The rating actions are as follows:

Class A (ISIN IT0005356040), EUR 175,000,000: assigned a final rating of BBB-_SF

Class B (ISIN IT0005356057), EUR 30,000,000: assigned a final rating of B+_SF

Class J (ISIN IT0005356065), EUR 10,000,000: not rated

The transaction is a static cash securitisation of an Italian NPL portfolio worth around EUR 964m by gross book value. The portfolio was originated by Banca Carige S.p.A. and Banca del Monte di Lucca S.p.A.

The pool is composed of both secured (39.4%) and unsecured (60.6%) loans; the proportions indicated are based on Scope’s adjusted pool balance, as explained in the ‘quantitative analysis and key assumptions’ section below. The loans were extended to companies (86.8%) and individuals (13.2%). Secured loans are backed by residential and non-residential properties (40.6% and 59.4% of the property value, respectively) with a high concentration in non-metropolitan areas located in the north of Italy (53.6%) and specifically in the metropolitan area of Genoa (19.9%). The issuer acquired the portfolio as at the transfer date (4 December 2018), but is entitled to all collections received from the cut-off date (31 December 2017).

The capital structure comprises three classes of notes with fully sequential principal amortisation: senior class A, mezzanine class B, and junior class J. Class B interest payments ranking senior to class A principal are capped at 7%, while the residual interest component is fully deferred to the class A principal repayment. The senior component of class B interest will be subordinated to the class A principal repayment if the cumulative amount of net collections falls at least 10% below the level indicated in the servicer business plan or if the present value cumulative profitability ratio falls below 90%. Class J principal and interest are subordinated to the repayment of the senior and mezzanine notes.

The class A and class B notes will bear interest based on six-month Euribor, plus a margin of 0.65% and 7.0%, respectively. The six-month Euribor rate applicable to the class A notes will have a cap strike from closing of 0.3%.

Asset information reflects aggregation by loans and Scope’s pool adjustments as highlighted in the section ‘quantitative analysis and key assumptions’.

Rating rationale

The ratings are primarily driven by the expected recovery amounts and timing of collections from the NPL portfolio. The recovery amounts and timing assumptions consider the portfolio’s characteristics as well as Scope’s economic outlook for Italy and assessment of the special servicers’ capabilities. The ratings are supported by the structural protection provided to the notes; the absence of equity leakage provisions; liquidity protection; and an interest rate hedging agreement.

The ratings also address exposures to the key transaction counterparties: Credito Fondiario S.p.A. as master servicer and special servicer; Italfondiario S.p.A. as special servicer; Securitisation Services S.p.A. as back-up master servicer, noteholders’ representative, calculation agent and corporate servicer; BNP Paribas Securities Services as account bank, paying agent, cash manager and agent bank; Intesa Sanpaolo S.p.A. as collection account bank, Zenith Service S.p.A. as monitoring agent; and JP Morgan AG as the interest rate cap provider. Scope considered counterparty replacement triggers and relied on publicly available ratings and Scope’s ratings of Intesa Sanpaolo S.p.A. (A/S-1) and BNP Paribas SA (AA-/S-1+), the parent of BNP Paribas Securities Services.

Key rating drivers

Geographical concentration (positive). The portfolio is concentrated in the non-metropolitan areas of northern Italy and the metropolitan area of Genoa. These areas benefit from the most dynamic economic conditions and the most efficient tribunals in the country.

Liquidity protection (positive). A cash reserve equal to 4.0% of the class A notes provides liquidity protection to senior noteholders, covering senior expenses and interest on class A notes for about four payment dates, as of closing.

Hedging structure (positive). Interest rate risk is mitigated by a hedging structure which caps the six-month Euribor rate at 0.3% over a pre-defined notional balance. However, the swap notional schedule does not fully hedge the expected amortisation of the class A.

Servicing fee haircuts (positive). The servicing fees will be reduced if the special servicers fail to meet at least 100% of the business plan targets regarding cumulative net collections or profits on closed positions. This haircut mechanism benefits the class B, since unlike peer transactions the servicing fees do not become pro rata to the class B. In addition, payment of part of the base fees and performance fees will be delayed if the servicers perform above or below business plan targets. The delayed portion would be paid after a rolling period of two years and its seniority in the priority of payments would depend on the servicers’ performance at that point in time.

Borrower concentration (negative). The borrower concentration in the portfolio is above average compared to peer transactions rated by Scope. The 10 and 100 largest borrower exposures account for 22.6% and 45.5% of gross book value. This may expose the transaction to increased performance volatility, depending on the recoveries from those few large borrowers.

Collateral liquidity risk (negative). The transaction is exposed to a relatively large share of non-residential properties whose liquidity discounts can be material upon liquidation.
High share of borrowers in bankruptcy or initial proceedings (negative). Almost 72.7% of the portfolio’s gross book value corresponds to loans in bankruptcy and 68.5% of the senior secured loans are in initial proceedings. Compared with non-bankruptcy proceedings, bankruptcies typically result in lower recoveries and take longer to be resolved.

Low portfolio credit quality (negative). A large share of the portfolio has low-credit-quality features compared to peer transactions rated by Scope. This is due to the portfolio’s relatively large share of SMEs, corporates and unsecured loans as well as the lower share of residential assets. All factors have historically led to lower recovery rates on average.

Rating-change drivers

Legal costs (upside). Scope factored in legal expenses for collections in line with the average for peer transactions. A decrease in legal expenses could positively affect the ratings.

