PROJECT REPORT ON

“STUDY ON INDIAN CREDIT RATING AGENCIES”

A Project Submitted to
University of Mumbai for partial complication of the degree of

Bachelor in Commerce (financial market)

Under the Faculty of Commerce

By

Pratik Kiran Jain

Under the Guidance of

Bharati Makhijani

K J Somaiya College of Science and Commerce.

Vidyavihar Mumbai.

Month and Year

2018-2019
 BACHELOR OF COMMERCE (FINANCIAL MARKETS)

CERTIFICATE

This is to certify that PRATIK KIRAN JAIN SEAT NO. 18-7813 has satisfactorily carried
out the research work on the topic. “A STUDY ON CREDIT RATING AGENCIES IN INDIA”
for the VI Semester of T.Y.B.F.M. in the academic year 2018-2019.

Place: - Vidyavihar (Mumbai)

Date:-_________________

____________________ _______________________ ____________________

Signature of project guide Signature of course in charge Signature of principal

_____________________ _______________________

Signature of Examiner COURSE Coordinator.

 DECLARATION

I, MR. PRATIK KIRAN JAIN student of T.Y.B.F.M semester VI (2018-2019) hereby

declare that I have completed the research on “CREDIT RATING AGENCIES IN
INDIA”. I further declare that the information imparted is true and fair to the best of my
knowledge.

SIGNATURE

(MR. PRATIK KIRAN JAIN)

SEAT NO. 18-7813
 ACKNOWLEDGEMENT

I hereby express my heartiest thanks to all sources who have contributed to the making of this
project. I oblige thanks to all those who have supported, provided their valuable guidance and
helped for the accomplishment of this project. I also extent my hearty thanks to my family,
friends, college teachers and all well-wishers.

I also would like to thank my project guide PROF. BHARTI MAKHIJANI. For her guidance
and timely suggestion and the information provided by her on this particular topic.

It is a matter of utmost pleasure to express my indebt and deep sense of gratitude to various
person who extended their maximum help to supply the necessary information for the present
these, which became available on account of the most selfless corperation.

I would also like to thank the respondents for providing proper feedback that helped me analysis
my project report even better.

Lastly, I would like to thank my friends for helping me throughout the project.

Above all I sincerely thank the UNIVERSITY OF MUMBAI for which this project is given
consideration and was done with utmost seriousness.
 INDEX
Sr.no Content Page no.

1 Introduction.

2 Objectives and Research

Methodology.

3 Literature of review.

4 Data analysis and Case Study.

5 Conclusions, Findings,
Recommendation.

. Bibliography
 EXECUTIVE SUMMARY

The project entitled “Comparative Study of International and National Credit Rating Agencies ”
gives you an insight to the most important concept in any industry, be it service oriented or a
manufacturing firm i.e. working capital.

Credit rating is a qualified assessment and formal evaluation of company’s credit history and
capability of repaying obligations. It measures the default probability of the borrower, and its
ability to repay fully and timely its financial debt obligations.

The main purpose of credit rating is to provide investors with comparable information on credit
risk based on standard rating scale, regardless of specifics of companies, separate sector of the
economy and country as a whole.

Credit rating has proven itself to be effective instrument of risk assessment in countries with
advanced economy since it demonstrates transparency of an enterprise. Credit rating reflects
financial, sectoral, operational, legal and organizational sides of companies, which characterize
ability and willingness duly and in full amount to repay obligations.

In world practice, credit rating can be assigned to sovereign governments, regional and local
executive bodies, corporations, financial organizations and etc.

Different Types of Credit Rating are explained in this project.Various advantages and limitation
to Credit Rating are highlighted.

This project has also covered the Rating Process, Rating Symbols for short term debentures n
long term bonds, Rating Methodology, of various rating agencies like CRISIL, ICRA, SMERA,
ONICRA, CARE and International Rating Agency.
 CHAPTER 1

INTRODUCTION

1.1 INTRODUCTION:
In a market, financial markets play the role of efficient intermediary. They act as a link between savers
and investors, mobilizing capital on one hand, and efficiently allocating them between competing users to
the other hand. In addition to this an investor can also base the investment decision on the grading offered
by credit rating agencies. Introduction

A financial system, comprising of financial institutions, financial services, financial markets and financial
instruments, aims at establishing and providing a regular, smooth, efficient and cost effective linkage
between depositors and investors. All the components of a financial system work in connection with
each other as financial institutions operate in financial market by generating, purchasing and selling
financial instruments and rendering various financial services. Thus, financial institutions allocate savings
of the economy to useful investments.

The financial markets on the other hand facilitate buying and selling of financial claims, assets, services
and securities. These financial claims, assets, services and securities are the financial instruments which
are periodical payments of certain sum of money by way of principal, interest or dividend. The financial
services, dealt within the financial system, not only help in raising the required funds but also in
ensuring their efficient distribution. Financial services are at heart of every economy. They are regarded
as an engine of growth since financial globalization can contribute significantly to promote growth both
in developing countries and countries in transition by augmenting domestic savings, reducing cost of
capital, transferring technology, developing domestic financial sector and fostering human capital
formation. Two characteristics of financial services must be emphasized at the outset. One is that the
financial services involve the creation, dissemination and use of information. This is an information-
based industry that has been transformed by the ―information revolution. The second common
characteristic is that financial services require huge amounts of high quality labor to deal with
information and communication with the market. Financial services involve at least two people or firms,
the service provider and the user. Often financial relationships will involve many parties as with
securities offerings. It is the differences in these parties that make financial services valuable (Ballad,
2005). The financial services industry serves the primary sectors of the economy by intermediating the
flow of funds and providing financial services. Nationally and internationally, this industry is huge,
growing and of critical significance to the health of global economy as well as that of individual business,
investors, consumers and employees. The industry dominated the commanding heights of the Indian
economy in the 1990s. Financial services are provided by stock exchanges, specialized and general
financial institutions, banks and insurance companies. Each of the financial services can be defined to
include the provision of a financial service or the sale of a financial product or both. The products and
services can be grouped under the sections: banking and credit; insurance and securities and brokerage.
Historically, there are four classes of financial services firms: 1) deposit taking firms; 2) insurance type
firms; 3) investment companies; and 4) securities firms (Ballad, 2005). Following are some of the
examples of financial services:

1. Leasing, credit cards, factoring, portfolio management, technical and economic consultancy, credit
information.

2. Underwriting, discounting and rediscounting of bills

3. Acceptances, brokerage and stock holding

4. Depository, housing finance and book building

5. Hire-purchase and instalment credit

6. Deposit insurance

7. Financial and performance guarantee

8. E-commerce and securitization of debts

9. Loan syndicating and credit rating (Gurus Amy, 2004).

Among the other financial services, credit rating is of most recent origin. Credit rating is a financial
service which is helpful to investors in taking their investment related decisions. As the investors in
search of profitable investment avenues have recourse to various sources of information, such as
research reports of market intermediaries, offer documents of the issuer(s), media reports, etc. but in
addition they can also base the investment decision on the grading offered by Credit Rating Agencies.
Rating agencies are independent third parties that are consulted in the course of a market transaction.
Their goal is to assess the probability whether an issuer will meet its debt services obligations in time by
overcoming asymmetric information between both market sides by evaluating financial claims according
to standardized quality categories (Christoph, 2001).

Definition:
CREDIT RATING

The evaluation of a people or businesses’ ability and past performance in paying debts. A credit
rating is generally established by a credit bureau and used by merchants, suppliers, and bankers
to determine whether a loan should be granted or credit extended. “A rating is an opinion on the
future ability and legal obligation of the issuer to make timely payments of principal and interest
on a specific fixed income security. The rating measures the probability that the issuer will
default on the security over its life, which depending on the instrument may be a matter of days
to 30 years or more. In addition, long term ratings incorporate an assessment of the expected
monetary loss should a default occur”

A credit rating agency (CRA) is a company that rates debtors on the basis of their ability to pay
back their interests and loan amount on time and the probability of them defaulting. These
agencies may also analyze the creditworthiness of debt issuers and provide credit ratings to only
organizations and not individuals consumers. The assessed entities may be companies, special
purpose entities, state governments, local governmental bodies, non-profit organizations and
even countries. Individual customers are rated by specialized agencies known as credit bureaus
that provide a credit score to every customer based on his/her financial history. Credit rating
agencies in India do not have a distant past. They came into existence in the second half of the
1980s. As of now, there are six credit rating agencies registered under SEBI namely, CRISIL,
ICRA, CARE, SMERA, Fitch India and Brickwork Ratings. Ratings provided by these agencies
determine the nature and integrals of the loan. Higher the credit rating, lower is the rate of
interest offered to the organization. The Indian credit rating industry has evolved over a period of
time. Indian credit rating industry mainly comprises of CRISIL, ICRA, CARE, ONICRA,
FITCH & SMERA. CRISIL is the largest credit rating agency in India, with a market share of
greater than 60%. It is a full service rating agency offering its services in manufacturing, service,
financial and SME sectors. SMERA is the rating agency exclusively established for rating of
SMEs.

Credit rating is an estimate of the credit worthiness of an individual or organization i.e.

borrower’s potential of repayment of debt. It is done by a third party credit evaluator and reflects
SMEs capability of debt management. Rating is arrived after considering various financial, non-
financial parameters, past credit history and future outlook with respect to economy and the
sector in which the MSME is operating or would like to operate.

Credit rating agencies play an important role in assessing risk and its location and distribution in
the financial system. By facilitating investment decisions they can help investors in achieving a
balance in the risk return profile and at the same time assist firms in accessing capital at low cost.
CRAs can thus potentially help to allocate capital efficiently across all sectors of the economy by
pricing risk appropriately. However, in view of the fact that CRAs that rate capital market
instruments are regulated by SEBI and that entities regulated by other regulators (IRDA, PFRDA
and RBI) predominantly use the ratings, it was felt necessary to institute a comprehensive review
of the registration, regulatory and supervisory regime for CRAs. The major motivation for the
exercise was to look at inter regulatory coordination so that all interested stake holders have an
institutional mechanism for providing inputs feedback to ensure realization of the objective
behind the regulation of CRAs.
 CHAPTER 2

1.2 OBJECTIVES:
 To study the types of credit rating.
 To study benefits of credit rating.
 To study the Indian and International credit rating companies.
 To study the disadvantages of credit rating.

 Provide superior information to the investors at a low cost;

 Provide a sound basis for proper risk-return structure;
 Subject borrowers to a healthy discipline, and
 Assist in the framing of public policy guidelines on institutional investment.

