DBRS Morningstar Confirms Ratings on All Classes of GS Mortgage Securities Corporation Trust 2017-375H

DBRS Limited (DBRS Morningstar) confirmed its ratings on the Commercial Mortgage Pass-Through Certificates, Series 2017-375H issued by GS Mortgage Securities Corporation Trust 2017-375H as follows:

-- Class A at AAA (sf)
-- Class X-A at AAA (sf)
-- Class B at AA (low) (sf)
-- Class C at A (sf)
-- Class D at BBB (low) (sf)

All trends are Stable.

The rating confirmations reflect DBRS Morningstar’s overall outlook of the transaction, which remains unchanged since the last review.

The loan is secured by the borrower’s leasehold interest in 375 Hudson Street, a 19-story, Class A LEED Gold-certified office building located between West Houston Street and King Street in the Hudson Square neighborhood of New York City. The property is composed of 1.1 million square feet (sf) of net rentable area (NRA), the majority of which is configured for office use. In addition, the property features ground-floor retail suites, a gym and rooftop outdoor running track, below-grade storage space, and a two-level, 125-space parking garage.

The ground lease had an initial 93-year term that expires in August 2110. The annual base rent payment due under the ground lease is $0 for the entire term. The $400 million, interest-only (IO) loan was structured with a 10-year term that matures in September 2027. In addition to the loan proceeds, the sponsors, as a group, contributed equity of $465.0 million to purchase the $865.0 million leasehold interest. The loan is sponsored through a joint venture between The Rector, Church-Wardens and Vestrymen of Trinity Church in the City of New York (Trinity); an affiliate of Norges Bank Real Estate Management; and an affiliate of Hines Interests Limited Partnership. Trinity has owned the land for more than 200 years.

At issuance, the two largest tenants were Saatchi & Saatchi (63.7% of the NRA) and Penguin Random House LLC (Penguin; 27.4% of the NRA). In 2019, Penguin terminated its lease ahead of its original lease expiration in March 2025. Simultaneously, in August 2019, the borrower entered into a new lease agreement with Lion Resources Inc. (Lion), a subsidiary of Publicis Groupe S.A. (Publicis) and an affiliate of Saatchi & Saatchi, to expand into the former Penguin space (floors 2 through 5) and to extend the term of its currently leased space. As a result, all leases at the property are coterminous in January 2043. Additionally, MMS USA Holdings, Inc., a subsidiary of Publicis (an investment-grade entity), provides a full corporate guaranty backing Lion’s lease throughout the term.

As part of the lease termination in 2019, Penguin agreed to pay a termination fee in the amount of $47.6 million, consisting of an initial lump sum of $28.5 million, followed by monthly payments of $331,000 to be paid between 2019 and 2024. The borrower will invest a significant amount toward capital improvements over the term of Lion’s lease, in both the extension of the premises and the expansion of the premises, with Lion investing an additional $40 million toward their own build-out costs. In total, the borrower earmarked approximately $113.0 million toward tenant improvements (TIs) for the extension and expansion of the premises, which is slated to be paid out prior to the loan’s 2027 maturity date. Of the $113.0 million, the borrower was responsible for funding approximately $75 million in TI allowances, leasing commissions, and rent abatements prior to the 2021 calendar year. According to a waiver request to grant the borrower access to the Penguin reserve account, the borrower was required to satisfy conditions that included providing proof of completion and payment of all landlord work and TI allowances for the expansion premises in addition to submitting proof of tenant occupancy. The servicer confirmed that landlord obligations had been met and as such, the reserve account was drawn down from $20.8 million to $0, with the borrower being partially reimbursed for previously outlaid capital expenditures.

For the expansion into the former Penguin space, Lion was granted an initial rent abatement through November 2020, in addition to, a reduced rental rate of $25 per square foot (psf) until April 2025, after which Lion’s base increases to $41.50 psf where it will remain through the end of the lease term in 2043. Lion occupies 89.5% of the total NRA of the property, with one other tenant, Turner Construction Company, occupying 73,297 sf or 6.7% of the NRA of the property. As of September 2022, the property’s consolidated occupancy rate was 97.4%, with the office portion 100.0% occupied and the retail portion 39.0% occupied. According to Q4 2022 data from Reis, office properties in the South Broadway submarket reported an overall vacancy rate of 10.7% with average asking rents of $70.06 psf, which is notably above the subject’s average rental rate of $40.73 psf. Reis forecasts the submarket’s vacancy rate to remain above 7.0% through to loan maturity in 2027, with average asking rents expected to increase to approximately $80.0 psf.

As of the trailing nine months ended September 2022 financials, the servicer reported annualized net cash flow (NCF) of $42.6 million, with a debt service coverage ratio of 3.0 times (x), compared with $41.8 million and 2.95x and $43.7 million and 3.09x at YE2021 and at issuance, respectively. While NCF has declined slightly since issuance, as a result of the lower in-place rental rate for the primary tenant at the property, DBRS Morningstar does expect cash flow to rebound in 2025 when Lion’s base rental rate for floors 2 through 5 is scheduled to increase from $25 psf to $41.50 psf.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929 (May 17, 2022).

Class X-A is an 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 ratings are subject to surveillance, which could result in ratings being upgraded, downgraded, placed under review, confirmed, or discontinued by DBRS Morningstar.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is the North American CMBS Surveillance Methodology (October 3, 2022), which can be found on dbrsmorningstar.com under Methodologies & Criteria. For a list of the structured-finance-related methodologies that may be used during the rating process, please see the DBRS Morningstar Global Structured Finance Related Methodologies document, which can be found on dbrsmorningstar.com in the Commentary tab under Regulatory Affairs. Please note that not every related methodology listed under a principal structured finance asset class methodology may be used to rate or monitor an individual structured finance or debt obligation.

The DBRS Morningstar Sovereign group releases baseline macroeconomic scenarios for rated sovereigns. DBRS Morningstar analysis considered impacts consistent with the baseline scenarios as set forth in the following report: https://www.dbrsmorningstar.com/research/384482.

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@dbrsmorningstar.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the rating process.

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

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