DBRS Morningstar Finalises Provisional Ratings on Emerald Italy 2019 Srl

DBRS Ratings GmbH (DBRS Morningstar) finalised the following provisional ratings on the notes issued by Emerald Italy 2019 Srl (the Issuer):

-- Class A rated AA (low) (sf)
-- Class B rated A (low) (sf)
-- Class C rated BBB (low) (sf)
-- Class D rated BB (high) (sf)

All trends are Stable. DBRS Morningstar did not assign ratings to the Class R, Class X CP and Class X NCP in this transaction.

Emerald Italy 2019 Srl is the securitisation of 100% of an Italian commercial real estate loan advanced by J.P. Morgan Chase Bank, N.A., Milan branch (the loan seller) and arranged by J.P. Morgan Securities PLC (the arranger; together with the loan seller, JPM). The securitised loan comprises a EUR 100.4 million term facility and a EUR 5.4 million capex facility, subject to a 62.5% loan-to-cost ratio (LTC). The loan is secured against a portfolio of two retail malls and one shopping centre located in the Lombardy region of Northern Italy. The borrower is Investire Società Di Gestione Del Risparmio S.P.A., acting on behalf of an Italian real estate alternative closed-end fund (fondo comune di investimento immobiliare alternative di tipo chiuso riservato) named Everest, which is ultimately owned by Kildare Partners (the sponsor).

The three properties in the portfolio are two retail malls, Metropoli and Rondinelle, and one shopping centre, Settimo. Metropoli and Settimo are located in the suburbs of Milan, whereas Rondinelle is located in Brescia. All three properties were previously part of Klépierre’s Italian shopping centre portfolio. The sponsor owns Settimo and the galleria/mall sections of Metropoli and Rondinelle, while the anchored-hypermarket tenants own the remaining part of the two malls. However, the sponsor has blocking rights on any major decisions related to the two malls it co-owns and is free to sell its properties subject to the loan documents, which explicitly prohibit the partial disposal of any property of the borrower.

Metropoli is the largest asset in the portfolio with 16,619 square metres (sqm) of gross lettable area (GLA), and it has a market value (MV) of EUR 85.6 million. The centre was 96.2% occupied as of the 30 April 2019 cut-off date and generates a gross rental income (GRI) of EUR 7.3 million. However, the largest tenant at Metropoli, MediaMarkt, has given notice that it intends to vacate; the sponsor is in advanced negotiations with potential tenants to re-let the outgoing tenant’s space.

The second-largest asset is Rondinelle, which was 88.8% occupied as at the cut-off date and recorded a GRI of EUR 5.3 million over 13,590 sqm of GLA. The centre has an MV of EUR 60.1 million. Settimo is the smallest property in the portfolio with 9,725 sqm of GLA, of which 87.7% is occupied; a EUR 1.6 million GRI; and an MV of EUR 15.7 million. The sponsor plans to refurbish all three assets, most importantly the Metropoli and Settimo assets, by investing EUR 8.6 million of capex partially funded by a EUR 5.4 million capex facility subject to a 62.5% LTC. The overall loan-to-value (LTV) of the term facility as at the cut-off date is 62.2% or 65.5%, including the fully drawn capex facility.

Based on the EUR 13.6 million estimated rental value (ERV) estimated by Cushman & Wakefield Debenham Tie Leung Limited (C&W or the appraiser), the portfolio is 12.8% over-rented. As such, DBRS Morningstar has marked down GRIs that are 10.0% higher than the market rent, except for newly signed leases. The portfolio’s DBRS Morningstar net cash flow (NCF) is underwritten at EUR 9.4 million, which represents a 28.9% haircut to the reported net rent of EUR 13.3 million. DBRS Morningstar then applied a capitalisation rate of 8.0% to the underwritten NCF and arrived at a DBRS Morningstar-stressed value of EUR 118.1 million, which represents a 26.9% haircut to the EUR 161.4 million MV provided by C&W.

The three-year loan has a one-year extension option that can be exercised if certain conditions are met. During the loan term, the borrower is required to amortise the principal amount by 1.5% annually; if there is sufficient cash flow, another 1.0% annual amortisation is due. The loan’s covenants are based on the debt service coverage ratio (DSCR), LTV and debt yield (DY) derived from the ERV. The cash trap covenants are set at 1.55 times (x) the DSCR, 70% LTV for years one to two and 67.5% LTV thereafter and 11.3% ERV DY, while the default covenants are set at 1.38x the DSCR, 75.0% LTV and/or 10.7% ERV DY.

