Key Takeaways
- Total environmental, social, and governance (ESG)-related rating actions reached 1,945 during April-August (of which 666 were downgrades).
- Of the 296 downgrades in July-August, 199 related to CreditWatch resolutions on U.S. commercial mortgage-backed securities (CMBS) transactions. These structured finance rating actions reflected our revised valuations and credit views on the underlying assets (malls and hotels). Downgrades were primarily for speculative-grade classes.
- In percentage terms, sovereign and international public finance ratings remain the most directly affected by COVID-19, at 24% and 14% respectively.
- Overall, U.S. public finance saw only 4% of ratings affected by ESG factors over the last five months, but in higher education and public transport it's closer to one-third.
- Rating actions on corporates and infrastructure affected 15% of the rated universe. Actions remain heavily concentrated in sectors such as air travel, restaurants, retail, hotels, and leisure and are likely to remain negatively oriented as pandemic-related pressures persist.
Table 1
| ESG-Related Rating Actions April-August 2020* | ||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Downgrade | CreditWatch negative | Outlook revision (downward) | Total number of ESG-related rating actions** | % of ratings impacted by ESG | ||||||||||||||||
| Jul-Aug | April to Aug | Jul-Aug | April to Aug | Jul-Aug | April to Aug | Jul-Aug | April to Aug | April to August | ||||||||||||
| Sovereigns | 0 | 9 | 0 | 0 | 7 | 36 | 9 | 47 | 24 | |||||||||||
| International public finance | 1 | 6 | 1 | 1 | 4 | 38 | 6 | 45 | 14 | |||||||||||
| U.S. public finance | 39 | 84 | 80 | 93 | 8 | 482 | 128 | 660 | 4 | |||||||||||
| Corporates and infrastructure | 46 | 296 | 3 | 42 | 32 | 187 | 91 | 546 | 15 | |||||||||||
| Structured finance | 210 | 271 | 0 | 376 | 0 | 0 | 210 | 647 | 1 | |||||||||||
| TOTAL | 296 | 666 | 84 | 512 | 51 | 743 | 444 | 1,945 | ||||||||||||
| *Issuer-related actions on global scale ratings, except for structured finance, where numbers represent issue-level actions. Table does not show financial services, as we consider the impact of lockdowns and social distancing on financial services ratings to be indirect rather than direct. **Including 14 positive rating actions over April-August. | ||||||||||||||||||||
Chart 1
With Climate Week just behind us, climate-related risks continue to be prominent in our analytical thinking. We recently published an exploratory climate scenario analysis, which tests the potential of new alternative climate-physical-risk data sets and how they might enhance our dialogue with rated U.S. public finance entities regarding future physical climate risks. See box below "Better Data Can Highlight Climate Exposure: Focus On U.S. Public Finance," Aug. 24, 2020.
Like sensitivity analysis, we believe targeted scenario analysis can provide a better understanding of the range of possible exposures. We do not factor such scenarios into our base case for our ratings, given the difficulty to assign accurate probabilities about when weather events may occur, and at what frequency and severity, but also the need to take into account potential future public policy measures and adaption and risk mitigation efforts. Instead, we are exploring the potential for these datasets and scenario outcomes to enhance understanding of the degrees of uncertainty, while promoting a dialogue with issuers about risk and risk mitigation.
Along the same lines, our ratings aim to capture long-term climate and ESG risks, where we see them as sufficiently predictable and material. In our recent oil and gas sector update, "Write-Downs, While Eye-Catching, Are Not The Largest Issue Facing Oil And Gas Supermajors," Aug. 3, 2020, we explain how declining profitability, heightened volatility, and uncertainty about companies' responses to the energy transition are weighing far more on our business risk assessments than the hefty write-downs in early 2020. We factor downside sensitivities into our oil and gas analysis, for instance through our cash-flow volatility adjustment or our long-term business risk assessment. We recognize the increased probability of lower-for-longer oil price scenarios. COVID-19 has cemented this further, with long-term oil demand reduced by 2.5 million barrels per day. Under its sensitivity analysis, Platts Analytics shows demand for refined products (excluding growth in chemical feedstocks) could peak as early as 2025, compared to 2035 under its base case. This scenario assumes tighter restrictions on discretionary travel and a continuation of people working remotely following the pandemic, representing up to 25% of vehicle miles traveled in the U.S. (and similar outside the U.S.). Platts Analytics also assumed a severe reduction in aviation demand in this sensitivity analysis, with annual growth in passenger volumes halving to 2% versus its 4% base case. See "The Energy Transition: COVID-19 And Peak Oil Demand," Sept. 24, 2020.
