Morningstar DBRS Assigns Provisional Credit Ratings to UK Logistics 2024-2 DAC

DBRS Ratings Limited (Morningstar DBRS) assigned provisional credit ratings to the following classes of notes to be issued by UK Logistics 2024-2 DAC (the Issuer):

-- Class A at (P) AAA (sf)
-- Class B at (P) AA (low) (sf)
-- Class C at (P) A (low) (sf)
-- Class D at (P) BBB (low) (sf)
-- Class E at (P) BB (sf)

The trends on all classes are Stable.

CREDIT RATING RATIONALE
The transaction is a securitisation of two floating-rate senior commercial real estate loans. The Mileway facility of GBP [164.2] million and the Indurent facility of GBP [225.2] million were advanced to borrowers ultimately owned by Blackstone Real Estate Partners (Blackstone or the Sponsor) by Bank of America Europe DAC and Morgan Stanley Principal Funding, Inc. (Loan Sellers) in connection with refinancing the acquisition of two logistics portfolios comprising 4 million square feet (sf) of standing logistics assets and 3 million sf of industrial outdoor storage (IOS) assets in the United Kingdom, largely concentrated in the South East, including the greater London area.

MILEWAY
The Mileway loan was advanced by the Loan Sellers to four borrowers (the Mileway Borrowers) ultimately owned by Blackstone for the purpose of refinancing existing indebtedness of the Mileway Borrowers (and other members of the borrower group), refinancing the acquisition of the Mileway property portfolio, for general corporate purposes, and financing or refinancing the financing costs. Each Borrower is a private limited liability company incorporated under the laws of Jersey.

The collateral securing the loan comprises 24 urban logistics assets (100% last mile) across five submarkets in the UK and comprising 17 warehouses ([67]% of the portfolio's market value (MV)) and seven IOS assets ([33]% MV). Of the portfolio value, [39]% is in the South East, [27]% is in the North West, [23]% is in Yorkshire, [9]% is in the Midlands, and [3]% is in Scotland.

Valuations prepared for the properties by JLL Valuation & Advisory Services, LLC (JLL or the Valuer) in October 2024 concluded an aggregate MV of the collateral at GBP [249.0] million, or GBP [261.5] million when including the portfolio premium of 5%. The loan-to-value (LTV) ratio based on those values equals [65.9]% and [62.8]%, respectively.

As at the Cut-Off Date (31 July 2024), the 24 assets are [92.2]% occupied across [4.6] million sf. The Mileway portfolio generated GBP [13.4] million of gross rental income (GRI) and GBP [13.0] million of net operating income (NOI). When the total in-place GRI is compared with the estimated market rent value (ERV) as per the JLL valuation reports, the property portfolio is [18.3]% under-rented by occupied area.

The borrowers indicated a budget of GBP [13.0] million of refurbishment capital expenditure (capex), which includes capex for identified environmental, social, and governance (ESG) measures to meet 15% carbon emission reduction targets and achieve at least an EPC B rating for all assets, such as LED lighting upgrades, installation of solar photovoltaic (PV) systems, modernisation of building insulation, and roofing. The majority of the units within the portfolio (circa 60%) fall within the C to E rating category.

The portfolio has a weighted-average lease term to break (WALTb) and to expiry (WALTe) of [4.9] years and [7.8] years, respectively. The portfolio tenant base includes [32] unique tenants, with the top 10 tenants accounting for [67.3]% of the rental income.

Morningstar DBRS' long-term sustainable net cash flow (NCF) assumption for the Mileway portfolio is GBP [12.3] million per annum (p.a.), which represents a haircut of [4.7]% to the in-place portfolio's NOI at cut-off. Based on Morningstar DBRS' long-term sustainable capitalisation rate (cap rate) assumption of [7.0]%, the resulting Morningstar DBRS value is GBP [176.4] million, which reflects a haircut of [29.2]% to the JLL aggregate valuation.

There are no loan financial covenants applicable prior to a permitted change of control (PCOC), but cash trap covenants are applicable both prior to and post-PCOC. More precisely, the cash trap levels are set as follows: the LTV ratio is greater than [77.8]% and the debt yield (DY) is less than [6.7]%. After a PCOC, the financial default covenants on the LTV and the DY will be applicable; they are set, respectively, at the LTV ratio being greater than the PCOC LTV [+15]%, and the higher of (1) [85]% of PCOC DY, and (2) [85]% of Day 1 DY.

