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Rating action

Scope Ratings UK Limited (Scope) has assigned the following ratings to the notes issued by UK Logistics 2024-2 DAC:

Class A Commercial Mortgage Backed Floating Rate Notes, GBP 200,600,000: new rating of AAA_SF
(Reg. S ISIN: XS2945692197, Rule 144A ISIN: XS2945692270)

Class B Commercial Mortgage Backed Floating Rate Notes, GBP 32,700,000: new rating of AA_SF
(Reg. S ISIN: XS2945692353, Rule 144A ISIN: XS2945692510)

Class C Commercial Mortgage Backed Floating Rate Notes, GBP 34,200,000: new rating of A_SF
(Reg. S ISIN: XS2945702509, Rule 144A ISIN: XS2945744097)

Class D Commercial Mortgage Backed Floating Rate Notes, GBP 54,100,000: new rating of BBB-_SF
(Reg. S ISIN: XS2945807787, Rule 144A ISIN: XS2945863426)

Class E Commercial Mortgage Backed Floating Rate Notes, GBP 48,400,000: new rating of BB-_SF
(Reg. S ISIN: XS2945902695, Rule 144A ISIN: XS2945904394)

Class A notes’ rating reflects the timely payment of interest and the ultimate repayment of principal on or before the final maturity date. Class B to E notes’ ratings reflect the ultimate payment of interest and principal on or before the final maturity date and timely payment of interest once the instrument becomes the most senior class of notes outstanding. The ratings assigned to the notes do not address excess SONIA, pro rata extension step-up or exit payment amounts in respect of the notes.

Transaction overview

UK Logistics 2024-2 DAC is a GBP 389.5m CMBS transaction secured by two senior non-cross collateralised and non-cross defaulted commercial real estate loans (named Indurent and Mileway) which are backed by industrial and logistics properties throughout the United Kingdom. Blackstone is the loan sponsor, whereby Bank of America Europe DAC and Morgan Stanley Principal Funding, Inc. the loan sellers. The notes’ legal final maturity date is February 2035, five years after the two underlying loans’ maturity date.

Both the Indurent and Mileway loans are interest-only first-lien senior mortgage loans with maturity in February 2030, featuring GBP 225.2m and GBP 164.2m amounts, respectively, corresponding to loan-to-value ratios of 60.7% and 62.8% based on the portfolio market values which assume that both sets of properties are sold as a single lot and include a 5% premium to the aggregate market value of the individual properties. Indurent and Mileway loans’ collateral consists of 39 and 24 predominantly logistics assets, respectively, which are managed by affiliates of the sponsor. The property portfolios exhibit an occupancy level of around 83% and 92%, respectively.

The CMBS includes five classes of rated notes denominated in GBP and paying a floating rate indexed to SONIA, as well as an unrated issuer loan provided by Morgan Stanley Principal Funding, Inc. The CMBS embeds two distinct waterfalls: i) interest proceeds, paid sequentially; and ii) principal proceeds, paid on a sequential basis for cash trap amounts and with respect to loans affected by a loan failure event, on a reverse-sequential order basis for voluntary prepayments, and on a pro-rata basis in all other cases. At closing, the issuer benefits from a liquidity facility provided by Bank of America N.A., London Branch, and which can be drawn to cover class A to C notes’ interest payment shortfalls, issuer loan’s interest shortfall, issuer's expenses shortfalls and property protection shortfalls. The liquidity facility is sized at GBP 19.0m notional, i.e. 6.7% of class A to C notes’ and the corresponding issuer loan part’s aggregated initial notional.

Rating rationale

The ratings reflect: i) the transaction’s legal and financial structure; ii) the quality of the underlying collateral in the context of the United Kingdom’s macroeconomic environment; iii) the experience and incentives of the transaction’s sponsor, Blackstone, and its affiliated asset managers, Indurent and Mileway.

The rated notes benefit mainly from: i) Blackstone and affiliates’ robust track record and extensive experience in managing industrial and logistics property portfolios; ii) Indurent loan’s diversified property portfolio and granular tenant base as well as Mileway loan’s higher occupancy rate; iii) the strong tailwinds for the logistics sector combined with positive rent reversion. The rated notes are negatively impacted mainly by: i) the weak liability structure; ii) Indurent loan’s initial tenant churn; and iii) the risk associated with Mileway loan’s concentrated tenant base.