U.S. Public Finance: Better Data Can Highlight Climate Exposure
Since April 1, 2020, physical climate risks and an issuer's exposure to the short- and long-term effects of climate change has resulted in three downgrades and two CreditWatch negatives in U.S. public finance (USPF). Although it's a small number compared to the rated USPF universe, the long-term effects of chronic physical climate risks, such as heatwaves and water stress, will likely escalate absent sufficient adaptation actions. We have long articulated how physical risks and longer term shifts in climate patterns, or acute risks from extreme weather events, can affect credit quality (see "Credit FAQ: Understanding Climate Change Risk and U.S. Municipal Ratings," Oct. 17, 2017, and "How Our U.S. Local Government Criteria Weather Climate Risk," March 20, 2018).
Although there are some inherent uncertainties associated with climate science, including those related to the crystallization and severity of climate risks--like water stress, wildfires, and rising sea levels, we explore the potential exposure for counties in our recent publication, "Better Data Can Highlight Climate Exposure: Focus on U.S. Public Finance," Aug. 24, 2020. The report reviews multiple scenarios with U.S. county level data that could enable a better understanding of the range of possible climate exposures municipal market entities face. That knowledge could facilitate and enrich the dialogue with issuers of municipal market debt (governments and not-for-profit) about their views of climate scenarios, including what measures (if any) they are taking or plan to take to build resilience. Further dialogue can inform our opinion of management's financial and capital planning. Additionally, the report contributes to the debate about the need for greater breadth and depth of disclosures in the municipal market.
The climate scenarios (or representative concentration pathways [RCPs]) describe possible pathways of future GHG emissions and were produced by the Intergovernmental Panel on Climate Change (IPCC) for its Fifth Assessment Report (AR5). In our analysis, we apply three of the scenarios to gauge how county-level exposure to a range of climate hazards, including heatwaves, wildfires, and water stress (among others), may evolve until 2050.
USPF issuers are already facing risks associated with climate change. Water stress is already an issue for municipal water utilities, public-owned power utilities, and local governments while heat wave risk will continue to increase across all states to mid-century. Heat waves have become a greater concern for public power and electric cooperative utilities, as we discuss in our report "California's Rolling Blackouts Could Foreshadow Rating Pressures for Public Power and Electric Cooperative Utilities." Recent rolling blackouts across California highlight the potential for operational and financial challenges for electric utilities, in that state and elsewhere, as they embrace intermittent renewable resources. Extreme heat and drought have already led to heightened wildfire risk with the western and south eastern states now most highly exposed. Sixteen counties in Oregon, Wyoming, Montana, Minnesota, and New Mexico will see the greatest increase in exposure through 2050. Finally, Louisiana has the greatest number of counties affected by rising sea levels and river floods to 2050 under the most severe scenario (RCP8.5). Other states are also highly exposed. Without adaptation, entities will remain exposed to these hazards.
Read the full article here.
Sovereigns And International Public Finance
The pandemic continues to weigh on government ratings, but so do governance factors.
Table 2
| Sovereign And International Public Finance ESG-Related Rating Actions | ||||||||
|---|---|---|---|---|---|---|---|---|
| Downgrade | CreditWatch negative | Outlook revision (negative) | Total ESG-related rating actions | Downgrade | Total ESG-related rating actions | % of total ratings affected by ESG | ||
| Recent activity (July-Aug) | Cumulative actions (April-Aug) | |||||||
| Sovereigns | 0 | 7 | 9 | 9 | 47 | 24 | ||
| International public finance | 1 | 1 | 4 | 6 | 6 | 45 | 14 | |
Health and safety factors, resulting directly from the pandemic, dominated ESG-related sovereign and IPF rating actions in July-August. Measures to contain the damage from the pandemic continue to hit global economies, weigh on government revenues, and require significant government spending on social and economic safety nets. For local governments, the impact was large enough to deprive the German state of Baden-Wuerttemberg of the 'AAA' rating it had regained eight years ago, and in Australia led us to place our 'AAA' rating on the State of Victoria on CreditWatch.
At the same time, governance remains a critical rating factor in the sector. Our positive outlook revision to our 'AA' rating on the European Union is a recent example and reflects the political consensus for the EU Recovery Fund, which we view as a major step forward in the strengthening of EU member states' political cohesion. The EU is set to become one of the world's largest issuers of green bonds as the Recovery Fund helps with the union's net zero carbon emissions objective. Meanwhile, our strong management and governance assessment contributed to us assigning our 'AAA' rating to the European Stability Mechanism. Also, our negative outlook revision to the 'AA-' rating on Kuwait reflected the risk that the sovereign's institutional settings might prevent the government from finding a sustainable solution to its rising long-term funding needs.