1.3Limitations of the Study

The following are considered to be the potential limitations subject to which the
research had been carried out:
1. The investors and the brokers to be contacted for the purpose of the above research
study are from the Delhi/ NCR region & hence the outcome may not represent the
entire country. 89
2. The study is limited to the functioning of the selected four rating agencies;
therefore, it may not represent the entire credit rating industry.
3. The study is based upon the responses from the respondents (investors, brokers,
companies rated by the CRA’s, the selected CRA’s and the various regulators) and
there is a possibility that some of them may not give correct answers & hide facts.
4. The research outcome is based on a sample size & might be approximate.
5. The research field work is carried for a particular time period & hence the
outcome might not be equally applicable to future scenarios, wherein business needs
& industry behavior might change.
6. Even though all efforts will be taken to ensure correct data compilation, however
some human error might crop in.
1.4Scope of the Study
The scope of the present research study is as follows:
(i) The study focuses on four major Credit Rating Agencies, namely CRISIL, ICRA, CARE,
FITCH.
(ii) As far as the review of the regulatory mechanism of CRA’s is concerned, the study
focuses on the role of SEBI, RBI, IRDA, and PFRDA. 71
(iii) To check the application of the best international practices in Credit Rating, the
practices adopted by the USA, European Union, Australia shall be reviewed and to
check how relevant they are in Indian context.
(iv) To review the functioning of the Credit Rating Agencies, the latest ratings of
companies done by each of the above mentioned CRA’s are critically examined.
(v) The relevance & significance of the ratings for the companies as well as for the
investors are examined on the basis of latest ratings done by each of the above four
CRA’s.
(vi) The investors of the Delhi/ NCR region are contacted for the purpose of carrying out
the research.
(vii) The brokers associated with the Delhi Stock Exchange (DSE) are contacted for
conducting the research work.

1.5 RESEARCH METHODOLOGY:

The study is based on secondary data. The relevant secondary information in this regard is
collected from various sources such as journals, websites, government websites, reports,
publication papers, research papers, etc. This chapter details out the research methodology for
the present study. It explains the research objectives and a suitable methodology to achieve those
objectives. The purpose of this chapter is to present the philosophical assumptions underlining
the present research as well as introduce the research strategy and the empirical techniques
applied. It also defines the scope & limitations of the research design and situate the research
amongst existing research traditions.
 CHAPTER 3

REVIEW OF LITERATURE

Credit rating plays a pivotal role in the decision-making process of stakeholders in the capital
market including regulators, issuers and investors. Therefore, it has been focused by the
researchers doing research in the field of finance domain on this emerging concept. Many studies
have been conducted in the Indian context as well as the global arena on rating methodology,
importance of ratings, performance of rating agencies, investors’ awareness, etc. Some of the
important studies are reviewed in this chapter.

Sudha Vepa (2006) in her study, “Credit Rating of Corporate Debenture in India”, investigated
the concept of credit rating of debt obligations of companies and its purpose. It identified that,
one of the means used for financing the needs of private sectors was the debentures. The study
examined the corporate debenture issues made by the private sectors were closely associated
with the happenings in the capital market. The study explored that credit rating of debentures
was primarily introduced as a regulatory requirement but now it was a result of investor demand.

Sudha Vepa (2006). Credit Rating of Corporate Debenture in India, the Business Review,
Cambridge, 5(2), 137.

Heng An and Kam C. Chan (2008) in their study, “Credit Rating and IPO Pricing”, examined
the effects of credit ratings on IPO pricing. The evidence from U.S. common share IPOs during
1986–2004 showed that when firms go public, those with credit ratings were underpriced
significantly less than firms without credit ratings. Credit rating levels, however, did not have a
significant effect on IPO underpricing. The existence of credit rating reduced the uncertainty
about firm value. Credit ratings also reduced the degree of price revision during the book
building process and the aftermarket volatility in the post-IPO period. The evidence suggested
that credit ratings conveyed useful information in reducing value uncertainty of the issuing firms
as well as information asymmetry in the IPO markets.

Heng An and Kam C. Chan (2008). Credit Rating and IPO Pricing, Journal of Corporate
Finance, 14(5), 584-595.

Jain T and Sharma R (2008) in their study, “Credit Rating Agencies in India: A Case of
Authority without Responsibility”, examined the working of credit rating agencies in the light of
the role played by them in the capital market as information disseminators. The study identified
conflicts of interest affecting the rating decisions and the manner in which the regulations have
attempted to address them. Further, they also studied the regulatory framework for credit rating
agencies in India.

Jain T. and Sharma R. (2008). Credit Rating Agencies in India: A Case of Authority without
Responsibility, Working Paper Series, Supreme Court of India and National Law University,
April, www.ssrn.com.

Tobias Johanson (2010) in his study, “Regulating Credit Rating Agencies: The issue of
conflicts of interest in the rating of structured finance products” examined the financial crisis on
structured finance products of credit rating agencies. This paper explored the ongoing debate
about regulation of CRAs, with a focus on the issue of conflicts of interest in the rating of
structured finance products. There had been a high degree of reliance on ratings from both the
market and the regulators, but at the same time, only limited accountability for the CRAs. The
study put forward three proposals namely: the adoption of global principles-based rules book,
equal treatment of malfeasance and less reliance on rating. These proposals would contribute to a
more efficient and resistant financial system.

Tobias Johansoon (2010). Regulating Credit Rating Agencies: The issue of conflicts of interest
in the rating of structured finance products, Journal of Banking Regulations, 12(3), 1-23.

Arun T.J (2010) in his study, “A Study on Impact of Credit Rating on Investment Decisions of
Investors in Tamilnadu”, has studied the impact of credit rating on investment decisions of
investors in Tamilnadu. The study found that investors belonging to middle income group had
more perception on credit rating and rating agencies. The investors those who took investment
decision on the basis of credit rating ultimately had more perception on credit rating and rating
agencies.

Arun T.J. (2010). A Study on Impact of Credit Rating on Investment Decisions of Investors in
Tamilnadu, Ph.D. Thesis, Periyar University, Salem, Tamilnadu, 221.

Vandana Gupta, et al., (2010) in their study, “The role of credit rating agencies in the sub-
prime crisis”, have traced the development of the sub-prime crisis from its origin till the
aftermath. It studied the weaknesses of credit rating agencies in performing their basic function
of timely and accurate rating of bond obligations. The paper then scrutinized the diversification
of credit rating agencies into the structuring and rating of complex securitized products. This
raised the fundamental issue of the independence and accountability of these agencies. The paper
came to the conclusion that appropriate changes in the regulatory framework of credit rating
agencies were necessary to help avert similar crises in the future.

Vandana Gupta, Mittal R. K. and Bhalla V. K. (2010). The role of credit rating agencies in the
sub-prime crisis, Journal of Development and Agricultural Economics, 2(7), 268-276.

Khyser Mohd (2011) in his study, “Performance of Credit Rating Agencies in India: A
Perceptional Study of Credit Rating Agencies”, focused on the assessment of overall
performance of rating agencies in India from the agencies point of view. The analysis of the
perception of agencies had made it very clear that the role of rating agencies was prominent and
prospective in India. The study identified that the credit rating agencies would judge the
credibility of the issuer, performance of an instrument as well as profitability of a company. The
credit rating agencies firmly believed that credit rating would act as a marketing tool in creating
the company’s image. Further, the analysis revealed that all the services, i.e., information
services, advisory services and research services were equally preferred by investors or
borrowers apart from credit rating services.

Khyser Mohd (2011). Performance of Credit Rating Agencies in India: A Perceptional Study of
Credit Rating Agencies, International Journal of Research in Commerce and Management, 1(2),
3-6

Giuliano Iannotta, et al., (2012) in their study, “Do Investors care about credit ratings? An
analysis through the cycle”, investigated how the credit cycle affects the link between bond
spreads and credit ratings. Using a simple model of the credit assessment process, it showed that
when the debt market was more opaque, the information content of ratings deteriorated; creating
an incentive for investors to increase the amount spent on private information. The researcher
tested this hypothesis empirically. The results showed that when market openness increased, the
explanatory power of ratings and other control variables deteriorated as investors increasingly
price in non-public information.

Giuliano Iannotta, Giacomo Nocera and Andrea Resti (2012). Do Investors care about credit
ratings? An analysis through the cycle, Journal of Financial Stability, 23(5), 67-78.
 CHAPTER 4

TYPES OF RATING

Following are the different kinds of rating:

a) Bond/Debenture rating
Rating the short term and medium term debentures/bonds issued by corporate,
Government etc. is called debenture or bond rating.

b) Equity rating

Rating of equity shares issued by a company is called equity rating. An evaluation of

a stock’s expected performance and/or its risk level as judged by a rating agency such
as Standard and Poor’s. A stock rating will usually help the investor to find out fair
value for the stock, based on an objective evaluation of the company. The greater
the amount by which the fair value exceeds the market value, the
more highly recommended a buy the stock is. Conversely, if the market value of the stock
exceeds the fair value of the stock, then analysts recommend that the stock be sold. Most
stock rating systems give stocks 1 to 5 stars, with 5 being the best.

c) Preference share rating

Rating of preference share issued by a company is called preference share rating.

d) Commercial paper rating

Commercial papers are instruments used for short-term borrowing. Commercial
Papers are issued by manufacturing companies, finance companies, banks and
Financial institutions and rating of these instruments is called commercial paper
Rating.

e) Fixed deposits rating

 Fixed deposits programmers are medium term unsecured borrowings. Rating of such
programmes is called as fixed deposits rating.

f) Borrowers rating
Rating of borrowers is referred as borrower rating.

g) Individuals rating
Rating of individuals is called as individual’s credit rating.

h) Structured obligation
Structured obligations are also debt obligations and are different from debenture or
Bond or fixed deposit programmes and commercial papers. Structured obligation is
Generally asset-backed security. Credit rating agencies assessed the risk associated
With the transaction with the main trust on cash flows emerging from the asset would
Be sufficient to meet committed payments, to the investors in worst case scenario.

i) Sovereign rating
Is a rating of a country, which is being considered whenever a loan is to be extended, or
some major investment is envisaged in a country. It is a grading of a country’s ability to
meet its financial obligations. Credit rating
agencies provide these ratings and investors use this to assess the level of risk related
with investing in a country. The rating may also include an evaluation of a
Country’s political risk. For example, India has been given Baa2 from Baa3 rating by
Moody’s as on November 2017.

j) Rating of real estate

CRISIL has started assigning rating to the builders and developers with the objective of
helping and guiding prospective real estate buyers. CRISIL thoroughly scrutinizes the
sale deed papers, sanctioned plan; lawyers report government clearance certificates
before assigning rating to the builder or developer. Past experience of the builder, number
of properties built by the builder, financial strength, and time taken for completion are
 some of the factors taken into consideration by the CRISIL before giving a final rating to
the real estate builder developer.

k) Bank ratings
CRISIL and ICRA both are engaged in rating of banks based on the following six
parameters also called CAMELS.

