UNIVERSITY OF HYDERABAD

SCHOOL OF MANAGEMENT STUDIES

PROJECT REPORT ON

CREDIT RATING
STATE BANK OF HYDERABAD (SMECCC ZONAL OFFICE)

SECUNDERABAD

SUBMITTED BY
Kumar Anubhav Deep
(14MBMA63)

INTRODUCTION
State Bank of Hyderabad was constituted as State Bank on
08th August 1941 under Hyderabad State Bank Act, 1941.
The Bank started with the unique distinction of being the
central bank of the erstwhile State of Hyderabad, covering
present-day Telangana region of Andhra Pradesh (A.P),
Hyderabad -Karnataka of Karnataka state and Marathwada
of Maharashtra state, to manage its currency - Osmania
Sikka and public debt apart from the functions of commercial
banking. The first branch of the bank was opened at
Gunfoundry, Hyderabad on 5thApril, 1942.
In 1953, the Bank took over the assets and liabilities of the
Hyderabad Mercantile Bank Ltd. In the same year the Bank
started conducting Government and Treasury business as
agent of Reserve Bank of India. In 1956, the Bank was taken
over by Reserve Bank of India as its first subsidiary and its
name was changed from Hyderabad State Bank to State
Bank of Hyderabad. The Bank became a subsidiary of State
Bank of India on the 1stOctober 1959 and is now the largest
Associate Bank of State Bank of India.
All the branches of the Bank are totally networked under
Core Banking Solutions, offering a wide range of products to
its customers. All the customers of the Bank have access to
the latest technologies like Internet Banking, ATMs etc. The
Bank has pan India presence and operates through more
than 1600 Bank branches.

PAGE 1

ACKNOWLEDGEMENT
Simply put, I could not have done this work without the help
and support I received from the STATE BANK OF
HYDERABAD. Everybody is very friendly and cheerful and
no one could never feel stressed out or burned out in such a
wonderful work culture. First of all I would like to thank my
guide Miss.MONIKA, Chief Manager, SMECCC Zonal Office,
Secundrabad. She supported me throughout the project with
utmost co-operation. I am very much thankful to you madam,
for sparing your precious and valuable time for me and for
helping me in doing this project. I express my gratitude to my
faculty guide Dr. K. Ramalu Sir, Assistant Professor, School
of Management Studies, for his valuable guidance, which
helped me in preparing this project report. I place a deep
sense of gratitude to my family members and my friends who
have been constant source of inspiration during the
preparation of this project work.

Kumar Anubhav Deep

MBA Second Semester

(14MBMA63)
University Of Hyderabad

PAGE 2

PAGE 3

DECLARATION
This is to certify that the project titled CREDIT RATING OF
STATE BANK OF HYDERABAD (SMECCC ZONAL
OFFICE)has been done and is a bonafide work completed by
Kumar Anubhav Deep(Enrolment Number 14MBMA63), in
partial fulfilment of the requirement of the Masters of
Business Administration (MBA).
I hereby declare that this project work is the result of my own
efforts which I made in doing work in the bank and has not
copied from any other source. I have taken help from various
sources to gather necessary information to continue my
project and the research on the above topic. Some of the
references from which information is taken are given in the
reference section of this report.
This work has not been submitted earlier at any other
university or institute for the award of the degree.

Kumar Anubhav Deep

14MBMA63
University Of Hyderabad

PAGE 4

CONTENTS
Introduction.. 1
Acknowledgement 2
Declaration

Credit rating
Introduction, definition and importance. 7
Factors affecting credit rating. 11
Nature of credit rating.. 13
Instruments of credit rating. 15
Advantages of rating.. 18
Disadvantages of rating 21
Scoring system in SBH.. 23
Credit risk assessment
(Model of SBH) 26
Types of risk covered.. 29
Qualitative parameter 38
Risk score and rating transition mix..

41

Hurdle scores. 42

PAGE 5

Summary... 47
Suggestion 48
Conclusion .. 49
Bibliography. 50

PAGE 6

CREDIT RATING
Introduction
With the increasing market orientation of the Indian economy
investors value a systematic assessment of two types of risks, namely
business risk arising out of the open economy and linkages between
money, capital and foreign exchange markets and payments risk.
With a view to protect small investors, who are the main target for
unlisted corporate debt in the form of fixed deposits with companies,
credit rating has been made mandatory. India was perhaps the first
amongst developing countries to set up a credit rating agency in 1988.
The function of credit rating was institutionalized when RBI made it
mandatory for the issue of Commercial Paper (CP) and subsequently
by SEBI. when it made credit rating compulsory for certain categories
of debentures and debt instruments. In June 1994, RBI made it
mandatory for Non-Banking Financial Companies (NBFCs) to be rated.
Credit rating is optional for Public Sector Undertakings (PSUs) bonds
and privately placed non-conve11ible debentures up to Rs. 50 million.
Fixed deposits of manufacturing companies also come under the
purview of optional credit rating.
Credit rating 1s concerned with an act of assigning values (In terms of
symbols) to fund raising Instrument by estimating worth, reputation,
solvency and honesty of the borrowing person so as to repose trust in
person's ability and intension to repay. The credit rating is an
assessment by an independent agency of the capacity of an issuer of
debt security to service the debt and repay the principal as per the
terms of Issue of debt. The rating given is based on an objective
judgement of a team of experts from the rating agency involved in the
credit rating. Credit rating 1s a process by which risk associated with a

PAGE 7

credit instrument is evaluated. The risk evaluation is only one factor

among various other factors such as price of security, maturity period,
yield, and tax considerations, which also counts in taking investment
decisions. It evaluates only a specific Instrument and indicates risks
associated with instruments only.