Case Study: EU Outlook Revised To Positive On EU's Central Role In Europe's Recovery Plans, July 31, 2020
The revised outlook follows the recent establishment by the European Council of the €750 billion recovery fund, called the Next Generation EU (NGEU), and the new agreement on the Multiannual Financial Framework for 2021-2027 (new MFF), amounting to about €1.1 trillion over seven years, or about 1.1% of GNI per year. As a consequence of this decision, the EU will become the largest supranational issuer of new debt in Europe (with plans to raise an estimated €300 billion to €350 billion in 2021 and 2022).
We believe the political consensus in establishing the NGEU, and endowing it with debt-raising capacity, is a major step forward for the strengthening of political cohesion by EU member states. This goes some way to addressing what we saw as weaker political cohesion in 2016 when the U.K. decided to leave the EU (the Brexit vote), and we lowered our rating on the EU to 'AA' from 'AA+'. We think the NGEU shows increased solidarity among member states, and we consider the NGEU a key step toward becoming a fiscal union. Ultimately, we think it could strengthen the EU's governance.
The long-term rating on the EU relies on the capacity and willingness of the 11 wealthiest EU members that are net contributors to the EU budget. We calculate the anchor on the EU by determining the GDP-weighted ratings of these net contributors, which is 'aa'.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Governance - Strategy, execution, and monitoring
U.S. Public Finance
The health and safety risks associated with the pandemic continue to negatively affect credit quality, particularly for higher education and not-for-profit transportation issuers.
Table 3
| U.S. Public Finance ESG-Related Rating Actions | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Downgrade | CreditWatch negative | Outlook revision (negative) | Total ESG-related rating actions | Downgrade | Total ESG-related rating actions | % of total ratings affected by ESG | ||||||||||||
| Recent activity (July-Aug) | Cumulative actions (April-Aug) | |||||||||||||||||
| TOTAL | 39 | 80 | 8 | 128 | 84 | 660 | 4 | |||||||||||
| State & local governments | 19 | 1 | 4 | 25 | 38 | 275 | 2 | |||||||||||
| Higher Education | 4 | 16 | 1 | 21 | 9 | 177 | 29 | |||||||||||
| Health Care | 0 | 0 | 2 | 2 | 4 | 51 | 11 | |||||||||||
| Utilities | 1 | 0 | 0 | 1 | 4 | 30 | 2 | |||||||||||
| Housing | 0 | 0 | 0 | 0 | 7 | 25 | 6 | |||||||||||
| Charter Schools | 0 | 0 | 1 | 1 | 1 | 16 | 4 | |||||||||||
| Transportation* | 15 | 63 | 0 | 78 | 21 | 86 | 33 | |||||||||||
| *Excludes 187 negative outlook revisions on March 26 on almost all public transportation infrastructure issuers. | ||||||||||||||||||
In July-August downgrade activity picked up, with almost 40 actions spread over states and local government entities (19), higher education (4), and public transport (15), many of which were airports.
We placed 16 privatized student housing projects on CreditWatch with negative implications. These projects are exposed to lower rent revenue and stalled lease up rates as higher education institutions provide either all-virtual instruction for the fall semester, projects reduce beds available to implement social distancing measures, or campuses close as in-person instruction has led to a spike in virus transmission rates.
We also placed 63 U.S. airport obligors on CreditWatch with negative implications. The entire aviation industry continues to face significant disruption caused by the pandemic. We believe the U.S. airport sector landscape will be dramatically reshaped, adding uncertainty and potential variability to operations, along with weaker financial performance and competitiveness. This is unlike previous downturns in terms of severity, likely duration, the rise of virtual meetings and decline of business travel, and, most notably, the industrywide transformation required to address consumer health and safety issues on a global scale. We view this precipitous decline not as a temporary disruption with a relative rapid recovery, but rather as a backdrop for what we believe will be a period of sluggish air travel demand that could extend for some years.
Finally, governance risks associated with lack of risk management and internal controls contributed to nine downgrades in July-August and one CreditWatch with negative implications. We believe risk management and internal controls are crucial to an issuer's credit quality, particularly when maintaining credit quality through a one-time event like a pandemic. If such controls are lacking, credit quality can be undermined. For example, we lowered Lansing, MI's rating as the city wrestled with a variety of issues, including fines from the Internal Revenue Service related to a failure to provide required information to the federal government under the Affordable Care Act.
