A bird eye on credit rating

Credit Rating

Credit Rating is the evaluation of the credit worthiness of an instrument of a company based on perceived overall risk of a company’s business and financial profile as well as structural consideration. Credit rating establishes a link between risk and return. An investor or any other interested person uses the rating to assess the risk level and compares the offered rate of return with his expected rate of return. It facilitates the investors in taking a decision whether to go for an investment or not. The agency, which performs the credit rating is called the Credit Rating Agency.

Following points may be noted in respect of credit rating:

1. Credit rating is an assessment of a borrower’s willingness and ability to repay the rated obligation in accordance with its terms and conditions.

2. It is only an opinion but not a recommendation to purchase, sell, or hold a borrower’s security.

3. The agencies change ratings only for significant and permanent changes in a company’s financial and operating performances

4. Credit rating agencies rate securities and not issuers. Generally, the rating of highest rated debt is taken as the rating of the company.

Credit Rating Agencies

The Credit Rating Agencies (CRA) is one of the capital market intermediaries. It is a body corporate, which is engaged in the business of rating of securities offered by way of public issue or right issue.

Rating means an opinion regarding securities, expressed in the form of standard symbols (numeric, alphanumeric and alphabets) or any other standardized manner assigned by a CRA and used by the issuer of such securities. For instance, public issues of convertible / redeemable debentures/bonds having a maturity period of more than 18 months requires credit rating. Similarly, issue of commercial paper in India also requires a specified credit rating.

Credit Rating Agencies in India

Following are the important Credit Rating Agencies in India:

I.Credit Analysis and Research Limited (CARE)

II. Investment Information and Credit Rating Agency of India Limited (ICRA)

III. Credit Rating and Information Services (India) Limited (CRISIL)

IV. FITCH Credit Ratings India Private Limited

V. Standard and Poor’s Corporation.

Registration of CRA

It may be noted that as per Section 12 of the SEBI Act, 1992, a person has to get itself registered with SEBI under SEBI (Credit Rating Agencies) Regulations, 1999 in order to carry on the activities of Credit Rating.

Every CRA shall abide by the code of conduct contained in the Third Schedule to SEBI (Credit Rating Agencies) Regulations, 1999.

It may be noted that SEBI (Credit Rating Agencies) Regulations, 1999 cover rating of securities only and not rating of fixed deposits, foreign exchange, country ratings, real estates, etc.

Uses of Credit Rating

Credit rating is useful to the following:

Investors: In absence of credit rating, an investor has to make investment based on general available information about the company and its promoters and properly analyzed opinions of a credit rating agency minimizes the risk.

Issuers: Market places faith in the opinion of credit rating agencies. This enables the issuers of high rated instruments to access the market even during adverse conditions.

Intermediaries: Credit Rating also helps intermediaries like merchant bankers, brokers, etc. Credit Rating helps merchant bankers in pricing of the issues whereas it helps the brokers in monitoring their risk exposure.

Regulators: In India, the main regulator related to securities market is SEBI and one of the important functions of SEBI is to protect the interest of investors in securities market. SEBI ensures this by specifying requirement of a certain credit rating for a particular instrument.

Promoters ofaCRA

A CRA can be promoted only by any of the following:

- A public financial institution ;

- Scheduled commercial bank;

- A foreign bank;

- A foreign credit rating agency having minimum 5 years of experience;

- A body corporate having net worth of ₹100 crores in each of the immediately preceding 5 years.

Procedure for Credit Rating:

Generally, CRA follows the following procedure/process for credit rating:

a. Seek information required for the rating from the company

b. On receipt of required information, have discussion with the company’s management and visit the company’s operating locations, if required.

c. Prepare an analytical assessment report.

d. Present the analysis to a committee comprising senior executives of the concerned CRA

e. The aforesaid committee would discuss all relevant issues and assign a rating

f. Communicate the rating to the company along with an assessment report outlining the rationale for the rating assigned.

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