C - C stands for capital adequacy of banks. A bank needs to maintain at least 10 %

capital against risky assets of the bank.
A - A stands for asset quality. The loan is examined to determine non-performing assets.
An asset/loan is considered non-performing asset where either interest or principal is
unpaid for two quarters or more. Ratios like NPA to Net Advances, Adequacy of
Provision & Debt Service Coverage Ratio are also calculated to know exact picture
of quality of asset of a bank.
M - M stands for management evaluation. Here, the efficiency and effectiveness of
management in framing plans and policies is examined. Ratios like ROI, Return on
Capital Employed (ROCE), and Return on Assets (ROA) are calculated to comment upon
bank’s efficiency to utilize the assets.
L - L indicates liquidity position. Liquid and current ratios are determined to find out
banks’ ability to meet its short-term claims.
S - S stands for Systems and Control studied to determine their adequacy and efficiency.
 BENEFITS OF CREDIT RATING

(A) BENEFITS OF RATINGS TO THE INVESTORS:

Investors are benefited in many ways if the corporate security in which they intend to invest their
saving has been rated. Some of the benefits are:

(1) Safeguards against bankruptcy

Credit rating of an instrument done by a credit rating agency gives an idea to the
investors about the degree of financial strength of the issuing company, which enables
him to decide about the investment. A highly rated instrument of a company gives an
assurance to the investors of the safety of that instrument and a minimum risk of
bankruptcy.

(2) Recognition of risk

Credit rating provides investors with rating symbols that carry information in easily
recognizable manner for the benefit of investors to perceive the risk involved in the
investment. It becomes easier for the investors by looking at the symbol to understand the
worth of the issuing company. The rating symbol gives them the idea about the risk
involved or the expected advantages from the investment.

(3) Credibility of issuer

Rating gives a clue about the credibility of the issuing company. The rating agency is
quite independent of the issuer company and has no business connections or any
relationship with it or its Board of Directors, etc. Absence of business links between the
rater and the rated firms establish ground for credibility and attract investors.

(4) Easy understandability of investment proposal

An investor needs no analytical knowledge on his part and can understand the rating
symbol. The investor can take quick decisions about the investment to be made in any
particular rated security of a company.
(5) Saving of resources
Investors rely upon credit rating. This relieves investors from botheration of knowing
about the fundamentals of a company, its actual strength, financial standing, management
details, etc. The quality of credit rating done by professional experts of the credit rating
agency repose confidence in him to rely upon the rating for taking investment decisions.

(6) Independence of investment decisions

For making investment decisions, investors have to seek advice of financial
intermediaries, the stockbrokers, merchant bankers, the portfolio managers etc. about the
good investment proposal. For rated instruments, investors need not depend upon the
advice of these financial intermediaries as the rating symbol assigned to a particular
instrument suggests the credit worthiness of the instrument and indicates the degree of
risk involved in it.

(7) Choice of investments

Several alternative credit rating instruments are available at a particular point of time for
investing in the capital market and the investors can make choice depending upon their
own risk profile and diversification plan.

(8) Benefits Of Rating Surveillance

Investors get the benefit of the credit rating agency’s on-going surveillance of the rating
and rated instruments of different companies. The credit rating agency downgrades the
rating of any instrument if subsequently the company’s financial strength declines or any
event takes place, which necessitates consequent dissemination of information on its
position to the investors.

(9) Other Advantages

The investor can quickly understand the credit instrument and weigh the ratings with
advantages from instruments; and make quick decisions to invest or sell or buy securities
to take advantages of market conditions; or, perceiving of default risk by the company.
(B) BENEFITS OF RATINGS TO THE COMPANY:
Company which had its credit instrument or security rated by a credit rating agency is
benefited in many ways as summarized below:

(1) Lower cost of borrowing

A company with highly rated instrument has the opportunity to reduce the cost of
borrowing from the public by quoting lesser interest on fixed deposits or debentures or
bonds as the investors with low risk preference would come forward to invest in safe
securities though yielding marginally lower rate of return.

(2) Wider audience for borrowing

A company with a highly rated instrument can approach the investors extensively for the
resource mobilization using the press media. Investors in different strata of the society
could be attracted by higher rated instrument, as the investors understand the degree of
certainty about timely payment of interest and principal on a debt instrument with better
rating.

(3) Rating as marketing tool

Companies with rated instruments improve their own image and avail of the rating as a
marketing tool to create better image in dealing with its customers feel confident in the
utility products manufactured by the companies carrying higher rating for their credit
instruments.

(4) Reduction of cost in public issues

A company with higher rated instrument is able to attract the investors and with least
efforts can raise funds. Thus, the rated company can economize and minimize cost of
public issues by controlling expenses on media coverage, conferences and other publicity
stunts and gimmicks. Rating facilitates best pricing and timing of issues.

(5) Motivation for growth

Rating provides motivation to the company for growth as the promoters feel confident in
their own efforts and are encouraged to undertake expansion of their operations or new
projects. With better image created though higher credit rating the company can mobilize
funds from public and instructions or banks from self-assessment of its own status, which
is subject to self-discipline and self-improvement, it can perceive and avoid sickness.

(6) Unknown issuer

Credit rating provides recognition to a relatively unknown issuer while entering into the
market through wider investor base who rely on rating grade rather than on ‘name
recognition’.

(C) BENEFITS TO BROKERS AND FINANCIAL INTEMEDIARIES:

Rating is a useful tool for merchant bankers and other capital market intermediaries in the
process of planning, pricing, underwriting and placement of issues. The intermediaries,
like brokers and dealers in securities, could use rating as an input for their monitoring of
risk exposures. The merchant bankers are also using credit ratings for pre-packing of
issues by way of securitization/ structured obligations. Highly rated instruments put the
brokers at an advantage to make less effort in studying the company’s credit position to
convince their clients to select an investment proposal. This enables brokers and other
financial intermediaries to save time, energy, costs and manpower in convincing their
clients about investment in any particular instrument.
 CREDIT RATING IN INDIA

In the Indian context, the scope of credit rating is limited generally to debt, commercial paper,
fixed deposits, mutual funds and of late IPO’s as well. Therefore, it is the instrument, which is
rated, and not the company. In other words, credit quality is not general evaluation of issuing
organization, i.e. if debt of company XYZ is rated AAA and debt of company ABC is rated
BBB, then it does not mean firm XYZ is better than firm ABC. However, the issuer company
gets strength and credibility with the grade of rating awarded to the credit instrument it intends to
issue to the public to raise funds. Rating, in a way, reflects the issuer's strength and
soundness of operations and management. It expresses a view on its prospective composite
performance and the organizational behaviour based on the study of past results.

Further, the rating will differ for different instruments to be issued by the same company, within
the same time span. For example, credit rating for a debenture issue will differ from that of a
commercial paper or certificate of deposit for the same company because the nature of obligation
is different in each case. Credit rating has been made mandatory for issuance of the following
instruments

(1) As per the regulations of Securities and Exchange Board of India (SEBI) public issue of
debentures and bonds convertible/ redeemable beyond a period of 18 months need credit rating.

(2) As per the guidelines of Reserve Bank of India (RBI), one of the conditions for issuance of
Commercial Paper in India is that the issue must have a rating not below the P2 grade from
CRISIL/A2 grade from ICRA/PR2 from CARE.

(3) As per the guidelines of Reserve Bank of India (RBI), Non-Banking Finance Companies
(NBFCs) having net owned funds of more than Rs.2 core must get their fixed deposit
programmes rated. The minimum rating required by the NBFCs to be eligible to raise fixed
deposits are FA (-) from CRISIL/ MA (-) from ICRA/BBB from CARE. Similar regulations
have been introduced by National Housing Bank (NHB) for housing finance companies also.

(4) As per the regulations of the Ministry of Petroleum, the parallel marketers of Liquefied
Petroleum Gas (LPG) and Superior Kerosene Oil (SKO) in India are also subjected to mandatory
rating. The three rating agencies have a common approach for such rating and the dealers are
categorized into four grades between 1 to 4 indicating good, satisfactory, low risk and high risk
(5) There is a proposal for making the rating of fixed deposit programmes of limited companies,
other than NBFCs also mandatory, by amendment of the companies Act 1956.

CRAs registered with SEBI.

Name of the CRA Year of commencement of

operation
CRISIL 1988
ICRA 1991
CARE 1993
FITCH INDIA 1996
BRICKWORKS 2008
 CRISIL

Credit Rating Information Services of India Limited (CRISIL) has been promoted by
Industrial Credit and Investment Corporation of India Ltd. (ICICI) and Unit Trust of India Ltd.
(UTI) as a public limited company with its headquarters at Mumbai. CRISIL, incorporated in
1987, pioneered the concept of credit rating in India and developed the methodology for rating of
debt in the context of India’s financial, monetary and regulatory system. It was the first rating
agency to rate Commercial Paper Programme in 1989, debt instruments of financial institutions
and banks in 1992 and asset-backed securities in 1992.

The main objective of CRISIL has been to rate debt obligation of Indian companies. Its rating
provides a guide to the investors as to the risk of timely payment of interest and principal on a
particular debt instrument. Its rating creates awareness of the concept of credit rating amongst
corporations, merchant bankers, brokers, regulatory authorities, and helps in creating
environment that facilitates the debt rating.

CRISIL provides rating and risk assessment services to manufacturing companies, banks, non-
banking financial companies, and financial institutions, housing finance companies, municipal
bodies and companies in the infrastructure sector. CRISIL’s comprehensive offerings include
ratings for long-term instruments such as debentures/bonds and preference shares, structured
obligations (including asset-backed securities) and fixed deposits; it also rates short-term
instruments such as commercial paper programmes and short-term deposits. As part of bank loan
ratings, CRISIL also rates credit facilities extended to borrowers by banks. In addition, CRISIL
undertakes credit assessments of various entities including state governments. CRISIL also
assigns financial strength ratings to insurance companies.

CRISIL through the years has continued to innovate and play the role of a pioneer in the
development of the Indian debt market. CRISIL has pioneered the rating of subsidiaries and joint
ventures of multinationals in India and has rated several multinational entities, both start-up
entities as well as players with a well-established track record in India. Over the years, CRISIL
has also developed several structured ratings for multinational entities based on Guarantees from
the parent as well as Standby Letter of Credit arrangements from bankers. The rating agency has
also developed a methodology for credit enhancement of corporate borrowing programmes
through the use of partial guarantees. In essence, CRISIL is uniquely placed in its experience in
understanding the extent of credit enhancement arising out of such structures.
(A) CRISIL’s RATING PROCESS

CRISIL’S Ratings Processes in as Given Below:

(1) Request Of The Company

The rating process beings at the request of a company desirous of having its issue obligations
under proposed instrument rated by CRISIL.