Meaning and Definition of Credit Rating

Credit rating is the opinion of the rating agency on the relative ability
and willingness of tile issuer of a debt instrument to meet the debt
service obligations as and when they arise. Rating is usually expressed
in alphabetical or alphanumeric symbols. Symbols are simple and
easily understood tool which help the investor to differentiate between
debt instruments on the basis of their underlying credit quality. Rating
companies also publish explanations for their symbols used as well as
the rationale for the ratings assigned by them, to facilitate deeper
understanding. In other words, the rating is an opinion on the
futureability 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 thirty years or more. In fact, the credit rating is a
symbolic indicator of the current opinion of the relative capability of
the issuer to service its debt obligation in a timely fashion, with
specific reference to the instrument being rated. It can also be defined
as an expression, through use of symbols, of the opinion about credit
quality of the issuer of security/instrument.
Various Definitions are provided by different agencies some of them
are listed below:

PAGE 8

 According to CRISIL Credit rating is unbiased, objective and

independent opinion as to an issuers capacity to meet financial
obligations.
According to ICRA Credit rating is a simple and easy to
understand symbolic indicators of the opinion of a credit rating
agency about the risk involved in a borrowing programmer of an
issuer with reference to the capacity of the issuer to repay the
debt as per terms of issue.
According to CARE Credit rating is essentially the opinion of
the rating agency on the relative ability and willingness of the
issuer of a debt instrument to meet the debt service obligations
as and when they issue.

Importance of Credit Rating

Credit ratings establish a link between risk and return. They thus
provide a yardstick against which to measure the risk inherent in any
instrument. An investor uses the ratings to assess the risk level and
compares the offered rate of return with his expected rate of return
(for the particular level of risk) to optimize his risk-return trade-off.
The risk perception of a common investor, in the absence of a credit
rating system, largely depends on his familiarity with the names of the
promoters or the collaborators. It is not feasible for the corporate
issuer of a debt instrument to offer every prospective investor the
opportunity to undertake a detailed risk evaluation. It is very
uncommon for different classes of investors to arrive at some uniform
conclusion as to the relative quality of the instrument. Moreover they
do not possess the requisite skills of credit evaluation.
Thus, the need for credit rating in todays world cannot be
overemphasized. It is of great assistance to the investors in
makinginvestment decisions. It also helps the issuers of the debt
instruments to price their issues correctly and to reach out to new
PAGE 9

investors. Regulators like Reserve Bank of India (RBI) and Securities

and Exchange Board of India (SEBI) use credit rating to determine
eligibility criteria for some instruments. For example, the RBI has
stipulated a minimum credit rating by an approved agency for issue of
commercial paper. In general, credit rating is expected to improve
quality consciousness in the market and establish over a period of
time, a more meaningful relationship between the quality of debt and
the yield from it. Credit Rating is also a valuable input in establishing
business relationships of various types. However, credit rating by a
rating agency is not a recommendation to purchase or sale of a
security.
Generally Investors usually follow security ratings while making
investments. Ratings are considered to be an objective evaluation of
the probability that a borrower will default on a given security issue, by
the investors. Whenever a security issuer makes late payment, a
default occurs. In case of bonds, non-payment of either principal or
interest or both may cause liquidation of a company. In most of the
cases, holders of bonds issued by a bankrupt company receive only a
portion of the amount invested by them.
Thus, credit rating is a professional opinion given after studying all
available information at a particular point of time. Such opinions may
prove wrong in the context of subsequent events. Further, there is no
private contract between an investor and a rating agency and the
investor is free to accept or reject the opinion of the agency. Thus, a
rating agency cannot be held responsible for any losses suffered by the
investor taking investment decision on the basis of its rating. Thus,
credit rating is an investor service and a rating agency is expected to
maintain the highest possible level of analytical competence and
integrity. In the long run, the credibility of rating agency has to be
built, brick by brick, on the quality of its services provided, continuous
research
undertaken
and
consistent
efforts
made.

PAGE 10

On the basis of above lines we can conclude that the increasing levels
of default resulting from easy availability of finance, has led to the
growing importance of the credit rating. The other factors are given
below:
1.
2.
3.
4.
5.
6.

The growth of information technology.

Globalization of financial markets.
Increasing role of capital and money markets.
Lack of government safety measures.
The trend towards privatization.
Securitization of debt.

Factors Affecting Credit Rating

Some of the factors which generally influence the ratings to be
assigned are given below:
1. The security issuers ability to service its debt. In order, they
calculate the past and likely future cash flows and compare with
fixed interest obligations of the issuer.
2. The volume and composition of outstanding debt.
3. The stability of the future cash flows and earning capacity of
company.
4. The interest coverage ratio i.e. how many number of times the
issuer is able to meet its fixed interest obligations.
5. Ratio of current assets to current liabilities (i.e. current ratio
(CR)) is calculated to assess the liquidity position of the issuing
firm.

PAGE 11

6. The value of assets pledged as collateral security and the

securitys priority of claim against the issuing firms assets.
7. Market position of the company products is judged by the
demand for the products, competitors market share,
distribution channels etc.
8. Operational efficiency is judged by capacity utilization, prospects
of expansion, modernization and diversification, availability of
raw material etc.
9. Track record of promoters, directors and expertise of staff also
affect the rating of a company.

NATURE OF CREDIT RATING

Some of the points which shows the nature of Credit Ratingare given
below:

1. Rating Based on Information

Any rating based entirely on published information has serious
limitations and the success of a rating agency will depend, to a great
extent, on its ability to access privileged information. Cooperation
from the issuers as well as their willingness to share even confidential
information are important pre-requisites. The rating agency must keep
information of confidential nature possessed during the rating process,
a secret.

2. Many factors affect ratings

Rating does not come out of a predetermined mathematical formula.
Final rating is given taking into account the quality of management,
corporate strategy, economic outlook and international environment.
To ensure consistency and reliability a number of qualified
professionals are involved in the rating process. The Rating

PAGE 12

Committee, which assigns the final rating, consists of specialized

financial and credit analysts. Rating agencies also ensure that the
rating process is free from any possible clash of interest.

3. Ratings by more than one agency

In the well-developed capital markets, debt issues are, more often than
not, rated by more than one agency. And it is only natural that ratings
given by two or more agencies differ from each other e.g., a debt issue,
may be rated AA+ by one agency and AA or AA- by another. It will
indeed be unusual if one agency assigns a rating of AA while another
gives a BBB

4. Monitoring the already rated issues

A rating is an opinion given on the basis of information available at
particular point of time. Many factors may affect the debt servicing
capabilities of the issuer. It is, therefore, essential that rating agencies
monitor all outstanding debt issues rated by them as part of their
investor service. The rating agencies should put issues under close
credit watch and upgrade or downgrade the ratings as per the
circumstances after intensive interaction with the issuers.