The transaction is exposed to the following key counterparties: i) Blackstone as sponsor and ultimate owner of the entities paying the ongoing issuer costs, and Mileway and Indurent as asset managers; ii) CBRE as primary and special servicer; iii) U.S. Bank Europe DAC as issuer account bank, agent bank and principal paying agent; iv) an eligible counterparty as hedge counterparty; and v) Bank of America N.A., London Branch as liquidity facility provider. Counterparty risk is mitigated by the credit quality of the counterparties, structural mechanisms such as replacement rating triggers. Scope has assessed the credit quality of the counterparties considering public information and its own ratings or assessments where available.

Key rating drivers

Experienced sponsor and affiliated asset managers (positive)⁴. Blackstone is a leading real estate private equity firm and the main sponsor of European logistics CMBS. Mileway and Indurent, founded by Blackstone, have a robust track record and extensive experience in managing logistics and industrial properties and benefitting from rent reversion.

Diversified portfolio of quality properties with good locations (positive)^1,2. The secured collateral consists of 63 properties in total, spread throughout the UK. The properties are well located close to at least one of the main UK logistic corridors or to regional centrals. Blackstone is planning to spend capex to improve all EPCs to at least B from an average C rating (ESG factor).

Strong tailwinds for the logistics sector and positive rent reversion (positive)³. The logistics sector benefits greatly from a sustained increased warehouse demand because of the secular change in e-commerce. The portfolio is currently 21% under-rented compared to the estimated rental value determined by the valuer, predominantly driven by leases signed before 2022.^1,2 (ESG factor)

Strong main tenants’ covenants (positive)¹. The top 10 tenants, representing 31% of the gross rental income (GRI) and 46% of gross leasable area, exhibit a long weighted average unexpired lease term until break option (WAULB) of 5.6 years, which is longer than the underlying loans’ tenor.

Weak liability structure (negative)⁴. The transaction securitises two non-cross-defaulted, non-cross-collateralised loans with pro-rata allocation of principal proceeds to the loans’ shares of each note in most cases. In a scenario where one loan defaults, only the affected loan’s principal proceeds will be distributed sequentially. This feature makes the structure weaker compared to multi-loan European CMBS transactions that switch to fully sequential upon one loan being affected. The transaction also features limited to no excess spread (ESG factor).

Indurent loan’s high tenant churn to December 2025 (negative)¹. 17% of the GRI representing 16% of the space is set to expire over the period. It is partially mitigated by its granular tenancy of more than 200 individual tenants and advanced discussions on 18 units representing 7% of the space expected to add a further GBP 1.2m in rental income and increase the WAULB.

Mileway loan’s high tenant concentration (negative)¹. As at 31 July 2024 Mileway loan’s property portfolio comprised 32 tenants across 24 properties. Seven tenants each accounted for more than 5% of the GRI, with the top 5 tenants totaling 44% of the GRI.

Weak loan covenants (negative)⁵. The Mileway and Indurent loans do not feature financial covenants prior to a permitted change of control. Furthermore, the cash trap mechanism allows for certain costs to be deduced from the amount trapped (ESG factor).

One or more key drivers of the credit rating action are considered an ESG factor.

Rating-change drivers

Positive. Lease roll-over management and rental income improvement: a successful management of the lease roll-over and rent reviews may positively impact the ratings.

Positive. Strong asset disposal strategy: an asset disposal strategy that maintains or improves portfolio metrics such as debt yield may improve the ratings.

Negative. Underperformance in reletting: The ratings may be negatively impacted if properties remain vacant for a longer period or if the managers fail to improve the portfolios’ rental income.

Negative. Liquidity facility commitment of a year: the ratings of the class A to C notes, which are covered by the liquidity facility, may be impacted if the commitment is not renewed annually.

Quantitative analysis and assumptions

Scope derived the expected loss, expected weighted average life and default probability of the rated instruments by using rating-scenario dependent assumptions.

The cash flow modelling considers contracted rental income, and, after lease expiries or tenants’ default followed by a void period, an estimated rental income, which is the then-current market rent reduced by haircuts. Tenant solvency in each period is determined by a Monte Carlo simulation which factors in the tenants’ individual credit quality. The cost assumptions take into account characteristics of the properties and reflect void costs as well as maintenance capex. The calculated value of each property equals the capitalised net cash flow at an appropriate capitalisation rate using an income valuation approach. The recovery proceeds in case of a default equal to the modelled value of the property portfolio at the end of the foreclosure period net of liquidation costs.

