A Choice In Ratings Is Better For Investors

Updated: Apr 7 2002, 05:30am hrs
The Credit Rating Information Services of India Ltd is the countrys largest credit rating agency. During the last year, it increased its cache of service offerings for its customers to meet the increasing competition. Its managing director R Ravimohan, in an exclusive interview with Sujata Mody of The Financial Express, discusses Crisils new product plans, certain nuances in the ratings game and the implications of multiple ratings for investors. Excerpts.

Can you give a simplistic illustration of the criteria that Crisil adopts for rating a particular corporate
Basically the rating is our opinion or view that the company will repay their debt obligations on time. When we say AAA, the highest rating, the risk of non-payment is the least. This goes down to AA to A, BBB, BB, B, C and D. D is when a bond is in default already, C is imminent default, B is very high risk, etc. It is a symbolic way of measuring the relative safety of the company. This rating also measures the credit risk, which is a combination of the business risk and financial risk.

A company runs a business with basically four categories of risks, ie, industry risk, management risk, operating risk (ie, technology, suppliers, raw materials, market access, etc) and government policy risk.

Financial risk, ie, past financial performance, cash flow adequacy, existing financial position, debt taken and repayment capacity, financial flexibility that the company has, should it run into some trouble, etc. Last but not least, are accounting policies. We examine the existing financial statements and make a judgement on the fairness and correctness of the accounts. We have our own set of norms on how each accounting entry should be presented. We change the accounts of the company to these norms. If we find that there is a big variation, then we mark down the ratings, since we believe that the company is not making a fair disclosure.

We combine the business risk and the financial risk to arrive at the final credit rating. If the company is undertaking a large project, then the project risk is separately evaluated and combined with the standalone credit quality of the company. If the company belongs to a large group or a multinational or is supported by the government, in one sense or the other, then we might notch up the ratings to factor in the support that the parent might provide for any of its operations.

In case of different ratings given to a particular entity by rating agencies, how does an investor know which one to rely on
Yes, this is an issue. Personally I feel that more the number of ratings/opinions, the better it is for the investor. So in one sense the investor has a choice of accepting or not accepting a particular rating. On the other hand, he has a choice of making his own estimate of how good an agency is or has been in the past and use that as a guidance to figure out which agency to follow.

Crisil, for instance, publishes all its methodology and criteria through the website and the publications. For eg, when we look at past financial performance, we have benchmarks. So if the companys debt equity ratio is very low, it is good. But rather than just qualitatively saying that, we use benchmarks. For a company to attain an AAA, we would look for at least 0.5:1 debt equity ratio. And if we do want to give a higher rating to a company that has a higher debt equity ratio, we must have a very strong reason for doing so. If someone reads the methodology, they will get a clear understanding of the basis of our ratings. If an investor is interested, they can look into these rules and satisfy themselves that the rules that we apply are sound.

The second thing that we would urge the investors to do is to not just look at ratings. Crisil, for instance, publishes a rationale for a rating, which tries to explain the criteria and the assumptions for the rating. For eg, for a telecom company, whether wireless local loop or limited mobile telephony will be allowed or not is dependent on the government regulations.

We have made an assumption that this will be allowed and our ratings on the telecom companies reflect that view. If tomorrow, the government policies are different from this, then obviously our ratings will not hold. At this point in time, we have no further guidance to make a better judgement. Therefore, there is always a certain degree of uncertainty. So what we try to do in our rationale is to explain the assumptions and also give reasons for the same. If the investor has a better knowledge of the company, then he can make an adjustment to the assumption, if he believes so.

But as a larger issue, I feel that the investor, having a choice of two or three rating agencies, giving him an opinion is good. He must, of course, make an effort to understand why a rating agency has given a particular rating.

What are the new products that Crisil is planning to launch Anything specifically geared towards the retail investors
Currently, we have a website that is dynamically updated. We have a number of products that are being sold to the larger institutions. A lot of our products are being put out in a web context. Particularly, we have a whole time news service. We took over the Bridge news service covering the debt, foreign exchange markets, economy that goes on the Telerate platform. A five-minute delayed version comes on our website.

The website also provides information and analysis of the economy, industry, company and markets. We also have mutual fund tools providing information and enabling analysis of various mutual funds. Investors can also make bond investments with tools that allow them to filter criteria.

You mentioned earlier that while rating a corporate, financial statements could be revamped to meet Crisil identified criteria. In a situation where Crisil identifies a case of window dressing of the accounts, recent example being Enron, would this fact be put out as a warning
We have created a separate, dedicated unit for this kind of balance sheet analysis. Our ratings team, etc, looks at the analysis prepared by them. The reason that we created this unit was because we didnt want a rating analyst to look at the balance sheets as a part of the several other things that he did. Balance sheet analysis, to my mind, is not a routine affair, which most banks, institutions and rating agencies take it to be. It is a highly analytical job. So what we have created is a separate team that looks at all these transactions and cleans it up to our standards and the cleaned up numbers are put onto a software platform. The cleaned up balance sheets are also available for sale to the market.

This team, called Global Data Services, has analysed some 500 balance sheets as of now. We have not yet put this into the market place but when we do so, it will be quite explosive. This unit specialises in balance sheet analysis, tracks changes and gives reasons for the accounting changes made. It is left to the investors to decide whether they want to go with the companys financial statement or look at the Crisil analysis. But at least it gives them an opportunity to make an informed choice as to what the right numbers should be. This kind of an analytical insight into the balance sheet is not yet really being undertaken by anybody else. Internationally, also I dont think it is undertaken.

This product has already been launched in a way but it is not yet made available to the market at large purely for commercial considerations. We are selling this product to banks, which are ready customers. We are looking to increase the coverage from 500 to 1,000 companies by September this year, where most companies that investors are looking for will be covered.