KKR is marketing its debut securitization of short-term loans on commercial properties that are being fixed up or converted to a new use.
It follows on the heels of several other private equity firm that have issued commercial real estate collateralized loan obligations over the past year or so, including Blackstone and TPG.
The transaction is one of only three CRE CLOs issued post-crisis with a collateral balance of $1.0 billion or more, the others being BXMT 2017-FL1 ($1.0 billion) and LNCR 2018-CRE1 ($1.1 billion), according to Kroll Bond Rating Agency.
Like Blackstone, KKR is pushing the envelope a bit in term of both the deal’s structure and the collateral. KREF 2018-FL1 will initially be backed by 24 similarly-sized participation interests with an aggregate balance of $1 billion. In its presale report, Kroll notes that this affords results in “meaningfully higher” diversity than the average transaction it has rated over the past 12 months. With the exception of three interests that individually equate to 4% of the transaction balance, the remaining interests each represent 4.2% of the pool.
On the other hand, only three of the loan (12.6% of the portfolio) participations represent a controlling interest; the other 21 loans (87.4%) are non-controlling interests. By comparison, CRE CLOs typically hold whole loans, or at least controlling interests, exclusively. Since the remaining participations of these loans are held by KKR Finance Trust (KREF), a publicly traded real estate investment trust that is a controlled by KKR, “if conflicts of interest arise between [the sponsor] and the note holders during an asset modification or workout, the note holders will not have any control rights to enable them to resolve potential conflicts in their favor,” the presale report states.
And, unusually for a deal from a new issuer, KREF 2018-FL1 also features a two-year reinvestment period that terminates in December 2020. During the reinvestment period, principal proceeds received from the mortgage assets, along with cash contributed by the preferred shareholder, can be used to acquire reinvestment assets. While this could result in a change in the overall credit characteristics of the portfolio, new acquisitions are subject to reinvestment criteria.
Office buildings account for nearly half of the loans, 49.5%, though this can rise to as high as 65% as the result of new acquisitions. Apartments account for the next biggest share, at 41.8%, and reinvestment criteria allow the entire portfolio to consist of this property type. Industrial represents the next largest exposure, at 8.4, followed by mixed-use, at 0.3%.
One of these collateral interests (Cortland Portfolio 10, the largest loan by total committed balance, 4.2% of the pool) is structured as a combination of a mortgage loan and mezzanine loan (a combined loan), with the mortgage and mezzanine loans paid pro rata and cross-defaulted with each other within the transaction structure. Unless otherwise specified, the combined loan is treated as one collateral interest for the purposes of credit analysis and presentation. The initial collateral interests of $1.0 billion have $1.6 billion of associated funded and $0.2 billion unfunded loan participations that are held outside the transaction (collectively, the companion participations), for a total whole loan committed balance of $2.8 billion
The trust loan collateral has a weighted average loan-to-value ratio, as measured by Kroll, of 124, which is “modestly below” the average of nineteen CRE CLO transactions rated by KBRA over the past 12 months of 125.5%,
Kroll also take comfort from the fact that the collateral securing the mortgage loans is the second-highest overall quality among the CRE CLOs it has rated over the past 12 months. “Above-average quality assets tend to perform better in stressed environments,” the presale report states.
