Rationale

S&P Global Ratings' rankings on Quantum Servicing Corp. (Quantum) are AVERAGE as a small-balance commercial loan primary and special servicer. On Sept. 5, 2019, we affirmed the rankings (please see "Quantum Servicing Corp. AVERAGE Small-Balance Commercial Loan Primary And Special Servicer Rnkgs Afrmd; Outlooks Stable," published Sept. 5, 2019). The outlooks are stable.

Our rankings reflect Quantum's:

• Effective policies and procedures;
• Robust data reporting, tracking, and management;
• Good systems to manage and monitor servicing tasks;
• Performing portfolio metrics which are in line with other similarly ranked peers;
• Lack of independent, formalized internal control environment, although they have recently engaged a third-party audit firm;
• Dormant special servicing activity; and
• Lack of foreclosure and real estate-owned management.

Quantum completed a bulk sale of its remaining special servicing assets since our last visit. While there are no active assets requiring servicing, Quantum has continued to maintain the processes and systems required to manage a small-balance special servicing portfolio.

Since our prior review (see "Servicer Evaluation: Quantum Servicing Corp.," published April 21, 2017), the following changes and/or developments have occurred:

• The company was included in the sale of the investment and asset management businesses (Rialto IAM) of Rialto Management Group LLC (RMG) to investment funds managed by Stone Point Capital (Stone Point) and certain RMG senior personnel;
• RMG is on target to complete its plan to transition from Lennar Corp.'s (Lennar) supported services prior to the expiration of the transitional services agreement;
• The special servicing portfolio, consisting of distressed whole loans, was liquidated;
• Staff was reduced by 50%; and
• Account management responsibilities were transferred to Rialto Capital Advisors LLC (Rialto), the special servicing entity owned by RMG.

The outlooks are stable. While ownership of the company transferred from Lennar to funds controlled by Stone Point and certain RMG senior personnel, both RMG and Quantum continue to be led by the existing management team. Additionally, RMG has operated as a standalone business since 2010. At the same time, Lennar has historically provided internal audits, disaster recovery, and backup support, as well as shared office space, phones, and other infrastructure to both RMG and Quantum. As part of the sale, Lennar entered into a transition services agreement to provide these services for a period to allow RMG to implement the replacements, which will also be utilized by Quantum. Management states that RMG has either already implemented or is on track to implement the solutions to replace Lennar's services in advance of the expiration of the agreement.

In addition to conducting an on-site meeting with servicing management, our review includes current and historical Servicer Evaluation Analytical Methodology data through Dec. 31, 2018, as well as other supporting documentation provided by the company.

Profile

• Quantum was formed in June 2005 primarily to service nonperforming residential mortgage loans, which they no longer service.
• In 2010, Rialto Capital, a wholly owned subsidiary of Lennar, retained Quantum to service a Rialto/Federal Deposit Insurance Corp. (FDIC) transaction consisting of approximately 5,500 performing and nonperforming commercial loans. Rialto subsequently acquired full ownership of Quantum on Jan. 1, 2014.
• On Nov. 30, 2018, Lennar sold its Rialto IAM business to investment funds managed by Stone Point and certain RMG senior personnel.
• As of Dec. 31, 2018, Quantum's nine-member staff managed approximately $940 million in primary servicing assets with no special servicing inventory.

Table 1

Management And Organization

The management and organization subranking is ABOVE AVERAGE for both small-balance commercial primary and special servicing.

Organizational structure, staff, and turnover 

Quantum has seven staff members, a vice president and a senior vice president; the latter two report to the vice president of loan servicing at Rialto. Quantum benefits from this access to management and some shared services from Rialto. Functions are split among teams of two, except licensing, which is handled by a single person. Each team has backup associates who are fully trained and able to perform the functions of the team they support. This cross training has been an ongoing initiative of Quantum's during the last few years in conjunction with the downsizing of the organization. Management feels this initiative creates potential managers and leaders who are in place to handle future growth.

While experienced, Quantum's management team and staff exhibit below-average levels of industry experience and tenure. Turnover levels are much higher than peer averages and is a result of the reduction in force associated with the diminishing portfolio (see tables 1 and 2).

Table 2

Training 

Quantum does not have a dedicated training group. Quantum focuses on on-the-job training, peer shadowing, and enterprise-wide training provided by Rialto.

