ABS case study: Highways 2021-1

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Deal background
Highways 2021-1 is a Commercial Mortgage Backed Security (CMBS) financing the acquisition of eight motorway service area properties (MSAs) by Blackstone and Arjun Infrastructure Partners. The assets are fully let to one single tenant, Welcome Break, the second largest MSA operator in the UK.

Credit considerations
The third-party valuation of the property portfolio was £466.5m, while the loan securitised had a value of £264.5m. This represents a loan-to-value (LTV) of 56.7%, which is considered fairly conservative. The portfolio is fully occupied, and the tenant reported stable financial metrics in the five years prior to the pandemic, with an EBITDAR margin of around 13% and an EBITDAR/rent cover ratio of around 3x. Sales in H1 2020 dropped 37% year-on-year but have since rebounded, with EBITDAR in H1 2021 being 99% of that in H1 2019. Motorway traffic volume data in H2 2021 was also in line with 2019 levels, hence we believed the portfolio would perform strongly, in line with pre-pandemic figures.

ESG analysis
Our ABS ESG score is a weighted product of two scores – we score both the sponsor of the deal and the deal itself, but we change the weighting of these two elements on a case-by-case basis depending on the strength of the link between the sponsor and the deal. In this case, we assess Blackstone and Arjun as the sponsors, and we incorporate the ESG impact of the tenant’s activities in the deal score.

The sponsors
The sponsors can influence certain aspects of the CMBS, such as managing capital expenditure on the properties, making property disposal decisions (subject to release premiums) and triggering maturity extension options (subject to extension criteria). The influence of the sponsors, however, is limited by various criteria and triggers, hence we assigned the sponsor score a 30% weighting in the overall ESG score. Blackstone and Arjun both have formal ESG policies, they are both signatories to the United Nations Principles for Responsible Investment (UNPRI), and they both support the goals of the Paris Agreement and the Task Force on Climate-Related Financial Disclosures (TCFD).

The deal

The average Energy Performance Certificate (EPC) label for the properties is D, which we consider average in the UK. None of the properties are certified by BREEAM, LEED or any other nationally recognised real estate certification. The carbon intensity reported is 29 tCO2e per £m revenue. Flood risk is judged to be very low for all properties.

The tenant, Welcome Break, operates a franchise model, offering five primary categories of products and services across its estate: catering; amenity retail and convenience food; forecourt and lodging; fuel; and amusements. Catering and lodging are essential to long-distance drivers, who have been proven to be critical to UK supply chains. Though providing fuel is seen as negative to the environment, we note that the tenant has been supportive of the transition to electric vehicles, with EV charging stations available in all but one property. However, we noted that 12% of its gross profit before wages comes from ‘amusements’, which essentially refers to arcade gaming and gambling facilities. These target commercial drivers who are required by law to stop at least 45 minutes every 4.5 hours. Gambling has a negative societal impact and it is a sector on the exclusion list for our sustainable funds.

Bondholder rights are protected in the transaction documentation, with a liquidity reserve in place, release premiums of at least 115% in the case of property disposals, and a 12-month make-whole if the loan is prepaid.

We assigned an overall ESG score of 56 for the deal. While this score is higher than the minimum threshold for our sustainable funds, we excluded the deal from our sustainable funds due to gambling contributing more than 5% of profits in the underlying properties.

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