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A
Project report
On
A STUDY ON THE CREDIT RATING AGENCIES IN INDIA AND THEIR
RATING METHODOLOGY
In partial fulfilment of the requirements of
The Summer Internship of
CERTIFICATE
This is to certify that Mr. Mohammed Maaz Kazi, a student of Rizvi Institute of
Management Studies and Research, of MMS bearing Roll No. 55 and specializing in
Finance has successfully completed the project titled
under the guidance of Prof. Imran Kazi in partial fulfillment of the requirement of
Master of Management Studies by Rizvi Institute of Management Studies and
Research for the academic year 2013 2015.
_______________
Prof. Imran Kazi
Project Guide
_______________
Prof. Umar Farooq
Academic Coordinator
_________________
Dr. Kalim Khan
Director
PAGE
CHAPTER
No
TITLE
1
2
3
Introduction
Importance
10
Benefits
10
Role
11
Features
12
3.1
3.2
3.3
3.4
4
4.1
4.2
4.3
5.1
5.2
15
17
19
25
26
Restrictions on Ratings
26
28
33
38
Rating Symbols
40
Methodology Adopted
46
58
6.1
6.2
6.3
6.4
6.5
7
8
56
62
8.1
9
10
24
5.3
6
14
Regulatory Framework
No
70
Conclusion
76
Bibliography
80
EXCECUTIVE SUMMARY
Credit Rating is an symbolic indicator of the current opinion of the rating
agencies regarding the capability of Issuer of Debt Instrument. The
corporations with specialized functions namely, assessment of the likelihood
of the timely payments by an issuer on a financial obligation is known as
Credit Rating Agencies. With the increasing scope of Capital markets in
country like India, Credit Rating Agencies tends to play an important role of
strengthening the Capital Markets and building investors confidence in further
decision making process. Considering the importance of credit rating, the
project work has been undertaken to study the need for a Credit Rating System
in a economy, the regulatory environment affecting the credit rating activities
in India, to examine the operational performance of four SEBI recognized
credit rating agencies, viz. CRISIL, ICRA, CARE and FITCH, to assess the
consistency in their avenues like Bond rating methodology & IPO grading
process and to know how a Credit Rating Agency has an impact on the Indian
Capital Markets.
1. INTRODUCTION
A credit rating is a measure used by creditors to determine how much they can trust a
certain borrower, whether the borrower is an individual, a corporation, or a country.
The credit rating is derived using past financial data or the borrowers credit history.
There are several factors that can affect the credit rating of an individual including:
The persons ability to pay a loan Reflected by the persons salary and other assets
The amount of credit in existence This is what credit limits are for. If the person is
near his credit limit or has reached it is harder to get a loan. This also reflects whether
the person is in the habit of going into debt
Credit history Shows whether the person makes payments on time. This also reflects
the persons spending and saving patterns.
According to the Moodys, A rating 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 of the expected monetary
loss, should a default occur."
According to Standard & Poors, "it helps investors by providing an easily
recognizable, simple tool that couples a possibly Unknown issuer with an informative
and meaningful symbol of credit quality. "
According to ICRA, Credit ratings are opinions on the relative capability of timely
servicing of corporate debt and obligations."
Then in 1962, the Dun and Bradstreet which was formed in 1933, acquired the
Moodys Investor Services. Evidence of the application of credit rating to corporate
instruments for the first time is also traceable to the time when Henry Vernum Poor (a
journalist) and his son started a firm to publish Poors Manual of Railroad of the
United States in 1860s in USA. The manual reported financial and operating
statistics covering several years for most of the major American railroads. After John
Moody began his ratings of railroad bond in 1909, the Poors company also entered
the bond rating business, by publishing its first ratings in 1916.
A new entrant in information and rating business by the name of Standard Statistics
Company also started its operations in 1922 followed by Fitch Publishing Company in
1924. The Poors Publishing Company and Standard Statistics. Company merged
together in 1941 to form Standard and Poors (S&P). S&P was further taken over by
McGraw-Hill, the publishing giant in 1966. The credit rating agencies expanded from
the 1970s through the 1990s, much as they did from 1909, when John Moody
introduced the concept, to the 1930s (Jutur, 2005). In the 1970s a number of rating
agencies started rating activities all over the world.
incorporation of Thomson Bank Watch in 1974, which was based in Toronto, Canada
and which was exclusively following financial institutions including banks, securities
firms and finance companies.
In 1975, Japanese Bond Rating Institute was incorporated by Japan Economic Journal.
The other rating agencies in Japan such as Japan Bond Research Institute, Japan
Credit Rating Agency, and Nippon Investors Services came to be established soon
thereafter. In 1975, McCarthy Crisanti and Maffei was established in USA which was
acquired by Duff and Phelps in 1991. Dominion Bond Rating Service was established
in 1977 in Canada, and IBCA Limited in 1978. IBCA Ltd. was an independent and
privately owned international credit rating agency based in London (UK) and was
established with the objective of offering credit analysis of bonds in different
countries.
In 1980, Duff and Phelps Credit Rating Company was formed which is a major
source of credit information internationally. It rates all major types of fixed income
securities, long and short-term debts of corporations, sovereign nations and financial
7
institutions. This company operates in Latin American countries and also in Asian
countries, viz. Pakistan and India. US is the originator of concept of credit rating but
now with the development of capital markets the world over, it is becoming a
universal phenomenon.
Now there are credit rating agencies operating in many other countries of the world
also including Malaysia, Bahrain, Bangladesh, China, Philippines, Mexico, Indonesia,
Israel, Pakistan, Cyprus, Korea, Thailand, Kazakhstan, Uzbekistan and Australia.
The credit rating system originated in the USA in seventies. The high levels of
default, which occurred after Great Depression, in the US capital markets, gave the
impetus for the growth of credit rating. The default of $82 million of commercial
paper by Penn Central in the year 1970 and the consequent panic of investor in
commercial papers, resulted in massive defaults and liquidity crisis.US made rating
Mandatory for institutions such as Government Pension funds, and Insurance
companies.
Regulatory Agencies started Stipulating that Government Pension funds and
Insurance companies could not buy securities rated below a particular level. The
growing awareness of the investors was also another factor for the growth of Rating
business. Moreover Underwriters, Merchant Bankers and other Intermediaries
involved in the debt market also found Rating useful for planning and pricing the
placement of debt instrument.
Besides the increasing level of defaults resulting from growing access to the financial
markets the following Developments led to a growing importance of Credit Rating
System around the world.
The emergence of the Capital market as the primary allocator of resources in the
economy has underlined the need for reliable information in order to facilitate the
flow of resources to the most productive uses .In search of Investment avenues,
investors use various sources of information in order to arrive at their investment
decisions. These includes Offer Document of the Issuers, Research Reports & Media
Reports.
In Addition to the above sources, in the developed capital markets of the world, Credit
Rating Agencies have come to occupy a leading position as information providers,
particularly for the credit related opinions in respect of Debt instruments. This Role of
information providers has been strengthened by the fact that their opinions are
Independent, Objectives well researched and Credible.
2. Financial companies use credit scores to predict the risk of delinquencies and losses,
which enables them to better allocate costs.
3.
4.
Credit scores even provide benefits at the macroeconomic level by helping small
enterprises attain the funds they need and by facilitating the securitization and sale of
financial products in the secondary markets, substantially increasing the influx of
capital into a country.
3.2 BENEFITS
To Investors :The central function of credit rating is to communicate to the investors the relative
ranking of the default loss probability for a given fixed income investment in
comparison with the other rated instruments. Credit Rating in that sense is essentially
an information service.