Case Study: CHF Chicago LLC, IL 2017A-B Student Housing Revenue Bond Ratings Lowered Two Notches To 'BB'; Outlook Negative, Aug. 28, 2020
CHF Chicago LLC is a not-for-profit corporation organized for the sole purpose of financing the construction of an integrated academic and housing space. The series 2017A and B bond proceeds were used to construct University of Illinois Chicago (UIC) campus's first integrated academic, housing, and retail space. The project was expected to open in fall 2020 at a 95% occupancy, but experienced a substantial decline in the preleasing rates due to a wave of cancellations associated with the ongoing global pandemic. The project opened on Aug. 24 with a 53% occupancy. Therefore, the project will face operating pressures due to loss of rental revenues. Based on current occupancy and the cash-flow projections provided by management, debt service coverage (DSC) is projected to be below 1x with just the project revenues. Similar to peers, CHF-Chicago faces ongoing risks with its fiscal 2021 revenues given the uncertainty of the pandemic over the next year.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Health and safety
Case Study: Metropolitan Transportation Authority, NY Ratings Lowered On Steep Financial Decline; Removed From CreditWatch, July 8, 2020
The significant and growing operational and financial impacts on the MTA as a result of the ongoing COVID-19 pandemic to date include fare, toll and likely tax and subsidy revenue declines, which we believe will continue over 2020-2021. The MTA is estimating 2020 and 2021 revenue gaps of as much as approximately $8 billion on a gross basis in each year. The MTA already received $3.8 billion in federal aid through the Coronavirus Aid, Relief, and Economic Security (CARES) Act, and has requested an additional $3.9 billion (24% of gross revenue estimated for 2019) in federal aid.
Contributing to these challenges are the MTA's high fixed costs with regard to debt service but also labor, as no layoffs or furloughs are planned on the basis of putting the system in a position to fully ramp up as stay-at-home and other social distancing requirements ease. Additionally, changes in rider and driver behavior could be sustained with increased telecommuting, either voluntarily or by mandate.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Health and safety
Corporates And Infrastructure
Transportation, Autos, Leisure, Hotels, Restaurant, and Retail sectors continue to be rocked by the pandemic.
Table 4
| Corporates And Infrastructure ESG-Related Rating Actions | ||||||||
|---|---|---|---|---|---|---|---|---|
| Downgrade | CreditWatch negative | Outlook revision | Total ESG-related rating actions | Downgrade | Total ESG-related rating actions | % of total ratings affected by ESG | ||
| Recent activity (July-Aug) | Cumulative actions (April-Aug) | |||||||
| TOTAL | 46 | 3 | 32 | 91 | 296 | 546 | 15 | |
| Transportation | 13 | 1 | 5 | 19 | 61 | 94 | 44 | |
| Aerospace and defense | 1 | 0 | 1 | 2 | 23 | 31 | 54 | |
| Automotive | 2 | 0 | 4 | 6 | 30 | 70 | 76 | |
| Hotels and gaming | 6 | 1 | 5 | 12 | 50 | 73 | 59 | |
| Media, entertainment, and leisure | 5 | 0 | 2 | 7 | 41 | 52 | 35 | |
| Retailing | 3 | 0 | 2 | 5 | 27 | 38 | 27 | |
| Real estate | 4 | 0 | 0 | 4 | 13 | 37 | 12 | |
| Capital goods | 2 | 0 | 2 | 4 | 15 | 26 | 7 | |
The sectors most directly affected are those exposed to health and safety factors as a result of social distancing and consumers' reluctance to travel, as well as the closure of retail and recreational locations. They represented the bulk (about 70% of negative rating actions) during July-August:
- Transportation (over 20% of July-August total corporate rating actions); including downgrades of Deutsche Lufthansa AG, Air Canada, and Flughafen Zurich. We lowered our ratings on SAS to 'CC', while Grupo Aeromexico defaulted, as the pandemic continues to shake air travel (see "From Bad To Worse: Global Air Traffic To Drop 60%-70% In 2020," Aug. 12). Railway operators AMTRAK, SNCF, and Central and East Japan Railway saw negative outlook revisions or CreditWatch placements.
- Media, entertainment, and leisure including hotels (more than 20% of total corporate rating actions); including downgrades of Accor (fallen angel), Cinemark Holdings, Travel Leaders Group, and Affinity Gaming. Two leisure companies defaulted, including education travel provider Lakeland Holdings LLC, and lodging company Grupo Posadas S.A.B. de C.V. Media. Entertainment provider Global Eagle Entertainment also defaulted. Finally, the ratings on Town Sports International Holdings Inc. were lowered to 'SD' (selective default).
- Restaurants and retailing (about 10%); We revised our outlook on Walgreens Boots Alliance Inc. to negative. Two apparel retailers defaulted--Tailored Brands Inc. and Ascena Retail Group, Inc.
- Autos (7%) saw downgrades of Nissan Motor and Valeo (fallen angel), and General Motors and Ford were assigned negative outlooks after we resolved their CreditWatch placements.
COVID-19 had a positive influence on about 10% of rating actions over July-August (five upgrades and five positive outlooks). For example, specialty premium grocer The Fresh Market Inc. experienced improved sales because of the health and safety practices implemented during the pandemic. Home décor retailer At Home Group Inc. saw increased demand from consumers spending more time at home amid lockdowns and social distancing measures. Stay-at-home mandates and a surge in sanitization procedures have increased consumption of household disinfectant and cleaning products, which has supported Kronos Acquisition's operating performance.
