Rationale

On May 30, 2024, S&P Global Ratings affirmed its STRONG servicer ranking on Capital Servicing Co. Ltd. (CSC), which it categorizes as a special servicer of commercial mortgage loans. The ranking outlook is stable.

We base the ranking mainly on our views of:

• The ample servicing experience of its collection staff;
• Its detailed and easy-to-understand internal policies and procedures;
• Its solid internal auditing;
• Its framework for internal controls;
• Its excellent computer systems, which allow it to streamline operations;
• Its sound data backup system and data recovery procedures;
• Its aptly designed disaster recovery plan, and the execution of routine system recovery tests using a backup site;
• Its proven record in special servicing for commercial mortgage loans;
• Its appropriate method for preparing collection plans;
• Its suitable loan boarding and verification processes;
• Its appropriate cash management methods;
• Its assignment of an appropriate number of loans to each asset manager; and
• Its suitable reporting to investors and other relevant parties.

Key Ranking Factors

• The company has a proven record in the special servicing of real estate-backed commercial mortgage loans.
• It is focused on expanding its special servicing business while also raising efficiency.
• Its computer systems have allowed it to effectively promote traditional and new business.

Ranking Outlook

The ranking outlook is stable. CSC's main business activity as a commercial mortgage loan special servicer is the servicing of nonperforming loans (NPLs) that investors purchased and that are mostly backed by real estate. CSC began operations in December 1999 and has a proven record managing specially serviced loans. CSC has focused on boosting efficiency and productivity in servicing operations and internal controls. At the same time, it continuously works to enhance its computer system functions. The company also has a proven record in overall servicing for securitization transactions: Since its establishment, CSC has acted as a master, primary, or special servicer for securitization transactions involving commercial mortgage real estate-backed loans, real estate-backed distressed loans, apartment construction loans, and residential loans.

CSC has an extensive record as a special servicer of commercial mortgage loans. Its servicing volume has been nearly flat in recent years , as the business environment for servicers remains difficult. Under these circumstances, the company has sought to expand its servicing portfolio, for example, by expanding intermediation of loans and its loan administration agent business, in cooperation with financial institutions. It has done so to acquire new earnings sources, while seeking a further expansion of its existing servicing business.

Profile

CSC was established in September 1998. The Ministry of Justice (MOJ) licensed the company as Japan's 23rd servicer a year later to conduct servicing operations under Japan's Act on Special Measures Concerning Claim Management and Collection Businesses (the Servicer Law), which came into effect in February 1999. In December 1999, the company started operations as a special servicer. A group of investors, including the current CEO, owns 100% of the servicer after a management buyout in February 2020.

CSC's core business is the servicing of distressed and performing loans backed by commercial real estate, residential loans, apartment construction loans, and consumer finance loans. Daniel Shireman is its managing director and representative director. As of Dec. 31, 2023, CSC had 51 employees.

Management And Organization

Our management and organization subranking for CSC's commercial mortgage loan special servicing is STRONG.

Organization and staff of servicing departments

CSC had 51 employees as of Dec. 31, 2023, two less than at the end of December 2022 due to resignations. The company has the following groups in its servicing departments.

Internal control group.  This group is responsible for establishing, maintaining, and enhancing CSC's internal control system, as well as drafting and reviewing all contracts that CSC concludes. It also handles various legal operations, reports to regulatory authorities, and provides employees with compliance training. The group consists of five members, including the representative director and members of the legal and compliance department (hereafter, the compliance department). Two members are engaged in legal and compliance-related matters, and three members oversee management.

Business management department.  This department, with two staff members, is engaged in supervising and coordinating the asset management, loan administration, and sales development departments. It also handles ancillary operations and the origination of new transactions.

Asset management department.  This department mainly conducts special servicing for commercial mortgage loans. It has 10 staff.

Loan administration department.   This department has 12 employees. It mainly comprises the following two teams:

• The mortgage loan (residential loan) team, in charge of servicing residential loans; and
• The investor reporting team, which handles reporting to relevant parties.

Structured solutions department.  This department handles investment transactions. The department has two staff members, down one since the previous review.

Retail finance department.  This department mainly performs tasks related to intermediation of loans and loan administration for new loan portfolios. It has six members, down one since previous review.

Sales development department.  This department oversees marketing for servicing new loan portfolios, especially receiving portfolios from financial institutions, as well as due diligence business. The department has four members.

Finance department.  This department formulates budgets and handles accounting, tax, insurance, and cash management (cash-in/out) operations. The department has three members.

Information technology (IT) department.  This department has five IT professionals. They oversee overall support for the company's asset management and loan servicing system, and companywide planning and related operations in IT.

Human resources (HR) department.  This department comprises one member who is responsible for human resources management, staff training, management of training data, and employee benefit programs.