5. Publication of ratings
In India, ratings are undertaken only at the request of the issuers and
only those ratings which are accepted by the issuers are published.
Thus, once a rating is accepted it is published and subsequent changes
emerging out of the monitoring by the agency will be published even if
such changes are not found acceptable by the issuers.

6. Right of appeal against assigned rating

Where an issuer is not satisfied with the rating assigned, he may
request for a review, furnishing additional information, if any,
considered relevant. The rating agency will undertake a review and

PAGE 13

thereafter give its final decision. Unless the rating agency had over
looked critical information at the first stage chances of the rating being
changed on appeal are rare.

7. Rating of rating agencies

Informed public opinion will be the touchstone on which the rating
companies have to be assessed and the success of a rating agency is
measured by the quality of the services offered, consistency and
integrity

8. Rating is for instrument and not for the issuer

Company
The important thing to note is that rating is done always for a
particular issue and not for a company or the Issuer. It is quite possible
that two instruments issued by the same company carry different
ratings, particularly if maturities are substantially different or one of
the instruments is backed by additional credit reinforcements like
guarantees. In many cases, short-term obligations, like commercial
paper (CP) carry the highest rating even as the risk profile changes for
longer maturities

9. Rating not applicable to equity shares

By definition, credit rating is an opinion on the issuers capacity to
service debt. In the case of equity there is no pre-determined servicing
obligation, as equity is in the nature of venture capital. So, credit rating
does not apply to equity shares.

10.

Credit VS Financial analysis

Credit rating is much broader concept than financial analysis. One

important factor which needs consideration is that the rating is
normally done at the request of and with the active co-operation of the
issuer. The rating agency has access to unpublished information and
PAGE 14

the discussions with the senior management of issuers give meaningful

insights into corporate plans and strategies. Necessary adjustments are
made to the published accounts for the purpose of analysis. Rating is
carried out by specialized professionals who are highly qualified and
experienced. The final rating is assigned keeping in view the number of
factors.

11.

Time taken in rating process

The rating process is a fairly detailed exercise. It involves, among other

things analysis of published financial information, visits to the issuers
offices and works, intensive discussion with the senior executives of
issuers, discussions with auditors, bankers, creditors etc. It also
involves an in-depth study of the industry itself and a degree of
environment scanning. All this takes time, a rating agency may take 6
to 8 weeks or more to arrive at a decision. For rating short-term
instruments like commercial paper (CP), the time taken may vary from
3 to 4 weeks, as the focus will be more on short-term liquidity rather
than on long-term fundamentals. Rating agencies do not compromise
on the quality of their analysis or work under pressure from issuers for
quick results. Issuers are always advised to. Approach the rating
agencies sufficiently in advance so that issue schedules can be adhered
to.

INSTRUMENTS FOR CREDIT RATING

Equity shares issued by a company.
Preference shares issued by a company.
Bonds/debentures issued by corporate, government etc.

PAGE 15

 Commercial papers issued by manufacturing companies, finance

companies, banks and financial institutions for raising sh0l1-term
loans.
Fixed deposits raised for medium-term ranking as unsecured
borrowings.
Borrowers who have borrowed money.
Individuals.

RATING OTHER THAN DEBT INSTRUMENTS

1. Country Rating
A country may be rated whenever a loan is to be extended or some
major investment is to be made in it by international investors to
determine the safety and security of their investments. A number of
factors such as growth rate, industrial and agricultural production,
government policies, inflation, fiscal deficit etc. are taken into
consideration to arrive at such rating. Any upgrade movement in such
ratings has a positive impact on the stock markets.

2. Rating of Real Estate Builders and Developers

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,
and 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
PAGE 16

3. Chit Fund
Chit funds registered as a company are sometimes rated on their
ability to make timely payment of prize money to subscribers. The
rating helps the chit funds in better marketing of their fund and in
widening of the subscribers base. This service is provided by CRISIL.

4. Ratings of States
States of India have also approached rating agencies for rating. Rating
helps the State to attract investors both from India and abroad to make
investments. Investors find safety of their funds while investing in a
state with good rating. Foreign companies also come forward and set
up projects in such states with positive rating. Rating agencies take
into account various economic parameters such as industrial and
agricultural growth of the State, availability of raw material, labor etc.
and political parties agenda with respect to industry, labor etc.,
relation between Centre and State and freedom enjoyed by the states
in taking decisions while assigning final rating to the states. States like
Maharashtra, Madhya Pradesh, Tamil Nadu, Andhra Pradesh and
Kerala have already been rated by CRISIL.

ADVANTAGES OF CREDIT RATING

Some of the advantages are listed below which shows the importance
of credit rating:

1. Benefits to Investors
Safety of investments. Credit rating gives an idea in advance to
the investors about the degree of financial strength of the issuer

PAGE 17

company. Based on rating he decides about the investment.

Highly rated issues gives an assurance to the investors of safety
of Investments and minimizes his risk.
Recognition of risk and returns. Credit rating symbols indicate
both the returns expected and the risk attached to a particular
issue. It becomes easier for the investor to understand the worth
of the issuer company just by looking at the symbol because the
issue is backed by the financial strength of the company.
Freedom of investment decisions. Investors need not seek advise
from the stock brokers, merchant bankers or the portfolio
managers before making investments. Investors today are free
and independent to take investment decisions themselves. They
base their decisions on rating symbols attached to a particular
security.
Wider choice of investments. As it is mandatory to rate debt
obligations for every issuer company, at any particular time, wide
range of credit rated instruments are available for making
investment.
Dependable credibility of issuer. Absence of any link between the
rater and rated firm ensures dependablecredibility of issuer and
attracts investors. As rating agency has no vested interest in issue
to be rated, and has no business connections or links with the
Board of Directors.
Easy understanding of investment proposals. Investors require
no analytical knowledge on their part about the issuer company.
Depending upon rating symbols assigned by the rating agencies
they can proceed with decisions to make investment in any
particular rated security of a company.
Relief from botheration to know company. Credit agencies
relieve investors from botheration of knowing the details of the
company, its history, nature of business, financial position,
liquidity and profitability position, composition of management
staff and Board of Directors etc.

