1. Overview of Credit Risk Rating Models INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.

2. DEFINITION OF CREDIT RISK Credit Risk is the risk of default by borrower due to inability and/or unwillingness to repay his debts in accordance with the agreed terms and conditions.

3. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Rating Scale Aggregate ScoreDefinitionRating >80Minimum RiskAAA >70-<=80Marginal RiskAA >60-<=70Modest RiskA >50-<=60Average RiskBB >40-<=50Marginally Acceptable RiskB >30-<=40High RiskC <=30CautionD

4. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Lending Decision: Generally, bank lend to highly rated borrowers and avoid exposure to borrowers with very poor credit risk rating. Pricing: Borrowers with poor credit rating should be priced high. Bank charges credit risk premium based on the credit quality of the borrowers. Major Uses of Credit Risk Rating

5. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.  Major Components Financial Risk Business and Industry Risk Management Risk Conduct of Account  Weights and parameters to each of these segments depend upon the class of borrower being evaluated. Basic Structure of Credit Rating Models

6. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Evaluation Process  All parameters have predetermined weights and evaluated from 0-4 scale where 0 mean least and 4 mean best.  For objective parameters, system evaluates value of the parameter for borrower based on its performance and compares the same with predetermined benchmarks.  For subjective parameters, raters evaluates parameter based on guidelines provided in manual.  Last five year audited financial statements are taken as basis for rating alongwith projections (Min 3 years financial statements are required).

7. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Large Corporate Credit Risk Rating Model -Applicable to borrowers availing (FB+NFB) limits above Rs 15 crore or having turnover of above Rs 100 crore. Mid Corporate Credit Risk Rating Model – Applicable to borrowers availing (FB+NFB) limits above Rs 5 and up to 15 crore or having turnover of above Rs 25 crore and up to Rs 100 crore. Small Loans - Applicable to borrowers availing (FB+NFB) limits above Rs 50 lacs upto Rs 5 crore and having turnover upto Rs 25 crore. Credit Rating Model - Applicability

8. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Credit Rating Model - Applicability Non Banking Finance Companies - Applicable to NBFCs, Housing Finance Companies, etc. irrespective of limit. Borrower Setting up New Projects – Applicable to borrowers seeking finance above Rs 5 crore or having project cost above Rs 15 crore. Credit Risk Rating Model for Banks/ FIs- Applicable to Banks/ FIs.

9. Financial Risk Evaluation : Past Financials INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. CategoryParameter Impact of increase in ratio on rating PAST FINANCIALS - INDUSTRY COMPARISON Growth Rate (3 yr) Gross Sales growth rate (%) (Compounded annual growth rate over the past three years.) Positive Profitability OPBDIT/Sales (%) Positive Short term bank borrowings/ Net sales (%) Negative Cash FlowsOperating cash flow/ Total debt (%) Positive Net operating cash flow/ Total debt (%) Positive

10. Financial Risk Evaluation : Past Financials INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Category Parameter Impact of increase in ratio on rating PAST FINANCIALS - ABSOLUTE COMPARISON Solvency Debt equity ratio Negative TOL/TNW Negative LiquidityCurrent Ratio Positive Debt Coverage Interest coverage Positive DSCR Positive ProfitabilityReturn on capital employed (%) Positive

11. Financial Risk Evaluation : Future Risk INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. The expectation of future financial risk is an important input to the credit rating process. This is used to evaluate the cash flows of a company as well as any major risks, which the company might be facing in future that may adversely impact its financial performance.

