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2. Introduction
Meaning & Definition
Origin of the concept of credit rating
Importance of credit rating
Functions of a Credit Rating Agency
Credit rating agencies in India
Rating methodology
Rating symbols
Limitations of credit rating in India
3. INTRODUCTION
A credit rating estimates the credit worthiness of an
a financial security, a corporation, local government
or even a country.
It is an evaluation made by credit reporting agency
of a risk of buying into a specific security offering
and based on a number
of factors.
Typically, a credit rating tells a lender or investor the
probability of the subject being able to meet
payment requirements for interest and principal
repayment.
4. MEANING & DEFINITION
• A Credit Rating issued by a credit rating agency is an
assessment of the credit worthiness of individual
financial securities (For example, a bond) and debt
issued by corporations, government issued
securities or even a country’s ability to repay debt.
• Credit ratings are forward-looking opinions about
credit risk. It express the agency’s opinion about the
ability and willingness of an issuer, such as a
corporation or state or city government, to meet its
financial obligations in full and on time.
5. ORIGIN OF THE CONCEPT OF CREDIT
RATING
• This concept originated in the US in
1909 when the founder of Moody's
Investors Service, John Moody, rated
the US Rail Road Bonds. However, the
relevance of this concept was realized
only after the great depression when
investors lost all their money.
• Lack of symmetric information & high
cost of collecting information increased
the popularity of credit rating agencies.
The worlds biggest rating agencies are
Moody's Investor Service and Standard
& Poor’s (S&P).
6. IMPORTANCE OF CREDIT
RATING
An investor uses the ratings to assess the risk level
and compares the offered rate of return with his
expected rate of return (for the particular level of risk)
to optimize his risk-return trade-off.
The risk perception of a common investor, in the
absence of a credit rating system, largely depends on
his familiarity with the names of company and what
they might know about the company.
For the typical investor, it would difficult to assess all
of the financial information available to assign their
own risk ratings.
7. FUNCTIONS OF A CREDIT RATING
AGENCY
• Provide easy to understand information: Rating
agencies gather information, then analyze
information to interpret and summarize
complex information in a simple and readily
understood manner.
• Provide basis for investment: An investment
rated by a credit rating enjoys higher
confidence from investors. Investors can make
an estimate of the risk and return associated
with a particular rated issue while investing
money in them.
8. CONTINUE..
• Healthy discipline on corporate borrowers:
Public exposure has healthy influence over
the management of issuer because of its
desire to have a clear image.
• Formulation of public policy guidelines on
institutional investment: Once the debt
securities are rated professionally, it would be
easier to formulate public policy guidelines as
to the eligibility of securities to be included in
different kinds of institutional portfolios.
9. CREDIT RATING AGENCIES IN INDIA
The prominent credit rating agencies in
India are
• CRISIL - Credit Rating and
Information Services of India Ltd.
• ICRA - Investment Information and
Credit rating Agency of India Ltd.
• CARE Ratings - Credit Analysis and
Research Ltd.
CRISIL is the market leader in the
credit rating industry with 70 per
cent market share
10. RATING METHODOLOGY
In India the process of obtaining a rating is
quite lengthy and time consuming.
The analytical framework for rating consists of
the fallowing broad areas.
1. Economy analysis
2. Business analysis
3. Financial analysis
4. Management evaluation
5. Fundamental analysis
11. 1. ECONOMY ANALYSIS
• The economic environment is assessed to
determine the degree of operating risk faced
by the company in a given business.
• Here the economy wide factors which have a
bearing on the industry are taken into
consideration.
12. 2. BUSINESS ANALYSIS
It covers the analysis of
a) Industry risk: Industry risk covers an analysis of
actual and estimated demand/supply, number
of firms, potential entrants in the industry,
government policies relating to the industry,
the performance of the industry, its future
potentiality etc.
b) Market position in the industry: It covers the
study of market share of the firms (Marketing
strength & Weaknesses of the firm comparing
with its competitor)
13. CONTINUE..
c) Operating efficiency of the company:
Operating efficiency is a study of production
processes of the firm, its cost structure,
location advantages, labor relationships etc
d) Legal positions: It is the study of prospectus,
accuracy of information, filling of forms,
returns and so on with proper regulatory
authorities.
14. 3. FINANCIAL ANALYSIS
• It involves evaluation of past and expected
future financial performance with emphasis
on assessment of adequacy of cash flow
towards debt servicing.
• Financial analysis includes an analysis of
accounting quality, earning protection, cash
flow adequacy & financial flexibility.
15. 4. MANAGEMENT EVALUATION
• This includes the study of the track record of
the management, the managements capacity
to overcome adverse situations, goals,
philosophy, strategies, control system,
personnel policies & performance of group of
companies.
16. 5. FUNDAMENTAL ANALYSIS
• This covers liquidity management, asset
quality, profitability and interest & tax
sensitivity.
17. RATING SYMBOLS
Rating agencies use symbols to convey the safety
grade to the investors.
Ratings are classified into three grades: high
investment grades, investment grades & speculative
grades.
HIGH INVESTMENT GRADES
• AAA – Highest safety in terms of timely payment of
interest and principle. The issuer is fundamentally
strong and any adverse changes are not going to
affect.
• AA – High safety in terms of timely payment of
interest and principle.
18. CONTINUE..
INVESTMENT GRADES
• A – Adequate safety, Changes in circumstances can adversely
affect such issues.
• BBB – Moderate safety
SPECULATIVE GRADES
• BB – Inadequate safety, uncertain changes can lead to
inadequate financial capacity to make timely payments in
the immediate future.
• B – High risk, Adverse changes could lead to inability or
unwillingness to make timely payment.
• C – Substantial risk, Issue rated is vulnerable to default.
• D – Default in terms of timely payment of interest and
principle.
20. LIMITATIONS OF CREDIT RATING IN
INDIA
The credibility of rating is questionable.
A frequent revision of grading by credit rating
agencies.
The rating agencies do not perform an audit but
rely solely on information provided by the issuer.
Rating agencies offer consultancy and financial
advice to the clients whose paper they rate.