Credit Rating

Prepared by
Prof. Rahul Mailcontractor
Assistant Professor,
KLSs Institute of Management Education and Research,
Belgaum, Karnataka

Credit rating
A credit rating estimates the credit worthiness of an individual,
corporation, or even a country. It is an evaluation made by
credit bureaus of a borrowers overall credit history.
Credit ratings are based on financial history and current assets
and liabilities.
Typically, a credit rating tells a lender or investor the
probability of the subject being able to pay back a loan.
Commercial credit risk is the largest and most elementary risk
faced by many banks and it is a major risk for many other
kinds of financial institutions and corporations as well.
Many uncertain elements are involved in determining both how
likely it is that an event of default will happen and how costly
default will turn out to be if it does occur.

There are four Credit Rating agencies in

India
CRISIL(Credit Rating Information Services of India
Ltd)
ICRA(Information and Credit Rating Services ltd)
CARE (Credit Analysis and Research Ltd)
FITCH India

Registration
Credit Rating agencies are regulated by SEBI.
Registration with SEBI is mandatory for carrying out
the rating Business.
A registration fee of Rs. 25000 should be paid to
SEBI

Promoter

A Credit rating agency can be promoted by:

Public Financial Institution
Scheduled Bank
Foreign Bank operating in India with RBI approval
Foreign Credit Rating agency having at least five
years experience in rating securities
Any company having a continuous net worth of
minimum 100 cores for the previous five years.

Eligibility Criteria
Is set up and registered as a company
Has specified rating activity as one of its main objects
in its Memorandum of Association.
Has a minimum Net worth of Rs 5 Crore.
Has adequate Infrastructure
Promoters have professional competence, financial
soundness and a general reputation of fairness and
integrity in Business transactions , to the satisfaction
of SEBI.
Has employed persons with adequate professional
and other relevant experience, as per SEBI directions.

Grant of Certificate of Registration

SEBI will grant to eligible applicants a Certificate of
Registration on the payment of a fee of Rs 5,00,000
subject to certain conditions.

Agreement with the client

The CRA should enter into a written agreement with
each client containing ,
Rights and liabilities of each party w.r.t rating of
securities.
Fee charged
A periodic review of the rating during the tenure
Clients agreement to cooperate and provide true,
adequate and timely information.
Disclosure by CRA to client regarding the rating
assigned.
Clients agreement to disclose the rating assigned in
the offer document for the last 3 years

Monitoring of rating
The CRA should continuously monitor the
rating of securities rated by it during their life
time .
It should disseminate information regarding
newly assigned rating and its changes in the
earlier ratings through press releases, websites
and inform the same to stock exchanges.

Disclosure of rating definitions and

Rational.
The rating agency should make public the
definitions of the concerned rating along with
symbol
They should also state that the ratings do not
constitute recommendation to buy, sell or hold
any securities.
It should provide the public the rational of its
rating which covers analysis of various factors
justifying the assessment as well as the risk
factors.

CRISIL
The first rating agency Credit Rating Information Services
of India Ltd. , CRISIL, was promoted jointly in 1987 jointly
by the ICICI and the UTI. Other shareholders included ADB,
LIC, HDFC Ltd, General Insurance Corporation of India and
several other foreign and Indian Banks.
It pioneered the concept of credit rating in the country and
since then has introduced new concepts in credit rating
services and has diversified into related areas of information
and advisory activities.
It became public in 1993.
In 1996, it formed a strategic alliance with S&P rating group.

Services offered by CRISIL

Credit Rating Services

Advisory Services
Credibility first rating and evaluation Services
Training Services

Credit Rating Services(CRS)

The principle function of CRISIL is to rate mandated debt
obligations of Indian Companies chit fund, real estate developers,
LPG Kerosene dealers, NBFC, Indian states and so on.
Rating of debt obligations:
Debt obligation includes rupee denominated credit instruments
like debentures, preference shares, deposits, CDs commercial
papers and a structured obligations of manufacturing ,finance
companies, banks, financial institutions etc.
It ensures stable and healthy growth of capital market by
offering credit rating which is widely acceptable. It provides
increased disclosures, better accounting standards and improved
financial information to the users.
It reduces cost of issue by direct mobilization of resources.
It protects the interest of investors by constantly monitoring the
results of rated companies.

 Rating of structured obligations:

It reflects CRISIL opinion regarding the capacity
and willingness of the company to make timely
payments of financial obligations on rated
instruments.

Rating of real estates developers:

CRISIL has developed framework for rating of real
estate projects. Such rating helps investors to
identify their investment options
The rating is expected to help developers mobilize
funds for their projects.
The methodology assesses a project in terms of
project risk factors and developers risk factors.