The Mileway loan is interest-only prior to a PCOC and carries a floating rate, which is referenced to the Sterling Overnight Index Average (Sonia) (floored at 0%) plus a margin that is a function of the weighted average (WA) of the aggregate interest amounts payable on the Mileway loan's notional share of the notes. Morningstar DBRS understands that the borrowers will purchase an interest cap agreement to hedge against increases in the interest payable under the loan within [30] business days following the loan's utilisation date. The cap agreement will cover [100]% of the outstanding loan balance with a strike rate of [3.5]% for the initial term of two years. The borrowers are then required to purchase either a Sonia cap or a swap agreement until the final repayment date. The subsequent hedging transaction should cover [100]% of the outstanding loan balance with a cap rate of the higher of: (1) [3.5]%, and (2) the rate that ensures that, as at the date on which the relevant hedging transaction is contracted, the projected hedged interest coverage ratio (ICR) is not less than [1.25] times (x). Should the hedging agreement take the form of interest rate swaps, if the market prevailing swap (fixed leg) rate at that time is lower than the higher of each of (1) and (2) above, as applicable, such market prevailing swap (fixed leg) rate on the date on which the relevant hedging transaction is contracted shall constitute the hedging rate. Failure to comply with the required hedging conditions outlined above will constitute a loan event of default (EOD).

The Mileway loan has a term of five years, with a loan maturity date on [15 February 2030]. There are no extension options.

INDURENT
The Indurent loan was advanced by the Loan Sellers to five borrowers (the Indurent Borrowers) ultimately owned by Blackstone for the purpose of refinancing existing indebtedness of the Indurent Borrowers (and other members of the borrower group), refinancing the acquisition of the Indurent property portfolio, for general corporate purposes, and financing or refinancing the financing costs. Each Borrower is a private limited liability company incorporated under the laws of either Jersey or England and Wales.

The loan is backed by 39 urban logistics assets in six submarkets in the UK, with [52]% by MV in the South East (including London and Milton Keynes), [19]% in the North West (including Manchester and Warrington), [10]% in the South West and Wales, [8]% in the Midlands, [6]% in Yorkshire, and [6]% in Scotland. The Indurent portfolio comprises multi-let estates ([59]% by MV) and mid-box warehouses ([41]%).

Valuations prepared for the properties by JLL in October 2024 concluded an aggregate MV of the collateral at GBP [353.3] million, or GBP [371.0] million when including the portfolio premium of 5%. The LTV ratio based on those values equals to [63.8]% and [60.7]%, respectively.

At the cut-off date, the portfolio generated GBP [17.2] million in-place GRI and GBP [15.8] million NOI. When the total in-place GRI is compared with the ERV as per the JLL valuation, the property portfolio is [22.1]% under-rented by occupied area.

The portfolio offers a total of [2.5] million sf and is currently [82.7]% occupied by 207 tenants. The vacancy is concentrated in five assets, which were developed or refurbished in late 2023/2024 and are currently being marketed. The Indurent portfolio benefits from a diversified income stream, with the largest tenant accounting for [4.9]% of portfolio GRI, while the largest 10 tenants represent [29.5]% of portfolio GRI. The WALTb and WALTe of the portfolio are [4.3] years and [5.5] years, respectively.

The borrowers indicated a budget of GBP [18.0] million of refurbishment capex, which includes capex for identified ESG measures to meet 15% carbon emission reduction targets and achieve at least an EPC B rating for all assets such as window upgrades, LED lighting upgrades, installation of solar PVs, modernisation of building insulation, and roofing. The majority of the units within the portfolio (circa [80]%) fall within the C to E rating category.

Morningstar DBRS' NCF assumption for the property portfolio is GBP [16.3] million p.a., which is [3.3]% higher than the in-place portfolio's NOI at cut-off. Based on Morningstar DBRS' long-term sustainable cap rate assumption of [6.5]%, the resulting Morningstar DBRS value is GBP [250.5] million, which reflects a haircut of [29.1]% to the JLL valuation.

