than the pool average.

The second-largest loan on the watchlist is 101 Hudson (Prospectus ID#3; 9.6% of the pool), secured by a 1.3 million-sf, Class A office property on the waterfront in Jersey City, New Jersey. The loan is being monitored on the servicer's watchlist because of declines in occupancy following the departure of the property's former second-largest tenant, National Union Fire Insurance (formerly 20.2% of net rentable area (NRA)), which vacated in 2018. The sponsor has been unsuccessful in re-leasing the property, with the occupancy rate declining to 64.8% as of March 2024. Outside of the largest tenant, Merrill Lynch, Pierce, Fenner & Smith Inc. (28.6% of NRA, lease expires March 2027), tenancy at the subject is granular, with no tenant comprising more than 5.0% of NRA and rollover through the loan's October 2026 maturity being minimal, with leases representing 5.0% of NRA scheduled to roll. According to Reis, office properties in the Northern New Jersey Waterfront submarket reported a Q1 2024 vacancy rate of 19.4% with an average asking rental rate of $46.56 per square foot (psf) compared with subject's average rental rate of $34.94 psf.

Despite the sustained low occupancy rate, the loan's DSCR was reported at 2.11x through Q1 2024, 3.17x as of YE2023, and 2.35x as of YE2022 in comparison with the Morningstar DBRS DSCR of 2.88x derived at issuance. As a result of the decline in property performance, the subject's value declined to $346.0 million in October 2022 (from $482.5 million at issuance) when The Birch Group acquired the property and assumed the loan, implying an LTV of 72.3%. Morningstar DBRS believes the property's value has declined further because of the continued capitalization rate expansion and deterioration of office market fundamentals in 2023 and 2024. As a result, Morningstar DBRS analyzed this loan with an elevated LTV and applied an additional POD adjustment to reflect the property's high vacancy rate, resulting in an expected loss that was approximately 50% greater than the pool average.

The 80 Park Plaza loan (Prospectus ID#4; 7.8% of the pool), is collateralized by a 960,689-sf Class A office property in Newark, New Jersey. The property comprises two buildings: the larger is a 26-story, 739,495-sf structure known as the Tower Building, and the smaller is a three-story, 36,340-sf building known as the Plaza Building. The office buildings were built to suit in 1979 to serve as the corporate headquarters for Public Services Enterprise Group (PSEG), an investment-grade Fortune 500 energy company. According to the March 2024 rent roll, the property was 87.6% occupied as PSEG relinquished a portion of its space in 2018, which remains vacant. An additional 265,000 sf across nine floors is currently listed for sublease, suggesting PSEG is actively reducing its footprint at the property; however, given the tenant has no termination options for the remainder of its space, operating performance is expected to remain stable through lease expiry in September 2030 (approximately four years post loan maturity). According to Reis, office properties in the Newark submarket reported a Q1 2024 vacancy rate of 18.2% with an average asking rental rate of $27.12 psf, compared with PSEG's in-place base rental rate of $17.57 psf. Should the vacant space at the property be successfully leased, the sponsor may be able to benefit from additional upside in cash flow. Based on the YE2023 financial reporting, the property generated $12.7 million of NCF (a DSCR of 1.58x), in line with the prior year's reporting. Given the submarket's soft fundamentals and the current subleasing activity at the property, Morningstar DBRS analyzed the loan with an elevated POD penalty and stressed LTV, resulting in an expected loss that was approximately 50% greater than the pool average.

At issuance, Morningstar DBRS assigned an investment-grade shadow rating to Potomac Mills (Prospectus ID#6; 6.0% of the pool). This assessment was supported by the loan's strong credit metrics, strong sponsorship strength, and historically stable performance. With this review, Morningstar DBRS confirms that the characteristics of this loan remain consistent with the investment-grade shadow rating.

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 Factors in Credit Ratings (August 13, 2024), https://dbrs.morningstar.com/research/437781.

Classes X-A, X-B, X-D, X-E, and X-F are interest-only (IO) certificates that reference 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 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.

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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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 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/417279.

For more information on this credit or on this industry, visit https://dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.