To hedge against increases in the interest payable under the loans resulting from three-month Euribor fluctuations, the borrower purchased an interest cap agreement that covers the term loan amount (quarterly reduced to match the scheduled amortisation of 1.5% per year) with a cap strike rate of 1.0% from SMBC Nikko Capital Markets Limited. Credit support of the hedging counterparty is provided by its parent company, Sumitomo Mitsui Banking Corporation (rated A (high)/R-1 (middle) with Stable trends by DBRS Morningstar). The capex loan was fully drawn on 4 October 2019 and is fully hedged based on the same terms as the term facility. In addition, there is a 5% Euribor cap when calculating the coupons of the notes after the expected note maturity date.

The loan seller also provided a liquidity facility of EUR 5.29 million to the issuer to cover any potential interest payment shortfalls on the Class A and Class B notes, including the corresponding retention tranches. According to DBRS Morningstar’s analysis, the commitment amount at closing is equivalent to approximately 23 months of coverage based on the hedging term or approximately ten months’ coverage based on the 5% Euribor cap. DBRS Morningstar does not rate the liquidity provider but maintains a public rating on JPMorgan Chase Bank, N.A. at AA/R-1 (high) with Stable trends.

The Class D notes are subject to an available funds cap where the shortfall is attributable to interest due on the securitised loan not sufficient to pay senior costs and interest due on the notes.

In addition to the Class X trigger event, the transaction features a Class X interest diversion structure. The diversion trigger is aligned with the financial covenants of the loan; once triggered, any interest and prepayment fees due to the Class X noteholders will instead be paid directly into the issuer’s transaction account and credited to the Class X diversion ledger. The diverted amount will be released once the trigger is cured; only following the expected note maturity or the delivery of a note acceleration notice can such diverted funds be potentially used to amortise the notes.

The final legal maturity of the notes is in September 2030, seven years after the fully extended loan maturity date. DBRS Morningstar believes that this provides sufficient time to enforce on the loan collateral and repay the bondholders, given the security structure and jurisdiction of the underlying loan.

To comply with the applicable regulatory requirements, JPM will subscribe and retain the Class R notes, which are composed of 5% of the retention tranches of all the other classes of notes, including the Class X CP and Class X NCP notes.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology applicable to the ratings is: “European CMBS Rating and Surveillance Methodology”.

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

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

These may be found on www.dbrs.com at: http://www.dbrs.com/about/methodologies.

For a more detailed discussion of the sovereign risk impact on Structured Finance ratings, please refer to “Appendix C: The Impact of Sovereign Ratings on Other DBRS Credit Ratings” of the “Global Methodology for Rating Sovereign Governments” at: https://www.dbrs.com/research/350410/global-methodology-for-rating-sovereign-governments.

The sources of data and information used for these ratings include JPM and its delegates.

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

At the time of the initial rating, DBRS was not supplied with third-party assessments. However, this did not impact the rating analysis.

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

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

These ratings concern a newly issued financial instrument. These are the first DBRS Morningstar ratings on this financial instrument.

This is the first rating action since the Initial Rating Date.

Information regarding DBRS Morningstar ratings, including definitions, policies and methodologies, is available on www.dbrs.com.

To assess the impact of changing the transaction parameters on the rating, DBRS Morningstar considered the following stress scenarios, as compared to the parameters used to determine the rating (the Base Case):

Class A Notes Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class A at A (low) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class A at BBB (high) (sf)

Class B Notes Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class B at BBB (low) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class B at BB (high) (sf)

Class C Notes Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class C at BB (high) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class C at BB (low) (sf)

Class D Notes Risk Sensitivity:
-- 10% decline in DBRS Morningstar NCF, expected rating of Class D at BB (low) (sf)
-- 20% decline in DBRS Morningstar NCF, expected rating of Class D at below B (low) (sf)

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings GmbH are subject to EU and US regulations only.

Lead Analyst: Rick Shi, Assistant Vice President
Rating Committee Chair: Christian Aufsatz, Managing Director
Initial Rating Date: 9 October 2019

DBRS Ratings GmbH
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60311 Frankfurt am Main Deutschland
Geschäftsführer: Detlef Scholz
Amtsgericht Frankfurt am Main, HRB 110259

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

-- European CMBS Rating and Surveillance Methodology
-- Legal Criteria for European Structured Finance Transactions
-- Interest Rate Stresses for European Structured Finance Transactions
-- Derivative Criteria for European Structured Finance Transactions

A description of how DBRS Morningstar analyses structured finance transactions and how the methodologies are collectively applied can be found at: http://www.dbrs.com/research/278375.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.