Case Study: Samsonite International S.A. Downgraded To 'B' From 'BB-' Due To Weaker-Than-Expected Recovery; Outlook Negative, Aug. 27, 2020
Samsonite International S.A.'s operating performance continues to suffer from travel restrictions and limited consumer mobility due to the COVID-19 pandemic. We expect EBITDA stabilization will take longer than previously expected stemming from sustained weakness in the travel and leisure industry. Our downgrade of Samsonite reflects our expectation of minimal EBITDA and ongoing cash burn through the remainder of 2020. As a result, we expect elevated leverage through 2021.
Despite some resumption of domestic travel globally, the pace of recovery in sales was sluggish throughout the second quarter. Year-over-year sales were down on a constant currency basis indicating that international travel is critical to a recovery of the company's sales. Additionally, because of reduced discretionary spending, and school and office closures, the company's non-travel sales also substantially declined.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Health and safety
Case Study: Emaar Properties And Subsidiary Emaar Malls Downgraded To 'BB+' On Expected Weaker Credit Metrics; Outlook Negative, July 9, 2020
We think COVID-19-induced economic recession globally and in Dubai specifically will have a significant negative bearing across all Emaar Properties' business segments.
Under our base case, we anticipate a significant revenue drop not only in Emaar Properties' cyclical real estate development business, but also notably in the historically more resilient leasing operations. Hospitality, leasing, entertainment businesses, and the retail sector have been particularly vulnerable to travel restrictions and social distancing measures. In real estate development, we expect demand from international buyers, which typically accounts for about 60% of sales, to remain subdued for at least the remainder of 2020. We also believe that the anticipated recovery in 2021 will be only partial, dependent on the pandemic situation and the pace of recovery of Dubai's economy. We think the economic stress prompted by COVID-19 has underscored the inherent weakness in Emaar Properties' business risk profile related to high asset concentration in one country, especially given the additional high reliance on tourism.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Health and safety
Case Study: FirstEnergy Corp. And Subsidiary Ratings Placed On CreditWatch Negative On Potential Implication In Ohio Bribery Case, July 23, 2020
Although FirstEnergy is not named as a defendant in the criminal complaint, we believe the severity of the charges outlined in the criminal complaint and the allegation that the bribery payments began as early as March 2017, prior to Energy Harbor Corp.'s emergence from bankruptcy under its new ownership, could possibly implicate FirstEnergy Corp. in some manner.
If subsequent investigations directly implicate FirstEnergy, we believe it could reflect a material deficiency in the company's governance, insufficient internal controls, or could result in a weakening of the company's management of regulatory risk. Any of the above determinations would likely cause us to downgrade the company by one or more notches.
Environmental, social, and governance (ESG) credit factors for this credit rating change
- Risk management and internal controls
Financial Services
Financial services experienced very few direct* ESG effects, even though COVID-19 triggered widespread negative outlook revisions.
While the banking and insurance sectors have seen very few rating changes or outlook revisions directly attributable to ESG factors, since the onset of COVID-19 and fall in oil prices, they have been susceptible to indirect effects--namely rising credit risks and financial market volatility resulting from the pandemic. As of Sept. 7, 2020, we took rating actions on 234 banks--three quarters of which were outlook revisions--that were indirectly related to COVID-19 and the oil shock; this corresponds to roughly 25% of total bank ratings being affected. For the insurance sector, the total share of affected ratings was close to 10%, with equally three out of four actions being negative outlook revisions.
*See Appendix for our approach to direct ESG effect and indirect non-ESG effects of COVID-19.
Case Study: Liechtenstein-Based VP Bank Outlook Revised To Negative On Risk Management And Strategic Challenges, July 17, 2020
The outlook revision follows VP Bank's loss of Swiss franc (CHF) 20 million in its Lombard book and related shifts in management. We also consider that the bank is likely to face strategic challenges over the coming years. Because we had assessed its Lombard portfolio as being generally very low risk, given its granularity and conservative collateralization, the loss was very unexpected. We believe that it didn't stem from higher risk appetite, but rather from weaknesses in the bank's risk governance.
The loss also triggered management and organizational changes that underscore the severity of the incident and internal deficiencies. Both the chief financial officer and the chief risk officer left the bank in June as a result of a thorough review conducted to examine the circumstances that led to the loss. Nevertheless, we acknowledge that this review and the resulting management and organizational developments point to the bank's swift reaction. Furthermore, the bank conducted a portfolio review and regular stress test of the existing Lombard book that should prevent future loss events of similar magnitude. However, we think that VP Bank's risk position could remain relatively weaker than peers' if there are delays in needed upgrades to its internal risk governance and processes. These enhancements will likely be gradual, indicating that the bank could be vulnerable to a higher likelihood of further loss incidents.