 Bond Fund ratings:

The rating is an opinion of the quality of bond funds
underlying portfolio holdings. They mainly focus on fixed
income securities.
The rating methodology takes into account the following
factors i.e., credit associated with the securities, the
systems and procedures followed by the funds and
management quality and expertise.

Bank loan rating:

The creditworthiness of banks borrower is assessed
offering comments on the likelihood of repayment of loans.
The methodology considers the borrowers underlying
assets liquidity and risk management initiative and for
NBFC quality of assets , loans and investment.

 Collective investment schemes:

This covers rating of collective investment schemes offering
opinion on the degree of certainty of the scheme to deliver the
assured returns in terms of cash as mentioned in the offer
document

Grating of health care institutions:

The grading for healthcare institutions is an opinion on the
relative quality of health care delivered by the institutions to
the patients. Grading is done taking into account facilities,
quality , consistency in delivering the service etc. Flowing are
the grades given Grade A( Very good quality), Grade B (Good
Quality) , Grade C (Average Quality) and Grade D( Poor
Quality)

CRICIL Advisory Services (CAS)

The CAS offers consulting services that aim at identifying and
mitigating risk. The main focus of these services is transaction
and policy level assignments in the area of energy, transport,
banking and finance disinvestment, privatization and
valuation.
Energy group services: it offers advisory services to
companies engaged in energy sector like power, coal, oil
and gas. The policy level assignments Include aspects like
sector reforms and structuring, regulatory framework
privatization, corporate plan fuel related services.
Transaction level assignment include project scoping and
structuring, bid process management, financial viability
analysis of projects, risk identification and analysis and
structuring of project contacts, security package,
structuring and analysis.

 Transport and urban infrastructure group services: It provides

financial advisory services to transport and infrastructure
service provider.
Policy level assignments include advice on transport sector
privatization policy of state ports, development of risk
identification allocation, long term sector plans and state
role.
Transaction level assignments include financial viability
analysis, project structuring, bid process management,
negotiation of terms with successful bidders
Privatization and disinvestment group: this group renders
advisory services to central state governments, public
sector enterprises and private sector entities interested in
participating in privatization program, these services cover
3 aspects policy level, enterprise level and reforms and
restructuring.

 Banking and finance group:

CRISIL offers a wide range of services covering restructuring
and business reengineering, credit management, investment
management and portfolio insurance, equity valuation,
resource mobilization studies and financial feasibility studies
Capital Market Group:
This group provides customized research and advisory
assistance to meet specific transactional and strategic
requirements of clients. It offers services like diagnostic
evaluation for valuation of Indian partner of a foreign asset
management company, technical assistance to AMFI, portfolio
evaluation and portfolio analysis for leading mutual funds,
composite performance ranking of domestic mutual funds,
assistance to government for the development of Indias
financial sector.

ICRA Ltd
Information and Credit Rating Services (ICRA) has been promoted
by IFCI Ltd as the main promoter and started operations in 1991.
Other shareholders are UTI, Banks, LIC, GIC, Exim Bank, HDFC
and ILFS.
It provides Rating, Information and Advisory services ranging from
strategic consulting to risk management and regulatory practice.
The main objectives of ICRA are to assist investors both individual
and institutional in making well informed decisions
To assist issuers in raising funds from a wider investor base.
To enable banks, investment bankers, Brokers in placing debt with
investors.
To provide regulators with market driven systems to encourage the
healthy growth of capital markets.
It provides rating services, information services and advisory
services.

Rating services
ICRA rates debt instruments issued by manufacturing
companies, commercial banks, NBFCs, financial institutions,
PSUs and municipalities.
The instruments rated by it include bonds/ debentures, fixed
deposits commercial papers and certificate of deposit. It also
rates structured obligations in accordance with the terms of
the structure based on risk assessment of the instrument . It
rates sector specific debt obligations issued by power, telecom
and infrastructure companies.
It also provides corporate governance rating , rating of claims
paying ability of insurance companies, credit assessment of
large medium and small scale companies to obtain assistance
from banks, FIs. It also provides services of general
assessment of companies.

Information services
The information services division of ICRA focuses on
providing authentic data and value added products
used by intermediaries, financial institutions, banks,
asset managers, institutions and investors.
Value added services include equity grading
providing a critical input on a company's earning
prospects and inherent risks in decision making
process of equity investors and equity assessment.
Other services include corporate reports, equity
assessment, mandate based studies (customized
research) and sector/industry specific publication.

Advisory services
The advisory services division of ICRA offers wide ranging
management advisory services. Under advisory services ICRA
provides its understanding on the business processes and
relevant organizational issues to different players of financial
markets such as investors, issuers, regulators, intermediaries
and media.
The advisory services include 1.strategic consulting/ strategic
practice 2. risk management (credit risk, market risk and
operations risk) 3. regulatory practice 4 transaction practice 5.
information( content services).
It focuses on sectors like banking and financial services,
infrastructure sector, manufacturing and
service sector,
government and regulatory authorities.