Corporate communications department.  This department comprises two members, up one since previous review and its tasks include the management of office facilities.

Management and staff experience

Daniel Shireman, CSC's managing director and representative director, has 33 years of experience originating securitization transactions backed by assets such as residential loan receivables and other peripheral operations. CSC's director-attorney has been in the legal profession for more than 40 years and has worked for the company since March 2000.

Key employees who conduct special servicing of commercial mortgage loans average about 36 years of industry experience. Key members of other departments including finance, IT, HR, and compliance departments have an average of about 22 years of experience in their respective areas.

Business strategy

In its business strategy as a servicer, CSC mainly aims to:

• Provide high-quality servicing with strong reporting capabilities in Japanese and English;
• Use its business experience, expertise, and financial strength to provide innovative solutions to its clients;
• Continuously strive to enhance corporate governance while working to maintain the confidence of clients; and
• Retain high-caliber personnel.

Policies and procedures

CSC prepares policies and procedures to facilitate smooth operations. For special servicing, the company has prepared distinct sets of manuals including the Asset Management Guide, Asset Management Approval, Loan Management Process (NPL Portfolio), Cash Allocation (NPL Portfolio), Business Plan, Loan Payoff Procedures and Statute Of Limitations Management Procedures. For compliance, CSC has established procedures for handling complaints and consultations from debtors, determining eligible loans, and confirming closed transactions. CSC has also prescribed rules for professional conduct, as well as rules for treatment of noneligible servicing claims and confirmation of transferees of loans. In addition, the company has prepared manuals for creating a variety of legal ledgers, issuing and controlling various kinds of receipts, and creating internal reports.

CSC has also produced manuals for loan administration and system-related procedures including those relating to document custody, cash posting, data input into the servicing system, data transfers, investor reporting, and accounting.

CSC also prepares some rules and manuals in both English and Japanese as necessary. The company updates these rules and manuals continually, and senior management reviews and approves all updates. The company has also prepared rules and manuals relating to working-from-home in recent years. The latest policies and procedures are accessible online to all employees. We believe these online manuals are very useful as they help all staff understand functional procedures and conduct their duties in compliance with various laws and regulations, including the Servicer Law.

Internal audit and inspection program

CSC conducts an internal audit every six months. The audit focuses on administrative and operational aspects of servicing. An internal auditor is responsible for this process. The purpose is to examine CSC's overall internal administration and identify risks in daily administrative and operational activities. After the audit, the internal auditor promptly compiles a report that indicates areas in need of improvement and presents the report to CSC's executive management. Management must promptly provide solutions to problems that the internal auditor highlights. Reports for 2022 and 2023 did not uncover any material problems.

In addition to the above internal audits, CSC underwent the following outside audits and inspections.

• A statutory financial audit by Tokai Audit Corp.; and
• An inspection under the Servicer Law by the MOJ.

Internal control system

CSC focuses on enhancing internal controls mainly through cooperation among the below entities, committees, and departments, as well as an external attorney on the board.

Board of directors meetings.  CSC traditionally promotes internal controls based on the framework that the U.S.-based Committee of Sponsoring Organizations of the Treadway Commission (COSO) publicly disclosed. At board meetings, directors confirm that CSC maintains its internal control system in line with the COSO model. In addition, the directors also confirm that:

• CSC follows the MOJ's instructions;
• The company adequately carries out voluntary rules and guidelines that the Loan Servicers Association of Japan (LSAJ) has instructed servicers in Japan to apply through the "plan-do-check-act (PDCA)" framework for internal controls;
• The in-house policies and measures regarding protection of personal information function properly; and
• The company has taken adequate, timely measures after directors found issues in past reviews.

Compliance committee.  The representative director chairs this committee and members include the external attorney on the board, the director of operations, the person in charge of the compliance department, and managers of the IT and servicing departments. The committee aims to promote compliance with relevant laws and advancement of the entire company's corporate ethics. The committee has focused on protecting personal information and has established a subcommittee, called the personal information protection committee, to further pursue the compliance committee's role in this regard.

Compliance department.  This department monitors the company's progress in resolving issues that the MOJ has pointed out in its inspections. It also inspects and manages detailed contents of legal ledgers, and it reports to regulatory authorities. The department verifies all contracts that CSC concluded, maintains and administers internal documents, and provides employees with training on relevant regulations.

Internal auditor.  The internal auditor prepares internal audit programs and conducts a companywide audit annually and operations-based audits semiannually (see the above internal audit and inspection program subsection for details). The annual organizational audit confirms whether CSC's internal controls function appropriately across departments. The operations-based audits examine whether employees implement all administrative and operational work related to the servicing business in line with in-house procedures.