Even for an organized Institutional Investor, rating provides a low cost supplement to
its own in house appraisal system. Large investors may use credit rating for Portfolio
Diversification by electing appropriate instruments from a broad spectrum of
investment option where he can use the information provided by Rating changes, by
carefully watching upgrades and downgrades and altering its Portfolio.
Another benefits derives by investors is the other services provided by credit rating
agencies, like RESEARCH in the form of industry reports. CORPORATE REPORTS,
SEMINARS.
To Issuers
The benefit of credit rating for issuers stems from the faith placed by the market on
the opinions of credit rating, and the widespread use of ratings as a guide for
investment decisions. The issuers of rated securities are likely to have access to a
much wider investor base as compared to unrated securities as a large section of
10
investors, not having the required resources and skills to analyze each and every
investment opportunity would prefer to rely on the opinion of the Credit Rating
Agency.
Opinion of a rating agency enjoying investor confidence could therefore enable the
issuers of highly rated instruments to access the market even under adverse market
conditions. Credit Rating provides a basis for determining the additional return which
investors must get over and above its risk free return and also to get compensated for
the additional risk they bear. This is useful benchmark for issue pricing and could lead
to significant cost savings for highly rated instruments.
To Intermediaries
Rating is a useful tool for Merchant Bankers and other capital market intermediaries
in the process of
intermediaries like brokers and dealers in securities could use ratings as an input for
their monitoring of risk exposures . Regulators in some countries specify capital
adequacy rules linked to credit rating of securities in a portfolio. The merchant
bankers are also using credit rating for pre packaging of issues by way of asset
securitization obligation.
To Regulatory Bodies
Credit Ratings are used not only by Investors, Issuers, Intermediaries, but also by
various
Authorities in various countries have specified rules that restrict entry to the market
of new issues rated below a particular grade, that stipulate different margin
requirements for mortgage of rated and unrated instruments, that prohibit institutional
investors from purchasing or holding of instrument rated below a particular level and
so on.
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 making investment
decisions. It also helps the issuers of the debt instruments to price their issues
correctly and to reach out to new investors. The analysis is based on an all-round
analysis of quantitative as well as qualitative factors like past performance, economic
environment, market positioning, quality of management and predictions about future,
and is thus as complete as can be. 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:
1) The growth of information technology.
2) Globalization of financial markets.
3) Increasing role of capital and money markets.
4) Lack of government safety measures.
5) The trend towards privatization.
6) Securitization of debt.
3.4 Features
Credit rating essentially indicates the credit worthiness of the borrowers and the
probability that the borrowers will pay the interest and principal on due dates. A credit
rating system is considered of good quality if debtors with a lower credit rating
default more often than debtors with a higher credit rating Here are some important
features/facts about credit rating:
(a)Rating can be revised.
(b) Rating is not based on audit.
(c) Rating only helps in investment decision-making.
(d) Rating is based on current information.
(e) Rating is assigned to specific instrument.
(f) Rating aims at guiding the investors.
12
(g) Rating does not provide any recommendation to buy, hold or sell any instrument.
(h) Rating process is based on broad parameters of information supplied by the issuer
and collected from various other sources.
(i) The rating furnished by the agency does not provide any guarantee for the
completeness or accuracy of information on which it is based.
(j) In rating business, the users of the rating services such as investors, financial
intermediaries and other end users do not pay for it but the issuers, of the financial
instrument, who do not use rating, pay for it. This is one of the most peculiar feature
of credit rating.
(k) A key feature of rating is that they contain a limited number of categories. Hence,
equally rated bonds are not claimed to be of identical quality and rating cannot be
inverted into unique default probabilities.
Thus, Credit rating is expected to improve the 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. Nowadays, the outlook of credit rating industry appears to
be positive but the industry has to continuously strive to improve the professional
capabilities and sustain credibility. The credit rating agencies today have ample
opportunities to play a unique role in strengthening the capital market and building
the investor's confidence in the financial system. Clearly, accurate assessment of the
credit worthiness of obligators is an important precondition for the stability of a
financial system since inadequately high exposure to credit risk has been one of the
leading sources for problems in financial institutions worldwide for many decades.
13
The first Private sector Credit Rating institution was set up as a joint venture between
JM Financials, Alliance Group and the International Rating agency Duffs and Phelps
in 1995; known as Duffs and Phelps Credit Rating PVT. Limited (DCR) which have
merged to form a new entity FITCH INDIA LTD, which is 100 percent subsidiary of
Fitch IBCA and is the only wholly-owned foreign operator.
The Indian Credit Rating Industry is next to USA in terms of number of ratings
issued and in the number of agencies. Between the 4 Rating Agencies in India over
5,000 ratings have been issued for around 1,400 issuers. CRISIL is the market leader
in credit rating agency with a 65% market share. The regulators support played an
important role in the development of the credit rating industry. In 1992, for the first
time, the Reserve Bank introduced the requirement of rating for commercial papers.
SEBI followed up by introducing mandatory ratings of bonds.
The other growth drivers of the credit rating industry were declining interest rates, a
shift towards market borrowings from bank loans and a steep increase in the state
government borrowings through special purpose vehicles. Besides these factors the
growth in the private placement market of debt increased business volume in the
credit rating industry.
Credit rating is a symbolic indicator of the current opinion of a rating agency of the
willingness and relative of an issuer debt instrument to pay interest and repay
principal as per the terms of the contract. A rating agency assigns quality ratings that
measures the default risk of a security and sells rating to their subscribers. The default
risks primarily determined by the amount of work available to the issuer relative to
the amount of funds to be paid to the security holders. The ability to pay is evaluated
by financial ratios. Ratio analysis is done to analyze the present and future earning
power of the company issuing the security. Ratio analysis of the issuers financial
statements yields insights about the strength and weaknesses of the company. The
credit rating agencies have written guidelines about what values particular ratios
should have in order to earn each different quality ratings.
15
Credit rating appraises the default risk which is a combination of business risk and
financial risk.
Business Risk:
Business risk relates to the market position of the company, operating efficiency and
management quality. The key factor taken into consideration are: the nature of the
industry the company is in, the demand-supply position, cyclical/ seasonal factors and
government policies vis--vis the industry; and the competition its facing within the
industry.
Market Position: The market share the company enjoys, it is competitive advantages
and selling and distribution arrangements.
Operating Efficiency: Locational advantages, labor relationships, cost structure,
technological and manufacturing efficiency as compared to its competitors.
Legal Position: Terms of prospectus, systems for timely payment, and for protection
against fraud.
Financial Risk:
Financial risk is a function of the profitability, debt leverage flexibility and adequate
cash flow. The assessment of financial risk is done on the basis of:
16
the management; planning and control system, depth of managerial talent, succession
plans. Evaluation of capacity to meet adverse situations, goals, philosophy and
strategies.
Environment:
An analysis of environment covering regulatory and operating environment, national
economic outlook, pending litigation and unpaid taxes are also attempted.
Rating thus is not based on a predetermined formula which specifies the relevant
variables and as well as weights attached to each one of them. Further the emphasis
on different aspects varies from agency to agency. Broadly the rating agencies assures
itself that there is good congruence between assets and liabilities of a company and
downgrades the rating if the quality of the assets depreciates.
The rating agencies employ qualified professionals to ensure consistency and
reliability. The agencies also ensure the integrity of rating by insulating rating from
conflicts of interest.
The Body Corporate, its promoters or directors might not be convicted of any offence
involving moral turpitude or any economic offence, any time in the past.
