Morningstar DBRS Confirms Credit Ratings on All Classes of Morgan Stanley Capital I Trust 2018-SUN

DBRS, Inc. (Morningstar DBRS) confirmed its credit ratings on the Commercial Mortgage Pass-Through Certificates, Series 2018-SUN issued by Morgan Stanley Capital I Trust 2018-SUN as follows:

-- Class A at AAA (sf)
-- Class X-EXT at AAA (sf)
-- Class B at AA (sf)
-- Class C at AA (low) (sf)
-- Class D at A (sf)
-- Class E at BBB (low) (sf)
-- Class F at BB (low) (sf)
-- Class G at B (sf)
-- Class H at B (low) (sf)

In addition, Morningstar DBRS changed the trends on Classes E, F, G, and H to Negative from Stable. All other classes have Stable trends.

The floating-rate interest-only (IO) loan is secured by the fee-simple interest in two luxury beachfront hotels totaling 327 keys in Santa Monica, California. The Negative trends reflect an update to the Morningstar DBRS value, which has declined to $291.5 million as of the most recent analysis from the previous Morningstar DBRS value of $336.4 million derived in 2020. Morningstar DBRS' resulting loan-to-value ratio (LTV) increased to 122.4% from 106.0%, driven by performance declines evidenced by a significant decrease in net cash flow (NCF) as a result of declines in occupancy and revenue per available room (RevPAR) for the trailing 12-month (T-12) period ended September 2023. Morningstar DBRS notes the superior quality of both properties, their location on irreplaceable beachfront parcels, cash reserves, and historical sponsor commitment as mitigating factors that contributed to the confirmation of the credit ratings.

The Shutters on the Beach (Shutters) hotel consists of 198 guest rooms, three food and beverage locations, a spa, and approximately 8,600 square feet (sf) of meeting space. The Casa del Mar hotel consists of 129 guest rooms, one restaurant and bar/lounge, a spa, and roughly 11,000 sf of meeting space. The properties are the only hotels directly on the beach in the Santa Monica market. Both hotels are recognized as premier luxury hotels in Southern California, and their respective restaurants derive considerable income from nonhotel guests.

According to the most recent STR reports provided, both properties continue to outperform their competitive sets. However, year-over-year performance for competing properties has improved across all metrics, whereas the year-over-year occupancy and RevPAR for the subject properties has declined. This resulted in combined reported room revenue for YE2023 declining by 6.4% from the YE2022 figure. Insurance costs have also increased, further stressing operating income. Based on the YE2023 financials, the loan reported an NCF of $23.0 million, down from the YE2022 NCF of $27.7 million and the previous Morningstar DBRS NCF of $26.1 million. In addition, the debt service coverage ratio (DSCR) declined to 0.7 times (x), down from 1.63x in YE2022 as a result of rising interest rates, which resulted in a 193.7% increase in debt service obligations between YE2022 and YE2023. The loan is structured with a cash flow sweep in the event the debt yield falls below 6.25% at any time during the third extension and onward. Based on the most recent financials, the YE2023 debt yield on the trust debt was 5.36%. Given the current DSCR, there is likely no excess cash being swept at this time. According to the servicer, the cash management account balance is currently $8.1 million, with an additional $5.3 million in repair and other reserves.

The loan was previously in special servicing in April 2020 following the sponsor's request for a forbearance; ultimately, a modification was approved in December 2020 that required the borrower to bring all delinquent debt service and reserve deposits current. In addition, the sponsors contributed $3.5 million in cash to satisfy all legal fees and ancillary costs incurred by the special servicer. In consideration for the borrower's commitment, the special servicer agreed to accept a cure of loan defaults and conditionally waive the pursuit of accrued default interest given no future default occurs over the remainder of the loan term. The loan was transferred back to the master servicer in April 2021.

The loan is scheduled to mature in July 2024 but has a final one-year extension option remaining with a fully extended maturity in July 2025. The extension is subject to the purchase of an interest rate cap agreement. According to the servicer, the borrower has notified of its intention to exercise the final extension option. As noted above, Morningstar DBRS' credit rating actions reflect concern with increased refinance risk given the declining performance of the subject and its weakened competitive position within the submarket as the loan nears maturity.

With this review, Morningstar DBRS derived an NCF of $22.6 million based on a haircut to the YE2023 NCF. Using a capitalization rate of 7.75%, the resulting Morningstar DBRS value of $291.5 million represents a 13.4% deterioration from the previous value of $336.4 million. In its analysis, Morningstar DBRS maintained qualitative adjustments totaling 8.0%, giving credit to the properties' historical popularity with tourists and corporate guests, high property quality, and the significant barrier to entry for beachfront hotels in the submarket.

The credit ratings assigned to Classes D, E, F, G, and H are higher than the results implied by the LTV sizing benchmarks. The material variances are warranted because of uncertain loan-level event risk. While cash flow declined in 2023, Morningstar DBRS feels the current performance does not reflect the inherent value of the properties given their superior quality, irreplaceable beachfront locations, and high barrier to entry in the submarket.

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 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 Risk Factors in Credit Ratings (January 23, 2024; https://dbrs.morningstar.com/research/427030)

Class X-EXT 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 credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.
Morningstar DBRS had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.
This is a solicited credit rating.
Please see the related appendix for additional information regarding the sensitivity of assumptions used in the credit rating process.

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, Inc.
22 West Washington Street
Chicago, IL 60602 USA
Tel. +1 312 332-3429

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 (March 1, 2024; https://dbrs.morningstar.com/research/428799)

Interest Rate Stresses for U.S. Structured Finance Transactions (February 26, 2024; https://dbrs.morningstar.com/research/428623)

Rating North American CMBS Interest-Only Certificates (December 13, 2023; https://dbrs.morningstar.com/research/425261)

DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria (September 22, 2023; https://dbrs.morningstar.com/research/420982)

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/legal-criteria-for-us-structured-finance)

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