PAGE 18

 Advantages of continuous monitoring. Credit rating agencies not

only assign rating symbols but also continuously monitor them.
The Rating agency downgrades or upgrades the rating symbols
following the decline or improvement in the financial position
respectively.

2. Benefits of Rating to the Company

Some of the points which shows the benefits of Credit Ratingto the
company are given below:
Easy to raise resources. A company with highly rated instrument
finds it easy to raise resources from the public. Even though
investors in different sections of the society understand the
degree of risk and uncertainty attached to a particular security
but they still get attracted towards the highly rated instruments.
Reduced cost of borrowing. Investors always like to make
investments in such instrument, which ensure safety and easy
liquidity rather than high rate of return. A company can reduce
the cost of borrowings by quoting lesser interest on those fixed
deposits or debentures or bonds, which are highly rated.
Reduced cost of public issues. A company with highly rated
instruments has to make least efforts in raising funds through
public. It can reduce its expenditure on press and publicity.
Rating facilitates best pricing and timing of issues.
Rating builds up image. Companies with highly rated
instrument enjoy better goodwill and corporate image in the
eyes of customers, shareholders, investors and creditors.
Customers feel confident of the quality of goods manufactured,
shareholders are sure of high returns, investors feel secured of
their investments and creditors are assured of timely payments
of interest and principal.

PAGE 19

 Rating facilitates growth. Rating motivates the promoters to

undertake expansion of their operations or diversify their
production activities thus leading to the growth of the company
in future.
Recognition to unknown companies. Credit rating provides
recognition to relatively unknown companies going for public
issues through wide investor base.

3. Benefits to Intermediaries
Stock brokers have to make less efforts in persuading their clients to
select an investment proposal of making investment in highly rated
instruments. Thus rating enables brokers and other financial
intermediaries to save time, energy costs and manpower in convincing
their clients.

DISADVANTAGES
RATING

OF

CREDIT

After having lots of advantages there are several disadvantages also of

credit rating some of them are given below:

1. Non-disclosure of significant information

Firm being rated may not provide significant or material information,
which is likely to affect the investors decision as to investment, to the
investigation team of the credit rating company. Thus any decisions
taken in the absence of such significant information may put investors
at a loss.

PAGE 20

2. Static study
Rating is a static study of present and past historic data of the
company at one particular point of time. Number of factors including
economic, political, environment, and government policies have direct
bearing on the working of a company. Any changes after the
assignment of rating symbols may defeat the very purpose of risk
indicativeness of rating.

3. Rating is no certificate of soundness

Rating grades by the rating agencies are only an opinion about the
capability of the company to meets its interest obligations. Rating
symbols do not pinpoint towards quality of products or management
or staff etc. In other words rating does not give a certificate of the
complete soundness of the company. Users should form an
independent view of the rating symbol.

4. Rating may be biased

Personal bias of the investigating team might affect the quality of the
rating. The companies having lower grade rating do not advertise or
use the rating while raising funds from the public. In such a case the
investors cannot get the true information about the risk involved in
the instrument.

5. Rating under unfavorable conditions

Rating grades are not always representative of the true image of a
company. A company might be given low grade because it was passing
through unfavorable conditions when rated. Thus misleading
conclusions may be drawn by the investors which hampers the
companys interest.

6. Difference in rating grades

PAGE 21

Same instrument may be rated differently by the two rating agencies

because of the personal judgment of the investigating staff on
qualitative aspects. This may further confuse the investors.

CREDIT RATING AND SCORING SYSTEM

Both credit scores and credit ratings provide a credit risk assessment.
When scores are gathered into homogeneous score segments or risk
classes, the result of the score is a rating. The difference b/t scores
and ratings become blurred. The score terminology is particularly used
in retail environments where large customer databases are scored
automatically by mostly statistical scoring systems. Ratings are
assigned to bond issues and take into account objective as well as
subjective elements. The subjective elements aim to capture outlooks
and future evolutions. Ratings result from a manual process that may
take days to weeks to complete.
Score systems and bureau scores are mainly used for internal purposes,
whereas external credit ratings are made public by the rating agencies
for
investors.
Theratedcompaniespublishtheirratingstoraisecapital,because
theratingisanimportantelementoftheirfundingstrategy.Ratedcompanies
aresufcientlybig, becausetheyneedtodisposeofasufcientlydeveloped
nancial management to raise capital from the capital markets, from
bond markets. Therefore, issue ratings typically concern publicly
traded
debt.Individuals,however,donotpublishtheir
scores.
Alsoforbankloans,
thereisoftennointerestinrequestingtherating.

PAGE 22

Whereasagencyratingsare generally made public, internal credit

ratings and scores are typically not.
Ratingsaretypicallyperformanceratingsthatexpressanordinalriskmeasur
e. Theratingspublishedbytheagenciesdonotreectaguaranteeddefault
risk. Investors decide what price they accept given the rating when
making
theinvestment.Scoresexistforvariouspurposes,
applicationandbehavioral scoring being the most important ones for
retail customers.
Internal scores and ratings are used for internal risk management and
regulatory capital calculations. External ratings are used by banks for
the
samepurposesandforbenchmarkingtheirinternalratingswithexternalrati
ngs. External ratings are also consulted by investors for various
purposes in nance: investment decisions, pricing, portfolio
management etc. External ratings are generally available for large
companies, banks and sovereigns.

CREDIT RATING TERMINOLOGY

The rating industry or banks uses specic terminologies. Some of the
important terminologies are listed below:

1. Rating lifetime
PAGE 23

A rating is said to be new when it is assigned for the rst time to an

issuer or issue. Ratings are reviewed on a regular basis by the agencies.
A rating is afrmed if the review does not indicate changes. One
speaks about a conrmation when the review was triggered by an
external request or change in terms. A rating is downgraded/upgraded
when the rating has been lowered/raised in the scale. During the
lifetime of the issue or issuer, the rating can be withdrawn.This means
that the rating is removed for any reason (mergers and acquisitions,
not sufcient information, rating contract stopped) and is no longer
maintained by the agency.