In our view, the latest reshuffling of senior leaders, considering the management changes before the loss incident, could lead to a less sustainable business model that harms the bank's reputation. The newly composed management team has now to constitute itself and prove its ability to deliver on the ambitious targets of the bank's strategy 2025.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Risk management and internal controls
Structured Finance
ESG-related rating actions concentrated in U.S. CMBS.
Table 5
| Structured Finance ESG-Related Rating Actions | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Downgrade | CreditWatch negative | Outlook revision | Total ESG-related rating actions | Downgrade | Total ESG-related rating actions | % of total ratings affected by ESG | ||||||||||||
| Recent activity (July-Aug) | Cumulative actions (April-Aug) | |||||||||||||||||
| TOTAL (all sectors) | 210 | 0 | N/A | 210 | 271 | 647 | 1 | |||||||||||
| ABS | 0 | 0 | N/A | 0 | 1 | 40 | 0 | |||||||||||
| CMBS | 199 | 0 | N/A | 199 | 218 | 441 | 10 | |||||||||||
| Repack | 1 | 0 | N/A | 1 | 17 | 20 | 11 | |||||||||||
| Non-traditional Assets | 10 | 0 | N/A | 10 | 35 | 146 | 11 | |||||||||||
| *Repack ratings are weak-linked to the ratings of the underlying securities (and do not include CLOs). **Nontraditional structured finance asset classes include corporate, aircraft, container, railcar, timeshare, small business, and triple-net lease securitizations. ABS--Asset-backed securities. CMBS--Commercial mortgage-backed securities. N/A--Not applicable. | ||||||||||||||||||
ESG-related rating actions in July and August predominantly related to 200 downgrades of U.S. commercial mortgage backed securities (CMBS) transactions, initially placed on CreditWatch negative in May and June. The rating actions reflect our revised valuations and credit views of the underlying assets (malls and hotels, for example). Downgrades were primarily to speculative-grade classes. For certain classes, we lowered our ratings to below the model-indicated ratings to reflect our view of their susceptibility to reduced liquidity support.
Although there were also numerous rating actions on collateralized loan obligations (CLOs) in July and August, we did not classify these as ESG-related. This is because the collateral pools have a significant diversification by obligor and industries, whose business we do not see as directly impacted by COVID-19 but rather from broader downgrade activity resulting from the economic crisis (see Appendix for our approach to direct versus indirect COVID-19 impacts).
Case Study: Access Point Funding I 2017-A LLC Class C And D Ratings Lowered; Class B Affirmed, Aug. 27, 2020
Access Point Funding I 2017-A LLC is a small business securitization backed by a portfolio of loans whose obligor base consists primarily of franchisees of lodging brands that include Hilton, IHG, Marriot, and Wyndham Hotel group, among others. On August 27, 2020, we lowered our rating on the Class C note from BB-(sf) to B+ (sf) and on the Class D note to CCC+ (sf) from B-(sf) CW negative, while affirming the BBB+(sf) rating of the Class B note. The rating actions reflect the inadequate credit enhancement levels for the Class C and D notes in light of the uncertainties surrounding the recovery of the U.S. hotel and lodging sector due to health and safety fears related to COVID-19.
Since mid-March, the U.S. lodging sector has faced significant declines in revenue and cash flow due to restricted consumer and travel activity. In recent weeks, an uptick in COVID-19 cases has resulted in the introduction or reinstatement of regulations such as travel bans that are intended to slow the spread of the virus, likely delaying travel and lodging recovery.
In addition to our base cash flow runs, we considered sensitivity scenarios in which we applied stresses which took into account the uncertain impact of COVID-19 on the lodging sector. Specifically, we assumed (i) an increase in the probability of default for loans related to the hotel/motel sector, (ii) a reduced benefit to seasoned loans and (iii) an increase in the default correlation between loans located in different states. The Class D available credit enhancement is insufficient to absorb the default of two largest obligors, which we calculated excluding 90+ day delinquent loans, aggregating loans with the same sponsor, and applying no recovery credit.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Health and safety
Case Study: TGIF Funding LLC Series 2017-1 Ratings Lowered; Remain On CreditWatch Negative, Aug. 12, 2020
TGIF Funding LLC's series 2017-1 transaction is a whole business securitization of restaurant company TGIF's existing and future franchise agreements and related franchisee royalties and fees, royalties on existing and future company owned restaurants, license revenue and existing and future intellectual property. On August 12, 2020, we lowered our ratings on the class A-1 and A-2 notes to 'B (sf)' from 'B+ (sf)'. The ratings remain on CreditWatch with negative implications. The downgrades reflect the transaction's declining debt service coverage ratio and other key performance metrics, including number of stores, same-store sales, and average unit volume. The continued CreditWatch listing reflects our view that credit quality may decline further due to health and safety fears related to COVID-19. As of Aug. 7, 2020, 150 of the 775 stores remain temporarily closed because of COVID-related restrictions.
