Rating Action: Moody's assigns provisional ratings to Tricon American Homes 2020-SFR1
Global Credit Research - 08 Jul 2020
New York, July 08, 2020 -- Moody's Investors Service ("Moody's") has assigned provisional ratings to four classes of Tricon American Homes 2020-SFR1 certificates backed by one fixed-rate loan with a seventy-one months term secured by mortgages on 3,540 single-family rental properties owned by SFR JV-1 2020-1 Borrower LLC.
The complete rating action is as follows:
Issuer: Tricon American Homes 2019-SFR1
Cl. A, Assigned (P)Aaa (sf)
Cl. B, Assigned (P)Aa1 (sf)
Cl. C, Assigned (P)A2 (sf)
Cl. D, Assigned (P)Baa3 (sf)
RATINGS RATIONALE
Tricon American Homes 2020-SFR1 is a $601.4 million securitization backed by a single loan secured by 3,540 single-family rental (SFR) properties owned by SFR JV-1 2020-1 Borrower LLC, an indirect SPE subsidiary of a joint venture between Tricon Residential Inc. ("Tricon"), Government of Singapore Investment Corporation and Teacher Retirement System of Texas. The sponsor of the mortgage loan is SFR JV-1 LP (the loan sponsor), which is a Delaware limited partnership. Tricon owns approximately 33% of the SFR JV-1 LP. We view the sponsor/manager arrangement in this transaction as moderately weaker than in most other SFR transactions where the sponsor wholly owns the manager. When the sponsor owns the properties and wholly owns the manager, there are strong economic incentives to put in its own money to maintain the properties even during an economic downturn. The incentives are less when the sponsor is merely hiring the property manager but does not wholly own it. In this transaction Tricon, who owns the property manager and indirectly controls the loan sponsor, only has approximately 33% stake in the sponsor. The other partners of the sponsor may or may not have the same level of incentive to support the properties as Tricon. Furthermore, the other JV partners could potentially sell their interests to entities with less financial wherewithal to preserve the properties in a downturn, although any such sale would require Tricon's consent. We factored in the weaker alignment of interest in this transaction and the transfer risk in our analysis.
The rapid spread of the COVID-19 outbreak, the government measures put in place to contain it and the deteriorating global economic outlook, have created a severe and extensive credit shock across sectors, regions and markets. Our analysis has considered the effect on the performance of the single family rental (SFR) sector from the collapse in the US economic activity in the second quarter and a gradual recovery in the second half of the year. However, that outcome depends on whether governments can reopen their economies while also safeguarding public health and avoiding a further surge in infections.
The contraction in economic activity in the second quarter was severe and the overall recovery in the second half of the year will be gradual. However, there are significant downside risks to our forecasts in the event that the pandemic is not contained and lockdowns have to be reinstated. As a result, the degree of uncertainty around our forecasts is unusually high.
Specifically, for SFR transactions, government and private organizations have enacted and may continue to enact policies to try and curb the negative effects of the virus' spread, which may include temporary suspension of tenant evictions, rent relief, rental assistance, or other relief programs for tenants. While such policies have the potential of temporarily reducing cashflows to the trust, they will likely have limited impact on the credit quality of the rated bonds because 1) the most stressful scenario for certificate holders (which is our rating scenario) would be one where the loan is in default and properties are liquidated over an extended period of time. In this scenario, rental income accounts for a very small portion of the overall recoveries, and our liquidation stresses already factor in a stressed home price environment; 2) the loan has an underwritten DSCR of 2.43, allowing for significant declines in cashflows before the loan is at risk of default; 3) the loan is secured by properties that are geographically diversified, which reduces exposure to any single market that may be more affected by COVID-19. Also the geographic diversification reduces cash flow volatility since excess cash flow from one property can augment the cash flow of another to meet the debt service requirements. As a result, we have not made any adjustments related to COVID-19 for this transaction.
