1. Credit Rating Strategies in India Presented By: Cauvery Sharma (82008) Chetna Malhotra (82009) Kavya M. Chandra (82017) Neha Tandon (82026) Neha Malhotra (82027)

2. Contents Credit Rating of a Commercial Paper Credit Rating of a Manufacturing company

3. Commercial Paper Unsecured short term debt instrument issued by highly rated companies, financial institutions and primary dealers Typically used for financing of account receivables, inventories and meeting short term liabilities. CP’s tenure can range from 15 days to 365 days Low cost short term instruments to replace working capital borrowings from the banking system.

4. CRISIL’S six step framework for assigning ratings Step 1 Assess the underlying credit quality of the issuer, as reflected in its long term rating. Step 2 Assess the liquidity position and analyze the monthly cash flows of the issuer Step 3 Arrive at a short-term rating, using a mapping framework

5. CRISIL’S six step framework for assigning ratings Step 4 Arrive at a quantum of CP consistent with the rating Step 5 Evaluate the liquidity back-up Step 6 Evaluate the credit enhancement options, if applicable

6. Step1: Assessing the underlying credit quality of the issuer If a CP’s maturity cannot be met through subsequent CP (rollover), the issuer has to rely on fresh borrowings. Issuer’s ability to refinance would depend on the company’s fundamental credit quality, as reflected in its long term rating

7. Step2: Assessing the liquidity position Analyzing issuer’s current liquidity position Analyzing monthly cash flow position, which includes ▫ Assessment of cash flow statement of the past 12 months ▫ Assessment of the future monthly cash flows

8. Step3: Mapping Framework

9. Step5: Liquidity back-up for CP A liquidity back –up facility is a mechanism that allows CP issuers to draw funds from a pre-arranged line, if they choose not to roll over Commonly available liquidity back – up facilities are sanctioned bank lines for working capital CRISIL also assesses the quality of the liquidity back – up facility in terms of nature and commitment of the facility, its tenure, the strength of relationship between the issuer and the facility provider and the restrictions affecting the issuer’s ability to draw funds.

10. Step6: Evaluating credit enhancement options Standby credit facility or a guarantee is unconditional and irrevocable and is available under all circumstances to meet the obligations on the issue, if the issuer fails to do so. CP rating is generally equalized to that of the facility provider irrespective of the issuer’s standalone rating

11. Contents Credit Rating of Commercial Paper Credit Rating of a Manufacturing company

12. Rating Criteria for Manufacturing Companies CRISIL’s criteria for assessing quality includes four broad areas Business Risk Analysis Financial Risk Analysis Management Risk Analysis Project Risk Analysis

13. Determinants of Business Risk Analysis Industry Risk: Size of the industry, growth prospects, the competitive scenario, demand and supply dynamics, vulnerability to technological change, industries’ importance to the economy, government policy, entry barriers, profitability and cyclicality Government Policies: Importance of industry to the economy, tariff barriers, excise duties and taxes, domestic price controls, incentives for new investments and exports, legislation regarding pollution control measures, laws with respect to foreign exchange and the like. Market Position: Ability to sell what is produced, ability to control selling prices

14. Determinants of Business Risk Analysis Industry Risk: Size of the industry, growth prospects, the competitive scenario, demand and supply dynamics, vulnerability to technological change, industries’ importance to the economy, government policy, entry barriers, profitability and cyclicality Government Policies: Importance of industry to the economy, tariff barriers, excise duties and taxes, domestic price controls, incentives for new investments and exports, legislation regarding pollution control measures, laws with respect to foreign exchange and the like. Market Position: Ability to sell what is produced, ability to control selling prices

15. Determinants of Business Risk Analysis Contd.. Operating Efficiency: Ability to produce goods and services at a competitive cost. Key factors while evaluating operational efficiency are ▫ Technology: Strong technology few competitors ▫ Access to resources: Easy access to resources better operating margins ▫ Price volatility of key inputs: Strong linkage between the price of the goods sold and input prices is looked at favourably ▫ Level of integration: High level of vertical integration leads to a better cost structure ▫ R & D : Companies ability to develop new products is carefully examined ▫ Human Resources: CRISIL analyses the ability to attract and retain qualified manpower

16. Determinants of Financial Risk Analysis Accounting Quality: Financial statements and ratios to analyze the companies’ financial performance. Key areas analyzed include ▫ Overstatement/understatement of profits ▫ Qualifications made by auditors ▫ Methods of income recognition and depreciation ▫ Inventory evaluation policies ▫ Off balance sheet items Adequacy of Cash Flows: CRISIL’S financial risk analysis revolves around companies future earning capacity in relation to its debt servicing capacity Financial Flexibility: The company’s contingency plans and its ability to deal with various adverse scenarios is analyzed. CRISIL evaluates companies ability to generate funds through alternative resources

17. Determinants of Management Risk Analysis It involves understanding the goals philosophies and strategies that drive the companies business and financial performance Evaluation of management involves understanding the organizational and reporting structure, the management's experience and track record, the level of commitment and integrity of its personnel and adequacy of its planning and control systems Analysis of the management’s past success in introducing the new products and its ability to manage change in the external environment. Corporate governance principles followed by the management and transparency in management action is also evaluated

18. Project Risk Analysis CRISIL evaluates the risk associated with the new project by: ▫ Comparing the size of the new project with the existing operations ▫ Significance of the project risk in the overall rating ▫ Impact of time, cost over-runs and technology risk on the project ▫ Funding risks in terms of project capital structure and funding arrangements are also evaluated ▫ Companies track records in implementing such projects ▫ Company’s existing product line are given adequate importance