(2) Assignment To Analytical Team

On receipt of the above request, CRISIL assigns the job to an analytical team that will be
responsible for carrying out the rating assignment.

(3) Assignment To Analytical Team

On receipt of the above request, CRISIL assigns the job to an analytical team that will be
responsible for carrying out the rating assignment.

(4) Obtaining And Processing Of Data

The analytical team, which generally contains two experts, obtains requisite information
from the client company and analyses the same. To obtain clarification and better
understanding of the client’s operations, the team meets and interacts with company’s
executives.

(5) Findings Presentation

The findings of the team completion of investigation process are presented to Rating
committee (which comprises some directors not connected with any CRISIL shareholder)
which then decides on the rating.

(6) Communication Of Decision

 The decision of the Rating committee is communicated to the client company with remarks
that the company, if it so likes, may present some additional information for reconsideration
of rating grade assigned to the instrument. In case the company has nothing to produce as
additional fact, the rating grade is formally confirmed to the company by CRISIL.

(7) Monitoring Of Change Of Rating

Once the company has decides to use the rating, CRISIL is obliged to monitor the rating,
over the life of the instrument. Depending upon new information, or developments
concerning the company, CRISIL may change the rating. Any change, so effected, is made
public by CRISIL.

(B) CRISIL’S RATING METHODOLOGY

CRISIL analyses five factors while assessing the instrument. These five factors are as follows:

(1) Business Analysis

All the relevant information concerning the business is covered under the following sub-heads.

(a) Industry Risk

CRISIL evaluates the industry risk by taking into consideration various factors like nature
and basis of competition, key success factors, demand and supply position, structure of
industry, government policies etc. Industry strength is evaluated within the economy
considering factors like inflation, energy requirements and availability, international
competitive situation and socio-political scenario; demand projection growth stages and
maturity of markets; cost structure of industry in domestic and international scenario; or,
the government policies toward industry. Industry risk analysis may set an upper limit on
rating.

(b) Market Position Of The Company Within The Industry

Market position of the company within the industry is evaluated form different angles,
i.e. market share and stability of market share; competitive advantage through marketing
and distribution strength and weakness; marketing/support service infrastructure;
diversity of products and customers base; research and development and its linkage to
product obsolescence; quality important programme as finally, the long term sales
contract, strong marketing position of the company within the industry attracts better
grade rating.

(c) Operating Efficiency

Operating efficiency of the company is assessed Vis-à- Vis competitors’ comparison. For
instance, the pricing or cost advantage; availability, cost, quality of raw material;
availability of labour and labour relations; integration of manufacturing operations and
cost effectiveness of plant and equipment’s level of capital employed and productivity;
energy cost; or finally, the compliance to pollution control requirement on taken into
consideration.
 (d) Legal Position

Legal position of issue of debt instrument is assessed by letter of offer; terms of

debenture trust deed, trustees and their responsibilities; system of timely payment of
interest and principal; or protection of forgery and fraud. Thus, business covers all
relevant aspects as related to business operations of the client company to assess the
creditworthiness of the company.

(2) Financial Analysis

Under financial analysis, all relevant aspects connected with the business and financial
position of the company is assessed in the following four important segments. Firstly the
accounting finally is seen as qualifications of auditors; focus on determining extent to which
performance is overstated; method of income recognition; depreciation policies and
inventory calculations; Under Valued/Over Valuing of assets; or off balance sheet liabilities.

Secondly, the Earning Potential return to long term earning potential under varying
conditions is assessed. Key consideration is: Profitability ratios; pretax coverage ratios;
earnings on assets/capital employed; source of future earnings; or ability to finance growth
internally.

Thirdly, the adequacy of the Cash Flows is appraised in relation to debt and fixed and
working capital requirements of the company. Main focus of analysis is on variability of
future cash flows; capital spending flexibility; cash flows to fix and working capital
requirements; or Working Capital management.

Fourthly, the Financial Flexibility is assessed through financial plans in times of stress and their
reliability; ability to attract capital; capital spending flexibility; asset redeployment potential;
or the debt service schedule.

(3) Management Evaluation

The track record of management is evaluated by observing:

 the goals and philosophies;

 strategies and ability to overcome adverse situations;
 judgment of management performance based on past operating and financial results;
  planning and control systems;
 conservatism or aggressiveness with reference to financial risk;
 depths of managerial, talents and succession plans;
 shareholding pattern and constitution/ of Board of Directors; relationship with
shareholders;
 Or mergers and acquisition considerations.

(4) Regulatory And Competitive Environment

CRISIL evaluates structure and regulatory framework of the financial system in which it
works. Trends in regulation/ deregulation and their impact on the company are evaluated.

(5) Fundamental Analysis

It covers aspects on liquidity management; assets quality; profitability and financial position;
and interest and tax sensitively. Liquidity management includes aspects on capital structure,
matching of assets and liabilities; or policy on liquid asset in relation to financing
commitments and maturing deposits. Asset Quality includes aspects concerning quality of
company’s credit risk management, system for monitoring credit, sector risk, exposure of
individual borrowers, or management of problem credits. Profitability and Financial Position
includes aspects on historic profits, spreads on fund deployment, revenues on non-fund-based
services, and accretion to reserves. Interest or Tax Sensitivity includes aspects dealing with
exposure to interest rate changes, revenues on non-fund based activities, and accretion to
reserves.

Factors listed above at serial number 1, 2, 3, are evaluated for manufacturing companies but
for finance companies, emphasis is laid in addition to above factors at serial number 4 and 5.

(C) CRISIL’S RATING SYMBOLS FOR LONG TERM INSTRUMENTS

(1) Investment Grade Ratings:

AAA
(Triple A) Highest Safety

Instruments rated ‘AAA’ are judged to offer the highest degree of safety with regard to
timely payment of financial obligations. Any adverse changes in circumstances are most
unlikely to affect the payments on the instrument.

AA
(Double A) High Safety

Instruments rated ‘AA’ are judged to offer a high degree of safety with regard to timely
payment of financial obligations. They differ only marginally in safety from `AAA’ issues.

A
Adequate Safety

Instruments rated ‘An’ are judged to offer an adequate degree of safety with regard to timely
payment of financial obligations. However, changes in circumstances can adversely affect
such issues more than those in the higher rating categories.

BBB
(Triple B) Moderate Safety

Instruments rated ‘BBB’ are judged to offer a moderate safety with regard to timely payment
of financial obligations for the present; however, changing circumstances are more likely to
lead to a weakened capacity to pay interest and repay principal than for instruments in higher
rating categories.

(2) Speculative Grade Ratings:

BB
(Double B) Inadequate Safety
 Instruments rated ‘BB’ are judged to carry inadequate safety with regard to timely payment
of financial obligations; they are less likely to default in the immediate future than other
speculative grade instruments, but an adverse change in circumstances could lead to
inadequate capacity to make payment on financial obligations.

B
High Risk

Instruments rated ‘B’ are judged to have greater likelihood of default; while currently
financial obligations are met, adverse business or economic conditions would lead to lack of
ability or willingness to pay interest or principal.

C
Substantial Risk

Instruments rated ‘C’ are judged to have factors present that make them vulnerable to default;
timely payment of financial obligations is possible only if favourable circumstances continue.

D
Default

Instruments rated ‘D’are in default or are expected to default on scheduled payment dates.
Such instruments are extremely speculative and returns from these instruments may be
realized only on reorganization or liquidation.

NM
Not Meaningful

Instruments rated ‘N.M’ have factors present in them, which render the rating outstanding
meaningless. These include reorganization or liquidation of the issuer, the obligation is under
dispute in a court of law or before a statutory authority etc.

(D) RATING SYMBOL FOR SHORT TERM INSTRUMENT

P-1 This rating indicates that the degree of safety regarding timely payment on the
instrument is very strong.

P-2 This rating indicates that the degree of safety regarding timely payment on the
instrument is strong however, the relative degree of safety is lower than that for instruments
rated ‘P-1’

P-3 This rating indicates that the degree of safety regarding timely payment on the
instrument is adequate; however, the instrument is more vulnerable to the adverse effects of
changing circumstances than an instrument rated in the two higher categories.

P-4 This rating indicates that the degree of safety regarding timely payment on the
instrument is minimal and it is likely to be adversely affected by short-term adversity or less
favorable conditions

P-5 This rating indicates that the instrument is expected to be in default on maturity or is in
default.

NM Instruments rated ‘N.M’ have factors present in them, which render the rating
outstanding meaningless. These include reorganisation or liquidation of the issuer, the
obligation is under dispute in a court of law or before a statutory authority etc. Not
Meaningful.
 ICRA

ICRA Limited (an Associate of Moody’s Investors Service) was incorporated in 1991 as an
independent and professional company. ICRA is a leading provider of investment information
and credit rating services in India. ICRA’s major shareholders include Moody’s Investors
Service and leading Indian financial institutions and banks. With the growth and globalization of
the Indian capital markets leading to an exponential surge in demand for professional credit risk
analysis, ICRA has been proactive in widening its service offerings, executing assignments
including credit ratings, equity gradings, specialized performance grading and mandated studies
spanning diverse industrial sectors. In addition to being a leading credit rating agency with
expertise in virtually every sector of the Indian economy, ICRA has broad-based its services for
the corporate and financial sectors, both in India and overseas, and currently offers its services
under the following banners:

 Rating Services Information,

 Grading and Research Services Advisory Services
 Economic Research
 Outsourcing

ICRA’s credit ratings are symbolic representations of its current opinion on the relative credit
risks associated with the rated debt obligations/issues. These ratings are assigned on an Indian
(that is, national or local) credit rating scale for Indian Rupee denominated debt obligations.
ICRA ratings may be understood as relative rankings of credit risk within India. ICRA ratings
are not designed to enable any rating comparison among instruments across countries, rather,
these address the relative credit risks within India.
ICRA’s ratings (other than Structured Finance Ratings) in the investment grade convey the
relative likelihood of default, i.e., the possibility of the debt obligation not being met as
promised. All other ratings, including Structured Finance Ratings, reflect both the probability of
default and the severity of loss on default, i.e., the expected loss against the rated debt obligation.
(A) ICRA’S RATING PROCESS

The Rating Process Follows:

Rating Process
Rating is an interactive process with a prospective approach. It involves series of steps. The main
points are described as below:

(1) Rating Request

Ratings in India are initiated by a formal request (or mandate) from the prospective issuer.
This mandate spells out the terms of the rating assignment. Important issues that are covered
include, binding the credit rating agency to maintain confidentiality, the right to the issuer to
accept or not to accept the rating and binds the issuer to provide information required by the
credit rating agency for rating and subsequent surveillance.

(2) Rating Team

The team usually comprises two members. The composition of the team is based on the
expertise and skills required for evaluating the business of the issuer.