The Body Corporate, its promoters or directors might not be involved in any legal
proceedings connected with the securities market, which may have an adverse impact
on the interest of the investors.
The employees of the Body Corporate must have an adequate professional and
relevant experience to the satisfaction of the board.
The Body Corporate in all respects must be fit and proper for the grant of a certificate.
The grant of certificate must be in the interest of the investors and securities market.
The Body Corporate or any of its associates must not, in the past, be refused by the
board to grant a certificate under these regulations and they must not have
contravened the act or any of rules or regulations made under the act`.
18
19
Eligibility Criteria:
The applicant company should specify the category to which their promoter(s) belong
to, which include :
A foreign bank
In case the promoter is the company with continuous net worth of Rupees one
hundred crore for previous 5 years, a certificate by a Chartered Accountant certifying
the same shall be enclosed.
Name
Qualification
Experience
Name
Qualification
Experience
Functional areas.
Computing facilities
20
Name
Address
The application should contain the following details regarding business information of
The audited annual reports for the last three years should be enclosed
21
Name and address of the principal bankers of the applicant company should be
specified
All pending litigations against the applicant company, directors and employees
specifying the nature of dispute, name of the party and status.
The credit rating agency shall comply with the provisions and regulations of the act
and the guidelines, directions, circulars and instructions issued by the Board from
time to time on the subject of credit rating.
22
The credit rating agency shall inform the Board in writing in case any information/
particulars furnished by credit rating agency are found to be false or misleading on a
particular matter or if that information has undergone a subsequent change.
23
5. REGULATORY FRAMEWORK
SEBI:SEBI issued regulations for credit rating agencies in 1999. These regulations
are called as Securities
Regulations, 1999.
1) Only commercial banks, public financial institutions, foreign banks operating
in India, foreign credit rating agencies, and companies with a minimum net
worth of Rs 100 crore as per its audited annual accounts for the previous five
years are eligible to promote rating agencies in India.
2) Rating agencies are required to have a minimum net worth of Rs 5 crore.
3) Rating agencies cannot assess financial instruments of their promoters who
have 10 % stake in them.
4) Rating agencies cannot rate a security issued by an entity, which is
(i) there are common chairman, directors between credit rating agency and these
entities
(ii) there are common employees
(iii) there are common chairman, directors, employees on the rating committee.
1) Rating agencies cannot rate a security issued by its associated or subsidiary, if the
credit rating agency or its rating committee has a chairman, director or employee, who
is also a chairman, director or employee of any such entity.
2) Rating agencies can choose their methodology of operation but self regulatory
mechanism will give a better maturity status for agencies.
3) Period of validity of registration shall be 3 years.
4) Sebi has decided to incorporate a clause in the listing agreement of stock exchanges
requiring companies to corporate with agencies by providing correct information.
Refusal to do so many lead to breach of contract between rating agency & client.
24
SEBI:
As per the regulations of SEBI, a public issue of debentures and bonds
convertible/redeemable beyond a period of 18 months, needs credit rating.
RBI:
According to the guidelines of 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.
Instrument
Regulator
Public/Rights/Listed
issue
of SEBI
bonds
2
IPO Grading
SEBI
SEBI
Commercial Paper
RBI
Bank loans
Security Receipts
Securitized
instruments
Through Certificates)
9
10
LPG/SKO Rating
11
Maritime Grading
25
26
This regulation is enforceable within three months from the date of commencement of
SEBI regulations.
3). Any credit rating agency shall not rate a security issued by an entity which is
either a borrower, a subsidiary or an associate of its promoter and if there are common
Chairman, Director and Employees between credit rating agency and these entities.
4). A credit rating agency can rate a security issued by its associate having a common
independent Director with it or rating committee, if such person does not participate
in the discussion in rating decisions and disclosure regarding this thing should be
made in the rating announcements of such associate company.
5). None of the above restrictions shall apply to securities, whose rating has already
been done by a credit rating agency before the commencement of these regulations
and as such these securities shall, subject to various other provisions of these
regulations, continue to be rated.
27
Business Research.
CRISIL's services include credit ratings and risk assessment; research on Indias
economy, industries and companies; financial research and analytics outsourcing;
fund services; risk management and infrastructure advisory services. Through its IPO
Grading initiative, CRISIL has also established a presence in the equity research
domain. It provides all these services through its different subsidiaries.
1.1 CRISIL Ratings
It is the only rating agency in India to operate on the basis of sectoral specialization.
It rates different kinds of organizations, including industrial companies, banks, SMEs,
28
29
2.a ICRA Limited (formerly Investment Information and Credit Rating Agency of
India Limited)
It was incorporated in 1991 and was jointly sponsored by Industrial Finance
Corporation of India (IFCI) and other Financial Institutions and banks as an
independent and professional investment information and credit rating agency. ICRA
is an associate of the international rating agency Moody's Investors Services which is
ICRAs largest shareholder. Moody's assists ICRA in organizing formal training
programmes and it gives advice to ICRA on rating-products strategy and the ratings
business in general. ICRA has been granted registration with SEBI under the
Securities & Exchange Board of India (Credit Rating Agencies) Regulations, 1999.
ICRA provides information products, ratings and solutions to different businesses and
investors.
30
31
Sector Research
Sector Research includes an in-depth analysis of business environment of industry,
trends, future direction, coverage on sectors in India, including updates at regular
intervals for a year forward.
32
Customized Research
Customized Research involves business analysis and position in the market, financial
analysis, future outlook, etc. which helps the clients to make better credit/investment
decisions.
33
Table 1
Activities Undertaken
Activities
CRISIL
ICRA
CARE
FITCH
Information
Research Services
Business
Advisory Services
Process
Outsourcing
Information
--
--
--
Technology Services
34
Table 2
Activities Undertaken
Rating/Grading
CRISIL
ICRA
CARE
FITCH
debt
of
IPO Grading
Healthcare
of
short-term
instrument
Claims
paying
ability
insurance company
rating
Grading of Mutual Funds/Bond
Funds
Grading of real estate/ Project
finance rating
Assessment
of
State
--
Course
Grading
of
--
--
--
--
Institutions
--
35
Services
CRISIL
ICRA
CARE
FITCH
Information Services
Advisory Services
---
--
Advisory
Financial Restructuring Advice
--
--
--
--
--
Research Activities
Some Indian credit rating agencies have set up research arms to complement their
rating activities. These arms carry out research on the economy, industries and
specific companies, and make the same available to external subscribers for a fee.
Research being done by various agencies present an in-depth analysis into the matter
being researched and helps various users to properly make use of that information in
future planning or some policy formulation. In addition, they disseminate opinions on
the performance of the economy or specific industries. The research is also used
internally by the rating agencies for arriving at their rating opinions.
36
Table 4
Research Services
Services
CRISIL
ICRA
CARE
FITCH
Corporate Analysis
Customized Research
Equity Research
Information and Technology services are provided by ICRA only through its
subsidiary ICRA Techno Analytics Limited (ICTEAS). ICTEAS provides IT products
and solutions along with engineering services. It provides onsite and offshore design
expertise in the areas like automotive, plant design, construction and instrumentation
space.
