Moody’s Investors Service noted that the Chapter 11 filing for Extended Stay America is unusual because the disintermediation of the trust structure has been made by individual certificate holders directly pitching their economic interests to a bankruptcy court.

This could have unknown consequences if imitated in other distressed securitized transactions.

In the Extended Stay America bankruptcy case, a self-selected group of largely unidentified certificateholders of the $4.1 billion securitized loan trust (claiming to be 25% of all certificateholders) partnered with the debtor to produce a “term sheet” reorganization plan.

The proposed plan throws out the cash waterfall and procedures of the Trust and Servicing Agreement (TSA), the intricately detailed game plan governing all CMBS securitization trusts. Instead, the ad hoc group urged the court to create a new $1.8 billion first mortgage benefiting only the top three certificate classes, a second mortgage for the next class, and an equity-for-debt swap for just some of the remaining classes.

The ad hoc group did not consult the trustee or the servicer, who are normally — and legally — the sole voices of the securitization trust.

“Structured finance in its essence is the tiering of risk and the concomitant management of the inherent economic conflicts among the various loss pieces,” explained Moody’s analysts. “Those higher in the capital stack naturally want different things from those not so privileged. However, these conflicts are fully understood when the deal is struck. And there are chiseled procedures in the principal documents to pacify, resolve, bury or simply live with these differences."

The rating agency added that the special servicer operates under a “servicing standard” that mandates prudent actions to maximize the recovery on a net present value for all certificateholders, not just some.

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