(3) Information Requirements

Issuers are provided a list of information requirements and the broad framework for
discussions. These requirements are derived from the experience of the issuers business and
broadly conform to all the aspects, which have a bearing on the rating. These factors have
been discussed in detail under rating framework.

(4) Secondary Information

The credit rating agency also draws on the secondary sources of information including its
own research division. The credit rating agency also has a panel of industry experts who
provide guidance on specific issues to the rating team. The secondary sources generally
provide data and trends including policies about the industry.
(5) Management Meetings And Plant Visits
Rating involves assessment of number of qualitative factors with a view to estimate the
future earnings of the issuer. This requires intensive interactions with the issuer’s
management specifically relating to plans, outlook, and competitive position and funding
policies.

Plan visits facilitate understanding of the production process, assess the state of equipment
and main facilities, evaluate the quality of technical personnel and form an opinion on the
key variables that influence level, quality and cost of production. These visits also help in
assessing the progress of projects under implementation.

(6) Preview Meeting

After completing the analysis, the findings are discussed at length in the internal committee,
comprising senior analysts of the credit rating agency. All the issues having a bearing on the
rating are identified. At this stage, an opinion on the rating is also formed.

(7) Rating Committee Meeting

This is the final authority for assigning ratings. A brief presentation about the issuers
business and the management is made by the rating team. All the issues identified during
discussions in the internal committee are discussed. The rating committee also considers the
recommendation of the internal committee for the rating. Finally, a rating is assigned and all
the issues, which influence the rating, are clearly spelt out.

(8) Rating Communication

The assigned rating along with the key issues is communicated to the issuer’s top
management for acceptance. The ratings, which are not accepted, are either rejected or
reviewed. The rejected ratings are not disclosed and complete confidentiality is maintained.

(9) Rating Reviews

If the rating is not acceptable to the issuer, he has a right to appeal for a review of the rating.
These reviews are usually taken up only if the issuer provides fresh inputs on the issues that
 were considered for assigning the rating. Issuer’s response is presented to the Rating
Committee. If the inputs are convincing, the Committee can revise the initial rating decision.

(10) Surveillance
It is obligatory on the part of the credit rating agency to monitor the accepted ratings over the
tenure of the rated instrument. As has been mentioned earlier, the issuer is bound by the
mandate letter to provide information to the credit rating agency. The ratings are generally
reviewed every year, unless the circumstances of the case warrant an early review. In a
surveillance review, the initial rating could be retained or revised (upgrade or downgrade).
The various factors that are evaluated in assigning the ratings have been explained under
rating framework.
(B)RATING SCALE OF ICRA

(1) LONG TERM - INCLUDING DEBENTURE BONDS, PREFERENCE SHARES:

LAAA
Highest safety

It indicates fundamentally strong position. Risk factors are negligible. There may be
circumstances adversely affecting the degree of safety but such circumstances, as may
visualized, are not likely to affect the timely payment of principal and interest as per times.

LAA+, LAA, LAA-

High safety

Risk factors are modest and may vary slightly. The protective factors are strong and the prospect
of timely payment of principal and interest as per terms and interest under adverse
circumstances, as may be visualized, differs from LAAA only marginally.

LA+, LA, LA-

Adequate safety

The risk factors are more variable and grater in periods of economic stress. The protective factors
any adverse change in circumstances, as may be visualized, may alter the fundamental strength
and effect the timely payment of principal and interest as per terms.

LBBB+, LBBB, LBBB-

Moderate safety

Considerable variability in risk factors. The protective factors are below average. Adverse
changes in business/economic circumstances, are likely to affect the timely payment of principal
and interest as per terms.

LBB+, LBB, LBB-

Inadequate safety
The timely payment of interest and principal are more likely to be affected by present or
prospective changes in business/economic circumstances. The protective factors fluctuate in case
of changes in economy/business conditions.

LBB+, LB, LB-

Risk prone

Risk factors indicate that obligation may not be met when due. The protective factors are narrow.
Adverse changes in economic/business conditions could result in inability/unwillingness to
service debts on time as per terms.

LC+, LC, LC-

Substantial risk

There are inherent elements of risk and timely servicing of debts/obligations could be possible
only in case of continued existence of favorable circumstances.

LD Default.
Extremely speculative

Either already in default in payment of interest and/or principal as per terms or expected to
default. Recovery is likely only on liquidation or reorganization.
(2) MEDIUM TERM - INCLUDING CERTIFICATES OF DEPOSITS AND FIXED
DEPOSITS PROGRAMMES:

MAAA
Highest safety

The prospect of timely servicing of interest and principal as per terms is the best.

MAA+, MAA, MAA-

High safety

The prospect of timely servicing of interest and principal as per terms is high, but not as high as
in MAAA rating.

MA+, MA, MA-

Adequate safety

The prospect of timely serving interest and principal is adequate. However, debt servicing may
be affected by adverse changes in the business/economic conditions.

MB+, MB, MB-

Inadequate safety

The timely payment of interest and principal are more likely to be affected by future
uncertainties.

Mc+, Mc, Mc-

Risk prone

Susceptibility to default high. Adverse changes in the business/economic conditions could result
in inability/unwillingness to service debts on time as per terms.

Md Default

Either already in default or expected to default.

(3).SHORT TERM - INCLUDING COMMERCIAL PAPERS:

A1+, A1
Highest safety

The prospect of timely payment of debt/obligation is the best.

A2+, A2
High safety

The relative safety is marginally lower than A1

A3+, A3
Adequate safety

The prospect of timely payment of interest and installment is adequate, but any adverse changes
in business/economic conditions may affect the fundamental strength.

A4+, A4
Risk prone

The degree of safety is low. Likely to default in case of adverse changes in business/economic
conditions.

A5 Default

Either already in default or expected to default. Inadequate capacity.

Short-Term Ratings:

ICRA assigns short-term ratings with symbols from A1 through to A5 to debt instruments with
original maturity up to one year. ICRA’s short-term ratings measure the probability of default on
the rated debt securities over their entire tenure. A suffix of “+” may be attached to the rating
symbols of A1 through to A4 to indicate the relative position of the issuer within the rating
category. While the short-term rating of A1 indicates that the rated debt issuance has the highest
credit quality, A5 indicates that the rated debt is either in default or is expected to default on its
repayment obligations. ICRA assigns short-term ratings to instruments such as commercial
paper, certificates of deposit, short-term debentures, and other money market related instruments
maturing within one year from the date of issuance.

Linkage between Long-Term And Short-Term Ratings:

Although ICRA ratings are specific to the rated instruments, the short-term ratings in general
have a linkage with the assigned or implicit long-term ratings of the issuers concerned.

Besides the fact that short-term instruments like commercial paper are usually on-going
programmes, thus warranting a longer-term rating view, in ICRA’s opinion, refinancing risk or
an issuer’s access to other sources of funding, is also largely influenced by the issuer’s longer-
term credit profile.

Thus, apart from focusing on short-term factors like near-term business risk drivers and liquidity
position of the issuers, ICRA also factors in an issuer’s long-term credit profile while assigning
short-term ratings to debt instruments issued by it. The following table presents a broad guidance
to the linkage between ICRA’s short-term and long-term ratings.
 CARE

Credit Analysis & Research Ltd. (CARE), incorporated in April 1993, is a credit rating,
information and advisory services company promoted by Industrial Development Bank of India
(IDBI), Canara Bank, Unit Trust of India (UTI) and other leading banks and financial services
companies. In all CARE has 14 shareholders. CARE assigned its first rating in November 1993,
and up to March 31, 2006, had completed 3175 rating assignments for an aggregate value of
about Rs 5231 billion. CARE’s ratings are recognized by the Government of India and all
regulatory authorities including the Reserve Bank of India (RBI), and the Securities and
Exchange Board of India (SEBI). CARE has been granted registration by SEBI under the
Securities & Exchange Board of India (Credit Rating Agencies) Regulations, 1999.

The rating coverage has extended beyond industrial companies, to include public utilities,
financial institutions, infrastructure projects, special purpose vehicles, state governments and
municipal bodies. CARE's clients include some of the largest private sector manufacturing
and financial services companies’ as well financial institutions of India. CARE is well equipped
to rate all types of debt instruments like Commercial Paper, Fixed Deposit, Bonds, Debentures
and Structured Obligations.

CARE’s Information and Advisory services group prepares credit reports on specific requests
from banks or business partners, conducts sector studies and provides advisory services in the
areas of financial restructuring, valuation and credit appraisal systems. CARE was retained by
the Disinvestment Commission, Government of India, for assistance in equity valuation of a
number of state owned companies and for suggesting divestment strategies for these companies.
(A) CARE’S RATING PROCESS

The process involves:

(i) Client gives request for rating and submits information and details schedules;

(ii) CARE assigns rating team and team analyses the information;

(iii) The team interacts with the clients, undertakes site visits;

(iv) The client interacts with the Team respond to queries raised and provides any

additional data necessary for the analyses;

(v) The team analyses the data submitted by the Client and put up to Internal Committee

of CARE for previews analyses;

(vi) Rating Committee of CARE awards rating to the Client;

(vii) Client may ask for review of the rating assigned and furnish additional information

for the purpose. Client has the option not to accept the final rating in which case

CARE will not publish the rating or monitor it; and, finally,

(viii) If the rating is accepted by the client, CARE gives it for notification and a periodic

surveillance is undertaken by CARE.

(B) RATING SYMBOLS OF CARE

(1) Long-Term And Medium Term Instrument:

CARE AAA (FD)/(CD)/(SO)

Instruments carrying this rating are considered to be of the best quality, carrying negligible
investment risk. Debt service payments are protected by stable cash flows with good margin.
While the underlying assumptions may change, such changes as can be visualized are most
unlikely to impair the strong position of such instruments.

CARE AA (FD)/(CD)/(SO)

Instruments carrying this rating are judged to be of high quality by all standards. They are also
classified as high investment grade. They are rated lower than CARE AAA securities because of
somewhat lower margins of protection. Changes in assumptions may have a greater impact on
the long-term risks may be somewhat larger. Overall, the difference with CARE AAA rated
securities is marginal.

CARE A (FD)/(CD)/(SO)

Instruments with this rating are considered upper medium grade instruments and have many
favourable investment attributes. Safety for principal and interest are considered adequate.
Assumptions that do not materialize may have a greater impact as compared to the instruments
rated higher.

CARE BBB (FD)/(CD)/(SO)

Such instruments are considered to be of investment grade. They indicate sufficient safety for
payment of interest and principal, at the time of rating. However, adverse changes in
assumptions are more likely to weaken the debt servicing capability compared to the higher rated
instruments.
CARE BB (FD)/(CD)/(SO)

Such instruments are considered to be speculative, with inadequate protection for interest and
principal payments.