37
ICRA
Long
Term Instruments
Instruments
Term Long
Debentures Debenture
Bonds
Obligations
Certificates
Loans/Bank
Structured
Obligations
of
Convertible
Short-Term
Short-Term
Preference Shares
Instruments
Instruments
Loans/Bank Loan
Short-term deposits
Loans
Loans/Bank Loans
of Medium-Term
Notes
Fixed deposits
Certificates
of
Deposit
Preference Shares
Redeemable
Bonds
Deposit
Deposit
Debentures
Fixed deposits
of Fixed deposits
Deposit
Term
Instruments
Debentures
Medium-Term
deposits Instruments
Certificates
Medium Long
Certificates
Structured
Fixed
&
Non-convertible
Bonds
Bank Loans
FITCH
Term Instruments
shares
CARE
Commercial
Papers
Preferred Stock
Papers
Short-Term
Loans
Instruments
Loans
Commercial Papers
Loans
IPOs
Others
Mutual
IPOs
Funds
Mutual funds
Others
Others
IPOs
IPOs
Mutual funds
Mutual funds
38
Rating Fees:
In the credit rating business, the users of rating service, such as investors, financial
intermediaries and other end- users, do not pay for it. The issuer of the financial
instrument pays fees to the credit rating industry and this is the major source of
revenue to the rating agency. Today issuers fees constitute 95% of the total revenues
of the rating agencies. In India rating agencies charge 0.1 % of the instrument size as
rating fees. They also charge an annual surveillance fees at a rate of 0.03% to monitor
the instrument during his life.
39
Investment Grades
Speculative Grades.
In all ratings is classified into 14 or 15 categories. Signs + or - are used to show
the certainty of timely payment. The suffix + or may be used to indicate the
comparative position of the instrument within the group covered by the symbol. Thus
FAA- lies one notch above FA+. To provide finer gradations, rating industry attach +
or to their ratings. The rating symbols for different instruments of the same
company need not necessarily be the same.
Investment Grades
A : - denotes adequate safety in terms of timely payment of interest and principal.
Changes in circumstances can adversely affect such issues.
BBB: - Triple B denotes moderate safety in terms of timely payment of interest and
principal speculative grades.
Speculative Grades
BB: - Double B denotes inadequate safety terms of timely payment of interest and
principal. Uncertain changes can lead to inadequate financial capacity to make timely
payments in the immediate future.
B: - denotes high risk. Adverse changes could lead to inability or unwillingness to pay
timely payment.
40
Table 1
Rating Symbols for Long-term Instruments
CRISIL
ICRA
CARE
FITCH
EXPLANATION
AAA
LAAA
CARE
AAA
AA
LAA
CARE AA
AA (ind)
High Safety
LA
CARE A
A (ind)
Adequate Safety
BBB
LBBB
CARE
BBB (ind)
Moderate Safety
BBB
BB
LBB
CARE BB
BB (ind)
Inadequate Safety
LB
CARE B
B (ind)
LC
CARE C
C (ind)
LD
CARE D
D (ind)
41
Table 2
Rating Symbols for Medium-term Instruments
CRISIL
ICRA
CARE
FAAA
MAAA CARE
FITCH
AAA tAAA
(FD)/(CD)
FAA
MAA
EXPLANATION
Highest safety
(ind)
CARE
AA tAA (ind)
High safety
(FD)/(CD)
FA
MA
CARE A (FD)/(CD)
--
--
CARE
tA (ind)
BBB --
(FD)/(CD)
--
--
Adequate safety
Sufficient
safety(CARE
only)
CARE BB (FD)/(CD
--
Inadequate
safety(CARE
only)
FB
MB
CARE B (FD)/(CD
tB (ind)
Inadequate
safety(CARE
susceptible to default)
FC
MC
CARE C (FD)/(CD
tC (ind)
High risk
FD
MD
CARE D (FD)/(CD
tD (ind)
Default
NOTE :
1) 'F'
CRISIL ICRA
CARE
FITCH
EXPLANATION
P1
A1
PR1
F1 (ind)
P2
A2
PR2
F2 (ind)
Above average
credit
quality/Strong
safety.
P3
A3
PR3
F3 (ind)
P4
A4
PR4
F4 (ind)
P5
A5
PR5
F5 (ind)
42
Table 4
Rating Symbols Used for Claims Paying Ability of Insurance Company
CRISIL ICRA
CARE
FITCH
EXPALNATION
AAA
CARE
AAA
AAA(In)
(ind)
claims
CARE
AA
iAAA
iAA
AA(In)
A
iA
CARE A(In)
claims
A (ind)
Adequate
ability
to
repay
to
repay
to
repay
policyholders claims
BBB
BB
iBBB
iBB
CARE
BBB
Moderate
BBB(In)
(ind)
policyholders claims
CARE
BB (ind)
Inadequate
BB(In)
B
iB
CARE B(In)
ability
ability
policyholders claims
B (ind)
IC
CARE C(In)
C (ind)
Lowest/poor
ability
to
repay
policyholders claims
D
--
CARE D(In)
D (ind)
Table 5
Rating Symbols Used for Mutual Funds Grading
CRISIL ICRA
CARE
FITCH
EXPLANATION
AAAf
CARE AAAf
AAA
mfAAA
(ind)
AAf
mfAA
CARE AAf
AA (ind)
Af
mfA
CARE Af
A(ind)
BBBf
mfBBB
CARE BBBf
BBB
(ind)
BBf
mfBB
CARE BBf
BB (ind)
Bf
mfB
CARE Cf
B (ind)
Cf
mfC
CARE Df
C (ind)
43
Table 5
IPO Grading Symbols
CRISIL ICRA
5/5
Grade 4
Grade 3
1/5
Grade 5
2/5
EXPLANATION
3/5
FITCH
4/5
CARE
Grade 2
Grade 1
fundamentals of the
These are the main Sector in which Credit Rating Agencies gives rating to various
Products & Instruments involved. Rating symbols used by all agencies vary from each
other in one way or the other in order to differentiate the symbols of all the agencies
from one another.
44
Table 6
Micro Finance Institutions Grading Symbols
CRISIL ICRA CARE FITCH
EXPLANATION
mfR1
M1
MF1
F1
mfr2
M2
MF2
F2
mfR3
M3
MF3
F3
mfR4
M4
MF4
F4
Below
average
ability
to
manage
M5
MF5
F5
mfR6
--
--
--
mfR7
--
--
--
mfR8
--
--
--
45
2) Financial Analysis:
Under financial analysis, all relevant aspects connected with the business and
financial position of the company are assessed. The profitability, solvency and
liquidity ratios are taken into consideration. Thus, CRISIL considers Growth rate of
PAT, PAT/OI, PBIT/Net Worth, Earnings on Capital Employed, PBDITA/TI, Current
Ratio, Quick Ratio, Debt to Equity Ratio, Interest Coverage Ratio, Pre-tax Coverage
Ratio, Earnings on Assets to Capital Employed, etc.
3) Management Evaluation:
Judgment of management performance based on past operating and financial results,
planning and control system of management, depths of managerial talents are
considered.
46
While assigning ratings ICRA considers all relevant factors that have a bearing on the
future cash generation of the issuer. A detailed analysis of the past financial
statements is made and estimates of future earnings under various scenarios are drawn
up, over the tenure of the instrument being rated. The other factors considered are:
1)Industry Characteristics:
Industrial features are evaluated by ICRA by taking into account various success
factors, demand and supply position, structure of industry and Government policies
related to that particular entity.
2)Competitive Position:
The competitive position of the issuer is evaluated by considering various factors
including nature and basis of competition, competitive advantage through marketing
and distribution, strength, weaknesses and opportunities available to the issuer in
comparison to the competitors.
4) Operational Efficiency:
Operational efficiency of the company is assessed by evaluating the price or cost
advantage availability, cost and quality of raw material, availability of labour and
labour relations prevalent in the organization.