2. Rating watch and outlook

Ratings also have a rating outlook that indicates the medium-term
potential evolution of the rating in the future. A positive/negative
outlook indicates that the rating may be raised or lowered. A rating
with a stable outlook is not likely to change. A developing rating
outlook means the opposite of a stable rating: the rating may be
lowered or raised. Credit watch lists are used to determineshortertermsevolution.Aratingsisputonthe watch list whenan event or
deviation from the expected trend occurs and there is a reasonable
probability for a rating change.

3. Solicited versus unsolicited ratings

Solicited ratings are ratings that are initiated and paid for by the issuer.
However, some issuers do not want to be rated because they seldom
raise debt or equity in international nancial markets, or because they
are afraid of getting an unfavorable rating that may limit their future
access to funding. Based on public information available on them, they
may get rated anyway, resulting in unsolicited ratings.

PAGE 24

4. Split ratings
The spectacular growth in the number of credit rating agencies causes
many debtors or debt instruments to be rated multiple times. A split
rating arises when different agencies assign different ratings to the
same debtor or instrument. The impact of these differences is now
bigger than ever. Since ratings provide the key input for the regulatory
capital calculation, split ratings will lead to different levels of safety
capital. Banks can then cherry-pick the rating agencies with a view to
minimizing their safety capital, which is of course an undesirable
practice. Furthermore, investors will react differently based on
whether a debt instrument is characterized by multiple equivalent
ratings or when split ratings are present.
Split ratings may also directly impact regulations, since regulators may
put restrictions on the number of speculative investments and a debt
instrument may be considered speculative by one agency and nonspeculative by another. Reasons for split ratings are, e.g. different
rating methodologies, access to different information, use of different
rating scales, and sample selectionbias.

WHAT IS CREDIT RISK ASSESSMENT?

Credit risk, or the risk that money owed is not repaid, has been
prevalent in banking history. It is a principal and perhaps the most
important risk type that has been present in nance, commerce and
trade transactions from ancient cultures till today. Numerous small
and large failures, combined with the corresponding economic and
PAGE 25

social impact, further accelerated the importance of credit risk

management throughout history. Credit risk management is a process
that involves the identication of potential risks, the measurement of
these risks, the appropriate treatment, and the actual implementation
of risk models. Efcient credit risk management tools have been vital
in allowing the phenomenal growth in consumer credit during the last
50 years. Without accurate automated decision tools, credit lending
would not have allowed banks to expand the loan book with the speed
they have.
Nowadays, effective credit risk measurement and management is
recognized
by
many
economic
factors,notintheleastbecauseofnancialfailuresofbanks themselves. The
level of capital, acushion to absorb credit and other losses, is matched
to the portfolio risk depending ontherisk characteristics
ofindividualtransactions, theirconcentrationand correlation. All
organizations, including banks, need to optimally allocate capital in
relation to the selective investments made. Hence, efcient tools and
techniques for risk measurement are a key cornerstone of a good credit
risk management.

CREDIT RISK ASSESSMENT (CRA)

MODELS OF SBH
Some CRA models are given in Trade and Service segment in the
circulars of STATE BANK OF HYDERABAD:

PAGE 26

1. The RBI has issued final Guidelines on New Capital Adequacy

Framework (Basel II) on 27th April, 2007. It envisages that Banks
are required to progress from Standardized approach to
advanced approaches for management of Credit, Operational,
and Market risks in a phased manner. The Credit Risk
Assessment (CRA) Models form an important part of this
exercise for Credit Risk. Accordingly, the existing CRA models
were reviewed and New Models, in conformity with the Basel-II
Guidelines have been devised on the lines of State Bank of India
(SBI). The implementation of the New Models would facilitate
the transition from Standardized approach to Internal Ratings
Based (IRB) approaches for management of Credit Risk.
2. A distinguishing feature of the new Model is introduction of a
two dimensional structure for risk rating i.e. Borrower Rating
(issuer) and Facility Rating (issue). A Counterparty would thus
have one Borrower Rating and several Facility Ratings. The
Rating Scale has been expanded to 16 Grades (SBH-1 to SBH-16)
as against the existing 8-point Scale. Facility Ratings would also
range from FR1 to FR 16. For internal reporting within the Bank,
the Borrower Rating was also Facility Ratings, together with the
relative scores (within brackets), would need to be indicated.
3.

The new CRA models will be applicable to all accounts with

aggregate exposure (Fund Based + Non Fund-Based) of Rs 25
lacs & above, for both Non-Trading Sector (C&I, SSI & AGL
Segments) and Trading Sector (including Services). While
accounts with exposures above Rs 5 crores will be covered under
Regular Model, those with exposures up to Rs. 5 crores will be
covered under the Simplified Model.

4. Facility Rating will be applicable only for exposures covered

under the Regular Model.

PAGE 27

5. .The New CRA Models are to be implemented from 15/4/2008 on

a parallel basis for a period of 3 months for accounts having
Fund and Non-fund exposure of Rs.50 crores and above. From
15/7/2008, new CRA Models are required to be implemented by
all branches replacing the existing CRA models of
Manufacturing and Trade.
6. The existing practice of CRA for NBFC & PER segment advances
will continue as per the existing system.
7. Greater level of involvement of concerned staff is required for
successful migration to new rating models.
8. There are three enclosures to this e-circular :
New Credit Risk Assessment Models A Gist
New CRA Models for Non-Trading Sector (Value
Statements/Scoring Bands)
New CRA Models for Trading Sector (Value Statements/Scoring
Bands).
9.

The branches are advised to familiarize themselves with the

revised guidelines and bring the contents of the circular to the
notice of all the staff members.

PAGE 28

NEW CREDIT RISK ASSESSMENT

(CRA) MODELS
A GIST
Background
A review of Credit Risk assessment (CRA) Models for Non-Trading &
Trading Sectors was undertaken with the objective of making them
Basel-II compliant and meeting the requirements of Internal Ratings
Based (IRB) Approach. The New CRA Models are being released for
Bank-wide implementation.

Salient Features of New CRA Models

a.

Type of Models

S.No.

Exposure
Level(FB+NFB Limits)

Non-Trading
Sector

Trading Sector

1.

Over Rs 5 crore

Regular Model

Regular Model

2.

Rs 0.25 crore to Rs. 5 Simplified Model

crore

b.

Simplified Model

Type of Ratings

S.No. Model
1.