While Quantum has reduced staff, it has maintained the policy and processes in place for training, in addition to its cross-training initiative. Newly hired employees go through a two-week training and orientation program. As part of the on-the-job training, new employees complete skills practice exercises, system training, and a review of Quantum's policies and procedures. New hires have a daily touch point meeting with their manager during their first week and a skills assessment at the end of each week of orientation.

Systems and technology 

We believe Quantum has effective technology to meet its primary and special servicing requirements. It continues to leverage Lennar's technology support and infrastructure as outlined in the transitional services agreement between Lennar and RMG, but is on track to complete the transition by the beginning of the fourth quarter of 2019. RMG is in the process of establishing its own platform, which will also be used by Quantum. To that end, RMG hired a director of IT infrastructure and security in March 2019 who is responsible for the buildout and migration of the platform. Quantum has indicated that the timeline for all related IT projects is being met and they see no issues with completing the migration in advance of the expiration of the transitional services agreement. In addition to the core systems and IT infrastructure, Rialto's transition plan includes the development and implementation of security policies, training, and disaster recovery.

Servicing system applications 

Quantum uses RCAMS as its main servicing platform. RCAMS is a proprietary system developed for Rialto. Functionality within the system that contribute to staff efficiency and risk control include:

• The ability to attach documents within the servicing platform;
• Automatically uploaded data points at the time of boarding without an interfacing tool;
• The ability to pre-board data for use by asset managers pending comprehensive boarding;
• Automated amortization schedules upon boarding and loan restructures;
• The ability to apply funds received to more than one installment;
• Management of assets at a relationship level, which provides greater visibility to all loans and collateral;
• System-generated escrow analysis; and
• Consolidation of property tax information into a single module.

In addition to RCAMS, Quantum uses dialer and workflow tools to support operational processes. The business systems development team, which now reports through Rialto rather than Quantum, provides administrative support to these third-party systems. Quantum also developed a suite of applications (Q-Tools) that utilize data from multiple sources to report, track, and trigger automated functions. These applications include:

• A dashboard application for users to select specific metrics for desktop display (drilldown functionality is embedded to access details for these metrics).
• A reporting application for users to access "canned" reports or build ad hoc reports. Reports can be run, scheduled, and set for delivery via an email link or attachment. Controls are embedded within the tool so no report can be sent to an email address outside the company.
• An application to import data from Microsoft Excel spreadsheets to link to existing data tables. Once linked, full-suite functionality (such as event triggers and reporting) is available for this data.
• A workflow management tool to monitor and track the covenants for mezzanine, B-note, and floating-rate loans, which Quantum services on behalf of Rialto.

Business continuity and disaster recovery 

Quantum has well-designed data backup routines and disaster-recovery preparedness through its services agreement with Lennar, which will remain in effect through November 2019. Disaster recovery and business continuity are included in the overall technology plan.

Lennar has data centers in Miami and Las Vegas. The data centers are backed up daily to disk, archived to tape, and sent monthly to Iron Mountain via transport lockboxes for off-site storage. Quantum's key systems, including RCAMS and its dialer system are hosted in the cloud. Lennar performs backup of RCAMS four times a day to a mirrored backup site in Santa Clara, Calif. In the event of a failure, the browser address would be updated, and users would automatically begin working through the backup system. Virtual private network (VPN) access would be used in the event employees had to work remotely. In addition to remote access, Lennar's geographically dispersed locations in Atlanta, New York, Tampa, and Miami provide additional backup options.

Business continuity plans are comprehensive and well documented. Disaster recovery plans are reviewed and tested annually. The last test was performed by Lennar May 21-24, 2019, for certain RMG-relevant financial platforms. Disaster recovery tests are being revised in conjunction with the development of the RMG platform with testing planned for 2020.

Cybersecurity 

Currently, Lennar manages the information systems infrastructure and security for Quantum at an enterprise level. As with business continuity and disaster recovery, Quantum will leverage the RMG cybersecurity platform after its transition from the Lennar infrastructure. Lennar has a comprehensive strategic plan, which includes detailed tasks for managing risk governance, confidentiality, data integrity, and threats and vulnerabilities, along with a framework for operational reliability.

Lennar's threat and vulnerability management strategy includes annual intrusion testing, daily malware and virus definition updates, and software to analyze and normalize data to identify security threats. A third party facilitates annual tabletop-incident response exercises to test the escalation, notification, logging, review, and analysis of response performance. Quantum's most recent third-party penetration test performed in November 2018 did not identify any material issues.