Servicer outperformance (upside). Consistent servicer outperformance in terms of recovery timing and the total amount of collections could positively impact the ratings. Portfolio collections will be completed over a weighted average period of 3.7 years, according to the servicer business plan. This is about 24 months faster than the recovery weighted timing vector applied in Scope’s analysis.

Servicer underperformance (downside). Servicer performance which falls short of Scope’s base case collection amounts and timing assumptions could negatively impact the ratings.

Fragile economic growth (downside). The trajectory of Italy’s public debt is of concern given its weak medium-term growth potential of 0.75% alongside the new government’s plans to reverse reforms, raise spending and cut taxes.

Quantitative analysis and key assumptions

Scope’s cash flow analysis considered the transaction’s structural features to calculate each tranche’s expected loss and weighted average life. As the first step, Scope analysed the assets to produce a rating-conditional cash flow projection of gross recoveries for the defaulted loans.

Scope performed a specific analysis for recoveries, using different approaches for secured and unsecured exposures. For secured exposures, collections were based mostly on the latest property appraisal values, which were stressed to account for liquidity and market value risks, while recovery timing assumptions were derived using line-by-line asset information detailing the type of legal proceeding, the court issuing the proceeding, and the stage of the proceeding as of the cut-off date. For unsecured exposures, we used historical line-by-line market-wide recovery data on defaulted loans between 2000 and 2017 and considered the special servicers’ capabilities when calibrating lifetime recoveries, also considering that unsecured borrowers were classified as defaulted for a weighted average of 4.2 years as of the 31 December 2017 cut-off date.

Scope adjusted the pool’s gross book value using information on collections and sold properties since the 31 December 2017 cut-off date. The analysis excluded portfolio loans assumed by Scope to be closed, based on collections already received and cash-in-court to be received. Collateral connected with these positions was also removed.

The adjustments have reduced the portfolio’s gross book value from EUR 964m to EUR 916.3m. Collections received since the cut-off date are assumed to be cash available at closing, while cash-in-court is assumed to be received no earlier than one year after the closing date.

For the class A notes analysis, Scope assumed a gross recovery rate of 30.1% over a weighted average life of 5.7 years. By segment, Scope assumed a gross recovery rate of 54.8% for the secured portfolio and 14.1% for the unsecured portfolio. Scope has applied an average combined security value haircut of 34.3%, which consists of i) an average fire-sale discount (including valuation-type haircuts) of 31.2% to security valuations, reflecting liquidity or marketability risks; and ii) property price decline stresses (4.5% on average), reflecting Scope’s view of downside market volatility risk. Scope factored in legal expenses of 9% over gross collections, in line with the average assumption for peer transactions, as well as the servicer fee structure. Scope also took into account the cost of the interest rate cap structure.

For the class B notes analysis, Scope assumed a gross recovery rate of 33.9% over a weighted average life of 5.1 years. By portfolio segment, Scope has assumed a gross recovery rate of 61.8% and 15.8% for the secured and unsecured portfolios, respectively.

Scope captured single-asset exposure risks by applying to the 10 largest borrowers a recovery rate haircut of 25% in the analysis of class A and 5% in the analysis of class B.

Stress testing

Stress testing was performed by applying rating-adjusted recovery rate assumptions.

Cash flow analysis

Scope analysed the cash flow vectors from the assets and took into account the transaction’s main structural features, such as the notes’ priorities of payment, note size and coupons, hedging and senior costs as well as fixed and performance-based servicing fees. The analysis resulted in an expected loss and expected weighted average life for the notes.

Rating sensitivity

Scope tested the resilience of the ratings against deviations from the main input assumptions: recovery-rate level and recovery timing. This analysis has the sole purpose of illustrating the sensitivity of the rating to input assumptions and is not indicative of expected or likely scenarios.

For the class A, the following shows how the results change compared to the assigned credit rating in the event of:

• a decrease in secured and unsecured recovery rates by 10%, negative: one notch;
• an increase in the recovery lag by one year, negative: one notch.

For the class B, the following shows how the results change compared to the assigned credit rating in the event of:

• a decrease in secured and unsecured recovery rates by 10%, negative: one notch;
• an increase in the recovery lag by one year, no impact: zero notches.

Methodology
The methodology applied for this rating is the Non-Performing Loan ABS Rating Methodology. Scope also applied the principles contained in the Methodology for Counterparty Risk in Structured Finance. All documents are available on www.scoperatings.com.
Historical default rates of the entities rated by Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definition of default as well as definitions of rating notations can be found in Scope’s public credit rating methodologies on www.scoperatings.com.
Scope analysts are available to discuss all the details of the rating analysis and the risks to which this transaction is exposed.

Solicitation, key sources and quality of information
The rated entity and its agents participated in the rating process.
The following substantially material sources of information were used to prepare the credit rating: public domain, the rated entity, the rated entities’ agents, third parties and Scope internal sources.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Scope Ratings GmbH has relied on a third-party asset audit. The external asset audit has no impact on the credit rating.
Prior to the issuance of the ratings, the rated entity was given the opportunity to review the ratings and the principal grounds on which it is based. Following that review, the ratings were not amended before being issued.

Regulatory disclosures
This credit ratings are issued by Scope Ratings GmbH.
Lead analyst Martin Hartmann, Associate Director.
Person responsible for approval of the ratings: Guillaume Jolivet, Managing Director .
The ratings were first released by Scope on 17.12.2018.
The ratings concern a financial instrument, which has been rated by Scope for the first time.

Potential conflicts
Please see www.scoperatings.com for a list of potential conflicts of interest related to the issuance of credit ratings.

Conditions of use / exclusion of liability
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