47
5) Management Quality:
The quality of the management is evaluated by observing the goals and philosophies
of the management, and its strategies and abilities to overcome adverse situations.
3)Financial Risk:
It includes analysis of financial management, capital structure, cash flow adequacy
and profitability as well as liquidity position of the company. The financial risk is
48
4)Management Assessment:
CARE makes complete assessment of the background and history of the issuer,
corporate strategy adopted, philosophy and quality of management and the strength of
management capabilities under stress.
49
Under this the agency compares the performance of the company being rated with
that of the competitors in the field to properly assess the relative standing of the
company
5)Analysis of Companys Ability to Generate Cash from Operations:
The Company's ability to generate cash in future is also assessed by the agency to
find out the relative capability of the business to repay its obligations in time.
50
Then the meetings between the rating team and management of the issuer are
conducted and the rating team does the final analysis of the information after
clarification of any doubts in the management meeting.
4. Assignment of Rating:
The rating team presents its analysis to the rating committee which assigns the rating
to the given instrument and communicates the same to the issuer. The rating is then
accepted by the issuer or the issuer may appeal the rating agency to further refine the
rating.
5. Dissemination of Rating:
In case the rating is accepted by the issuer it is disseminated to CRISIL's subscriber
base, and to the local and international news media. Rating information is also
updated on line on the website of rating agency.
6. Continuous Surveillance:
All ratings are kept under continuous surveillance throughout its validity by the rating
agency.
ICRA Rating Process
The Rating involves assessment of a number of qualitative factors with a view to
estimating the future earnings of the issuer. This requires extensive interactions with
the issuer's management, specifically on subjects relating to plans, outlook,
competitive position, and funding policies. Thus, the following steps are included in
the ICRA rating process:
51
and funding policies. In some cases where the agency finds it necessary, the site visits
may be done by the rating team for proper analysis of information.
4. Preparation of Rating Report:
After completing the analysis, a Rating Report is prepared by the Rating Team, which
is then presented to the ICRA Rating Committee. A presentation on the issuer's
business and management is also made by the Rating Team.
5. Assignment of Rating:
The Rating Committee which is the final authority for assigning Ratings assigns the
rating. The assigned Rating, along with the key issues, is communicated to the issuer's
top management for acceptance. Non-accepted Ratings are not disclosed and
complete confidentiality is maintained on them unless such disclosure is required
under any laws/regulations.
6. Review of Ratings:
If the issuer does not find the Rating acceptable, it has a right to appeal for a review.
Such reviews are usually taken up if the issuer provides certain fresh inputs. During a
review, the issuer's response is presented to the Rating Committee. If the inputs and/or
fresh clarifications so warrant, the Rating Committee would revise the initial Rating
decision.
7. Mandatory Surveillance:
As part of a mandatory surveillance process, ICRA monitors all accepted Ratings over
the tenure of the Rated instruments. The Ratings are generally reviewed once every
year, unless the circumstances of the case warrant an earlier review. The Rating
outstanding may be retained or revised (that is, upgraded or downgraded) on
surveillance.
52
The client is required to submit information and detailed schedules and proper
analysis of that information is done by the agency.
3. Interaction with the Client:
After the analysis of data by the rating team, the team interacts with the client, and the
client responds to the queries raised by the team and provides the additional data as
required by the team. Further, the team undertakes the site visits and analyzes the
additional data submitted by the client.
4. Assignment of Rating:
The internal committee of rating agency reviews the analysis and then the Rating
committee assigns rating to the client. The rating so assigned is communicated to the
client. The client may then accept the rating or it may ask for review of rating in
which case the client has to furnish additional information for the purpose.
5. Publishing of Rating:
In case the client accepts the rating then the rating agency will give the notification
about such rating in the press, otherwise CARE will not publish the rating.
6. Review of Rating:
Each rating is then reviewed formally at least once a year when the analyst of rating
agency meets the issuer's management.
4. Management Meeting:
After having received the replies from the issuers, the rating agency conducts the
meeting with the management to discuss the relevance of information collected about
particular instrument.
5. Further Analysis:
After having discussions in the management meeting the rating agency goes for
further detailed analysis about the product or instrument to be rated.
6. Credit Committee Presentation and Draft Report:
The credit committee (which if formed specifically for the purpose) gives the
presentation of its analysis and a draft report is prepared for the same.
7. Rating Committee Review and Discussion:
After getting the draft report from the credit committee, the rating committee reviews
it. The rating committee considers the relevant quantitative and qualitative issues, as
defined in FITCHs established criteria and methodologies, to arrive at the rating that
most appropriately reflects both the current situation and prospective performance.
Then the rating decision is communicated to the company and the company accepts
that rating.
8. Preparation of Final Rating Report and Press Release:
Once the rating is communicated to the company, it passes comments on the rating
decision and after that a final rating report is prepared and rating is communicated to
the public through a press release and full rating report is made available to the
subscribers.
9. Ongoing Dialogues and Application of Rating to the New Issues:
After the completion of the rating process, the rating assigned is continuously
reviewed by the agency and the agency continues its dialogue with the company for
further rating of new issues.
Thus, almost similar steps are followed by all the rating agencies as the Rating
process is initiated on receipt of a formal request and it ends with the continuous
54
review of ratings in all the cases. Rating decisions are made in accordance with the
criteria applicable to that sector.
The methodologies and criteria that determine rating levels are created and revised by
the analytical groups. Each of the analytical group considers the appropriateness of its
criteria and models as individual transactions are rated. As far as rating methodology
is concerned almost similar parameters are considered by all the agencies under study.
Moreover, these agencies rate similar types of instruments and products with only few
differences in them. However, during the period 2001-09, the maximum number of
instruments, i.e., 16,762 have been rated by CRISIL. This is followed by CARE,
ICRA and FITCH with 3075, 2929 and 1475 instruments respectively during the
period.
55
56
core of the analysis is that in case of within group sample companies, variance in
mean values of ratios should be minimum. All calculations are done with the help of
Statistical Package for Social Sciences (SPSS) version .
Limitations
1.The data taken, has been drawn on convenience and judgment basis & also
secondary in nature. Thus, It may vary from the actual result
2. Different quantitative and qualitative factors are considered by various rating
agencies while assigning a rating grade, whereas in the present study only quantitative
factors including eight financial ratios have been used to assess the consistency in
rating methodology. Therefore, the results of the study should be interpreted with
caution.
57
Results
A) Comparison of AAA Rated Companies AAA
Table 1 : Consistency in Bond Rating Methodology in case of AAA Rating Grade
RATIOS
CRISIL
F
ICRA
Sig.
Values
CARE
Sig.
F Values
FITCH
Sig.
Values
Sig.
Values
Current Ratio
1.14
0.35
0.17
0.85
0.94
0.48
1.81
0.31
Quick Ratio
0.52
0.61
0.67
0.55
1.73
0.32
0.90
0.50
Debt-Equity
1.32
0.30
1.29
0.34
0.80
0.53
0.51
0.64
1.52
0.26
1.07
0.40
0.39
0.71
0.95
0.48
on 1.31
0.31
1.11
0.39
0.80
0.53
0.41
0.69
0.28
0.49
0.64
0.16
0.86
0.25
0.79
after 0.08
0.93
1.68
0.26
58.189*** 0.00
0.16
0.86
0.70
0.51
1.49
0.30
2.13
0.16
0.87
Ratio
Interest
Coverage Ratio
Return
Capital
Employed
Worth
Profit
Tax/Total
Income
PBDITA/Total
0.27
Income
*** denotes Significant at 1 per cent level.
"AAA" ratings denote the highest credit quality. The rated instrument carries the
lowest expectation of credit risk. The above table mentions the F-values of eight
financial ratios of different companies which were assigned AAA rating grade by
CRISIL, ICRA, CARE and FITCH respectively. It is clear from the table that as far as
companies rated by CRISIL,ICRA & FITCH. are concerned, none of the financial
ratios have significant F-values. Thus, the methodology adopted by all 3 Agencies
while assigning AAA rating grade was consistent as similar ratios were considered
while assigning equivalent rating grade.