Regular Model

2.

Simplified Model

Type of Rating
(a)
(b)

Borrower Rating
Facility Rating

Borrower Rating

PAGE 29

(c)Types of Risk Covered :

Borrower Rating

Regular
Model

1.

Financial Risk(FR)

Regular
Model

Simplified Simplified
Model
Model

Existing New
Existing
Company Company Company

New
Company

65

35

25

70

(65*O.39)
2.

Qualitative
Factor(-ve)

3.

4.

5.

(-10)

(70/2)

(-10)

(-10)

(-10)

Business
& 20
Industry
Risk
(BR
&
IR)
/Business Risk
(for
Trading
Sector)

30

20

40(20*2)

Management
Risk (MR)

15

45

10

25

Qualitative
Parameter
(External
Rating)

(+5)

(20*1.5)

(15*3)
(+5)

(10*2.5)
(+5)

(+5)

PAGE 30

Total

100

100

100

100

6.

Borrower Rating
based on the above
Score

7.

Country Risk (CR)

8.

Final
Borrower
Rating after CR

9.

Financial
Statement Quality

Excellent/Good/Satisfactory/Poor

10.

Risk Score/Rating
Transition Matrix

Comments on Trend in Rating

Facility Rating (Regular Models)

S.No. Parameter

Maximum Score

Risk Drivers for Loss Given Default

(LGD)
I.

II.

Current Ratio [Working Capital/ Non- 6

Fund Based Facility (except Capex)]
Or
Project
Debt/Equity[Term
Loan/Non-Fund Based Facility
Nature of Charge

III.

Industry /(Trade- for Trading Sector)

IV.

Geography

V.

Unit Characteristics (a) Leverage/ 8

Enforcement of Collateral-4
PAGE 31

(b) Safety, Value & Existence of

Assets-4
VI.

Macro-Economic Conditions

(a) GDP Growth Rate : Impact of

Business Cycle - 2
(b)
Insolvency Legislation in the
Jurisdiction-1
(c) Impact of Systemic/Legal Factors
on Recovery-1
(d) Time Period for Recovery-1
VII.

Total Security (Primary + Collateral)

60

Risk Drivers for Exposure at Default

(EAD)
I.
II.
III.

Nature
of
Commitment 1
(Revolving/Non-Revolving)
Credit Quality of Borrower

Tenor of Facility

Total Score

100

Facility Rating based on the above Score

New Rating Scales - Borrower Rating: 16 Rating Grades

S.No. Borrower
Rating

Range
of
Scores

Risk Level

Comfort
Level

1.

SB1

94-100

Virtually Zero Virtually

risk
Absolute
safety

2.

SB2

90-93

Lowest Risk

Highest safety

3.

SB3

86-89

Lower Risk

Higher safety
PAGE 32

4.

SB4

81-85

Low Risk

High safety

5.

SB5

76-80

Moderate
Adequate
Risk
with safety
Adequate
Cushion

6.

SB6

70-75

Moderate
Risk

Moderate
Safety

7.

SB7

64-69

Moderate
Risk

Moderate
Safety

8.

SB8

57-63

Average Risk

Average
Safety
Threshold

9.

SB9

50-56

Average Risk

Average
Safety
Threshold

10.

SB10

45-49

Acceptable Safety
Risk
(Risk Threshold
Tolerance
Threshold)

11.

SB11

40-44

Borderline
risk

Inadequate
safety

12.

SB12

35-39

High Risk

Low safety

13.

SB13

30-34

Higher Risk

Lower safety

14.

SB14

25-29

Substantial
risk

Lowest safety

PAGE 33

15.

16.

SB15

< 24

Pre-Default
NIL
Risk
(extremely
vulnerable to
default)

SB16

---

Default Grade NIL

New Rating Scales Facility Rating (separate for

each fund based and non-fund based facility): 16
rating grades

S.n
o

Facilit Rang LGD level( Risk Level

y
e of recovery
Grades score level)
s

Comfort
Level

FR1

Virtually
Absolute
Safety

94100

Zero LGD

Virtually
Zero Risk

PAGE 34

FR2

87-93

Lowest
LGD
(Highest
Recovery

Lowest
Risk

Highest
Safety

FR3

80-86

Lower LGD Lowest

(Higher
Risk
Recovery

Highest
Safety

FR4

73-79

Very Low Low Risk

LGD (High
Recovery

High
Safety

FR5

66-72

Low LGD Moderate Adequate

(Adequate Risk with Safety
Recovery) Adequate
Cushion

FR6

59-65

Moderate
LGD
(Moderate
Recovery)

FR7

52-58

Moderate Moderate
LGD
Risk
(Moderate
Recovery)

FR8

45-51

Average Average
LGD Risk
(Average
recovery)

FR9

38-44

Average
LGD
(Average

Moderate
Risk

Average
Risk

Moderate
Safety

Moderate
Safety

Above
Safety
Threshol
d
Above
Safety
Threshol

PAGE 35

recovery)

10

FR10

31-37

LGD
Tolerance
Threshold
(Recovery
Tolerance
Threshold

11

FR11

24-30

High LGD High Risk

(Low
recovery)

12

FR12

17-23
Higher
LGD
(Lower
Recovery)

Acceptable Safety
Risk (Risk Threshol
Tolerance d
Threshold)

Higher
RISK

Low
Safety
Lower
Safety

13

FR13

11-16

Substantia Substantia Lowest

l
LGD l Risk
Safety
(Small
recovery)

14

FR14

5-10

Highest
Substantia Lowest
LGD
l Risk
Safety
(Minimal /
Zero
recovery)

15

FR15

1-4

Highest
Highest
LGD
Risk
(Minimal /
Zero
recovery)

NIL

PAGE 36

Mapping to Existing Borrower Rating Bands

New CRA New CRA Existing
Model
Model
CRA
Score
Grade
Model
Grade

Existing
CRA
Model
Score

94-100

SB1

SBH1

>=90

90-93

SB2

SBH1

>=75

86-89

SB3

SBH2

>=75

81-85

SB4

SBH2

>=75

76-80

SB5

SBH2

>=65

70-75

SB6

SBH3

>=65

64-69

SB7

SBH3

>=50

57-63

SB8

SBH4

>=50

50-56

SB9

SBH4

>=45

10

45-49

SB10

SBH5

>=35

11

40-44

SB11

SBH6

>=35

12

35-39

SB12

SBH6

>=35

13

30-34

SB13

SBH7

>=25

14

25-29

SB14

SBH7

>=25

15

< 24

SB15

SBH8

< 25

16

S16

PAGE 37

Qualitative Parameter (External Rating)

Solicited Rating by a recognized External Credit Rating Agency
(ECRA) translates to additional Score. Following ECRAs
recognized by RBI are considered for this purpose:

S.No

Type

ECRA

Domestic

(a) Credit Analysis

&
Research
Limited;
(b)
CRISIL Limited; (c)
FITCH India;
(d)
ICRA Limited.

