INTRODUCTION The banking sector in India underwent an unprecedented transformation in the 1990s with the emergence of a large number

of private as well as foreign multinational banks entering the country increasing rapidly the number of banks in India due to the economic reforms. So the banking activities increased manifold and affected a large number of areas of operation of banks, particularly in the field of bank lending. Banks operate on the pattern of extending credit against security given by its customers associated with the bank. The facility of extending credit is recognition of the changing times in which banks have to operate in a changing and ever evolving economic scenario. Growing needs and realisation of higher rate of investments is giving birth to bank credit in India.1 The borrowing capacity provided to an individual by the banking system, in the form of credit or a loan. The total bank credit the individual has is the sum of the borrowing capacity each lender bank provides to the individual2. This for even needed to increase the investment on the country. So a need was felt to have a credit agencies maintaining database on the existing customers as in the absence of adequate and structured credit information for the banks and other credit providing agencies, there was always danger of a party obtaining financial accommodation from a large number of banks to an extent not warranted by his/her means or paying capacity, in such a case there is a chance having of bad debts (not retuning of credit) creating an added burden on the existing financial resources of banks.

MEANING

Credit Rating Agencies rate the aforesaid debt instruments of companies. They do not rate the companies, but their individual debt securities. Rating is an opinion regarding the timely repayment of principal and interest thereon; It is expressed by assigning symbols, which have definite meaning. A rating reflects default risk only, not the price risk associated with changes in the level or shape of the yield curve. It is important to emphasize that credit ratings are not recommendations to invest. They do not take into account many aspects, which influence an investment decision. They do not, for example, evaluate the reasonableness of the issue price, possibilities of earning capital gains or take into account the liquidity in the secondary market. Ratings also do not take into account the risk of prepayment by the issuer, or interest rate risk or exchange rate risks. Although these are often related to the credit risk, the rating essential is an opinion on the relative quality of the credit risk, It has to be noted that there is no privity of contract between an investor and a rating agency and the investor is not protected by the opinion of the rating agency. Ratings are not a guarantee against loss. They are simply opinions, based on analysis of the risk of default. They are helpful in making decisions based on particular preference of risk and return. A company , desirous of rating its debt instrument, needs to approach a credit rating agency and pay a fee for this service. There is no compulsion on the corporate sector to obtain or publicize the credit rating except for certain instruments. TheCredit Rating Agencies regularly analyse the financial position of corporations and assign and revise the ratings for their securities.

HISTORY The modern rating system dates back to 1909 when John Moody started rating US railroad bonds. 3 In India in 1962, a Credit Information Division was established in RBI with the view of collection of information from banks and other financial institutions regarding data relating to the prescribed limits sanctioned by RBI even the RBI Act was amended into 1962 given powers to collect information in regard to credit facilities granted by individual banks and notified financial institutions to their constituents and to supply to these banks and institutions on application the relative information in a consolidated form.4 Apart from all the above steps, banks constantly keep a check on the customers by obtaining information from all the other sources pertaining to their customers in any form.5 The Saraiya Commission also suggested the formation of credit information bureaus on the lines of those prevalent in the US and the UK. Credit rating agency means any commercial concern engaged in the business of credit rating of any debt obligation or of any project or programme requiring finance, whether in the form of debt or otherwise, and includes credit rating of any financial, obligation, instrument or security, which has the purpose of providing a potential investor or any other person any information pertaining to the relative safety of timely payment of interest or principal. The credit information8 bureaus in the US and the UK used to provide information on the history of the business concern, ownership and changes in the business concern, digest of statements of assets and liabilities, results of investigations in the trade, fire records, etc. Credit Rating Agencies is different from a mercantile credit agency, which usually supplies general information on corporates for the purpose of selling goods on credit.

DETERMINANTS OF RATINGS The default-risk assessment and quality rating assigned to an issue are primarily determined by three factors - I i) The issuer's ability to pay, ii) ' The strength of the security owner's claim on the issue, and iii) The economic significance of the industry and market place of the issuer.. Ratio analysis is used to analyse the present and future earning power of the issuing corporation and to get insight into the strengths and weaknesses of the firm. Bond rating agencies have suggested guidelines about what value each ratio should have within a particular quality rating. Different ratios are favoured by rating agencies. For any given set of ratios, different values are appropriate for each industry. Moreover, the values of every firm's ratios vary in a cyclical fashion through the ups and downs of the business cycle. To assess the strength of security owner's claim, the protective provisions in the indenture (legal instrument specifying bond owners' rights), designed to ensure the safety of bondholder's investment, are considered in detail. The factors considered in regard to the economic significance and size of issuer includes: nature of industry 'in which issuer is, operating (specifically issues like position in the economy, life cycle of the industry, labour situation, supply factors, volatility, major vulnerabilities, etc.) and the competition faced by the issuer (market share, technological leadership, production efficiency, financial structure, etc.)