There are no loan financial covenants applicable prior to a PCOC, but cash trap covenants are applicable both prior to and post-PCOC. More precisely, the cash trap levels are set as follows: the LTV ratio is greater than [75.7]% and the DY is less than [6.0]%. After a PCOC, the financial default covenants on the LTV and the DY will be applicable; they are set, respectively, at the LTV ratio being greater than the PCOC LTV [+15]%, and at the higher of (1) [85]% of PCOC DY, and (2) [85]% of Day 1 DY.

The Indurent loan is interest-only prior to a PCOC and carries a floating rate, which is referenced to Sonia (floored at 0%) plus a margin that is a function of the WA of the aggregate interest amounts payable on the notes. Morningstar DBRS understands that the borrowers will purchase an interest cap agreement to hedge against increases in the interest payable under the loan within [30] business days following the loan's utilisation date. The cap agreement will cover [100]% of the outstanding loan balance with a strike rate of [2.5]% for the initial term of two years. The borrowers are then required to purchase either a Sonia cap or a swap agreement until the final repayment date. The subsequent hedging transaction should cover [100]% of the outstanding loan balance with a cap/swap rate of the higher of: (1) [2.5]%, and (2) the rate that ensures that, as at the date on which the relevant hedging transaction is contracted, the projected hedged ICR is not less than [1.25]x. Should the hedging agreement take the form of interest rate swaps, if the market prevailing swap (fixed leg) rate at that time is lower than the higher of each of (1) and (2) above, as applicable, such market prevailing swap (fixed leg) rate on the date on which the relevant hedging transaction is contracted shall constitute the hedging rate. Failure to comply with the required hedging conditions outlined above will constitute an EOD.

The Indurent loan has a term of five years, with a loan maturity date on [15 February 2030]. There are no extension options.

The Borrowers under the relevant loan can dispose of any asset securing the loans by repaying a release price of [100]% of the allocated loan amount (ALA) of that property up to the first-release price threshold, which equals [10]% of the initial portfolio valuation. Once the first-release price threshold is met, the release price will be [105]% of the ALA up to the second-release price threshold, which equals [20]% of the initial portfolio valuation. The release price will be [110]% of the ALA thereafter. On or after the occurrence of a PCOC, the release price applicable on the disposal of a property will be [115]% of the ALA of that property.

The transaction benefits from a liquidity facility of GBP [19.0] million, which equals [7.1]% of the total outstanding balance of the covered notes and will be provided by Bank of America, N.A., London Branch. The liquidity facility can be used to cover interest shortfalls on the Class A, Class B, and Class C notes (the covered notes). Morningstar DBRS estimates that the liquidity facility will cover approximately [17] months of interest payments on the covered notes, based on the hedging conditions for the two loans described above or approximately [12] months of coverage based on the [5.0]% Sonia cap after the expected note maturity date in [2030]. The liquidity facility will be reduced based on note amortisation, if any.

The Class D notes and the Class E notes are subject to an available funds cap where the shortfall is attributable to an increase on the WA margin payable on the notes (however arising) or to a final recovery determination of the loan.

The legal final maturity of the notes is on [17 February 2035], [five] years after the loans' maturity dates. Morningstar DBRS believes that this provides sufficient time to enforce the loan collateral and repay the bondholders, given the security structure and jurisdiction of the underlying loans.

To satisfying the applicable risk retention requirements, Morgan Stanley Principal Funding, Inc. will advance an Issuer Loan to the Issuer, representing not less than 5% of the total securitised balance.

Morningstar DBRS' credit ratings on the Class A, Class B, Class C, Class D, and Class E notes to be issued by the Issuer address the credit risk associated with the identified financial obligations in accordance with the relevant transaction documents. The associated financial obligations are the initial principal amounts and the interest amounts.

Morningstar DBRS' credit ratings do not address nonpayment risk associated with contractual payment obligations contemplated in the applicable transaction documents that are not financial obligations. For example, Sonia Excess Amounts, Exit Payment Amounts, Pro Rata Default Interest Amounts, and Pro Rata Extension Step-Up Amounts payable to the noteholders.

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.

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

Notes:
All figures are in British pound sterling unless otherwise noted.

The principal methodology applicable to the credit ratings is: European CMBS Rating and Surveillance Methodology (17 January 2024), https://dbrs.morningstar.com/research/426818.

Other methodologies referenced in this transaction are listed at the end of this press release.

Morningstar DBRS has applied the principal methodology consistently and conducted a review of the transaction in accordance with the principal methodology.