Though the pandemic has placed significant stress on the restaurant industry broadly, we believe TGIF will continue to face near-term revenue stress that is particularly severe. TGIF is heavily reliant on sales from dine-in customers, and it has been demonstrating negative same-store sales figures for three years even before COVID-19 mandated closures eliminated dine-in sales channels. While we recognize TGIF's diversified revenue streams, including licensing for frozen foods and other sales channels of pick-up and delivery, this has not significantly offset the continued loss of dine-in revenue even as mandated restrictions are being lifted. Going forward, we believe that dine-in restaurants may continue to struggle, with consumers being slow to revert even after social distancing requirements become less restrictive.
Environmental, social, and governance (ESG) credit factors for this credit rating change:
- Health and safety
Appendix
COVID-19's direct (ESG) versus indirect (non-ESG) impact
We consider the COVID-19 pandemic a social credit factor when we believe health concerns and social distancing measures have a direct impact on an entity's activities. Put differently, our data presented here exclude rating actions stemming from the recession triggered by the pandemic, and from the downturn in oil and gas that started before the COVID-19 outbreak and is tied to oversupply and a price war. For sovereign ratings, however, we see the pandemic's direct and indirect macroeconomic, fiscal, and external impacts as intertwined and feeding into each other, and therefore consider rating actions triggered by the COVID-19-induced recession as health and safety-related.
For the broader statistics of COVID-19 and oil-related downgrades, see "COVID-19 Activity In U.S. Public Finance," published Oct. 2, 2020; "COVID-19- And Oil Price-Related Public Rating Actions On Corporations, Sovereigns, And Project Finance To Date," published Sept. 29, 2020; and "COVID-19 Activity In Global Structured Finance As Of Sept. 18, 2020," published Sept. 24, 2020.
We have tagged rating actions tied directly to health and safety concerns as ESG-driven:
One of the clearest examples is airlines, which have seen a significant drop in demand due to travel restrictions to stop the spread of the virus. Other examples include auto dealers, which were forced to close their doors due to social distancing requirements, resulting in lost sales for auto manufacturers. Movie theaters, airports, restaurants, and leisure activities were/have been shut down due to the virus and local requirements for social distancing, resulting in a total cessation of revenue streams and limitations on large and social gatherings.
For the purposes of classifying ESG impacts, we excluded indirect rating actions tied to the recession triggered by the COVID-19 pandemic:
For example, the recession may ultimately increase the risk of nonpayments for banks or depress asset values, affecting insurers. While important, we have not flagged these as ESG. Similarly many corporate sectors are indirectly affected, for instance many consumer products companies have had to reduce their advertising, thereby affecting many media companies. Also, job losses and loss of consumer confidence has stopped buyers from making large consumer products purchases.
Related Research
ESG in ratings industry-related commentaries
- The ESG Pulse: The Search For A Vaccine, Aug. 31,2020
- The ESG Pulse: Social Factors Could Drive More Rating Actions As Health And Inequality Remain In Focus, July 17, 2020
Cross-practice:
- Diversity And Inclusion As A Social Imperative, Aug. 3, 2020
- Why Corporations' Responses To George Floyd Protests Matter, July 23, 2020
- The EU Recovery Plan Could Create Its Own Green Safe Asset, July 15, 2020
- Water Conflicts Are Heightening Geopolitical And Social Tensions Globally, July 7, 2020
- A Pandemic-Driven Surge In Social Bond Issuance Shows The Sustainable Debt Market Is Evolving, June 22, 2020
- People Power: COVID-19 Will Redefine Workforce Dynamics In The Post-Pandemic Era, June 4, 2020
- Too Late For Net-Zero Emissions By 2050? The Potential Of Forests And Soils, June 4, 2020
- ESG Insights For Sectors Across Corporates And Financial Services Industries, Feb. 11, 2020
- How ESG Factors Have Begun To Influence Our Project Finance Rating Outcomes, Jan. 27, 2020
Sovereigns and supranationals:
- Global Sovereign Rating Trends Midyear 2020: Outlook Bias Turns Negative As Governments Pile On Debt To Face COVID-19, July 30, 2020