RATING METHODOLOGY

Rating is a search for long-term fundamentals and the probabilities for changes in the fundamentals. Each agency's rating process usually includes fundamental analysis of public and private issuer-specific data, 'industry analysis, and presentations by the issuer's senior executives, statistical classification models, and judgement. Typically, the rating agency is privy to the issuer's short and long-range plans and budgets. The analytical framework followed for rating methodology is divided into two interdependent segments. The first segment deals with operational characteristics and the second one with the financial characteristics. Besides, quantitative and objective factors; qualitative aspects, like assessment of management capabilities play a very important role in arriving at the rating for an instrument. The relative importance of qualitative and quantitative components of the analysis varies with the type of issuer. Key areas considered in a rating include the following: i) Business Risk : To ascertain business risk, the rating agency considers Industry's characteristics, performance and outlook, operating position (capacity, market share, distribution system, marketing network, etc.), technological aspects, business cycles, size and capital intensity. ii) Financial Risk : To assess financial risk, the rating agency takes into account various aspects of its Financial Management (e.g. capital structure, liquidity position, financial flexibility and cash flow adequacy, profitability, leverage, interest coverage), projections with particular emphasis on the components of cash flow and claims thereon, accounting policies and practices with particular reference to practices of providing depreciation, income recognition, inventory valuation, off-balance sheet claims and liabilities, amortization of intangible assets, foreign currency transactions, etc. iii) Management Evaluation : Management evaluation includes consideration of the background and history of the issuer, corporate strategy and philosophy, organisational structure, quality of management and management capabilities under stress, personnel policies etc. iv) Business Environmental Analysis : This includes regulatory environment, operating environment, national economic outlook, areas of special significance to the company, pending litigation, tax status, possibility of default risk under a variety of scenarios. Rating is not based on a predetermined formula, which specifies the relevant variables as well as weights attached to each one of them. Further, the emphasis on different aspects varies from agency to agency. Broadly, the rating agency assures itself that there is a good congruence between assets and liabilities of a company and downgrades the rating if the quality of assets depreciates.

The rating agency employs qualified professionals to ensure consistency and reliability. Reputation of the Credit Rating Agency creates confidence in the investor. Rating Agency earns its reputation by assessing the client's operational performance, managerial competence, management and organizational set-up and financial structure. It should be an independent company with its own identity. It should have no government interference. Rating of an instrument does not give any fiduciary status to the credit rating agency. It is desirable that the rating be done by more than one agency for the same kind of instrument. This will attract investor's confidence in the rating symbol given. A rating is a quality label that conveniently summarizes the default risk of an issuer. The credibility of the issuer's, proposed payment schedule is complemented by the credibility of the rating agency. Rating agencies perform this certification role by exploiting the economies of scale in processing information and monitoring the issuer. There is an ongoing debate about whether the rating agencies perform an information role in addition to a certification role. Whether agencies have access to superior (private) information, or if agencies are superior processors of information; security ratings provide information to investors, rather than merely summarizing existing information. Empirical research confirms the information role of rating agencies by demonstrating that news of actual and proposed rating changes affects the price of issuer's securities. Most studies I document numerically larger price effects for downgrades than for upgrades, consistent with the perceived predilection, of management for delaying bad news.