International

(a) FITCH;
(b) Moodys;
(c)Standard
& Poors

RBI has clarified that Cash Credit Exposures tend

to be generally rolled over and also tend to be drawn on an
average for a major portion of the sanctioned limits. Hence even
though a cash credit exposure may be sanctioned for a period of
one year or less, these exposures should be reckoned as Long
Term Exposures and accordingly, the Long Term Ratings
accorded by the chosen Credit Rating Agencies will be relevant.
The Scoring Bands for factoring External Rating (Long
Term/Short Term) are as under:

Long

Short

Short

Short

Short

Standardized Additional
PAGE 38

Term
Rating

term
rating
CARE

term
rating
CRISIL

term
rating
FITCH

term
rating
ICRA

Approach
Risk weight

Score
Under
New CRA
Models

AAA

PR1+

P1+

F1+

A1+

20%

AA

PR1

P1

F1

A1

30%

305

PR2

P2

F2

A2

50%

BBB

PR3

P3

F3

A3

100%

BB &
Below

PR4
PR5

P4
P5

B,c,d

A4
A5

150%

Multiple Ratings:
In case of borrowers having multiple ratings from recognized
ECRAs, following procedure is to be followed:
(i) If there is only one ECRA rating for a particular claim, that
rating would be used to determine scoring;
(ii) If there are two ratings accorded by ECRAs which map into
different risk weights, the rating corresponding to the higher risk
weight would be taken cognizance of for scoring ;
(iii) If there are three or more ratings accorded by ECRAs, with
different risk weights, the ratings corresponding to the two lowest risk
weights should be referred to and the rating corresponding to the
higher of the two risk weights should be taken cognizance of for
scoring.

PAGE 39

Financial Statement Quality

The credit analyst is to comment on the quality,
adequacy and reliability of financial statements/information
irrespective of the Risk Rating. This includes consideration of
the size and capabilities of the accounting firm, compared to
the complexities of the borrower and its financial statements.
The comments on the quality of financial statements should
include the quality of information provided to the Bank. The
Quality is to be indicated as Excellent /Good /Satisfactory
/Poor. This step is not instrumental in improvement of rating
but is helpful in defining the best possible Borrower rating.

Risk Score /Rating Transition Matrix

A major fluctuation in scores resulting in upgradation or
deterioration in Rating by more than one stage, is to be commented
upon. Upgradation in Rating only on account of higher score in
parameters other than Financial Risk, is to be examined and
commented upon. This provides an additional risk awareness tool for
the Credit Analyst.
(1) Country Risk (Applicable for borrowers having 25% or more
cash flow or assets outside India)

PAGE 40

Country risk is the risk that a borrower will not be able to service
its obligations to pay because of cross-border restrictions on the
convertibility or availability of a given currency. It is also an
assessment of the political and economic risk of a country. Country
Risk is assumed to exist when 25% or more of the borrowers cash flow
or assets are located outside India. Country Risk Ratings are circulated
by Foreign Department (FD) of SBI. Last FD Circular No. 070/2007-08
dated 27th July, 2007 indicates Risk category-wise list of countries as
on 31/03/2007. Our International Banking Department (IBD) will issue
guidelines from time to time on Country Risk based on SBI guidelines.

(2) Entry Barriers

Minimum Score 2 under Integrity parameter under
Management
Full Compliance with Environmental regulations

Hurdle Scores

Regular
Model
existing
company

Regular
Model
new
company

Simplified
Model
existing
company

Simplified
Model new
company

Financial Risk 25/65

(FR)

10/25

30/70

15/35

Business

16/30

10/20

20/40

& 12/20

PAGE 41

Industry Risk
(B&IR)
[Business Risk
(BR)
for
trade]
Management
Risk (MR)

8/15

22/45

5/10

13/25

Aggregate
hurdle Score

45/100

48/100

45/100

48/100

Hurdle Grade

SB10

SB10

SB10

SB10

Score Range 45-49 corresponds to SB10. Hence as per New CRA Models
SB10 is the new Hurdle Grade. Under Facility Rating, if the score goes
below the hurdle rate of FR10, the reasons for low score are to be given.

Factoring Decimal Scores while aggregating Score for Risk Grading

Score up to 0. 4 to be ignored;
Score of 0.5 or more to be rounded off to the next number.
Reporting of Risk Score along with Rating:
Aggregate Risk Score is to be shown in brackets along with Borrower
Rating in internal reporting within the Bank.
Frequency of Rating: Annual
Risk Assessment for New Units

Activity Status
Newly incorporated unit where
the production/commercial

Basis of Risk Assessment

Projected Financials

PAGE 42

production is yet to begin

Newly incorporated unit where
the audited financials relate to
less than 12 months of
commercial production.
Newly incorporated unit where
the audited financials reflect
minimum 12 months of working
after the start of commercial
production.

Projected Financials

Audited Financials

For rating purpose, a new unit refers to a newly incorporated

Firm/Company which may continue to be regarded as new for a period
of three years after the start of commercial production. However, in
the case of Companies/Firms promoted by an established Group, a
view regarding their status as new or otherwise would be taken by
Sanctioning Authority after one years performance.