58
Whereas, companies rated by CARE are concerned, the table highlights that the Fvalue for Profit after tax/Total income is significant while F-values for all other ratios
are not significant. It implies that the Profit after tax/Total income ratio of various
companies which were assigned AAA rating by CARE significantly differ from each
other whereas all other ratios do not vary significantly from each other.
CRISIL
F
ICRA
Sig.
Values
CARE
Sig.
Values
FITCH
Sig.
Values
Sig.
Values
Current Ratio
3.43
0.07
0.68
0.54
1.37
0.38
0.71
0.56
Quick Ratio
5.144** 0.02
0.27
0.77
0.90
0.50
0.33
0.74
Debt-Equity
1.55
0.25
0.12
0.89
0.72
0.56
1.51
0.35
0.18
1.04
0.41
0.39
0.71
1.30
0.39
0.10
1.16
0.38
0.40
0.70
2.18
0.26
Net 2.28
0.15
0.07
0.93
0.32
0.75
1.57
0.34
after 1.73
0.22
1.71
0.26
0.03
0.97
0.63
0.59
0.29
2.22
0.19
0.72
0.56
0.10
0.91
Ratio
Ratio
Return on Capital 2.85
Employed
Return
on
Worth
Profit
Tax/Total Income
PBDITA/Total
1.37
Income
**Significant at 5 per cent level
It is clear from the table that in case of CRISIL, only quick ratio has significant Fvalue. It means the Quick Ratio of different sets of companies which were assigned
"AA" rating grade by CRISIL is different from each other, while as far as all other
ratios are concerned CRISIL had considered similar ratios while assigning AA rating.
While, F-values of the eight financial ratios of the companies which were assigned
AA rating by ICRA,CARE & FITCH are significant. It implies that there is no
significant difference between the values of various ratios of the companies which
59
were assigned . Thus there was consistency in rating methodology while assigning
AA rating grade to different companies during the given period.
CRISIL
F
Values
ICRA
Sig.
CARE
Sig.
Values
FITCH
Sig.
Values
Sig.
Values
Current Ratio
0.56
0.59 1.22
0.36
1.02
0.46
0.58
0.62
Quick Ratio
1.01
0.39 2.03
0.21
1.09
0.44
0.44
0.68
Debt-Equity
0.90
0.43 0.19
0.83
0.59
0.61
0.11
0.90
1.36
0.30 1.52
0.29
3.11
0.19
1.21
0.41
on 1.09
0.37 1.27
0.35
3.33
0.17
0.57
0.62
0.50 0.69
0.54
3.77
0.15
0.52
0.64
after 0.97
0.41 1.16
0.37
3.85
0.15
0.73
0.56
0.17
0.85 1.73
0.26
2.39
0.24
7.34
0.07
Ratio
Interest Ratio
Return
Capital
Employed
Worth
Profit
Tax/Total
Income
PBDITA/Total
Income
The Table 3 points out that the F-values of all the ratios are not significant in case of
A rated companies by CRISIL, CARE & FITCH as which means that there is no
significant difference in the similar ratios of A rated companies. Thus, Thus, the
methodology adopted all 3 above while assigning A rating grade was consistent as
similar ratios were considered while assigning similar rating grade. As far as the Fvalues of different ratios of various A rated companies by FITCH are concerned, it is
visible from the table that all the ratios have in-significant F-values. Thus it is clear
that methodology used by FITCH to assign rating grade A is consistent over the
period of the study.
60
CRISIL
F
ICRA
Sig.
Values
CARE
Sig.
Values
FITCH
Sig.
Values
Sig.
Values
Current Ratio
1.63
0.24
0.26
0.78
2.42
0.24
0.40
0.70
Quick Ratio
2.05
0.17
0.26
0.78
3.60
0.16
0.32
0.75
Debt-Equity
0.26
0.77
0.44
0.67
1.61
0.34
1.06
0.45
3.24
0.08
0.95
0.44
1.07
0.45
2.67
0.22
on 3.31
0.07
2.13
0.20
1.21
0.41
2.44
0.24
0.07
2.22
0.19
1.53
0.35
4.40
0.13
after 2.07
0.17
3.00
0.13
0.97
0.47
1.67
0.33
1.30
0.31
0.72
0.53
0.74
0.55
6.55
0.06
Ratio
Interest Ratio
Return
Capital
Employed
Worth
Profit
Tax/Total
Income
PBDITA/Total
Income
The F-values are not significant for any of the ratios belonging to BBB rated
companies by CRISIL,ICRA, CARE & FITCH. This highlights that during the period
of study, the financial]ratios of the companies belonging to similar BBB rating are not
significantly different from each other. This depicts the consistency in rating
methodology of all 4 during the period under study.
CONCLUSION :
It has been assessed from the above analysis that all the rating agencies use consistent
methodology while assigning a particular rating grade as there is no significant
difference in the value of all the ratios which belong to different sets of similarly rated
companies. The only exception to this is PAT/TI ratio of AAA rated companies by
CARE and quick ratio of AA rated companies by CRISIL as there is significant
difference in these ratios.
61
which are going through a transitory growth period, and they are therefore subject to
uncertainty regarding their future value.
Grade 5
Grade 4
Grade 3
1/5
2/5
EXPLANATION
3/5
FITCH
4/5
CARE
Grade 2
Grade 1
fundamentals of the
Business and Competitive Position The alignment between industry opportunities the
company's strategy and objectives
for
an equity investor.
Corporate
Governance
practices
An
evaluation
of
the
companys
63
Normally, grading is done looking at roughly a three year time horizon and would
involve an indepth assessment of the various quantitative and qualitative parameters
of the issuer
IPO grading is a onetime assessment done prior to the IPO issue and relies
significantly on the draft prospectus filed with SEBI. Normally, grading is done
looking at roughly a three-year time horizon and would involve an indepth
assessment of the various quantitative and qualitative parameters of the issuer. While
growth prospects of the industry and financial strength are some of the quantitative
parameters, qualitative parameters such as management capability also provide
critical input in determining a grade
The Securities and Exchange Board of India (SEBI) had first experimented IPOs
grading on optional basis. But on the other hand, none of the promoters and lead
managers voluntarily chose to be graded even at no cost to the companies concerned.
This has led SEBI to make IPO grading compulsory for all.
The important features of SEBI's decision on IPO grading are as follows:
The grading exercise will exclude the issue price from its scope;
It will be carried out by recognized credit rating agencies;
The grading will be on a 5-point scale, the lowest grade to be indicated by 1 and the
highest by 5.
The issuing company will be allowed to choose the rating agency for grading its IPO.
Given that no other capital market in the world practices such a grading scheme, what
is unique about Indias capital market that calls for IPO grading? To assess the
necessity, it is prudent to first look at the views of the various stakeholders. The
primary stakeholders in this context are SEBI, the rating agencies, the firms aspiring
to issue an IPO, and the investors.