CARE B (FD)/(CD)/(SO)

Instruments with such rating are generally classified susceptible to default. While interest and
principal payments are being met, adverse changes in business conditions are likely to lead to
default.

CARE C (FD)/(CD)/(SO)

Such instruments carry high investment risk with likelihood of default in the payment of interest
and principal.

CARE D (FD)/(CD)/(SO)

Such instruments are of the lowest category. They either are in default or are likely to be in
default soon.
(2) Short-Term Instruments:

Instruments with maturities of one year or less are classified in this category. These include: CP -
Commercial Paper and ICD - Inter-Corporate Deposits.

PR-1

Instruments would have superior capacity for repayment of short-term promissory obligation.
Issuers of such PR-instruments will normally be characterized by leading market position in
established industries, high rates of return on funds employed etc.

PR-2

Instruments would have strong capacity for repayment of short-term promissory obligations.
Issuers would have most of the characteristics as for those with PR1 instruments but to a lesser
degree.

PR-3

Instruments have an adequate capacity for repayment of short-term promissory obligations. The
effect of industry characteristics and market composition may be more pronounced. Variability
in earning and profitability may result in change in the level of debt protection.

PR-4

Instruments have minimal degree of safety regarding timely payment of short-term promissory
obligations and safety is likely to be adversely affected by short-term adversity or less favourable
conditions.

PR-5

The instrument is in default or is likely to be in default on maturity.

 ONICRA

ONICRA CREDIT RATING AGENCY OF INDIA Ltd. is recognised as the pioneers of the
concept of individual Credit rating in India. After being the first to introduce the concept, Onicra
has been continuously conducting in-depth research into all aspects of the behaviour of credit
seekers and has developed a comprehensive rating system for various types of credit extensions.
Onicra provides a platform to credit seekers and granters build long lasting relationship.

Credit Rating

With the advance of credit, the principal has an increased level of exposure in the market. So, a
mandatory check is done to assess the credentials of the individual in question before extending a
loan or advance. We assess the financial visibility and look into all related aspects. We have an
in-house developed credit rating module which is customized to suit various customer
requirements.

Associate Rating

We provide an objective assessment of existing and potential associates of our clients, with
reference to infrastructure, resources, adherence to defined system and processes and
commitment to their customers. This evaluation helps our clients understand the value their
associates bring to their business relationships.
Employment Background Screening

This service provides our clients with authenticated and validated data on employee’s which
includes but is not limited to the Physical Address, qualification both educational and
professional, criminal record check and other pertinent information.

SSI/SME Rating

We help Small Scale Industries that are looking for loans and financial assistance to get assessed
on their credit worthiness, financial viability and performance. This helps their cause to get
unbiased analysis in a funding situation.
 SMERA

SME Rating Agency of India Limited (SMERA) is a joint initiative by SIDBI

(http://www.sidbi.in/), Dun & Bradstreet Information Services India Private Limited (D&
B) (http://www.dnb.co.in/), Credit Information Bureau (India) Limited (CIBIL)
(http://www.cibil.com/) and several leading banks in the country. SMERA is the country’s first
rating agency that focuses primarily on the Indian SME segment.

SMERA’s primary objective is to provide ratings that are comprehensive, transparent and
reliable. This would facilitate greater and easier flow of credit from the banking sector to SMEs.

Rating Process Simplified –

 Based on receipt of application form, applicable rating fees and documents from the
SME, SMERA will begin its process of evaluation.
 A SMERA correspondent will contact the SME to collect a duly filled questionnaire to
facilitate the rating process.
 A Questionnaire, seeking information on financial and qualitative factors, would be sent
to the SME and would need to be filled by an authorised representative of the SME.
 The correspondent would also conduct a site visit as part of the evaluation process.
 SMERA shall complete the evaluation exercise and provide SMERA rating within 15
business days of receipt of all documents from the SME.
 INTERNATIONAL CREDIT RATING COMPANIES

THE BIG THREE AGENCIES:

Credit rating is a highly concentrated industry, with the "Big Three" credit rating
agencies controlling approximately 95% of the ratings business. Moody's Investors Service
and Standard & Poor's (S&P) together control 80% of the global market, and Fitch Ratings
controls a further 15%.

As of December 2012, S&P is the largest of the three, with 1.2 million outstanding ratings and
1,416 analysts and supervisors, Moody's has 1 million outstanding ratings and 1,252 analysts and
supervisors, and Fitch is the smallest, with approximately 350,000 outstanding ratings, and is
sometimes used as an alternative to S&P and Moody’s.

The three largest agencies are not the only sources of credit information. Many smaller rating
agencies also exist, mostly serving non-US markets. All of the large securities firms have
internal fixed income analysts who offer information about the risk and volatility of securities to
their clients. And specialized risk consultants working in a variety of fields offer credit models
and default estimates.

The reason for the concentrated market structure is disputed. One widely cited opinion is that the
Big Three's historical reputation within the financial industry creates a high barrier of entry for
new entrants. Following the enactment of the Credit Rating Agency Reform Act of 2006 in the
US, seven additional rating agencies attained recognition from the SEC as nationally recognized
statistical rating organization (NRSROs). While these other agencies remain niche players, some
have gained market share following the Financial crisis of 2007–08, and in October 2012 several
announced plans to join together and create a new organization called the Universal Credit
Rating Group. The European Union has considered setting up a state-supported EU-based
agency. In November 2013, credit ratings organizations from five countries (CPR of Portugal,
CARE Rating of India, GCR of South Africa, MARC of Malaysia, and SR Rating of Brazil) joint
ventured to launch ARC Ratings, a new global agency touted as an alternative to the "Big Three"
 MOODY’S INVESTOR SERVICE

Moody's Investors Service, often referred to as Moody's, is the bond credit rating business
of Moody's Corporation, representing the company's traditional line of business and its historical
name. Moody's Investors Service provides international financial research on bonds issued by
commercial and government entities. Moody's, along with Standard & Poor's and Fitch Group, is
considered one of the Big Three credit rating agencies.

The company ranks the creditworthiness of borrowers using a standardized ratings scale which
measures expected investor loss in the event of default. Moody's Investors Service rates debt
securities in several bond market segments. These include government, municipal and corporate
bonds, managed investments such as money market funds and fixed-income funds; financial
institutions including banks and non-bank finance companies; and asset classes in structured
finance. In Moody's Investors Service's ratings system, securities are assigned a rating from Aaa
to C, with Aaa being the highest quality and C the lowest quality.

Moody's was founded by John Moody in 1909 to produce manuals of statistics related to stocks
and bonds and bond ratings. In 1975, the company was identified as a Nationally Recognized
Statistical Rating Organization (NRSRO) by the U.S. Securities and Exchange Commission.
Following several decades of ownership by Dun & Bradstreet, Moody's Investors Service
became a separate company in 2000. Moody's Corporation was established as a holding
company.
(A) MOODY’S CORPORATE BOND RATING

The credit ratings assigned by Moody’s to corporate bonds are listed below with the definitions
of each rating category:

AAA

Bonds, which are rated Aaa, are judged to be of the best quality. They carry the smallest degree
of investment risk and are generally referred to as ‘gilt edge’. Interest payments are protected by
a large or by an exceptionally stable margin and principal is secure. While the various protective
elements are likely to change, such changes as can be visualized are most likely to impair the
fundamentally strong position of such issues.

AA

Bonds, which are rated Aa, are judged to be of high quality by all standards. Together with the
AAA group they comprise what are generally known as high-grade bonds. They are rated lower
than the best bonds because margins of protection may not be as large as in Aaa securities or
fluctuation of protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa securities.

Bonds, which are rated A, possess many favorable investment attributes and are to be considered
as upper medium-grade obligations. Factors giving security to principal and interest are
considered adequate but elements may be present which suggest a susceptibility to impairment
sometime in the future.

BAA

Bonds, which are rated Baa, are considered as medium-grade obligations, i.e., they are neither
highly protected nor poorly secured. Interest payments and principal security appear adequate for
the present but certain protective elements may be lacking or may be characteristically unreliable
over any great length of time. Such bonds lack outstanding investment characteristics and, in
fact, have speculative characteristics as well.
BA

Bonds, which are rated Ba, are judged to have speculative elements; their future cannot be
considered as well assured. Often the protection of interest and principal payments may be
moderate and thereby not well safeguarded during both good and bad times over the future.
Uncertainty of position characterizes bonds in this class.

Bonds, which are rated B generally, lack characteristics of a desirable investment. Assurance of
interest and principal payments or of maintenance of other terms of the contract over any long
period of time may be small.

CAA

Bonds, which are rated Caa, are of poor standing. Such issues may be in default and there may
be present elements of danger with respect to principal or interest.

CA

Bonds, which are rated Ca, represent obligations, which are speculative in some degree. Such
issues are often in default or have other marked shortcomings.

Bonds, which are rated C, are the lowest rated class of bonds and issues so rated are to be
regarded as having extremely poor prospects of ever attaining any real investment standing.
 Moody’s Credit Rating
Investment Grade

Rating Long-term rating Short-term rating

Aaa Rated as the highest quality and lowest credit risk

Aa1

Prime-1
Aa2 Rated as high quality and very low credit risk Best ability to repay
short-term debt

Aa3

A1

A2 Rated as upper medium and low credit risk Prime-1/Prime-2

Best ability or high
ability to repay short-
A3 term debt

Prime-2
Baa1 High ability to repay
short term debt

Prime-2/Prime-3
Baa2 Rated as medium grade, with some speculative High ability or
elements and moderate credit risk acceptable ability to
repay short-term debt

Prime-3
Baa3 Acceptable ability to
repay short-term debt

Speculative grade
Rating Long-term ratings Short-term
 ratings

Ba1

Ba2 Judged to have speculative elements and significant

credit risk

Ba3

B1

B2 Judged as being speculative and a high credit risk

Not prime
Do not fall in any
B3 of the prime
categories

Caa1

Caa2
Rated as poor quality and very high credit risk

Caa3

Ca Judged to be highly speculative and with likelihood

of being near or in default, but some possibility of
recovering principal and interest

C Rated as the lowest quality, usually in default and low

likelihood of recovering principal or interest
 STANDARD & POOR’S

Standard & Poor's Financial Services LLC (S&P) is an American financial services company. It
is a division of S&P Global that publishes financial research and analysis on stocks, bonds and
commodities. S&P is known for its stock market indices such as the U.S.-based S&P 500, the
Canadian S&P/TSX, and the Australian S&P/ASX 200. S&P is considered one of the Big
Three credit-rating agencies, which also include Moody's Investors Service and Fitch Ratings. Its
head office is located on 55 Water Street in Lower Manhattan, New York City.