To protect the confidentiality of data, the employee system uses "least privilege" access to limit data on a need-to-know basis. User entitlement reviews are performed annually, and each system owner certifies users on a quarterly basis. Additionally, all laptops and workstations are equipped with a built-in encryption tool. Lennar's information systems security strategy includes security at the perimeter, as well as internal security controls and technologies. Firewalls, an intrusion-detection module, encryption, an email gateway, and security information and event management software provide protection from cyberattacks.

Internal controls 

Quantum has a limited risk management system in place. While management performs oversight reviews of asset management activities, system controls are in place, and annual Regulation AB (Reg AB) reviews are completed, there are no compliance or quality control reviews performed. Quantum relies on a staff member to perform its internal audit, which is not unusual for a company of Quantum's size but is considered a limiting ranking factor. At Quantum's current scale, we feel the controls are adequate. Any changes in portfolio size or complexity would require a review of the current control process in place to ensure they are appropriate to identify and control risk.

Policies and procedures 

Quantum's commercial servicing policies and procedures manual adequately covers all servicing activities. Policies and procedures are clear and detailed, including change logs, definitions, and process maps. The manual addresses specific processes by outlining the responsible departments, purpose, and specific action steps to accomplish tasks.

Policies and procedures are reviewed annually and approved by the department vice president and vice president of loan servicing. Each process is assigned an owner who is responsible for tracking and updating process changes. The manual is housed on a shared network drive for easy access by employees.

We believe Quantum's process for updating its policies and procedures is adequate.

Quality assurance 

With the reduction in staff size, there is no longer a portfolio management team acting as a first line of defense for asset management. The vice presidents, supported by the analyst team, now perform the quality assurance reviews, which include:

• Portfolio surveillance, which includes reporting and review of call statistics, portfolio delinquency, and workouts.
• Loan-level surveillance, including timing and quality of customer contact attempts, status of account notes review, and validation of data points within RCAMS.
• Review of asset manager performance, including pipeline reviews and quality-assurance call audits (10 per asset manager per month).

Compliance and quality control 

Quantum does not have compliance or quality control teams. Controls embedded into RCAMS include automatic date and time stamps for journal comments, the ability to view any before-and-after loan term changes, and unique identification numbers assigned for each cash receipt for posting audits.

Internal and external audits 

Quantum's internal audit is performed by a Quantum staff member. This function is housed within the line of business and is therefore not independent from operations, which is what we would expect to ensure segregation of reporting between the auditors and the subjects of their audits. Quantum states that all main functions are reviewed every year so it does not have an audit calendar. While a review of the 2018 report showed the areas covered to be comprehensive of the operational processes, the content and detail of the audit process within the report was minimal. There were no findings noted for 2018.

We also reviewed the company's Reg AB report for 2018, which indicated no material instances of non-compliance.

Vendor management 

Quantum does not have a centralized vendor management group. Since our last visit, a vendor security management policy was instituted by Lennar and is followed by Quantum. This policy specifies the requirements for vendors that transmit, store and/or process sensitive data. All contracts are reviewed and approved by in-house counsel before being executed. Vendor performance is monitored and audited by Quantum staff. Monthly or weekly vendor meetings are held to review results and address any issues.

The Rialto legal department is responsible for engaging with outside attorneys for foreclosure actions. The attorney assigned by Rialto also tracks vendor assignments for appraisals and environmental surveys for loans in foreclosure.

Insurance and legal proceedings 

Quantum has represented that its directors and officers, as well as its errors and omissions insurance coverage, are in line with the requirements of its portfolio size. As of Aug. 12, 2019, there were no material servicing-related pending litigation items.

Loan Administration –- Small-Balance Commercial Primary Servicing

The loan administration subranking is AVERAGE for small-balance primary servicing.

Quantum's primary loan portfolio has shown a continued decline in units over the last few years. The total unpaid principal balance for the primary portfolio also showed declines until 2018 when Quantum reported a slight increase in the total dollars outstanding (see table 3). While the portfolio unit count has decreased, there has been a shift in collateral types to more traditional property sectors, such as office, retail, multifamily, and lodging. As a result, the average loan size has increased (see tables 3 and 4). Between year-end 2014 and year-end 2018, the percentage of loans in the portfolio (by units) with balances equal to or over $5 million went from 1.4% to almost 20%. This shift has occurred to support RMG's overall business strategy, but also represents a change in what we would consider small-balance loans to more traditional commercial loans (albeit high-yield-oriented mezzanine loans and B notes).