We regard the COVID-19 outbreak as a social risk under our ESG framework, given the substantial implications for public health and safety.
The securitization incorporates up to 5% voluntary substitution (by property count) over the life of the transaction. Voluntary substitution of properties is subject to a number of conditions including (i) the aggregate property value of the substitute properties will at least be equal or higher than the higher of current property value or closing date property value of the replaced properties (ii) the aggregate in place rents of the substitute properties is equal or greater than the current rent of the replaced properties at the time of receiving the written notice to substitute the properties (iii) the underwritten net cash flow of the substitute properties for the trailing twelve months at the time of receiving the written notice to substitute the properties is at least equal or greater than the greater of (a) trailing twelve months current underwritten cash flow or (b) underwritten net cash flow as of the closing date (iv) No new MSA can be introduced in the transaction and no MSA percentage can be increased by more than 2.5% of allocated loan amount.
Having flexibility to remove or substitute properties from the securitization is valuable to a sponsor as it allows the sponsor to efficiently manage its overall portfolio. However, an operator's use of substitution to acquire a property from the securitization could otherwise reduce the incentive to acquire properties through the premium release mechanism.
Our analysis incorporates the reduced premium release incentives, potential adverse selection of properties, potential increase in geographic concentration and limited independent third party diligence on the substitute properties.
The transaction's Aaa advance rate (the ratio of senior certificate to the Moody's Value) is 41.4%. Moody's uses the advance rate to determine whether the asset value is sufficient to support a targeted rating level given the size of the transaction's liabilities.
The Final Recovery Value, which varies by rating levels, is calculated through the following steps.
The aggregate BPO of the properties is approximately $763.3 million. The initial Moody's Value for all properties were determined after considering 1) the sponsor's acquisition cost adjusted for 50% of Moody's estimate of home price appreciation (excluding lower-value properties) since acquisition, plus 50% of the rehabilitation cost; and 2) 85% of the most recent BPO. The total Moody's value is $646.9 million.
1. As the borrower can substitute properties, Moody's assumed that a lower percentage of these properties will be sold out of the transaction at full market value before a borrower default, netting proceeds equal to the allocated loan amounts plus a pre-determined premium on those properties.
2. To account for potential adverse selection and increased geographic concentration in certain markets, in the disposition of the properties remaining in the pool after a default, Moody's applied a home price depreciation factor to the properties' values ranging from 30% to 50% of the Moody's Values at a Aaa level, depending on the MSA. Our home price depreciation assumptions are informed by, among other things, a review of the housing markets in the key MSAs and geographic concentration as measured by the effective number of MSAs. For this pool, we increased our HPD stress to account for a potential increase in geographic concentration due to voluntary substitution.
3. Under its Aaa stress scenario, Moody's assumed that the total cost required to maintain all the properties remaining in the pool after default, including real estate taxes, property management fees, vacancy, home owner's association fees, insurance, repairs, and sales and marketing, would stretch for 33 months while a portion of the properties would generate income for 23 months. Moody's stress for foreclosure timeline for this transaction is lower than a typical RMBS transaction because Moody's expects the foreclosure process to be quicker since the trust does not have to foreclose on individual borrowers; instead, it will foreclose either on the special purpose vehicle borrower itself or the properties owned by a single entity.
4. Moody's estimated foreclosure costs that included fixed legal costs, special servicing fees of 0.25% of the loan amount; special servicing liquidation fees of 0.75% of the property value; and transfer taxes.
5. Finally, Moody's assumed that the master servicer will continue to advance the interest (to the extent deemed recoverable) on the certificates until the properties are liquidated, and estimated the interest accrued on the servicer advances.
In addition, the loan agreement specifies minimum tenant eligibility criteria and lease requirements. We view the tenant eligibility criteria in the loan agreement as weak because there is no income-to-rent coverage criteria. We took this into consideration in our analysis and applied a negative adjustment to our recoveries.