(A) Rating scale of S&P

(1) Long-term credit ratings:

The company rates borrowers on a scale from AAA to D. Intermediate ratings are offered at each
level between AA and CCC (e.g., BBB+, BBB and BBB−). For some borrowers, the company
may also offer guidance (termed a "credit watch") as to whether it is likely to be upgraded
(positive), downgraded (negative) or uncertain (neutral).

Investment Grade:

AAA
An obligor rated 'AAA' has extremely strong capacity to meet its financial commitments. 'AAA'
is the highest issuer credit rating assigned by Standard & Poor's.

AA
An obligor rated 'AA' has very strong capacity to meet its financial commitments. It differs from
the highest-rated obligors only to a small degree. Includes:

 AA+ equivalent to Moody's Aa1 (high quality, with very low credit risk, but
susceptibility to long-term risks appears somewhat greater)

 AA equivalent to Aa2

 AA- equivalent to Aa3

An obligor rated 'A' has strong capacity to meet its financial commitments but is somewhat more
susceptible to the adverse effects of changes in circumstances and economic conditions than
obligors in higher-rated categories.

 A+ equivalent to A1

 A equivalent to A2

BBB

An obligor rated 'BBB' has adequate capacity to meet its financial commitments. However,
adverse economic conditions or changing circumstances are more likely to lead to a weakened
capacity of the obligor to meet its financial commitments.

Non-Investment Grade (also known as speculative grade):

BB

An obligor rated ‘BB’ is less vulnerable in the near term than other lower-rated obligors.
However, it faces major ongoing uncertainties and exposure to adverse business, financial, or
economic conditions, which could lead to the obligor’s inadequate capacity to meet its financial
commitments.

An obligor rated ‘B’ is more vulnerable than the obligors rated ‘BB’, but the obligor currently
has the capacity to meet its financial commitments. Adverse business, financial, or economic
conditions will likely impair the obligor’s capacity or willingness to meet its financial
commitments.

CCC

An obligor rated ‘CCC’ is currently vulnerable, and is dependent upon favorable business,
financial, and economic conditions to meet its financial commitments.

CC

An obligor rated ‘CC’ is currently highly vulnerable.

Highly vulnerable, perhaps in bankruptcy or in arrears but still continuing to pay out on
obligations.

R
An obligor rated ‘R’ is under regulatory supervision owing to its financial condition. During the
pendency of the regulatory supervision, the regulators may have the power to favor one class of
obligations over others or pay some obligations and not others.

SD

Has selectively defaulted on some obligations.

Has defaulted on obligations and S&P believes that it will generally default on most or all
obligations.

NR

Not rated.

(2) Short-term issue credit ratings:

A-1
Obligor's capacity to meet its financial commitment on the obligation is strong.

A-2
Is susceptible to adverse economic conditions however the obligor's capacity to meet its financial
commitment on the obligation is satisfactory.

A-3
Adverse economic conditions are likely to weaken the obligor's capacity to meet its financial
commitment on the obligation.

B
Has significant speculative characteristics. The obligor currently has the capacity to meet its
financial obligation but faces major ongoing uncertainties that could impact its financial
commitment on the obligation.
C
Currently vulnerable to nonpayment and is dependent upon favorable business, financial and
economic conditions for the obligor to meet its financial commitment on the obligation.

D
Is in payment default. Obligation not made on due date and grace period may not have expired.
The rating is also used upon the filing of a bankruptcy petition.

FITCH RATING

Fitch Ratings Inc. is one of the "Big Three credit rating agencies", the other two
being Moody's and Standard & Poor's. It is one of the three nationally recognized statistical
rating organizations (NRSRO) designated by the U.S. Securities and Exchange Commission in
1975.

Fitch Ratings is dual-headquartered in New York, USA, and London, UK. Hearst owns 80% of
the company following its acquisition of an additional 30 percent on December 12, 2014, in a
transaction valued at $1.965 billion. Hearst’s previous equity interest was 50% following
expansions on an original acquisition in 2006.

The remaining 20% of Fitch is owned by FIMALAC SA, which will hold 50% of votes within
the Board until 2020. Fitch Ratings and Fitch Solutions are part of the Fitch Group.

The firm was founded by John Knowles Fitch on December 24, 1914 in New York City as the
Fitch Publishing Company. It merged with London-based IBCA Limited in December 1997. In
2000 Fitch acquired both Chicago-based Duff & Phelps Credit Rating Co. (April) and Thomson
Financial Bank Watch (December).
Fitch Ratings is the smallest of the "big three" NRSROs, covering a more limited share of the
market than S&P and Moody's, though it has grown with acquisitions and frequently positions
itself as a "tie-breaker" when the other two agencies have ratings similar, but not equal, in scale.

(A) RATING SCALE OF FITCH

(1) Long-term credit rating:

Investment Grade

AAA: the best quality companies, reliable and stable.

AA: quality companies, a bit higher risk than AAA.

A: economic situation can affect finance.

BBB: medium class companies, which are satisfactory at the moment.

Non-Investment Grade

BB: more prone to changes in the economy

B: financial situation varies noticeably

CCC: currently vulnerable and dependent on favorable economic conditions to meet its
commitments

CC: highly vulnerable, very speculative bonds

C: highly vulnerable, perhaps in bankruptcy or in arrears but still continuing to pay out on
obligations

D: has defaulted on obligations and Fitch believes that it will generally default on most or all
obligations

NR: not publicly rated

(B)Short-term credit ratings:

Fitch's short-term ratings indicate the potential level of default within a 12-month period.

F1+: best quality grade, indicating exceptionally strong capacity of obligor to meet its financial
commitment

F1: best quality grade, indicating strong capacity of obligor to meet its financial commitment

F2: good quality grade with satisfactory capacity of obligor to meet its financial commitment

F3: fair quality grade with adequate capacity of obligor to meet its financial commitment but
near term adverse conditions could impact the obligor's commitments

B: of speculative nature and obligor has minimal capacity to meet its commitment and
vulnerability to short term adverse changes in financial and economic conditions
C: possibility of default is high and the financial commitment of the obligor are dependent upon
sustained, favorable business and economic conditions

D: the obligor is in default as it has failed on its financial commitments.

DISADVANTAGES OF CREDIT RATING

(1) Biased Rating And Misrepresentations

In the absence of quality rating, credit rating is a curse for the capital market industry,
carrying out detailed analysis of the company, should have no links with the company or the
persons interested in the company so that their reports impartial and judicious
recommendations for rating committee. The companies having lower grade rating do not
advertise or use the rating while raising funds from the public. In such cases, the investor
cannot get information about the riskiness of instrument and hence is at loss.

(2) Static Study

Rating is done on the present and the past historic data of the company and this is only a
static study. Prediction of the company’s health through rating is momentary and anything
can happen after assignment of rating symbols to the company. Dependence for future results
on the rating, therefore defeats the very purpose of risk indicative ness of rating. Many
changes take place in economic environment, political situation, government policy
framework, which directly affect the working of a company.

(3) Concealment Of Material Information

Rating company might conceal material information from the investigating team of the credit
rating company. In such cases, quality of rating suffers and renders the rating unreliable.

(4) Rating Is No Guarantee For Soundness Of Company

Rating is done for a particular instrument to assess the credit risk but it should not be
construed as a certificate for the matching quality of the company or its management.
Independent views should be formed by the public using the rating symbol.

(5) Human Bias

Findings of the investigation team, at times, may suffer with human bias for unavoidable
personal weakness of the staff and might affect the rating.

(6) Reflection Of Temporary Adverse Conditions

Time factor affects rating. Sometimes, misleading conclusions are derived. For example,
company in a particular industry might be temporarily in adverse condition but it is given a
low rating. This adversely affects the company’s interest.

(7) Down Grade

Once a company has been rated and if it is not able to maintain its working results and
performance, credit rating agencies would review the grade and down grade the rating
resulting into impairing the image of the company.

(8) Difference In Rating Of Two Agencies

Rating done by the two different credit rating agencies for the same instrument of the same
issuer company in many cases would not be identical. Such differences are likely to occur
because of value judgment differences on qualitative aspects of the analysis in two different
agencies.

(9) Conservative Rating

Default by an investment-grade firm is seen as the most costly error for the agency. In order
to preserve their reputation by avoiding the failure of any investment-grade firm, rating
agencies downgrade even “good” firms in response to higher global risk. The downgrades
 may look self-fulfilling, but in fact, investors rationally ignore them, as they actually convey
no information about the relative quality of firms.

CASE STUDY ON CREDIT RATING.

Credit Analysis
Credit Analytics Case Study: Hyflux Ltd.

 Author Paul Bishop

 Theme Credit Analysis
 Segment Corporations
 Tags APAC

Nov. 02 2018 — HYFlux Ltd. (HYFLux) is a Singaporean water utility company, which announced on
22 May 2018 that it had applied to the Singaporean High Court to begin a court-supervised process of
debt and business reorganization.1 S&P Global Market Intelligence’s Fundamental Probability of
Default (Fundamental PD) increased nearly nine-fold from 0.5046% (an implied credit score of bb+)2 to
4.5233% (an implied credit score of b) between fiscal year (FY) 2016 and FY 2017. Since FY 2017, the
Q1 2018 Fundamental PD increased by approximately 4% to 4.7275% and the company has not filed
any further public accounts since entering court supervision.

Hyflux experienced a period of rapid sales growth expansion over the course of 2016 with sales year-on-
year (y-o-y) growing from 38.5% in Q4 2015, to peak at a high of 152.48% in Q3 2016. However, over
the course of 2017 sales growth slowed and the company began to struggle to service its debt facilities.
From mid-2016 the company’s current liabilities/net worth exceeded 100% and would continue to rise
until in mid-2018 where it would stand at 141.5%.

Exhibit 1: Fundamental PD Escalation

Source: S&P Global Market Intelligence as of July 24, 2018. For illustrative purposes only.

Business Description
Hyflux provides various solutions in water and energy areas worldwide. The company operates through
two segments, Municipal and Industrial. The Municipal segment supplies a range of infrastructure
solutions, including water, power, and waste-to-energy to municipalities and governments. The
Industrial segment supplies infrastructure solutions for water to industrial customers. The company
provides seawater desalination, raw water purification, wastewater cleaning, water recycling, water
reclamation, and pure water production services to municipal and industrial clients, as well as to home
consumers; and filtration and purification products. It also designs, constructs, owns, operates, and sells
water treatment, seawater desalination, wastewater treatment, and water recycling plants under service
concession arrangements; and sells oxygen-rich water and related products and services. In addition, the
company designs, constructs, owns, operates, and sells power plants and waste-to-energy plants; trades
in the electricity markets; and sells retail electricity contracts. Hyflux was founded in 1989 and is
headquartered in Singapore.