Table 3

Table 4

New loan boarding

Based upon its stated practices and written procedures, Quantum has an effective loan setup function. Control and other features of new loan setup include:

• Borrower welcome letters issued within 15 days of loan closing, although they are not system-generated.
• Data integrity controls, where applicable, which include a review of data and documents from the prior servicer, including pay histories and loan documents.
• Formal tracking and processes for the pursuit of missing documents; however, Quantum did not board any new loans during the latest six-month reporting period..
• Utilization of a pre-board phase that provides some data points to users before the comprehensive board. This gives users the ability to see some data and complete initial loan reviews in advance of the boarding.

Payment processing

Quantum maintains effective procedures for handling the payment processing function. The processing department receives payments via check, wire transfer, and preauthorized transfer, which are sent to a central clearing account. Highlights of payment processing include:

• An electronic payment capture rate of 28%, including Automated Clearing House (10%) and wire transfers (18%).
• Receipt of approximately 72% of payments by check at its street address in the last half of 2018, which is a much higher rate than we see with comparable servicers. The payment processing room requires both a badge and entry code for access. Checks are stored in a fire-proof safe while onsite.
• The handling of 55 adjustable-rate loans and regular adjustable-rate audits.
• A process for posting instructions that is managed by the workflow system, which has a built-in escalation process that automatically triggers if posting instructions are not received within 48 hours of payment receipt.
• No reported unidentified items aged more than two days that remain in the clearing account and no suspense items outstanding.

Investor reporting

Investor reporting is automated through the servicing system. Internal controls over the reporting and remitting activities include the following:

• Investor reporting, trustee remitting, and bank reconciliations are handled by investor analysts with oversight by managers and an appropriate separation of duties.
• The servicing system can generate third-party investor remittance reports and is regularly upgraded as the client's request for information shifts.
• Separate individuals handle remittances and monthly investor custodial bank account reconciliations.
• Dual review and authorizations are required for reconciliations and wire transfers.
• The Rialto accounting department reviews and approves all remittances before the wires go out.

Quantum reported no aged items in the custodial accounts and no penalties for late reporting or remitting during the period. Overall, we believe the levels of automation and internal controls are effective and suitable.

Escrow administration

Policies and procedures are in place for the oversight of tax and insurance payments for both escrowed and non-escrowed loans. However, as of Dec. 31, 2018, only two loans in the portfolio were escrowed for taxes and one for insurance.

Quantum reported no un-reimbursable tax penalties for the last six months of 2018. The company engages a third-party vendor to assist with tax line setup and monitoring of property tax status. The property tax department performs pre-acquisition tax scrubs for an accurate picture of the tax exposure to incorporate any added costs from advances. The vendor provides Quantum a monthly report, listing which loans and when all tax payments are due. Management states that improvements in the tax-funding request process have reduced the average days to complete by 88% since 2016. The vendor gives Quantum a report listing accounts subject to a force-placed policy. This list is given to the asset manager for review and approval before any policies are placed. Quantum engages a third-party vendor to manage the monitoring and tracking of insurance policies, including producing the letters requesting proof of insurance.

Quantum tracks and manages taxes and insurance coverage within the servicing system as well as performing escrow analysis. Other features include:

• Renewal notices sent 20 days prior to expiration, which is a shorter timeframe compared to most servicers we rank; and
• A forced-placed policy, which provides for a 365-day look-back period (10 loans are covered by this policy as of the reporting period).

We believe the company has adequate controls for escrow administration activities.

Asset and portfolio administration

Portfolio management and loan-level surveillance are monitored by the Quantum vice presidents with the support of the analytics team and includes:

• Loans assigned to asset managers based on capacity and the asset managers' performance and expertise;
• Portfolio surveillance, including call statistics, cash flow reporting, milestone status reporting, and pipeline reviews;
• Monthly loan-level surveillance on every loan, which includes forensic file reviews, system documentation, timeline adherence, and covenant compliance; and
• Call monitoring for quality assurance of 10 calls per asset manager per month.

Quantum does not use a scorecard for its call or account reviews. A more formalized process of documenting identified issues and results is a best practice among servicers who perform call monitoring.