CARE Ltd.
Credit Analysis and Research Ltd or CARE is promoted by
IDBI jointly with Financial Institutions, Public/Private Sector
Banks and Private Finance Companies.
It commenced its credit rating operations in October, 1993 and
offers a wide range of products and Services in the field of
Credit Information and Equity Research.
It also provides advisory services in the areas of securitisation
of transactions and structuring Financial Instruments.
It offers services like 1. Credit rating of debt instruments
2. Advisory services like securitization transactions,
structuring financial instruments, financing infrastructure
projects and municipal finances 3. Information services like
providing information to companies, industry and businesses.
4. Equity research

Fitch Ratings India Ltd.

It is the latest entrant in the credit rating Business in
the country as a joint venture between the
international credit Rating agency Duff and Phelps
and JM Financial and Alliance Group.
In addition to debt instruments, it also rates
companies and countries on request.

Rating Process

The process begins with issue of rating request letter

by the issuer of the instrument and signing of the
rating agreement.
CRA assigns an analytical team consisting of two or
more analysts one of whom would be the lead
analyst and serve as the primary contact.
Meeting with Management- The analytical team
obtains and analyses information relating to its
financial statements, cash flow projections and other
relevant information.
Discussion with management on management
philosophy, competitive position, financial policies
and future plans.

Rating Process cont

Discussions on financial projections based on

objectives and growth plan , risks and opportunities.
Rating committee- after meeting with the
management the analysts present their report to a
rating committee which then decides on the rating.
After the committee has assigned the rating, the
rating decision is communicated to the issuer, with
reasons or rationale supporting the rating.
Dissemination to the Public: Once the issuer accepts
the rating, the CRAs disseminate it, along with the
rationale, to the print media.

Rating Review for a possible change

The rated company is on the surveillance system of
the CRA, and from time to time, the earlier rating is
reviewed. The CRA constantly monitors all rating
with respect to new political ,economic, financial
development and industry trends.
Analysts review new information or data available on
the company. On preliminary analysis of the new
information if the analyst feel that there is a
possibility for change in the rating then they meet
with the management and proceed with
comprehensive rating analysis.

Credit Rating Watch

During the review monitoring or surveillance
exercise, rating analysts might become aware of
imminent events like mergers and so on, which effect
the rating and warrants a rating change.
In such a possibility, the issuers rating is put on
credit watch indicating the direction of a possible
change and supporting reasons for review.
Once a decision to either change or present the rating
had been made, the issue will be removed from credit
watch.

Rating Methodology
The rating methodology involves an analysis
of industry risk, issuers business and financial
risk. A rating is assigned after assessing all
factors that could affect the credit worthiness
of the entity. The industry analysis is done first
followed by the company analysis.

Credit rating for manufacturing

companies
The main elements of rating methodology are as
below
Business risk Analysis : It begins with an assessment
of the companys environment focusing on the
strength of the industry prospects, business cycle as
well as competitive factors affecting the industry. The
vulnerability of the industry to political factors is also
assessed. If a company is involved in more than one
business, each segment is analyzed separately. The
main factors include Industry Risk, Market position,
operating efficiency and legal position.

 Financial risk analysis: Financial risk is analyzed

mainly through financial ratios. Emphasis is placed on the
ability of the company to maintain /improve its future
financial performance.
The profitability of a company is an important
determinant of its ability to withstand business adversity.
The main measures of profitability include operating and
net margins and returns on capital. The absolute levels of
these ratios, trends and comparison of these ratios with
other competitors is analyzed. Emphasis is also laid on
cash flow patterns.
The area analyzed are accounting quality, earnings
prospects, adequacy of cash flows financial flexibility and
interest and tax sensitivity.

 Management Risk: A proper assessment od

debt protection levels requires an evaluation of
management philosophies and its strategies.
The analyst compares the companys business
strategies and financial plans to provide
insights into a managements ability to forecast
and implement plans. The areas analyzed
include track record of the management,
planning and control systems, evaluation of
capacity to overcome adverse situations, goals,
philosophy and strategies.

Credit rating for financial service sector

When rating debt instruments of financial institutions,
banks, NBFCs in addition to the financial analysis and
management evaluation the following factors are
considered
Regulatory and competitive environment
Fundamental analysis
Capital adequacy
Asset quality
Liquidity management
Profitability and financial position
Interest and tax sensitivity

Rating symbols/Grades
Rating symbols are a symbolic expression of the
opinion/assessment of the credit rating agency
regarding the investment, credit quality, grade of the
debt, obligation instrument.
CRISIL rating symbols: The rating symbols of
CRISIL with respect debentures, fixed deposits, short
term instruments(CPs), credit assessment, structured
obligations, bond funds, bank loans, collective
investment schemes, Indian states, real estate
developers are as follows.

