Morningstar DBRS Finalizes Provisional Credit Ratings on the Loans of BTC Holdings Fund III LLC

DBRS, Inc. (Morningstar DBRS) finalized its provisional credit ratings on the Class A-D Loans, the Class A-R Loans, and the Class A-T Loans (together, the Loans) issued by BTC Holdings Fund III LLC, pursuant to the Credit Agreement dated July 19, 2023, entered into by BTC Holdings Fund III LLC as the Borrower; Natixis, New York Branch, as the Administrative Agent; Citibank, N.A. as the Collateral Agent; Alter Domus (US) LLC as the Collateral Administrator and Collateral Custodian; and the Lenders party thereto, as follows:

-- Class A-D Loans at AA (sf)
-- Class A-R Loans at AA (sf)
-- Class A-T Loans at AA (sf)

At the same time, Morningstar DBRS removed the credit ratings on the Loans from Under Review with Developing Implications, where they had been placed on November 9, 2023.

The credit ratings on the Loans address the timely payment of interest (excluding the Excess Interest Amounts and the additional 2% interest payable at the Post-Default Rate, as defined in the Credit Agreement) and the ultimate repayment of principal on or before the Stated Maturity (as defined in the amended Credit Agreement).

CREDIT RATING RATIONALE/DESCRIPTION
The credit rating actions are a result of Morningstar DBRS’ review of the transaction performance and application of the “Global Methodology for Rating CLOs and Corporate CDOs” (the CLO Methodology), released on October 22, 2023. On November 9, 2023, the credit ratings were placed Under Review with Developing Implications to allow Morningstar DBRS to review the credit ratings using the CLO Methodology. The Reinvestment Period ends on July 18, 2026. The Stated Maturity Date is July 18, 2032.

The finalization of the ratings reflect that certain conditions after the Closing Date, such as compliance with all coverage tests, concentration limitations, and collateral quality tests, have been satisfied.

The Loans are collateralized primary by a portfolio of U.S. middle-market corporate loans. BTC Holdings Fund III LLC is managed by Blue Torch Credit Opportunities Fund II LP (Blue Torch Capital). Morningstar DBRS considers Blue Torch Capital to be an acceptable collateralized loan obligation (CLO) manager.

The credit ratings reflect the following primary considerations:

(1) The Credit Agreement, dated as of July 19, 2023.
(2) The integrity of the transaction structure.
(3) Morningstar DBRS’ assessment of the portfolio quality.
(4) Adequate credit enhancement to withstand projected collateral loss rates under various cash flow stress scenarios.
(5) Morningstar DBRS’ assessment of the origination, servicing, and CLO management capabilities of Blue Torch Capital.

The transaction has a dynamic structural configuration that permits variations of certain asset metrics via a selection of an applicable row from a collateral quality matrix (the CQM). Depending on a given Diversity Score (DScore), the following metrics are selected accordingly from the applicable row of the CQM: Overcollateralization (OC) Ratio Test, Advance Rate Test, and Maximum Morningstar DBRS Risk Score Test. Morningstar DBRS analyzed each structural configuration as a unique transaction and all configurations passed the applicable Morningstar DBRS rating stress levels. The Coverage Tests and triggers as well as the Collateral Quality Tests that Morningstar DBRS modelled during its analysis are presented below.

The coverage and collateral quality test reported values and thresholds, respectively, that Morningstar DBRS reviewed are as follows:

Advance Rate Test: Subject to CQM; actual 43.98%; threshold 57.50%
OC Ratio Test: Subject to CQM; actual 227.36%; threshold 158.60%
Minimum DScore: Subject to CQM; actual 19.30; threshold 18.00
Minimum Morningstar DBRS Weighted-Average Recovery Rate: actual 51.90%; threshold 47.50%
Maximum Morningstar DBRS Risk Score: Subject to CQM; actual 36.99%; threshold 38.40%
Minimum Weighted-Average Spread: actual 7.64%; threshold 6.50%

Some particular strengths of the transaction are (1) collateral that consists of primarily U.S. senior-secured middle-market corporate loans and (2) the adequate diversification of the portfolio of collateral obligations. Some challenges were identified: (1) 10% of the portfolio holdings may consist of First Lien Last Out or Second-Lien Loans, and (2) the underlying collateral portfolio may be insufficient to redeem the Loans in an Event of Default.