General
(i) For units engaged in both industrial & trading activities, the Risk
Rating will be done based on the predominant activity financed by the
Bank and the relevant model used.
(ii) If data on a certain industry for industry comparison in CRISINFAC or CMIE or any other published source is not available, the
score would be normalized. In a Multi Division Company, the thrust of
scoring under Industry Outlook would be limited to the industry
being financed by the Bank.
(iii) Wherever a parameter is not applicable, the score would be
normalized.
(iv) For a new unit, where value statements for some of the parameters
appear to be out of place for scoring, the Credit Analyst would assess
PAGE 43

whether the unit has any plans to measure up to the levels indicated
under those value statements and then score accordingly.
(v) While Borrower rating of a unit will remain unchanged for a period
up to one year, the different facilities would be rated simultaneously
with Borrower Rating or as and when the facility is
sanctioned/reappraised. A unit would carry several different Facility
Ratings e.g. if a unit is enjoying one Working Capital facility & two
(say) Term Loan facilities, it will have one Borrower Rating & 3 Facility
Ratings.
(vi) Borrower rating would not be assessed each time a new facility is
sanctioned to the unit within the year.
(vii) While working out the Facility Rating, the share of total security
against that facility.

Facility Rating
(i)

Facility Rating Design

A Borrowing Company may be availing either one or more of
Fund Based (FB) Facilities such as Working Capital (WC)
/Term Loan (TL) or/and Non-Fund Based (NFB) Facilities
like, Letters of Credit (L C)/Bank Guarantee (BG). All the
facilities are to be rated separately viz., if a Borrowing
Company has both WC & TL & two Bank Guarantee Facilities
& three different L/C Facilities; in total, the Company would
have one Borrower Rating & seven (i.e, 1+1+2 + 3 = 7) Facility
Ratings. The pricing of loans, in future, will be linked to
Facility Rating after building up adequate Loss Given Default
(LGD) data base. For the present, pricing will continue to be
linked to Borrower Rating only.

(ii) Facility Hurdle Rate

PAGE 44

All facilities are expected to meet the Facility Hurdle Rate of FR10.
Reasons for not crossing this Hurdle Rate would need to be
commented upon by the Credit Analyst.

(iii) Loss Given Default (LGD)

Facility Rating would reflect the degree of severity of loss in the event
of default on the obligation. Facility Rating Grade will thus translate to
a LGD Scale, indicating loss percentage. The present Facility Rating
Grades/Scales are empirically designed to reflect LGD levels.
(iv) Collateral
The Collaterals are an important ingredient of Facility Rating design;
their quality and depth affects the severity of LGD for any facility and
hence the Facility Rating itself. As an element of risk (uncertainty) is
involved, prudence is required in assessing the value of the collateral
offered for obtaining credit facility. The security is thus to be valued as
it would be in a distress scenario i.e., the extent of availability of
proceeds (legal certainty) in the event of failure of the business.
Basel-II does not differentiate between Primary & Collateral Securities
and all securities charged for a loan are designated as Collaterals.
Thus, while for monitoring of Drawing Power (DP) or DP related issues
in borrowable accounts, the securities charged would continue to be
segregated into Primary and Collateral securities, however, for the
purpose of risk assessment, all securities will be treated as collateral
securities.
(v) Scoring under Facility Rating
Scoring under Total Security Parameter under Facility Rating requires
an in-depth look into types of Collaterals & Guarantees and their
recognition and valuation as per Basel-II /RBI Document as discussed

PAGE 45

in Banks Collateral ManagementPolicy. This would necessitate

detailed analysis of Collaterals/Guarantees to facilitate scoring.

PAGE 46

SUMMARY
The credit rating is an assessment, by an Independent agency, of the
capacity of an Issuer of debt security to service the debt and repay the
principal as per the terms of Issue of debt The role of credit rating has
become most important in the modem financial market The
international market is witnessing a larger number of credit rating
agencies These rating agencies rate the Instrument internationally and
within their provinces. Thearea of ra3ngs has been wide spread from
short term rating to long term rating The ratings are given by these
agencies for the securities, entities and sovereigns Some of the active
and well known international rating agencies are (I) Japan Credit
rating Agency Ltd (JCR), (11) Fitch, (111) Moody's Investors Service, (N)
Standard & Poor's, (v) AM Best Company, and (VI) Duff and Phelps
Credit Rating Company (DCR).
In India so far market shows very clearly that there is no danger of
competitive generosity, which can eventually destroy the credibility of
the rating service itself The experience of the Indian rating agencies so
far is that about 25-30 percent of their ratings are not accepted or used
Increasing Risk averse on by lenders and Investors and restricted
avenue for raising capital will lead to a greater demand for structured
finance ratings The newer forms of securitization such as trade
receivables and credit card receivables are also expected to contribute
to growth in rating business In coming years The Insurance sector
privatization and opening up of pension funds would go further long
way to ensure whatever they invested is rated. The health Insurance
Industry is opening up new vistas of growth for rating agencies There
will be a strong demand for rating services on the back of debt market
Upswing due to reducing interest rates and almost stagnation In equity
initialpublic offering and rights Issues market The Interest rate belong
remaining soft would be again a good demand for re-financing and
hence ratings.

PAGE 47

SUGGESTION
Current rating system is good.
The loan processing time should be reduced.
Bank provide loan only on the basis of the repayment capacity of
the borrower and hence it is suggested to adopt some modern
methods to appraise the loan to the business to check the
feasibility of the project for appraising such high amount of loan
The bank should focus more on advertising to increase
awareness among the public about the service it offers.
Need for improvised methods that are on par with international
standards.
The bank must bring more transparency in rating of the project
there should be explanation for rating of the project that was
sanctioned by higher authority.

PAGE 48

CONCLUSION
As per the analysis done the result that has been got its good enough
to justify that this proposal has all the required criterias and qualities
required by the bank. And it is also expected to give a very good
return and value to the company. The financial tools used for
assessing is more appropriate to this project and the values are also
favorable to the company to be considered by the bank for
sanctioning the loan. I like to conclude by saying that this Project
Proposal should be good and looks more feasible by satisfying the
criteria of the bank. It also enlightened me with the working of SME
loan center.
Finally would like to stretch sincere gratitude towards STATE BANK
OF HYDERABAD and School of Management Studies, Hyderabad
for providing this learning opportunity.

PAGE 49

BIBILIOGRAPHY

Books
M R Agarwal, Financial Management
(Garima Publications)
Websites
http://www.sbhyd.com
www.rbi.org.in
Others
Bank manuals

PAGE 50