Rating symbols for Debentures

High Investment Grade:
AAA-(Triple A ) Highest security- Offer the highest
safety against payment of interest and principal
AA(Double A) High Safety - Offer high safety
against payment of interest and principal.
A- Adequate safety- Offer adequate safety against
payment of interest and principal. In adverse
conditions might affect such issues.
BBB(Triple B)- Moderate safety- Offer sufficient
safety against payment of interest and principal.
Circumstances may lead to weakened capacity to pay
interest and principal.

 Speculative grades
BB(Double B)- Inadequate safety- These
instruments carry inadequate safety of timely
payment of interest and principal.
B (High risk)- Instruments rated B have
greater risk of default.
C (Substantial risk)- Risk of default.
Repayment can only be expected in favorable
conditions.
D (Default) Such instruments are extremely
speculative and default risk is highest.

Rating symbols for Fixed deposits.

FAAA( F triple A)- Highest safety

FAA( F- double A)- High safety
FA- Adequate safety
FB- Inadequate safety
FC- High Risk
FD- Default

Rating symbols for Short term

instruments

P-1 (highest safety)

P-2 (High Safety)
P-3( Adequate safety)
P-4(Inadequate safety)
P_5 (default)

Rating for credit assessment

It indicates the capability of entity to repay the
interest and principal as per the terms of the
contract. The rating symbols are as below 1-Very strong capability
2,3,4- Strong capability
5,6,7- Adequate capability
8,9,10- Inadequate capability
11,12,13 Poor capability
14- Default

Ratings for structured obligations

High investment grades:

AAA(SO)- Highest safety
AA(SO)- high safety
Investment grades:
A(SO) Adequate safety
BBB(SO)- Moderate safety
Speculative grades:
BB(SO)- Inadequate safety
B(SO) High Risk
C (SO)- Substantial risk)
D (SO)- Default

Ratings for bond funds

AAAf Very Strong Protection against losses

AAf - Strong Protection against losses
Af- Adequate Protection against losses
BBBf- Moderate Protection against losses
BBf - Inadequate Protection against losses
Cf vulnerable to credit defaults.

Bank Loan Ratings

BLR-1: strong likelihood of repayment of interest and
principal on bank loan
BLR-2: good likelihood of repayment of interest and
principal on bank loan
BLR-3: satisfactory likelihood of repayment of
interest and principal on bank loan
BLR-4: moderate likelihood of repayment of interest
and principal on bank loan
BLR-5: sub standard , vulnerable to loss
BLR-6: High likelihood of loss

Rating of collective investment

schemes.

GRADE I (high certainty of assured returns)

GRADE II (adequate certainty of assured returns)
GRADE III (moderate certainty of assured returns)
GRADE IV ( Inadequate certainty of assured returns)
GRADE V (high uncertainty of assured returns)

Credit Rating of Indian States

Rating of the states by the CRISIL represents a
landmark in the diversification of the rating
Business in the country.
It has already rated several states.
While assessing a state, CRISIL considers two
basic factors:
The Economic Risk and
The Political Risk

Economic Risk

Economic structure of the state and its finances

Macroeconomic performance
Infrastructure
Sector studies
Whether revenue and expenditure patterns are
sustainable.
Deficit Management
Degree of dependence on Central support
Tax policy of the state
Performance of Public sector undertakings and their
effect on the states finances.

Political Risk
Relations between the state and the Centre and its
impact on transfer of resources as well as centres
influence on political stability in the state.
Various political parties in the state, their economic
policies and their effect on the states policies.
Quality of the current leadership and administration
Ability of the Government to take decisions that are
politically difficult.

Rating of real estate developers

Rating pertains to particular project and not to the company as
a whole. It assigns ratings after assessing the factors that could
affect the ability of the developer to meet agreed specifications
in terms of quality and time as well as the ability to transfer
clear titles to customers. Ratings are based on project risk
analysis and developer risk analysis
Project risk analysis : The quality of legal title in respect of
the property constructed, quality of construction and
timeliness of delivery of the completed unit is assessed.
Developer risk analysis: The track record of the developer,
existing financial statements, financial flexibility
and
management evaluation are considered with rating the position
of developer.

Rating symbols for developers

PA1- Highest Ability to build the project

PA2- High Ability to build the project
PA3- Adequate Ability to build the project
PA1- Inadequate Ability to build the project
PA1- Inability to build the project