The cash flow analysis also considers the transaction’s liability structure, the interest payable on the notes and the liquidity facility.

Scope assessed the tenants’ credit quality based on public ratings where available and assumed BB- credit quality for unrated tenants. The tenants’ assumed credit quality ranges from BB- to AA-, with an BB- equivalent weighted average credit quality.

Scope incorporated the portfolio’s estimated rental value determined by the valuer and considered a 10% structural vacancy limiting rental income and property value in the long term. The agency did not model the loans’ cash trap covenants.

Scope’s cost assumptions factor in some maintenance capex in addition to void costs otherwise the leases are considered triple net and the ongoing issuer costs letter to cover senior costs.

Sensitivity analysis

Scope tested the resilience of the assigned ratings against deviations in certain input parameters. This analysis has the sole purpose of illustrating the sensitivity of the credit ratings to input assumptions and is not indicative of expected or likely scenarios. The following figure shows how the results for the rated notes change compared to the assigned ratings for each scenario.

• 20% higher rental value haircut:
  i) Class A: 0 notches, ii) Class B: 0 notches, iii) Class C: 0 notches, iv) Class D: 0 notches, v) Class E: 0 notches.
   
• 20% structural vacancy:
  i) Class A: minus one notch, ii) Class B: minus one notch, iii) Class C: 0 notches, iv) Class D: minus one notch, v) Class E: minus one notch.
   
• 20% higher capitalisation rates:
  i) Class A: minus two notches, ii) Class B: minus one notch, iii) Class C: 0 notches, iv) Class D: 0 notches, v) Class E: 0 notches.
   
• All tenants’ credit quality three notches lower:
  i) Class A: 0 notches, ii) Class B: 0 notches, iii) Class C: 0 notches, iv) Class D: 0 notches, v) Class E: 0 notches.

Rating driver references
1. Rental schedule provided by the Issuer (Confidential)
2. Valuation report (Confidential)
3. Scope’s research 
4. Offering Circular (Confidential)
5. Senior facility agreements (Confidential)

Stress testing
Stress testing was considered in the quantitative analysis by considering scenarios that stress factors, like rental value haircuts and capitalisation rates, contributing to sensitivity of Credit Ratings and consider the likelihood of severe collateral losses or impaired cash flows.

Cash flow analysis
Scope Ratings performed a cash flow analysis of the transaction incorporating relevant asset assumptions and taking into account the transaction’s main structural features, such as the instruments’ priority of payments, the instruments’ size and coupons. The outcome of the analysis is an expected loss rate and an expected weighted average life for the instruments based on the generated cash flows.

Methodology
The methodologies used for these Credit Ratings, (CRE Loan and CMBS Rating Methodology, 3 November 2023; General Structured Finance Rating Methodology, 6 March 2024; Counterparty Risk Methodology, 10 July 2024), are available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions - Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/uk-regulation. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.

Solicitation, key sources and quality of information
The Rated Entity and/or its Related Third Parties participated in the Credit Rating process.
The following substantially material sources of information were used to prepare the Credit Ratings: public domain, the Rated Entity, the Rated Entities’ Related Third Parties, third parties and Scope Ratings’ internal sources.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instruments to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Scope Ratings has received a third-party asset due diligence assessment/asset audit. The external due diligence/asset audit assessment was considered when preparing the Credit Ratings and it has no impact on the Credit Ratings.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and the principal grounds on which the Credit Ratings are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings are issued by Scope Ratings UK Limited at 52 Grosvenor Gardens, London, United Kingdom, SW1W 0AU, Tel +44 20 7824 5180. The Credit Ratings are EU-endorsed.
Lead analyst: Adam Plajner, Associate Director
Person responsible for approval of the Credit Ratings: Benoit Vasseur, Managing Director
The final Credit Ratings were first released by Scope Ratings on 5 December 2024.

Potential conflicts
See www.scoperatings.com under Governance & Policies/Regulatory for a list of potential conflicts of interest disclosures related to the issuance of Credit Ratings, as well as a list of Ancillary Services and certain non-Credit Rating Agency services provided to Rated Entities and/or Related Third Parties. A member of the Supervisory Board of Scope SE & Co. KGaA has a significant relationship with Bank of America Europe DAC, a related third party to this transaction.

*Editorial note: The text was amended on 6 December to correct a spelling mistake. 


Conditions of use / exclusion of liability
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