Despite variations across individual rating agencies, the following features appear to be common in the rating methodology employed by different agencies:
1. Two broad types of analyses are done: (a) industry and business analysis, and (b) financial analysis.
2. The key factors considered in industry and business analysis are: (a) growth rate and relationship with the economy (b) industry risks characteristics, (c) structure of industry and nature of competition, (d) competitive position of the issuer, and (e) managerial capability of the issuer.
3. The important factors considered in financial analysis are: (a) earning power, (b) business and financial risks, (c) asset protection, (d) cash flow adequacy, (e) financial flexibility and (f) quality of accounting.
4. Subjective judgment seems play an important role in the assessment of the issue/issuer on various factors
5. While each factor is normally scored separately, no mechanical formula is used for combining the scores on different factors to arrive at the ratings conclusion. In the ultimate analysis all variables are viewed as interdependent.
6. Industry risk characteristics are likely to set the upper limit on rating
Key Financial Ratios
The level and trend of the issuer’s financial ratios have an important bearing on bond ratings. The key ratios used are:
1. Coverage ratios such as times-interest earned ratio and fixed charge coverage ratio
2. Leverage ratios such as debt-equity ratio
3. Liquidity ratios such as current ratio and quick ratio
4. Profitability ratios such as return on capital employed and return on equity
5. Cash flow to debt ratio.
CRSIL debenture Rating Symbols:
CRISIL, is the largest credit rating agency in India interalia, it rates debentures, preference shares, fixed deposits, and short-term instruments (commercial paper).The rating symbols employed by CRISIL for debentures are mainly of three types:
High investment Grades: Debentures rated AAA are judged to offer highest safety on timely payment of interest and principal. Though the circumstances providing this degree of safety are likely to change such changes as can be envisaged are most unlikely to adversely affect the fundamentally strong position of such issues.
Debentures rated AA are judged to offer high safety of timely payment of interest and principal. They differ in safety from AAA issues only marginally.
Investment Grades: Debentures rated A are judged to offer adequate safety of timely payment of interest and principal however changes in circumstances can adversely affect such issues more than those in the higher rated categories.
Debentures rated BBB are judged to offer sufficient safety of timely payment of interest and repayment of principal; however changing circumstances are more likely to lead to a weakened capacity to repay principal than for debentures in higher rated categories.
Speculative Grades: Debentures rated BB are judged to carry inadequate safety of timely payment of interest and principal; while they are less susceptible to default than other speculative grade debentures in the immediate future, the uncertainties that the issuer faces could lead to inadequate capacity to make timely interest and principal payments.
Debentures rated B are judged to have greater susceptibility to default; while currently interest and principal payments are met, adverse business or economic conditions would lead to lack of ability or willingness to pay interest or principal.
Debentures rated C are judged to have factors present that make them vulnerable to default; timely payment of interest and principal is possible only if favorable circumstances continue.
Debentures rated D are in default and in arrears of interest or principal payments and are expected to default on maturity. Such debentures are extremely speculative and return from these debentures may be realized only on reorganization of liquidation.
1. CRISIL may apply ‘+’ (plus) or ‘-‘ (minus) signs for ratings from AA to D to reflect comparative standing within the category.
2. The contents within parenthesis are a guide to the pronunciation of the rating symbols.
3. Preference share rating symbols are identical to debentures rating symbols except that the letters are prefixed to the debenture rating symbols, e.g. of AAA (or Triple A).