Training program

CSC has encouraged employees to tailor their training programs to their own professional needs, with support and advice from supervisors. The company examines the effectiveness of these customized training programs through dialogue between staff and supervisors on a semiannual basis. The exchanges of dialogue help in the drafting of training programs for the next term. The customized training programs may include external courses, as well as internal training courses that are led by heads of departments. CSC has adopted a timeline for employees to complete their training programs and checks whether they are generally taking courses appropriate for their positions.

In 2023, CSC conducted compliance trainings (such as servicing operations and DX, and Concerning Behavioral Regulations), courses on protection of personal information, and harassment training.

Currently, its main training programs include the following.

• Technical business training: Servicing operations and business law-related courses, and various management courses, as well as a study course held by the LSAJ for loan servicers and asset managers.
• Corporate training: Courses for internal controls including compliance and personal information protection, and courses that provide employees with general knowledge of the industry.
• Business tools training: Courses that heighten employees' capabilities in servicing systems and other computer applications.

CSC has set annual training targets of 25 hours for employees (12 hours for some employees). The average amount of training for all employees in 2023 was about 35.3 hours excluding employees on childcare leave and those joining the company during this period. The asset management department's employees completed about 27.3 hours of training on average (about 27.8 hours for exempt employees).

Operation support system

SCORE--CSC's web-based, multilingual asset management and data warehouse system--centralizes the company's asset data and maintains detailed property-level information on all portfolios and information on obligors and guarantors. The system also keeps records of payments, negotiations with obligors, and litigations. SCORE effectively manages the schedule for each loan so asset managers can concentrate on core servicing activities. It also serves as a reporting database repository that can produce reports for third parties and the MOJ. SCORE is easy to operate and is supplemented by comprehensive, easy-to-understand manuals.

In addition, SCORE is designed to flexibly accommodate securitization transactions backed by various asset types including NPLs, performing loans, real estate-backed commercial mortgage loans, and residential loans. Employees use the system for securitizations that CSC services.

Furthermore, SCORE reflects CSC's policies and procedures. It strengthens internal controls and spreads overall knowledge of various parts of the business to all its employees. On this basis, we believe SCORE ultimately helps the company streamline its operations. We note that SCORE can flexibly accommodate changes to workflows as well as new requirements that arise when the company undertakes servicing for new loan portfolios.

In addition, the company introduced a system in 2019 designed to support intermediation of loans and loan administration agent business related to new portfolios.

Systems and disaster recovery programs

We believe CSC is taking appropriate measures to prepare for possible disasters. CSC stores servicing data on its main server and simultaneously replicates and transmits the data daily to the company's business resumption center in Osaka to ensure safety. In addition, the company saves important data daily on a backup tape and deliver the tape to Mitsui-Soko Co. Ltd., which then stores the tape in one of its fireproof safes. In our view, the servers have sufficient capacity for all of CSC's data needs and can cope with sudden increases in business volume.

CSC also has a backup server in its Tokyo office that the company's IT department manages. CSC stores its servicing data on the server daily and manages an updated backup copy of the data on an external recording device.

CSC's disaster recovery manual prescribes rules to protect the company from business interruptions associated with natural disasters. Dedicated management and business resumption teams would be appointed to take necessary actions should a disaster occur. CSC has enhanced its systems for communicating with employees in disasters by implementing the TOYOKUMO safety confirmation system. CSC reviews disaster recovery procedures at least once a year. Managers of each department are instructed to keep the disaster recovery manual at home.

CSC has designated an alternative backup business resumption site at the Osaka office. Currently, the company maintains a structure where its employees can work if an emergency arises. Twenty network PCs are available, and employees can access the company's network remotely. The company implements disaster recovery and business continuity tests by using this backup site once a year. It implemented the test most recently in December 2023, and no particular problems were detected.

Cyber security

CSC has cyber security measures such as internet access control, malicious website blocking, and filters installed to block virus, worm, and malware attacks for all internal PCs. It also introduced firewall and multifactor authentication system for all internal PCs.

Insurance policies

CSC's insurance policies cover specialists' liabilities related to servicing operations, and financial losses arising from employee fraud.

Litigation

CSC does not currently face any litigation as a defendant.

Loan Administration

Special servicing

Our loan administration subranking for CSC's commercial mortgage loan special servicing is STRONG.

Record

CSC's special servicing portfolio consists of a wide array of property types, including office buildings, retail facilities, multifamily residential properties, and hotels (see table 1). Geographically, the portfolio is relatively concentrated in the Kanto region (Tokyo and surrounding prefectures) and Kansai region (Osaka and surrounding prefectures).