12. Financial Risk Evaluation : Future Risk INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. FUTURE RISK - Subjective Major Factors Considered 1. Contingent liability - Likely devolvement - as a % of TNW 2. Foreign Transaction risk - Exchange Risk and - County Risk 3. Impact of merger/ demerger/ expansion on key financials - CR, DER and ROCE 4. Cash flow adequacy - Arrangement for deficit in Net Cash Flow after Equity 5. Impact of diversion on future financials - CR and DER

13. Financial Risk Evaluation : Discounting Factors INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. SUBJECTIVE ASSESSMENT OF FINANCIALS 1. Transparency in accounting  Qualification in financial statements  Reputation of Auditors 2. Quality of inventory  Realisable Value  Valuation Method  Old stock 3. Realisability of debtors  Age  Debtors management 4. Quality of investment/ advances made to group/ other companies  Depletion in value  ROCE

14. Financial Risk Evaluation : Discounting Factors TREND ADJUSTMENT 1. Net sales 2. PBDT less Non recurring income/expenditure 3. Operating cash flow/ Total debt 4. Tangible net-worth INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.

15. Business Evaluation : Subjective evaluation Parameters 11. Competitive Position Expected sales growth 2 Market dominance 3 Trend in market share 42. Input Related Risk Availability of raw material and other critical inputs 5 Suppliers power 6 Availability of alternate raw material/fuel 7 Management of price volatility 8 Reliable vendor base for components 9 Dependence on imports 10 Proximity to raw material sources 11 Status of backward integration INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.

16. Business Evaluation : Subjective evaluation Parameters 123. Production Related Risk Capacity Utilisation 13 State of technology used 14 Flexibility in product manufacturing 15 Patents and proprietary technology 16 R&D Expenses 17 Dependence on single manufacturing plant 184. Product Related Risk Product range 19 Product quality 20 Highly customised product 21 Threat of substitution/ obsolescence INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.

17. Business Evaluation : Subjective evaluation Parameters 225. Price Competitiveness Economies of scale 23 Brand Equity 24 Pricing Flexibility 25 Financing edge over competitors 26 Buyers power 276. Marketing Selling & distribution network 28 After sales & service network 29 Geographical diversity of market 30 Proximity to market 31 Long term contracts / assured offtake 32 Advertising / other promotional strategies INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.

18. Business Evaluation : Subjective evaluation Parameters 337. Others Threat from environmental factors 34 Vulnerability to event risk 35 Regional rating of states INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.

19. Management Evaluation Parameter MANAGEMENT OBJECTIVE 1 Gross sales achievement vis-à-vis target 2 PBT achievement vis-à-vis target MANAGEMENT SUBJECTIVE 1 Management Set-up and Corporate Governance 2 Commitment and sincerity 3 Track record in execution of projects 4 Track record in debt repayment 5 Track record in Industrial relations 6 Financial strength/ flexibility /Group support 7 Capital market perception INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.

20. The conduct of account provides useful indications about the ability and willingness of the borrower to meet his obligations. The manner in which a borrower has been conducting his accounts in the past is a good indicator of how the account is likely to behave in future as well. Conduct of Account Evaluation CONDUCT OF ACCOUNT EVALUATION 1 Preventive Monitoring System rating OR 1 Status of account (irregularity) 2 Operations in account 3 Submission of financial data/ statements

21. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Most Crucial Factor “Effects of any major developments which are not yet cleared, major damage to plant/stocks, court judgement on environmental threats, involvement of promoters/company in excise/FERA/tax-evasion, recovery suit/winding-up petition filed by Creditors/FIs/Banks, any civil/criminal proceedings against the promoters/company, change of management etc.” The Credit Risk Rating of the borrower is downgraded by one notch.

22. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Hurdle Points There are high risk in certain critical parameters, which may substantially affect the ability or willingness of the borrower to repay its dues as per terms of agreement, is not fully captured due to the limitations of the models. In view of this Hurdle points are inbuilt in the model

23. INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI. Example of Hurdle Points In case, score under the parameters “Commitment & Sincerity” and ‘Track Record in Debt Repayment’ is greater than‘0’, and upto ‘1’, the rating may be downgraded by one notch.

24. THANK YOU INTEGRATED RISK MANAGEMENT DIVISION; HEAD OFFICE, NEW DELHI.