Moody's assessment of TAH Operations LLC, the property manager, is that the company has the ability to effectively handle the day-to-day business of managing a national single-family rental platform. A seasoned senior management team and effective use of technology are strengths of the property manager. The master servicer and special servicer is Midland Loan Services, a division of PNC Bank, National Association.
Master and special servicer
A highly rated master servicer, Midland Loan Services, a division of PNC Bank, National Association (long-term deposit rating of Aa2 stable and a baseline credit assessment of a2) is responsible for advancing timely payments of interest on the loan to the extent deemed recoverable. The servicer will also receive monthly updates on the status of every property backing the transaction. Having a special servicer that can step in to manage the portfolio to maximize recoveries for the certificate holders in the event of a borrower default is credit positive.
Midland Loan Services will also be the special servicer for this transaction and will be responsible for servicing and administering the loan in the event of default or in the case of a reasonably foreseeable default that could give rise to the transfer of servicing to the special servicer and of any foreclosed collateral. Midland is an integral part of PNC's real estate finance business, and has more than 20 years of experience as a commercial mortgage master, and primary and special servicer for CMBS securitizations, government sponsored enterprises and institutional investors.
Although we deem Midland Loan Services to be a strong servicer, we applied a negative adjustment to our recoveries to account for the concentration risk of having a limited number of available servicers in SFR securitizations.
Cash flow analysis
Moody's weighted average adjustment to the pool's underwritten net cash flow was -26.0%. In particular, since this transaction has a seventy-one months term, we increased capital expenditures to account for higher expenses associated with maintenance and repairs to take into consideration potential deterioration of properties due to aging. The Moody's debt service coverage ratio is 1.80x , which is based a weighted average fixed rate coupon of 2.79%.
Factors that would lead to an upgrade or downgrade of the ratings:
UP
Moody's would consider upgrading the transaction or some of its tranches if, for example, properties underlying the portfolio were to appreciate substantially and the property conditions were to remain well maintained.
DOWN
Moody's would consider downgrading the transaction if the transaction were to breach its debt yield trigger. Additionally, breaches of certain loan covenants could lead to an event of default in the transaction and, if unremedied, a downgrade. Moody's will also monitor the transaction's portfolio mix for any unexpected changes. Unexpected negative changes could result from unusual patterns in the properties that are released by a sponsor as contemplated by the transaction documents. Also, where available, changes in rent renewal and lease turnover rates and time to re-rent could indicate performance issues.
Single-Family Rental Securitizations Methodology
The principal methodology used in these ratings was " Single-Family Rental Securitizations Methodology" published in July 2020 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBS_1214103. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.
REGULATORY DISCLOSURES
For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.
Further information on the representations and warranties and enforcement mechanisms available to investors are available on http://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBS_1236389.
The analysis relies on an assessment of collateral characteristics to determine the collateral loss distribution, that is, the function that correlates to an assumption about the likelihood of occurrence to each level of possible losses in the collateral. As a second step, Moody's evaluates each possible collateral loss scenario using a model that replicates the relevant structural features to derive payments and therefore the ultimate potential losses for each rated instrument. The loss a rated instrument incurs in each collateral loss scenario, weighted by assumptions about the likelihood of events in that scenario occurring, results in the expected loss of the rated instrument.
Moody's quantitative analysis entails an evaluation of scenarios that stress factors contributing to sensitivity of ratings and take into account the likelihood of severe collateral losses or impaired cash flows. Moody's weights the impact on the rated instruments based on its assumptions of the likelihood of the events in such scenarios occurring.
For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.
For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.
The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.
These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.
Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.
Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1133569.
At least one ESG consideration was material to the credit rating action(s) announced and described above.
The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.
Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.
Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.
Max Sauray Asst Vice President - Analyst Structured Finance Group Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Padma Rajagopal Vice President - Senior Analyst Structured Finance Group JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Releasing Office: Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653
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