Establishment of collection strategies

Asset managers analyze newly assigned loans and the obligors and then devise appropriate management and collection plans. The procedure includes detailed analysis of collateral assets and cash flows. The asset managers also consider each obligor's payment history and other issues related to specific loans and prepare alternative collection methods if needed. Following this procedure, the asset managers present the plans to the designated portfolio managers, who review them prior to finalizing them with investors. Generally, portfolio managers and asset managers decide on a collection plan for all assets within 120 days of CSC assuming the servicing duties for a distressed loan. The same employees prepare more detailed plans within the same time frame for assets with expected collection amounts that exceed ¥100 million or in cases where a client requests such a plan. Collection actions for any assets require the representative director's approval of an outline of the collection status and strategy.

The asset managers implement the plans following approval from the designated portfolio managers, the representative director, and investors. Asset managers and portfolio managers review the plans annually or as necessary.

Loan data boarding and verification processes

We believe CSC's loan boarding process is well streamlined. The usual procedure for loan boarding is:

• CSC receives the data from clients in Excel format so that employees can upload the data electronically to SCORE.
• The investor reporting team of the loan administration department reconciles the uploaded data through a quality control check, referring to the servicing agreement and other related reference documents. As long as related documents are properly provided, the team usually finishes this check within several hours.
• After the data are loaded, each asset manager performs a detailed review of the information on their respective assets before analyzing the related documents.

Cash management

We believe the multiple review and approval stages of CSC's cash management system provide excellent protection against risk of misconduct.

Confirmation and reconciliation are made by the end of the following business day after an obligor makes a payment. Employees in the treasury section of the finance department print out payment statements several times a day and forward them to asset managers. On the day of payment, the treasury section uploads the payment information to SCORE. The asset managers identify the individual collections and compare collection amounts with the agreed payment schedules. When a discrepancy arises between the expected amount and the amount received, the asset manager in charge will contact the obligor to reconcile the difference.

When an obligor makes a relatively large payment following, for example, a sale of collateral property, the designated asset manager first recommends the obligor remit payments via bank transfers. The next most preferable option is for the obligor to make payments in person, with the asset manager and the obligor meeting at CSC's offices or at the bank. Failing that and if the payment amount exceeds a certain level, CSC uses a two-person collection team consisting of the asset manager and someone from outside the asset management department. The proceeds are then paid into the clients' accounts.

Designated employees in the asset management department prepare payment requests, obtain approval for the requests from the department head, and then forward the requests to the finance department. If the total amount requested equals or exceeds ¥1 million the designated employee must obtain approval from the director of operations for the request. The accounting section of the finance department prepares a payment instruction form based on the approved payment request, obtains necessary approvals depending on the payment amount, and forwards the form to the treasury section of the finance department, which executes the payment. An associate of the treasury section applies the payment through an online banking application and forwards the set of necessary documents, including the forwarded payment instruction form, to the treasury manager for his or her approval. The manager then checks the payment instruction form and online payment application, approves them, and makes the payment. If the manager is to make a payment of ¥2.5 million or more through Sumitomo Mitsui Banking Corp.'s (SMBC) online banking platform, they must obtain approval for the form and online payment application from one additional approver in a senior position before making the payment.

Asset managers' workloads

The portfolio manager assigns individual assets to asset managers based on their areas of experience, expertise and workload. Each asset manager handles about 20 to 30 loans that require significant effort to resolve. We view CSC's assignment volume per asset manager as appropriate, given their ample experience in servicing loans, even though loan receivables tend to be increasingly complex.

The asset managers' primary goal is to set a target recovery value for each loan or collateral property and maximize its net present value through foreclosure liquidations, voluntary sales, discounted payoffs (DPOs), and loan sales, heeding the specific handling requirements in each servicing agreement.

Reporting to relevant parties

CSC uses SCORE to compile reports for investors and clients. SCORE contains all necessary information regarding the collateral assets and loans, including negotiation with obligors and collection histories. Asset managers can retrieve any information necessary for reporting in a timely manner from this system. The system generates reports in both Japanese and English, as well as in formats agreed upon between investors, clients, and CSC.

CSC typically submits reports to clients through a file transfer system that has an added security function. Asset managers are responsible for creating the report, and SCORE is also used to keep statutory books.

Use of brokers

CSC requires any real estate brokers that it uses to submit a comprehensive sales strategy that includes timing and a target price. Regarding the sales price, CSC obtains comparisons from several brokers to determine a reasonable price.

Third-party vendors

CSC employs third-party vendors such as property managers, real estate appraisers, and warehouse companies (for document storage). CSC's selection criteria include a vendor's financial stability, conflicts of interest, and its lack of links to organized crime and other antisocial forces.

Financial Position

S&P Global Ratings currently views CSC's financial position as SUFFICIENT.

Related Research

• Servicer Evaluation Spotlight Report: Environmental, Social, And Governance Factors Have Consistently Powered Our Servicer Evaluation Rankings, Nov. 16, 2020
• Analytical Approach: Global Servicer Evaluations Rankings, Jan. 7, 2019