Quantum has good controls over all aspects of loan- and portfolio-level administration and maintains appropriate monitoring and escalation procedures.

Uniform Commercial Codes are not tracked through the servicing system. Quantum uses a vendor for filings and utilizes the vendor's system for tracking. The portfolio had 213 filings during the last six months of 2018 with no lapses reported.

Early-stage collections

Early stage collections continue to be handled by the Rialto asset managers rather than the Quantum customer service specialists.

Loan Administration-- Small-Balance Commercial Special Servicing

The loan administration subranking is AVERAGE for small-balance special servicing.

Historically, in our view, Quantum has utilized sound processes and procedures to effectively monitor and manage defaulted small-balance commercial real estate loans for loan recovery. However, Quantum liquidated its special servicing portfolio through bulk sales in 2018 (see table 5) and presently has no active loans in inventory.

Table 5

Although Quantum does not currently have any special servicing assets, it has maintained the policies, processes, and technology to manage a special servicing portfolio. Additionally, Quantum has continued to utilize the staff to collect on the deficiency judgments acquired in 2015, which required in-depth investigative work that includes skills transferable to managing a special servicing portfolio.

Since our last review, and as a result of the reduced loan count, the asset management team has been moved under Rialto. Management states that these positions will move back under Quantum when there are assets boarded that justify the dedicated staff. As noted in the controls section, Quantum's vice presidents perform the oversight function to monitor the asset managers and portfolio performance.

The asset managers utilize the following tools in their due diligence process, which help them formulate an effective recovery strategy:

• Access loan documents directly in the RCAMS system for review;
• Utilize the Q-covenant tool to track and manage loan-level covenants;
• Utilize the financial section in RCAMS to spread borrower and property financials; and
• Perform collateral reviews, and review property valuations and environmental reports.

Asset managers are also responsible for grading loans. Quantum has the capability and procedures, if requested by the client, to assign risk ratings; the risk-rating process evaluates both the probability that the borrower will default and the estimation or size of the loss once the borrower has defaulted. Probability of default is evaluated and assigned a score between one and eight. Factors assessed include credit risk scores, collateral type, loan-to-value ratios, industry, financial health, and payment history, as well as other quantitative and qualitative assessments. The collateral for a given loan may then be reviewed and assigned a collateral risk grade of A-F. The analysis also considers industry averages and broader economic trends. Grading is used to identify risk and the associated intensity level of the collection efforts. Loans in the "criticized" range of the grading scale are added to the loan watch list. Watch list loans receive special focus in order to limit the investor's loss.

Loan recovery and foreclosure management

The Rialto asset managers are responsible for the loan recovery and foreclosure management protocols to efficiently resolve nonperforming loans. Because Quantum has shifted this responsibility to Rialto, we consider this to be a limiting ranking factor.

Per policy, all recovery strategies and any major actions are reviewed for approval by a committee made up of the asset manager, Quantum management, and the investor. In addition to presenting proposed strategies for individual loans during the weekly committee meeting, a review of the deal pipeline is completed to provide updates to the investor. The respective asset manager for any defaulted loan is required to obtain a pre-negotiation letter before entering into any substantive negotiations on a workout strategy.

As required, third parties (appraisers, inspectors, attorneys, environmental experts, and brokers) are chosen from approved vendor lists.

Table 6

Legal department

When the investor approves a plan to commence with foreclosure or litigation, the asset is transferred to the Rialto legal department, which manages all legal activities and outside counsel. The asset manager will collaborate with the legal department and continue to engage the borrower for negotiations, as needed, or to pursue loss mitigation efforts on a change of status.

In addition to managing the foreclosure activity, Rialto's legal department manages all legal components related to Quantum servicing, collaborates with Quantum asset managers on loan resolution negotiations, and manages lawsuits on notes.

Once a property is taken into real estate owned (REO) status, Rialto's real estate group manages the property through final disposition. Consequently, Quantum has no REO properties in its portfolio.

Financial Position

The financial position is SUFFICIENT.

Related Research

• Select Servicer List, Sept. 13, 2019
• Quantum Servicing Corp. AVERAGE Small-Balance Commercial Loan Primary And Special Servicer Rnkgs Afrmd; Outlooks Stable, Sept. 5, 2019
• Analytical Approach: Global Servicer Evaluations Rankings, Jan. 7, 2019
• Servicer Evaluation: Quantum Servicing Corp., April 21, 2017