For a more detailed discussion of the sovereign risk impact on Structured Finance credit ratings, please refer to "Appendix C: The Impact of Sovereign Credit Ratings on Other Morningstar DBRS Credit Ratings" of the "Global Methodology for Rating Sovereign Governments" at: https://dbrs.morningstar.com/research/436000.

The sources of data and information used for these credit ratings include a data tape with a cut-off date of 31 July 2024; a valuation report prepared by JLL with a valuation date of 1 October 2024; and technical and environmental due-diligence reports prepared by Arcadis, Hollis, Nova Ambiente, DeltaSimons, and WSP with issue dates throughout 2024.

Morningstar DBRS did not rely upon third-party due diligence in order to conduct its analysis.

Morningstar DBRS was not supplied with third-party assessments. However, this did not affect the credit rating analysis.

Morningstar DBRS considers the data and information available to it for the purposes of providing these credit ratings to be of satisfactory quality.

Morningstar DBRS does not audit or independently verify the data or information it receives in connection with the credit rating process.

A provisional credit rating is not a final credit rating with respect to the above-mentioned securities and may change or be different than the final credit rating assigned or may be discontinued. The assignment of final credit ratings on the above-mentioned securities is subject to receipt by Morningstar DBRS of all data and/or information and final documentation that Morningstar DBRS deems necessary to finalise the credit ratings.

These credit ratings concern expected-to-be-issued new financial instruments. These are the first Morningstar DBRS credit ratings on these financial instruments.

Information regarding Morningstar DBRS credit ratings, including definitions, policies, and methodologies, is available on http://dbrs.morningstar.com.

Sensitivity Analysis: To assess the impact of changing the transaction parameters on the credit ratings, Morningstar DBRS considered the following stress scenarios as compared with the parameters used to determine the credit ratings (the base case):

Class A Risk Sensitivity:
-- 10% decline in Morningstar DBRS NCF, expected credit rating on the Class A notes of AA (high) (sf)
-- 20% decline in Morningstar DBRS NCF, expected credit rating on the Class A notes of A (sf)

Class B Risk Sensitivity:
-- 10% decline in Morningstar DBRS NCF, expected credit rating on the Class B notes of A (low) (sf)
-- 20% decline in Morningstar DBRS NCF, expected credit rating on the Class B notes of BBB (high) (sf)

Class C Risk Sensitivity:
-- 10% decline in Morningstar DBRS NCF, expected credit rating on the Class C notes of BBB (sf)
-- 20% decline in Morningstar DBRS NCF, expected credit rating on the Class C notes of BB (high) (sf)

Class D Risk Sensitivity:
-- 10% decline in Morningstar DBRS NCF, expected credit rating on the Class D notes of BB (high) (sf)
-- 20% decline in Morningstar DBRS NCF, expected credit rating on the Class D notes of B (high) (sf)

Class E Risk Sensitivity:
-- 10% decline in Morningstar DBRS NCF, expected credit rating on the Class E notes of below B (low) (sf)
-- 20% decline in Morningstar DBRS NCF, expected credit rating on the Class E notes of below B (low) (sf)

For further information on Morningstar DBRS historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://registers.esma.europa.eu/cerep-publication. For further information on Morningstar DBRS historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

These credit ratings are endorsed by DBRS Ratings GmbH for use in the European Union.

Lead Analyst: Deniz Gokce, Senior Analyst, European Commercial Real Estate Ratings
Rating Committee Chair: David Lautier, Senior Vice President, Global Structured Finance Ratings
Initial Rating Date: 13 November 2024

DBRS Ratings Limited
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Tel. +44 (0) 20 7855 6600
Registered and incorporated under the laws of England and Wales: Company No. 7139960

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

-- European CMBS Rating and Surveillance Methodology (17 January 2024), https://dbrs.morningstar.com/research/426818
-- Legal Criteria for European Structured Finance Transactions (28 June 2024), https://dbrs.morningstar.com/research/435165
-- Interest Rate Stresses for European Structured Finance Transactions (24 September 2024), https://dbrs.morningstar.com/research/439913
-- Derivative Criteria for European Structured Finance Transactions (6 September 2024), https://dbrs.morningstar.com/research/439043
-- Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings (13 August 2024), https://dbrs.morningstar.com/research/437781

A description of how Morningstar DBRS analyses structured finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/439604.

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