- What The EU Recovery Fund Breakthrough Could Mean For Eurozone Sovereign Ratings, July 22, 2020
- How Multilateral Lending Institutions Are Responding To The COVID-19 Pandemic, June 9, 2020
International public finance:
- Shock And Ore: Surging Debt To Test Australian States, Sept. 30, 2020
- ESG Industry Report Card For Non-U.S.Public And Nonprofit Social Housing Providers, Aug. 4, 2020
U.S. public finance:
- Better Data Can Highlight Climate Exposure: Focus On U.S. Public Finance, Aug. 24, 2020
- COVID-19 Activity In U.S. Public Finance, Aug. 21, 2020
- California Public Power Utilities Face Disparate Physical And Credit Exposures To Wildfires, Aug. 4, 2020
- U.S. Municipal Sustainable Debt And Resilience 2020 Outlook: Sprouting More Leaves, March 4, 2020
Corporates and infrastructure:
- The Growing Importance Of ESG In The Resources Sector, Sept. 9, 2020
- COVID-19- And Oil Price-Related Public Rating Actions On Corporations, Sovereigns, And Project Finance To Date, Aug. 19, 2020
- From Bad To Worse: Global Air Traffic To Drop 60%-70% In 2020, Aug. 12, 2020
- COVID-19 Battered Global Consumer Discretionary Sectors But Lifted Staples; Recovery Varies By Subsector, Aug. 4, 2020
- Retail REITs Will Contend With Retail Distress Until At Least 2021, July 21, 2020
- What Does Pharma's Quest For A COVID-19 Vaccine Mean For Its Credit Quality And ESG Profile?, July 8, 2020
- COVID-19 Heat Map: Post-Crisis Credit Recovery Could Take To 2022 And Beyond For Some Sectors, June 24, 2020
- Infrastructure: Global Toll Roads' Steep Climb Out Of COVID, June 19, 2020
- COVID-19 Accelerates Structural Shifts In Global Office Real Estate And REITs, June 9, 2020
- COVID-19 And The Auto Industry--What's Next?, June 9, 2020
Banks:
- The Greening Of Financial Services: Challenges For Bank And Insurance Green And Sustainability Hybrids, Aug. 12, 2020
- Islamic Finance And ESG: Sharia-Compliant Instruments Can Put The S In ESG, May 27, 2020
- Climate Change: Can Banks Weather The Effects?, Sept. 9, 2019
Insurance:
- COVID-19 Highlights Global Insurance Protection Gap On Climate Change, Sept. 28, 2020
- COVID-19 Pushes Global Reinsurers Farther Out On Thin Ice; Sector Outlook Revised To Negative, May 18, 2020
- Sink Or Swim: The Importance Of Adaptation Projects Rises With Climate Risks, Dec. 3, 2019
Structured finance:
- COVID-19 Activity In Global Structured Finance As Of Aug. 14, 2020, Aug. 20, 2020
- U.S. CMBS Conduit Update Q2 2020: COVID-19 Impact Still Emerging; Questions Remain, July 16, 2020
ESG in ratings criteria-related commentaries
Cross-practice:
- The Role Of Environmental, Social, And Governance Credit Factors In Our Ratings Analysis, Sept. 12, 2019
Sovereigns and local and regional governments:
- How Environmental, Social, And Governance Factors Help Shape The Ratings On Governments, Insurers, And Financial Institutions, Oct. 23, 2018
U.S. public finance:
- Through the ESG Lens 2.0: A Deeper Dive Into U.S. Public Finance Credit Factors, April 28, 2020
- When U.S. Public Finance Ratings Change, ESG Factors Are Often The Reason, March 28, 2019
Corporates and infrastructure:
- How Management & Governance Risks And Opportunities Factor Into Global Corporate Ratings, Nov. 7, 2018,
- How Social Risks And Opportunities Factor Into Global Corporate Ratings, April 11, 2018
- How Environmental And Climate Risks Factor Into Global Corporate Ratings, Oct. 21, 2015
Banks:
- How Environmental, Social, And Governance Factors Help Shape The Ratings On Governments, Insurers, And Financial Institutions, Oct. 23, 2018
Insurance:
- How Environmental, Social, And Governance Factors Help Shape The Ratings On Governments, Insurers, And Financial Institutions, Oct. 23, 2018
Structured finance:
- ESG Credit Factors In Structured Finance, Sept. 19, 2019
This report does not constitute a rating action.
| Primary Credit Analysts: | Karl Nietvelt, Paris (33) 1-4420-6751; karl.nietvelt@spglobal.com |
| Nicole Delz Lynch, New York (1) 212-438-7846; nicole.lynch@spglobal.com | |
| Patrice Cochelin, Paris (33) 1-4420-7325; patrice.cochelin@spglobal.com | |
| Nora G Wittstruck, New York (1) 212-438-8589; nora.wittstruck@spglobal.com | |
| Matthew S Mitchell, CFA, Paris (44) 20-7176-8581; matthew.mitchell@spglobal.com | |
| Michael Wilkins, London (44) 20-7176-3528; mike.wilkins@spglobal.com | |
| Kurt E Forsgren, Boston (1) 617-530-8308; kurt.forsgren@spglobal.com | |
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| Peter Kernan, London (44) 20-7176-3618; peter.kernan@spglobal.com | |
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