As of January 5, 2024, the Borrower is in compliance with all Coverage and Collateral Quality Tests. There were no defaulted obligations registered in the underlying portfolio as of the January 5, 2024, trustee report date.

Morningstar DBRS analyzed the transaction using the Morningstar DBRS CLO Insight Model and its proprietary cash flow engine, which incorporated assumptions regarding principal amortization, amount of interest generated, principal prepayments, default timings, and recovery rates, among other credit considerations referenced in the Morningstar DBRS “Global Methodology for Rating CLOs and Corporate CDOs” (October 22, 2023; https://dbrs.morningstar.com/research/422269).

To assess portfolio credit quality, Morningstar DBRS provides a credit estimate or internal assessment for each nonfinancial corporate obligor in the portfolio not rated by Morningstar DBRS. Credit estimates are not credit ratings; rather, they represent a model-driven default probability for each obligor that is used in assigning credit ratings to a facility.

Morningstar DBRS’ credit ratings on the Loans address the credit risk associated with the identified financial obligations in accordance with the relevant transaction documents. The associated financial obligations include the interest at the Applicable Rate, Commitment Fees, and principal amounts of the Loans (each capitalized term as defined in the Credit Agreement).

Morningstar DBRS’ credit ratings do not address nonpayment risk associated with contractual payment obligations contemplated in the applicable transaction document(s) that are not financial obligations. For example, the ratings on the Loans do not address Excess Interest Amounts, the additional 2% interest payable at the Post-Default Rate, Increased Costs, nor Make-Whole Fees, as these amounts are not paid on specifiable dates and they are contingent liabilities.

Morningstar DBRS’ long-term credit ratings provide opinions on risk of default. Morningstar DBRS considers risk of default to be the risk that an issuer will fail to satisfy the financial obligations in accordance with the terms under which a long-term obligation has been issued. The Morningstar DBRS short-term debt rating scale provides an opinion on the risk that an issuer will not meet its short-term financial obligations in a timely manner.

The transaction assumptions consider Morningstar DBRS’ baseline macroeconomic scenarios for rated sovereign economies, available in its commentary “Baseline Macroeconomic Scenarios For Rated Sovereigns: December 2023 Update,” published on December 19, 2023 (https://dbrs.morningstar.com/research/425506). These baseline macroeconomic scenarios replace Morningstar DBRS’ moderate and adverse COVID-19 pandemic scenarios, which were first published in April 2020.

For more information regarding Morningstar DBRS’ additional adjustment for select industries related to the COVID-19 pandemic, please see its May 18, 2020, commentary, “CLO Risk Exposure to the Coronavirus Disease (COVID-19)” at https://dbrs.morningstar.com/research/361112.

ENVIRONMENTAL, SOCIAL, AND 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 at https://dbrs.morningstar.com/research/427030 (January 23, 2024).

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

The principal methodology applicable to the credit ratings is Global Methodology for Rating CLOs and Corporate CDOs and the CLO Insight Model v1.0.1.0 (October 22, 2023), https://dbrs.morningstar.com/research/422269.

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.

DBRS, Inc.
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The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

-- Interest Rate Stresses for U.S. Structured Finance Transactions (June 9, 2023),
https://dbrs.morningstar.com/research/415687

-- Operational Risk Assessment for CLOs and CDOs (September 14, 2023),
https://dbrs.morningstar.com/research/420608

-- Legal Criteria for U.S. Structured Finance (December 7, 2023),
https://dbrs.morningstar.com/research/425081

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