Fundamental Probability of Default Analysis

The analysis of S&P Global Market Intelligence’s one-year Fundamental PD reveals Hyflux had
consistent implied credit scores in the bb+/bbb- range over the course of 2016.3 In the time after FY2016
the Fundamental PD rose consecutively for 5 periods until the company applied for court supervision in
May 2018. It is therefore possible to detect the deteriorating credit quality of Hyflux as early as 12
months before the credit event in 2018. Prior to Q2 2017, the company had been below the global water
utility industry median one-year PD consistently since 2010 with a single exception in 2015. The
escalation of company PD levels in 2017 therefore show a significant increase in company risk levels on
an absolute basis but also when compared to that of its global peers.

Fundamental PDs produced over the course of 2017 and into H1 2018 highlights several areas of
financial risk elements which were driving risk levels continually higher. As of Q1 2018, the company
had a financial risk assessment from PD Fundamentals as highly leveraged. Over the course of 2016,
sales growth became negative and moved from a high point of 152.5% y-o-y sales growth in Q3 2016 to
a low of -53.48% y-o-y sales growth in Q3 2017. This contraction in sales revenues led to a situation
where the company was under increasingly constrained liquidity. Over the same period, the company’s
current liabilities/net worth rose from 57.2% in Q3 2016 up to 141.52% as of Q1 2018, demonstrating
the increasingly fragile state the company was in with respect to its liabilities. EBIT Interest Coverage
fell from 3.05x in Q3 2016 down to -1.61x as of Q1 2018 while EBITDA margins fell into negative
territory over the course of 2017 and stood at -24% as of Q1 2018. The combination of these factors –
declining sales revenues, increasing leverage and erosion of profit margins, prompted the company to
enter into court supervised debt restructuring conversations.

Exhibit 2: Fundamental Probability of Default Contribution Analysis

 Source: S&P Global Market Intelligence as of June 28, 2018. For illustrative purposes only.

Exhibit 3: Key Developments

Source: S&P Global Market Intelligence as of October 29, 2018. For illustrative purposes only.

Credit Analysis
Credit Analytics Case Study Saudi Aramco

 Author Giorgio Baldisseri

 Theme Credit Analysis Governments
 Segment Corporations
 Tags Credit Analytics
Aug. 28 2018 — an expanded framework to assess the credit risk of private companies
when financial statements are not available.
Saudi Aramco initial public offering – is it on or off? The latest news suggests that this is still in
the cards, despite speculations that Saudi Arabia may be scrapping the plan to list its state-
owned energy company altogether. The proposed initial public offering of 5% of the company
would be on the Saudi Stock Exchange, with possible international listings on the New York,
London, and Hong Kong stock exchanges; the total projected valuation of $2 trillion would make
it the largest IPO in history.1

Currently, there is no official information on the company’s accounts, however a first glimpse of
its finances suggests a net income of $34 billion in first half of 2017 alone, with virtually no debt.2

The obvious question thus arises on what the credit risk of this giant may be. Some will assume
this is more of a philosophical question, given the firm is fully owned by Saudi Arabia, currently
rated A- by S&P Global Ratings3. However, a credit risk analyst should also consider the credit
risk of this company on a standalone basis.

At S&P Global Market Intelligence, we have devised a universal framework that allows users to
estimate the credit risk of private companies of any size, globally, with or without financials. The
framework is called Expanded PD Model Fundamentals framework and leverages the pre-
scored database created using S&P Global Market Intelligence’s PD Model Fundamentals.

The framework leverages the database of over 750,000 private companies available on the
S&P Capital IQ platform and scored via Credit Analytics’ PD Model Fundamentals, a statistical
model that uses company financials and other socio-economic factors to estimate a firm’s
probability of default (PD).

When financial statements are not available for a specific company, the framework looks within
Credit Analytics’ PD Model Fundamentals pre-scored database for similar companies operating
in the same industry sector and country/region, to assign an initial PD. This can be then scaled
to account for company size (estimated by looking at the total revenues or the number of
employees), level of diversification, and quality of management and payment behavior
considerations.
 Let us apply this framework to Saudi Aramco and see what we get.

Figure 1 shows an overall standalone score, prior to government support, of bbb+.4

Figure 1: Credit risk of Saudi Aramco, assessed via S&P Global Market Intelligence’s Expanded
PD Model Fundamentals framework.

* Based on number of employees (70,762) reported in 2017 (http://www.saudiaramco.com/en/home/about/performance-key-figures.html).

** Assumed to be at their best, given this is the most profitable and one of the largest companies in the world.

Source: S&P Global Market Intelligence. For illustrative purposes only.

Let us see how and why we arrive at this:

 Anchor: Within PD Model Fundamentals Private’s pre-scored database,

private firms in the Energy sector and headquartered in Emerging
Markets have a long-term average PD that gets mapped to a “b+” score.
This score is based on companies within S&P Global Market
Intelligence’s database with a median revenue size of $185m.

 Size Adjustment: Internal analysis at S&P Global Market Intelligence

shows that credit risk tends to reduce with company size. Keeping into
 account Saudi Aramco’s number of employees, the size adjustment
improves the credit score to bbb- (+4 notches).

 Qualitative Adjustments: Statistical models do not normally account for

qualitative elements, such as the revenue diversification attained by a
company operating in different countries/industries, its quality of
management and payment behaviour towards its counterparties.
Overall, Saudi Aramco’s credit score is improved by 2 notches. This is
the breakdown:

o Diversification adjustment: Due to the global nature of its

operations,5 Saudi Aramco benefits from 2 notches uplift, leading to an
implied score of bbb+;

o Quality of management: We assume the quality of management is at its

best, considering the composition and stability of the firm’s board of
directors. Despite this, there is no net effect on the credit strength of
the company because within a giant company, management actions are
not expected to play an immediate and impactful effect as within
small/agile entities.

o Payment behaviour: We assume Saudi Aramco is able to maintain

regular payment towards its creditors. In our framework there is no
reward for displaying good/regular payment behaviour, thus there is no
further positive impact on the overall score.

One may argue that it is odd for such a giant entity, virtually debt-free and 100% government
owned, to be assessed just at “bbb+”. However:

 A correct credit risk assessment must take into account industry

considerations. In PD Model Fundamentals we take into account the
 industry risk; in this case this weighs and drags down the credit risk
assessment of energy companies, due to their strong exposure to oil
price volatility.

 The assessment provided by our framework does not include any

parental (where applicable) and/or government support considerations.
At S&P Global Market Intelligence, we offer an overlay that allows
including support considerations. Due to Saudi Arabia’s 100% ownership
of the firm, the credit score would raise to a- (as shown in Figure 1),
being equalized to S&P Global Market Intelligence’s sovereign score
assigned to Saudi Arabia.

In summary the Expanded PD Model Fundamentals framework allows the assessment of credit
risk for private companies of any size, globally, thus facilitating coverage of a typical credit risk
portfolio, including large-, medium- and small-revenue borrowers The credit score adopts a
Through-the-Cycle view, but the framework gives users the flexibility to incorporate in the
probability of default a credit cycle and market-view consideration, when a Point-in-Time and
(market-driven) forward looking view is needed.
 CHAPTER 5

FINDINGS

 Credit ratings are assigned to companies through Credit rating agency

 Ratings are not a guarantee against loss.

 The rating given by the agency is very important for:

- Investor
- Issuer
- Financial Intermediaries
- Business Counter-parties
- Regulators
 These days people refer to 3 different credit ratings agencies in order to make correct

decision of investment.

 Issuer can Appeal to the credit rating agency if they would not satisfy with the ratings
 CONCLUSION

Thus we can say that Credit rating is a qualified assessment and formal evaluation of company’s
credit history and capability of repaying obligations. It measures the default probability of the
borrower, and its ability to repay fully and timely its financial debt obligations.

The main purpose of credit rating is to provide investors with comparable information on credit
risk based on standard rating scale, regardless of specifics of companies, separate sector of the
economy and country as a whole.

Credit rating has proven itself to be effective instrument of risk assessment in countries with
advanced economy since it demonstrates transparency of an enterprise. Credit rating reflects
financial, sectorial, operational, legal and organizational sides of companies, which characterize
ability and willingness duly and in full amount to repay obligations

In world practice, credit rating can be assigned to sovereign governments, regional and local
executive bodies, corporations, financial organizations and etc.

A credit rating is a useful tool not only for the investor, but also for the entities looking for
investors. An investment grade rating can put a security, company or country on the global radar,
attracting foreign money and boosting a nation's economy. Indeed, for emerging market
economies, the credit rating is key to showing their worthiness of money from foreign investors,
and because the credit rating acts to facilitate investments, many countries and companies will
strive to maintain and improve their ratings, hence ensuring a stable political environment and a
more transparent.
They can best serve markets when they operate independently, adopt and enforce internal
guidelines to avoid conflicts of interest and protect confidential information received from
issuers. Credit rating agencies cannot afford to commit too many mistakes as it the investors who
pays the price for their mistakes. Credit rating agencies should be made accountable for any
faulty rating by panelizing them or even de-recognizing them, if needed.
 RECOMMENDATION

(A) For investors

 Investors should not forget the Contract Law principle of ‘Caveat Emptor’. Caveat
Emptor means ‘let the buyer beware’. It should be forgotten that everything including
returns cannot be guaranteed and investments cannot berisk-free.
 Investors should observe caution while investing their money and be aware
themselves before taking their investment decisions. Investors should self study the
facts and information available about the investment products and the creditability of
the issuers, before zeroing on their decisions.
 It is equally important for individual investors to maintain their good credit history by
repaying loans on time and not breaching any rules of law in respect of investments,
taxation, etc. that will go a long way in making the individual’s future secure and
smooth.
 Investors must understand that the objective of assessment for IPO Grading and
Credit Rating are very different; though the basis elements of the analysis are same.
IPO Grading assesses factors from equity-holder’s perspective and is a point in time
exercise, whereas Credit Rating assesses factors from debt-holders perspective and
usually requires recurring surveillance over the life of the instrument.

(B) For credit rating agencies

 CRISIL, ICRA & CARE, the three major rating agencies are handling 90% -
95% of the business of credit rating promoted by financial institutions who while
advancing loans take the help of credit rating agencies to get the company rated. All
these agencies have continued to expand their activities in recent years. They must
 also be updated about the reforms in the financial sector which can have a impact on
the businesses of these agencies as the market is volatile in nature especially in case
of debt instrument like bonds.
 Another aspect is regarding the procedure or the methodology that these rating
agencies follow for rating. Sometimes companies not satisfied with rating of one
agency approach use another rating agency for better rating. For this purpose the
rating process or procedure followed for rating must be relevant and accurate. Rating
agencies should not only take into consideration past & present performance; the
projected future performance must not be ignored.
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