Morningstar DBRS Downgrades Credit Ratings on All Classes of Hilton USA Trust 2016-SFP

On September 5, 2024, Morningstar DBRS updated the press release below to clarify Morningstar DBRS' estimate of the implied appraised value in the servicer-calculated Appraisal Reduction Amounts for 2023 and 2024. These inputs were not material to the analysis or credit ratings rationale but were provided for informational purposes only.

DBRS Limited (Morningstar DBRS) downgraded its credit ratings on all classes of the Commercial Mortgage Pass-Through Certificates, Series 2016-SFP issued by Hilton USA Trust 2016-SFP as follows:

-- Class A to BBB (high) (sf) from AAA (sf)
-- Class B to BB (high) (sf) from AA (low) (sf)
-- Class C to B (high) (sf) from A (low) (sf)
-- Class X-NCP to CCC (sf) from BBB (low) (sf)
-- Class D to CCC (sf) from BB (high) (sf)
-- Class E to C (sf) from B (high) (sf)
-- Class F to C (sf) from CCC (sf)

Negative trends were maintained for Classes A, B, and C. Classes D, E, F, and X-NCP are all assigned credit ratings that typically do not carry trends in Commercial Mortgage Backed Securities credit ratings.

The credit rating downgrades are reflective of the loss expectations as a result of the liquidation scenario analyzed for this review, as further described below. The collateral for the underlying loan is two full-service hotels located in San Francisco's Union Square. At the last credit rating action in September 2023, Morningstar DBRS downgraded its credit ratings on six classes (all but Class A) and Negative trends were placed on all classes. The overall credit profile was significantly deteriorated, given the underlying loan default and the confirmation that the loan's sponsor, Park Hotels & Resorts Inc., was interested in transferring its interest in both collateral hotels to the trust. For more information on that credit rating action, please see the press release dated September 19, 2023, on the Morningstar DBRS website. Over the past year, the special servicer has been working through a receiver to stabilize operations at both hotels, but the cash flow growth that was initially observed has since stalled out and the likelihood of meaningful improvement over the near to moderate term appears low. As such, the analysis considered an updated Morningstar DBRS value based on the most recent financial information provided by the special servicer as part of this review.

The subject loan transferred to special servicing in June 2023 following several years of very low in-place cash flows as compared to the pre-coronavirus pandemic figures. The loan went delinquent with the June 2023 payment date and in that same month, Morningstar DBRS placed all classes Under Review with Negative Implications (for more information on that credit rating action, please see the press release dated June 16, 2023, on the Morningstar DBRS website). In July 2023, the first interest shortfall was recorded, with the Class F certificate shorted partial interest with that month's remittance. The servicer later confirmed that the shortfall was the result of an Appraisal Reduction Amount (ARA) calculated based on 25.0% of the outstanding principal balance (as outlined in the Pooling & Servicing Agreement) and not an updated appraisal or the collateral properties.

Partial shortfalls for Class F continued until November 2023, when full interest for that class was shorted for the first time and the Class E certificate received its first partial interest shortfall. In that same month, the ARA amount was actually reduced, from $181.3 million, to $110.6 million, later confirmed to be the result of an updated appraisal obtained by the special servicer for the portfolio. The appraised values were not released to the Investor Reporting Package or to the rating agencies, however, with the special servicer taking the position that those figures were proprietary information that could not be made public. The ARA calculation is a calculation that typically considers the sum of the principal balance, outstanding advances an immediate expenses due, against 90% of the appraised value amount. Based on the inputs available in the IRP, which would not include the servicer's estimate of immediate expenses due, Morningstar DBRS estimates the implied appraised value considered in November 2023 was approximately $690.0 million. In December 2023, the partial shortfall to Class E was repaid; Class F continued to be shorted the full interest due.

Most recently, in July 2024, the servicer updated the ARA to $198.8 million, again citing updated calculation sources in appraisals that would not be disclosed as they were deemed proprietary. Based on the inputs available in the July 2024 remittance, again not inclusive of the servicer's calculation of immediate expenses due as those were not provided, Morningstar DBRS estimates the implied appraised value amount was approximately $627.0 million. Class E was shorted partial interest for July and August 2024 and as of the August 2024 remittance, total interest shortfalls were just more than $7.0 million. The full interest due Classes A, B, C, and D continues to be paid. The August 2024 remittance showed a total trust exposure of nearly $778.0 million when accounting for the $725.0 million outstanding loan balance, $32.6 million in outstanding interest advances, and property protection and other advances and expenses outstanding.

The most recent financials reported for the collateral portfolio is as of the trailing 12 months (T-12) ended March 31, 2024, which showed an in-place debt service coverage ratio of -0.52 times (x) and a net cash flow (NCF) of -$15.7 million. These figures compare with the YE2023 figures of 0.03x and $941,066, respectively. While revenues had, until recently, shown reasonably steady growth in the years since the onset of the pandemic, expense growth has significantly outpaced revenue growth and the operating expense ratio continues to be very high. The expense categories contributing to the high expense ratio are relatively varied and suggest there is potential for some categories (such as general and administrative) to stabilize as operations continue to adjust to the changed demand levels. In the analysis for this review, a Morningstar DBRS value was derived based on the revenue per available room figures shown in the T-12 ended March 31, 2024, Smith Travel Research reports provided for each property, which averaged $127. Expenses were based on an expense ratio of 71.0%, slightly higher than the issuer's estimates in its original underwriting of 69.5%. A cap rate of 10.0% was applied to the resulting Morningstar DBRS NCF of $55.37 million, resulting in a Morningstar DBRS value of $553.7 million. Comparatively, a 60.0% haircut to the issuance valuation of $1.56 billion results in a value of $624.4 million.

Based on a liquidation scenario that accounted for the updated Morningstar value of $553.7 million, in addition to the outstanding advances and expenses, as well as projected growth for those figures through the remaining workout period, Morningstar DBRS estimates a liquidated loss of approximately $240.0 million will be realized at disposition. Based on the balances as of August 2024, those losses would fully erode the balances of Classes E and F and partially erode the balance of Class D. Although the scenario suggests proceeds would be sufficient to repay Classes A, B, and C in full, there remains significant uncertainty with regard to the stability of property cash flows, the investor appetite as the special servicer markets both hotels for sale, and the time to resolution given these factors. As such, the Morningstar DBRS value could be further stressed as the workout period remains ongoing, a factor that combines with the overall erosion of credit support implied by the liquidation scenario considered with this review to support the credit rating downgrades and Negative trends for the classes at the top of the capital stack.

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) at https://dbrs.morningstar.com/research/437781.

Class X-NCP is an interest-only (IO) certificate 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 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 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 ratings.

The credit ratings of this transaction are highly subject to the asset's liquidation value. As a result, a sensitivity whereby Morningstar DBRS stresses the Morningstar DBRS Cap Rate and Morningstar DBRS NCF to evaluate the impact of a Morningstar DBRS value decline based on the LTV sizing benchmarks was not completed. 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 Single-Asset/Single-Borrower Ratings Methodology (July 11, 2024), https://dbrs.morningstar.com/research/436004

-- 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

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.