64
SEBIs View
SEBI has further said that as the IPO grading does not take into consideration the
pricing of the security, it is not an investment recommendation. Rather it is only one
of the inputs for the investor to aid in the decision making process. To that effect,
SEBIs view is that all other things remaining equal, a security with stronger
fundamentals would command a higher market price.
SEBI believes that it has taken a pioneering role in safeguarding investors interest by
increasing disclosure levels by entities seeking to access equity markets for
funding. This has caused India to be amongst one of the more transparent and
efficient markets in the world.
65
The rating agencies compare the fundamentals of the IPO firm to those of other listed
firms in the primary and the secondary market. This is done with an understanding
that if IPO grading is to meet investors needs, the relative comparison set of potential
IPO companies must include all companies that are potential investment equity
options for the investor. Doing so benefits the issuer company by benchmarking itself
with its peers.
To initiate the process of obtaining an IPO grade, the company first contacts one of
the grading agencies. The steps involved in the grading process are as follows:
Step I:
The issuer shares the required information with the grading team of the rating agency
Step II: Rating agency follows up with detailed management meetings with the CEO,
CFO, and the Board of directors, and further follows up with subsequent
site visits
66
Step III:
The grading team prepares a detailed note and grading committee assigns the grade
Step IV:
Grading agency publishes a rationale outlining the reasons for the reason
for the assigned grade
Step V:
Grading agency sends the grading report to SEBI, stock exchanges, and to the
company The issuing company then discloses the IPO grade on the prospectus that it
files with the ROC (Registrar of Companies).
The concept of IPO grading being a unique one, while analyzing the concept of IPO
grading I observed worthwhile differences between IPO grading and credit rating.
1). While credit rating is assigned based on past data and the obligation of debt
payment along with its future prospects, IPO grade is assigned based solely on
fundamentals and on assessment of the future performance.
2). Companies that are likely to raise far more equity than they need in an IPO hence
suffer a depressed return on equity (ROE) are likely to be assessed unfavorably in the
IPO grading exercise; However, they are likely to be assessed more favorably in a
credit rating exercise, as more equity lowers the debt to equity(D/E) ratio and
provides cushion to acquire more debt in the process.
3). The focus while assigning an IPO grade would be projected in ROE, EPS, and
growth in profits, while the focus while assigning a credit rating would be on
projected cash flows in relation to debt .
4). Credit rating is assigned based on a promise to pay a fixed sum at regular intervals
regardless of the performance of the project for which the funds were borrowed, On
the other hand, IPO in grading the investor's
Thus, IPO Grading System is relevantly different and new from other Rating process
and
introduced by SEBI in the year 2007. It still has a long way to go in order to
have total acceptability among the investors group. It needs to evolve according to the
needs & convenience of the Investors which would further
will be able to
Findings :
1. It is a onetime assessment and has no ongoing validity thus it makes it difficult for an
investor to totally rely on it.
2. IPO grading totally ignores the valuation aspect of the company's IPO.
3. The main criticism against SEBI's is that it excludes the issue price from the scope of
grading. The critics have argued that the issue price is a crucial factor in determining
the worth of an IPO from the investor's viewpoint to include it.
4. SEBI Initially the cost of the grading would be borne by the Investor Protection Funds
administered by the stock exchanges, or by Investor Education Protection Funds (IPF)
administered by the Ministries of Companies Affairs. However, the bearing the cost
of
obtaining
the
grade
has
since
been
transferred
to
the
companies
themselves. without any justification for having shifted the cost responsibilities from
IPF to the companies. This has led to an increase in the cost of raising funds in the
capital market.
5. The grading does not aim to indicate the likely returns from the IPO to the investor for
his investment thus an investor cannot fully rely on the grading system to take his
investment decisions
6. The IPO grading also does not take into account market factors such as liquidity,
demand, supply situation of the scrip, the market sentiment at the time of the IPO
issue are not taken into consideration and the very purpose of protecting the interest
of the investors is defeated. This is mainly because pricing of the issue is the most
68
crucial determinant of returns to the investors and it is not included in the grading
process.
Recommendations
1) SEBI has made it mandatory to get IPO grading done, the parameters and grades are
not standardized so it's important for SEBI to standardized parameters. This will
enable investors to make proper investment decision by analyzing several options.
2) Even though it grades the IPO & gives its opinion after several Qualitative &
Quantitative Analysis, it should be able to determine the loopholes an IPO may
possess.
3) SEBI can grant powers to them in order to be able to detect the frauds in an IPO
through the grading process which could further strengthen their position. This would
enable
to
protect
the
investors
interest.
69
Ratnakar Bank is latest in the news to go for an IPO in the coming months backed by
the Strong Election mandate and Positives Signs of recovery of the Economy. We
tried to analyze the potential of the bank by giving it an IPO Grade in order to give
an opinion to the Investor's.
Company's Background - Established in 1943, RBL is a Kolhapur based small sized
old private sector bank. It was granted the status of scheduled commercial bank in
1959. The business of RBL is primarily concentrated in Maharashtra and North
Karnataka.
Branches - It has 120 branches across the country with 140 ATMs. The bank has
presence in Maharashtra, Karnataka, Gujarat, Tamil Nadu and Delhi - NCR. By the
next year, the bank should have close to 200 branches.
Vishwavir Ahuja - MD & CEO, Mr. Ahuja joined Ratnakar Bank in 2010. He is the
former CEO of Bank of America in India.
70
Financial Highlights
Particulars
FY 2011
FY 2012
FY 2013
Deposits (Cr.)
2042
4739
8340
Advances (Cr.)
1905
4132
6376
105.15
186.79
257.56
4.62
4.34
3.32
12.22
65.73
90.47
Gross NPA(%)
1.12
0.80
0.40
Net NPA(%)
0.36
0.20
0.11
1074
1130
1594
3229
7205
12963
49.99
52.62
63.03
ROE(%)
1.71
5.90
6.73
EPS(%)
0.96
3.06
4.19
CAR (%)
56.41
23.20
17.11
The Banks deposits increased from `4,739.33 crores , as on March 31, 2012, to
8,340.52 crores, as on March 31, 2013, registering a growth of 75.99%. While the
RBI softened policy rates, the economys high liquidity deficit prevented the deposit
rates from decreasing as much, particularly till the end of third quarter of FY13.
The banks NPA has reduced over 3 years from 1.12 to 0.40 % which shows its strong
position. These results were achieved through proper management of credit as well as
aggressive and focused efforts on NPA management and recovery.
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In FY11, the bank's profit took a hit, mainly due to pension plan, enhancement of
gratuity limits & payments of arrears otherwise the bank has shown phenomenal
increase in its profits till FY 2013. Though it NII shows a YOY (year on year) growth
which depicts its stability.
Even though the banks NPA was decreasing its NIM was not increasing as it must.
Till 31st march of 2014 the bank had approx 11,600 crores in deposits out of which
they plan to have 20 % as CASA ,which is the cheapest source of money for the
banks as it gives very low rate of interest rates. Concerted efforts at increasing the
CASA Balances have helped to increase the Banks CASA deposit balances by
61.32% during FY13. However, CASA percentage reduced from 21.51% in FY12 to
19.72% in FY13 owing to relatively higher increase in term deposits.
The Banks earning capacity increased with its EPS touching 4.19 per share in
FY13 from 3.06 per share in FY12 & 0096 on FY11.Book value per share registered
a growth of 19.79%, from 49.99 in FY 11 to 52.62 in FY12 to 63.03
in FY13.
