- We have reviewed Meadowhall Finance in light of an increasingly challenging environment for retail tenants, which will be exacerbated by the credit impact of COVID-19.
- Following our review, we have lowered our ratings on all classes of notes.
- Meadowhall Finance is a 2006-vintage secured U.K. CMBS transaction, which is secured by a single loan backed by Meadowhall Shopping Centre in Sheffield, South Yorkshire.
LONDON (S&P Global Ratings) June 24, 2020--S&P Global Ratings today lowered its credit ratings on all classes of Meadowhall Finance PLC's fixed and floating-rate notes.
Today's downgrades follow our updated review of the transaction's credit and cash flow characteristics. We believe that declines in cash flows from the property, combined with our view of an increasingly challenging environment for retail tenants, has weakened the notes' credit metrics.
Meadowhall Finance is a secured U.K. CMBS transaction that closed in 2006, with notes totaling £1.015 billion, which included £175.0 million in un-issued reserve notes. The single loan is secured on Meadowhall Shopping Centre, one of the U.K.'s largest shopping centers located in Sheffield, South Yorkshire. The center is owned by a joint venture between The British Land Company PLC and Norges Bank Investment Management. The current securitized loan balance is £576.5 million. In our analysis, we have also assumed a full issuance of the class M1 and C1 reserve notes, which currently total £140.2 million.
Major tenants include Debenhams, Marks & Spencer, Primark, Next, Boots, Topshop, Victoria's Secret, H&M Hennes, and Vue Cinema. The top 10 tenants contribute 19.9% of the total contracted rent.
As of the March 31, 2020, annual update, the reported loan-to-value (LTV) ratio was 49.9% (or 62.1% if including the reserve notes), which is based off a March 31, 2020, valuation of £1.15 billion.
Since April 2019, the annual gross passing rent has decreased by 4%, to £79.7 million from £82.9 million, while the estimated rental value has decreased by 16%, to £74.8 million from £89.5 million. As a result, the property is now considered over-rented. The property is 96.1% occupied compared to 98.5% in the prior year. The property's weighted-average unexpired lease term until first break has decreased to 4.9 years from 5.5 years.
At the same time, we have observed across comparable shopping centers a trend in rising operating costs due to increased void costs and landlord contributions to service charges, along with other nonrecoverable costs. We understand the assumed expense level in the most recent valuation of the property reflected approximately 9% of gross income.
In recent years, an increasing number of retailers have suffered financial difficulties, which will likely be exacerbated by the effects of the COVID-19 pandemic in the short to medium term, and there is the risk of increased vacancy levels and diminishing rental levels. However, the risk is somewhat mitigated for Meadowhall Shopping Centre in the longer term by being among the prime shopping centers in the U.K.
Since our last review, our S&P Global Ratings value has declined by 16%, to £924 million from £1.1 billion, due to our higher vacancy and nonrecoverable cost assumption, along with a lower rental income assumption of the property, which we believe are likely to persist over the long term. Therefore, we have reduced the S&P Global Ratings net cash flow (NCF) to £62.3 million from £75.8 million.
We have then applied our 6.4% capitalization (cap) rate against this S&P Global Ratings NCF, which is an increase from the 5.8% previously used, and deducted 5% of purchase costs to arrive at our S&P Global Ratings value.
Loan And Collateral Summary (As Of March 2020):
- Securitized loan balance: £576.5 million
- Securitized LTV ratio: 49.9%
- Securitized loan balance plus the class M1 and C1 reserve notes: £716.6 million
- Securitized loan balance plus the class M1 and C1 reserve notes LTV ratio: 62.1%
- Reported passing rent per annum: £79.7 million
- Vacancy rate: 3.9%
- Market value: £1.15 billion
- Net initial yield: 5.8%
S&P Global Ratings' Key Assumptions:
- S&P Global Ratings vacancy: 7.5%
- S&P Global Ratings expenses: 10.0%
- S&P Global Ratings NCF: £62.3 million
- S&P Global Ratings value: £924.3 million
- S&P Global Ratings cap rate: 6.4%
- Haircut–to-March 2020 market value: 19.9%
- S&P Global ratings LTV ratio (before recovery rate adjustments): 77.5%
Other analytical considerations
We also analyzed the transaction's payment structure and cash flow mechanics. We assessed whether the cash flow from the securitized asset would be sufficient, at the applicable rating, to make timely payments of interest and ultimate repayment of principal by the legal maturity date of the fixed and floating-rate notes, after considering available credit enhancement and allowing for transaction expenses and external liquidity support.
The risk of interest shortfalls is mitigated by a £75 million facility that provides liquidity support to service interest on the notes and scheduled principal repayments on class A, if needed. The amount of the facility available is restricted to 70% of the facility for class B, 45% for class M1, and 10% for class C1. However, interest does not accrue on the reserve tranches, class M1 and C1.
For the April 2020 interest payment date (IPD), cash rental income received for the quarter was £11.8 million. This was below that of prior quarters (approximately £20 million) as a result of COVID-19. To prevent a debt service shortfall for the April quarter, the owners of the joint venture provided top-up funds totaling £4.3 million for the April 2020 IPD.
Our analysis also included a full review of the legal and regulatory risks, operational and administrative risks, and counterparty risks. Our assessment of these risks remains unchanged since closing and is commensurate with the ratings.
In our view, the transaction's credit quality has declined due to operational disruption resulting from the spread of COVID-19. We believe this may continue to negatively affect the cash flows available to the issuer.
Our ratings in this transaction address the timely payment of interest, payable quarterly, and the payment of principal no later than the legal final maturity date in July 2037.
An increasingly challenging environment for retail tenants, which in our view will be exacerbated by the credit impact of COVID-19, is affecting this transaction as shown by the decreasing rental income and increasing costs. We have factored this into our analysis when we calculated our NCF, and also in our cap rate.
The combination of the above factors results in an S&P Global Ratings LTV ratio of 77.5%, which together with transaction-level considerations translates into a 'AA+ (sf)' rating for the class A notes, a 'AA- (sf)' rating for the class B notes, a 'A (sf)' rating for the class M1 notes, and a 'BBB+ (sf)' rating for the class C1 notes.
S&P Global Ratings acknowledges a high degree of uncertainty about the evolution of the coronavirus pandemic. The consensus among health experts is that the pandemic may now be at, or near, its peak in some regions, but will remain a threat until a vaccine or effective treatment is widely available, which may not occur until the second half of 2021. We are using this assumption in assessing the economic and credit implications associated with the pandemic (see our research here: www.spglobal.com/ratings). As the situation evolves, we will update our assumptions and estimates accordingly.
Environmental, social, and governance (ESG) factors relevant to the rating action:
- Health and safety.
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|Primary Credit Analyst:||Edward C Twort, London (44) 20-7176-3992;|
|Secondary Contact:||Mathias Herzog, Frankfurt (49) 69-33-999-112;|
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