Morningstar DBRS Places All Classes of SG Commercial Mortgage Securities Trust 2020-COVE Under Review With Negative Implications

DBRS Limited (Morningstar DBRS) placed all classes of the Commercial Mortgage Pass-Through Certificates, Series 2020-COVE issued by SG Commercial Mortgage Securities Trust 2020-COVE Under Review with Negative Implications as follows:

-- Class A rated AAA (sf)
-- Class B rated AA (low) (sf)
-- Class C rated A (low) (sf)
-- Class X rated BBB (sf)
-- Class D rated BBB (low) (sf)
-- Class E rated BB (low) (sf)
-- Class F rated B (low) (sf)

There are no trends for these credit rating actions.

The loan is secured by a 283-unit, Class A multifamily property in Marin County, California. The subject benefits from a prime waterfront location, with many units having unobstructed views of the San Francisco skyline. Downtown San Francisco is directly across the bay from the property, approximately 14 miles by car or 30 minutes by ferry.

At issuance, Morningstar DBRS noted that the property benefits from a prime waterfront location, superior amenities, and limited competition within the submarket. However, despite these aspects that were expected to contribute to cash flow stability over the loan term, the property's reported occupancy rate and cash flow have trended downward shortly after issuance; primarily as a result of a slowdown in leasing activity. According to the June 2024 rent roll, the property was 80.6% occupied (with an average rental rate of $5,751/unit), a decline from 83.7% at year-end (YE) 2023 and approximately 97.0% at issuance. Morningstar DBRS has requested additional information from the servicer to further clarify the drivers behind the recent fluctuation in occupancy, but to date, it appears the sponsor and/or property manager has not provided a comprehensive update. The loan is interest-only (IO) throughout its five-year loan term with a scheduled maturity in March 2025. Morningstar DBRS notes the near-term maturity date presents elevated refinance risk driven by the in-place cash flow declines. In addition, the sustained performance challenges could reduce the sponsor's commitment to the asset, particularly given those trends have likely contributed to a decline in the property's value since issuance.

The submarket offers a limited supply of multifamily properties given the lack of vacant land and environmental constraints on further development, resulting in a historically low vacancy rate. According to Reis, similar vintage apartment properties within the South Marin submarket reported an average vacancy rate of 4.3% with an average asking rental rate of $4,292 per unit. Market fundamentals are expected to remain strong through to the loan's maturity in 2025, with vacancy rates projected to remain below 5.0%. Although the subject's average rental rate remains higher than the submarket's average, cash flow has trended downward¿reflective of the property's lower occupancy rate. The annualized trailing three months ended March 31, 2024, net cash flow (NCF) of $9.8 million (a debt service coverage ratio (DSCR) of 1.25 times (x)) and the YE2023 figure of $9.6 million (a DSCR of 1.22x) are considerably lower than the issuer's underwritten NCF and Morningstar DBRS NCF of $11.4 million and $10.7 million, respectively. The borrower-provided financials indicate that concessions have been introduced and units are being leased at discounted rates as part of a strategy to spur occupancy and curb vacancy loss. In addition, operating expenses have been increasing incrementally since issuance, primarily driven by real estate taxes, property insurance, utilities, and advertising/marketing costs.

The trust debt of $160.0 million is a pari passu participation in a whole loan totaling $210.0 million, with the remaining balance represented by senior notes securitized in the BBCMS Mortgage Trust 2020-C7 transaction that is also rated by Morningstar DBRS. During the August 2024 credit rating action for that transaction, Morningstar DBRS removed the investment-grade shadow rating from the loan, as a result of a decline in performance for the underlying collateral, as outlined above.

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 factor(s) 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 at https://dbrs.morningstar.com/research/437781 (August 13, 2024).

Class X is an IO certificate 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 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.

Please note that a risk sensitivity analysis was not conducted considering the deal was placed Under Review with Negative Implications.

This credit rating is Under Review with Negative Implications. Generally, the conditions that lead to the assignment of reviews are resolved within a 90-day period.

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.

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

-- North American Single-Asset/Single-Borrower Ratings Methodology (July 11, 2024), https://dbrs.morningstar.com/research/436004

-- 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, 2024), https://dbrs.morningstar.com/research/438283

-- 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 https://dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.