The Bank's CAR Reduced from 56.21% to 23.20% as Banks business has grown
significantly during the year which has helped the Bank in the
efficient deployment of capital. and further reduced to 17.11 in FY 2013 as the Bank
raised equity capital to the tune of 376 crores excluding shares issued on exercise of
equity stock options to employees. This has helped the Bank to attain a high CAR.
The shares were subscribed to by high-quality institutional and private equity
investors
These ratios reflect increased shareholders value in return for their investment.
Strengths
Strong Rural & Semi- Urban presence.
Healthy Financials, Underleveraged balance sheet.
Strong management led by Vishwavir Ahuja.
The under penetration of banking services in rural India (which accounts for about 68
% of total households),high potential growth rates ,a conservative regulator & high
entry barriers for new entrants makes Bank like Ratnakar a compelling investment
case.
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Concerns
Company's original staff is unionized & Can create problems
To fund its loans, Ratnakar pays high deposit rates 5.5 % on savings accounts,
compared with 4 % at most Indian banks, & its total deposit cost averages 8.9 %,
compared with the industry average of 6%.
Also Ratnakar's operating expense of 2.67 % of average assets is higher than the
industry average of 1.7 %.This should come down as the Bank Scales up.
Recent Developments
2010
In 2010, Ratnakar raised Rs.720 Cr ($130 million) from HDFC & other PE funds
including Faering, Gaja cap, Norwest Venture Partners, Samara Cap, Beacon India
Private Equity Fund & Cartica Cap at 67 Rs/share.
Reliance Capital Asset Management (RCAM) & SBI Mutual Fund had signed a
distribution agreement with Ratnakar Bank for the distribution of mutual fund
schemes.
Raised Tier-I capital of over 700 crores , taking the total capital base to around
1,100crore, from HDFC, Gaja Capital, Norwest Venture Partners, Samara Capital,
Beacon Capital, Faering Capital, TVS Shriram and Cartica Capital
2011
ICRA granted Ratnakar Banks Certificate of Deposit programme an A1+ rating - its
highest rating for short-term instruments
Launched ATM cards, pre-paid cards and internet banking; obtained an authorized
dealer license to commence Foreign Exchange and International Trade business
Implemented Core Banking System (CBS) across all rural and semi-urban branches,
thus ensuring 100% of the branches are CBS enabled.
Agri Banking and Financial Inclusion verticals introduced Ratna Group Loans, a
focused credit product for small and marginal farmers, artisans and women borrowers
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2012
Upgraded core banking system to Finacle, a product from Infosys, which holds a
leadership position in the market
2013
Raised Tier-I capital of over ` 376 crores taking the total capital base to around `
1,600 crores, from
Opened the first branch in the state of Andhra Pradesh at Hyderabad ,Chennai, Tamil
Nadu
Bestowed with the honour of being Indias Best Bank (Growth) in the mid-sized
banks segment by Business Today and KPMG and also ranked 5th overall for the year
2012
Ratnakar Bank took over RBS Banking, credit cards & Mortgage portfolios in India.
It will absorb RBS's Employees along with 1,20,000 customers as part of the deal.
Ratnakar Bank did not have any Credit Card portfolio, but through acquisition from
RBS it now has a customer base of 89,000.
The retail branches agriculture business portfolio increased by 65% during FY13
2014
IPO planned in 2014/2015, as the Net worth of the Bank moves closer to Rs. 2000 Cr,
it would be 41st Bank to be listed.
The Bank is set to raise Rs. 330 Cr ($55 million), an investment that will help it
prepare for an IPO next year from a group of domestic & global private equity
investors by issuing 3 million new shares, pegging its value @ Rs. 2500 Cr. The
Investors Includes some of the top names such as Aditya Birla PE, ICICI's Emerging
India Fund, IDFC Spice, Faering Cap etc. Faering, promoted by Aditya Parekh (son
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of HDFC chairman Deepak Parekh) is the only existing investor increasing its stake in
the bank. After the investment, Faering stake will increase to 5%.
Conclusion
After going through various aspects of the bank in the last 3 years, Ratnakar Bank has
the potential to get an IPO GRADE 4- Above average fundamentals as its the 1st
IPO offering since Punjab & Sind bank raised 480 crore in the year 2010, the markets
is optimistic about the bank's IPO given its range of network it operating in and its
potential to capture large market share.. The bank serves the small trading
businessman and farming communities An IPO is a litmus test for the bank and will
be critical in changing the banks perception towards the customers.
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9. CONCLUSION
Credit Rating is thus the need of the time since investors should be equipped with
easy methods to make their investment decisions. If ratings are assigned in a proper,
systematic, transparent way, then it will be a boon for investors and will go a long
way in making the investment world a safe place.
It is an undisputed fact that CRAs play a key role in financial markets by helping to
reduce the informative gap between lenders and investors, on one side, and issuers on
the other side, about the creditworthiness of companies (corporate risk) or countries
(sovereign risk). 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 the key to showing their
worthiness of money from foreign investors. Credit rating helps the market regulators
in promoting stability and efficiency in the securities market. Ratings make markets
more efficient and transparent.
Rating only represents the past and present performances of the company and
therefore future events may alter the nature of the rating.
Rating is based on the material provided by the company and therefore, there is
always a risk of concealment of information on the part of the latter.
Since the rating agencies receive a sizable fee from the companies for awarding
ratings, a tendency to inflate the ratings may develop.
The time factor greatly affects rating & gives misleading conclusions. a company
which adverse conditions temporarily will be given a low rating judged on the basis of
temporary phenomenon.
Investment which have the same rating may not have identical investment quality.
The information is obtained from issuers, underwriters, etc. and is usually not checked
for accuracy or truth. Thus ratings may change on account of non-availability of
information or unavailability of adequate information.
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Changes in market considerations may result in loss that will not be reflected in Credit
Rating.
In India the chief problems in the context of CRAs arises on account of the fact that
they are not the independent and autonomous entities that their international
counterparts are. The three primary CRAs in India, viz., ICRA promoted by IFCI and
other financial institutions and banks, CRISIL, promoted by ICICI, Asian
Development bank and others, and CARE promoted by IDBI are all promoted by
lending institutions. Further most corporate borrowers are clients of these institutions
in terms of borrowing. Further, institutions like ICICI, IDBI also have stakes in such
client companies. Thus it is very important for these agencies to distance themselves
from their promoters if they want to gain credibility.
RECOMMENDATIONS
(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 be risk-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 individuals 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.
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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.
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. This could be a Cost Saving
measure for both the parties.
The rating agencies make public only those ratings which are accepted by the issuer
companies. They should also publish even those ratings which are not accepted by the
given companies
The credit rating agencies also follow qualitative aspects for rating which may not be
more reliable and accurate. Therefore, they should lay more emphasis on quantitative
factors.
Besides the given factors considered by the credit rating agencies, they should also
take into consideration other issues regarding investment like, liquidity risk, prepayment risk, interest rate risk, taxation aspects, risk of securities market loss,
exchange loss risk, etc
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10. BIBLIOGRAPHY
Website
www.crisil.com
www.icra.in
www.careratings.com
www.fitchindia.com
www.sebi.gov.in
www.rblbank.com
www.google.com
www.moneycontrol.com
Books
Mamta Arora, (2003), Credit Rating in India Institutions, Methods and
Evaluation, New Century Publications, Delhi.
Research Paper
Sanjay Poudyal,(2008) Grading Initial Public Offerings (IPOs) in Indias Capital
Markets A Globally Unique Concept.
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