DBRS Assigns Provisional Ratings to Monarch Beach Resort Trust 2018-MBR

DBRS, Inc. (DBRS) assigned provisional ratings to the following classes of Commercial Mortgage Pass-Through Certificates, Series 2018-MBR to be issued by Monarch Beach Resort Trust 2018-MBR:

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

All trends are Stable.

All classes will be privately placed. The Class X-CP and Class X-EXT balances are notional, with the notional balances based on the aggregate certificate balance of the Class A, Class B, Class C and Class D certificates.

The subject is a 400-key, five-diamond luxury resort located along the Southern California coastline in Dana Point, California. The property is situated midway between Los Angeles to the north and San Diego to the south with convenient access to both the I-5 Freeway and Pacific Coast Highway. Three major airports are within reasonable proximity to the subject, including the John Wayne Airport (21 miles away), the Long Beach Airport (41 miles away) and the Los Angeles International Airport (60 miles away). As of 2016, these airports have collectively served 94 million passengers, offering non-stop flights to over 196 destinations worldwide. Originally constructed in 2001, the property offers 400 hotel keys, an award-winning 18-hole championship golf course, eight food and beverage outlets, a 30,000 square-foot (sf) destination wellness spa and access to an exclusive private beach club. Additionally, the property boasts 120,600 sf of indoor and outdoor function space, which is 54.6% more than the second-ranked hotel among its competitive set. The subject financing package totals $340.0 million, with $238.0 million structured as first mortgage debt and $102.0 million structured as mezzanine debt. The sponsor, KSL Capital Partners, LLC (KSL), acquired the subject in 2014 for $316.9 million and has since invested $47.6 million ($119,100 per key) into renovations, resulting in a total cost basis of $365.0 million. Prior to the KSL purchase, Washington Holdings had acquired ownership of the subject via its senior mortgage position on a 2007 financing through a settlement with the mezzanine lender that took control of the property upon default in July 2009.

While the macroeconomic effects of the Great Recession adversely affected all luxury resorts in the southern California region, the subject’s underperformance was exacerbated by a specific event that occurred in October 2008 when, after receiving a government bailout, AIG held a lavish party at the subject property while it was flagged under the St. Regis brand. As a result of the negative news coverage surrounding the event and increased scrutiny associated with excess spending in a recession, several corporate meetings and retreats were cancelled, and the resort experienced a large decline in future group bookings as part of the backlash. The Hotel Del Coronado, another nearby luxury resort that KSL managed throughout the same time period with similar segmentation as the subject, reported a 35.0% decline peak to trough as compared with a 62.0% drop experienced at the subject property. After bottoming out in 2010 with a reported revenue per available room (RevPAR) of $149.94, performance improved as the overall market recovered, with RevPAR increasing an average of 12.1% year over year through 2014 when KSL acquired the subject. The subject’s competitive set experienced 14.1% average year-over-year growth over the same period. The resort expectedly underperformed during full-year 2015 through July 2016 as rooms were taken offline and extensive renovation work was completed. As of the trailing 12 months ending June 2018 Smith Travel Research report, RevPAR had increased 6.8% since the most recent pre-renovation reporting year in 2014. Furthermore, RevPAR penetration against the competitive set has increased to 83.7% from 81.3% over the same period, and in more recent months, RevPAR penetration has generally exceeded 90.0%.

Given the high barriers to entry in the Dana Point market, which are reflected in the lack of new supply and projects under development, there is minimal threat of over-building despite the high RevPAR figures achieved in the market. The only potentially competitive property mentioned in the appraisal is the Rosewood Miramar Beach Montecito, which is still under construction and is located within Santa Barbara County approximately 150 miles to the north and therefore would not directly compete with the subject. Inclusive of the $102.0 mezzanine loan and closing costs, the sponsor will be cashing out approximately $108.2 million at loan closing. At 0.86 times (x), the DBRS Refi debt service coverage ratio (DSCR) on the mortgage debt is low for a hotel loan, even one with a luxury product offering and excellent location such as the subject. This higher leverage is reflected in the fact that only $208.0 million of mortgage proceeds are rated and only $171.0 million are rated investment grade. Term default risk is considered modest, as reflected in the DBRS Term DSCR of 1.75x, based on a 2.07% loan margin that will contractually increase by 25 basis points (bps) during the fourth of fifth one-year extension options and a LIBOR of 3.09% based on the DBRS “Unified Interest Rate Model for Rating U.S. Structured Finance Transactions,” which is lower than the 3.5% LIBOR strike of the interest rate cap in place at closing.

The DBRS value of $209.8 million represents a significant 55.0% discount to the appraiser’s as-is concluded value of $466.4 million. Furthermore, the appraisal estimates an as-stabilized valuation by July 2021 of $514.0 million, which suggests further upside as the capital renovations continue to have a positive impact on performance at the subject. Additionally, the DBRS cap rate of 10.25% is well above the cap rate range between 2.6% and 6.0% in the appraiser’s sales comparables and is likely at least 400 bps above a current market cap rate for the subject. This allows for a meaningful buffer for market volatility in the near term that could result in a widening cap rate and lower trading activity. The implied DBRS loan-to-value (LTV) on the full $340.0 million debt load is very high at 162.1%, falling to a still-high 113.4% when based on the senior mortgage debt of $238.0 million; however, the cumulative investment-grade-rated proceeds of $171.0 million reflect a more reasonable LTV of 81.6%. As a result of the property’s irreplaceable location, continued increase in RevPAR due to recent renovation, lack of competitive new supply and extensive amenity offerings, including a world-class golf course, DBRS anticipates that the mortgage loan will perform well during its fully extended seven-year term. At refinance, the highly desirable location, which generates increased demand for trophy assets such as the subject, should provide ample insulation to volatility in the market as it relates to property value over the loan term.

Classes X-CP and X-EXT are interest-only (IO) certificates that reference 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 will be subject to ongoing surveillance, which could result in ratings being upgraded, downgraded, placed under review, confirmed or discontinued by DBRS.

For more information on this transaction and supporting data, please log into www.viewpoint.dbrs.com. DBRS will continue to monitor this transaction with periodic updates provided in the DBRS Viewpoint platform.

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

With regard to due diligence services, DBRS was provided with the Form ABS Due Diligence-15E (Form-15E), which contains the description of the information that the third party reviewed in conducting the due diligence services and a summary of the findings and conclusions. While DBRS did not require due diligence services outlined in Form-15E, DBRS did use the Data File outlined in the Independent Accountant’s Report in its analysis to determine the ratings.

The principal methodology is North American Single-Asset/Single-Borrower Methodology, which can be found on dbrs.com under Methodologies. For a list of the Structured Finance related methodologies that may be used during the rating process, please see the DBRS Global Structured Finance Related Methodologies document on www.dbrs.com. 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 rated entity or its related entities did participate in the rating process for this rating action. DBRS 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.

The full report providing additional analytical detail is available by clicking on the link under Related Documents below or by contacting us at info@dbrs.com.

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