Role and Rationale A credit rating is technically an opinion on the relative degree of risk associated with timely payment of interest and principal on a debt instrument. It is an informed indication of the likelihood of default of an issuer on a debt instrument, relative to the respective likelihoods of default of other issuers in the market. It is therefore an independent, easy-to-use measure of relative credit risk. Given the universal reliance on rating, and hence the power of the opinion, credit rating is expected to increase the efficiency of the market by reducing information asymmetry and lowering costs for both borrowers and lenders. A simple alphanumeric symbol is normally used to convey a credit rating. Ordinarily the company which issues the debt instrument is not rated. It is the instrument which is rated by the rating agency. But the issuer company which has issued the debt instrument gets strength and credibility with the grade of rating awarded to the credit instrument it intends to issue to the public for raising funds. Though the purpose of rating is to rate instruments, a general perception may be gathered that the organisation issue a highly rated instrument is also sound and a highlyrated entity. Thus, credit rating is a mechanism whereby an independent third party makes an assessment, based on different sources of information on the credit quality of the assessed Given the systemic superstructure position that the CRAs have come to occupy as information and insight gate keepers, they play an important role in the of modern capital markets. Their importance to various stakeholders is as follows. Investors CRAs typically opine on the credit risk of issuers of securities and their financial obligations. Given the vast amount of information available to investors today- some of it valuable, some of it not CRAs can play a useful role in helping investors and others sift through this information, and analyze the credit risks they face when lending to a particular borrower or when purchasing an issuers debt and debt like securities. CRAs also provide investors with rating reports, giving detailed information and analytical judgements on the issuers business and financial risk profile. This assists investors in taking more informed investment decisions, calibrated to their own riskreturn preferences. Securitised instruments are among the most complex instruments in the debt market. Securitised instruments backed by retail assets are classified as Highly Complex by some Indian rating agencies. Given the inherent complexity in these instruments, an independent assessment of the risks involved in the instruments by a credit rating agency acts as an important input to an investors decision-making. Unlike most corporate bonds, where an investor can independently assess a borrowers creditworthiness, in a securitisation transaction there will normally be little or no information in the public domain for an investor to carry out such an assessment. Understanding the nuances of different pools and analysis of the past behaviour of asset classes are areas where CRAs can play an important role. Tracking the performance of the transaction and the corresponding impact on the riskiness of the instruments is a feature where CRAs play an important monitoring role. These aspects have also been recognised by Indian regulators. As required by Basel capital accord risk weights are assigned to all rated rated and unrated bank exposures.

Issuers Issuers rely on credit ratings as an important tool to access investors and also to reach a wider investor base than they otherwise could. In most cases, successful placement of a significant bond issuance needs at least one rating from a recognised CRA; without a rating, the issue may be undersubscribed or the price offered by investors may not be appropriate. Further, they enable issuers to price their issues competitively. In financial markets, the price of debt is determined primarily by the rating of the debt issue. Banks/ Bank loan rating Although credit rating is not mandatory under Basel II, banks are likely to save capital if they get their loan rated. If a bank chooses to keep some of its loans unrated, it may have to provide, as per extant RBI instructions, a risk weight of 100 per cent for credit risk on such loans. As provided under Basel II, supervisors may increase the standard risk weight for unrated claims where a higher risk weight is warranted by the overall default experience in their jurisdiction. Further, as part of the supervisory review process, the supervisor may also consider whether the credit quality of corporate claims held by individual banks should warrant a standard risk weight higher than 100%. In terms of RBI instructions on the 'New Capital Adequacy Framework (Basel II)' issued in April 2007, banks were required to initially assign a risk weight of 100 per cent in respect of unrated claims on corporates with the caveat that such claims would be assigned higher risk weights over time. To begin with, for the financial year 2008-09, all fresh sanctions or renewals in respect of unrated claims on corporates in excess of Rs.50 crore were to attract a risk weight of 150 per cent, and with effect from April 1, 2009, all fresh sanctions or renewals in respect of unrated claims on corporates in excess of Rs. 10 crore were to attract a risk weight of 150 per cent. This higher risk weight of 150 per cent for unrated corporate claims was equivalent to the risk weight to be assigned to exposures rated BB and below. However, in November 2008, as a counter cyclical measure, RBI relaxed the regulatory prescription of 150 percent risk weight for unrated claims. Accordingly, all unrated claims on corporates, irrespective of the amount currently attract a uniform risk weight of 100 percent. This relaxation is temporary and will be reviewed at an appropriate time. On the other hand, by getting loans rated, a bank can save capital on loans in the better rated categories, as shown in the illustration below.

Illustration of capital-saving potential by banks on a loan of Rs.1000 Million : Rating Basel I Basel II (Standardised Approach for credit risk) Risk weight Capital required (Rs. mn) 18 27 45 90 135 90 Capital saved (Rs. mn) 72 63 45 0 (45) 0

Risk weight

Capital required1 (Rs. mn) 90 90 90 90 90 90

AAA AA A BBB BB and below Unrated

100% 100% 100% 100% 100% 100%

20% 30% 50% 100% 150% 100%

Capital required is computed as Loan Amount x Risk Weight x 9% A large number of Indian companies, hitherto unrated by rating agencies, have now come forward to get their bank facilities rated. Basel-II norms hold significant potential for further development of the domestic debt markets, by introducing into the public domain easily accessible credit information about a large pool of mid-sized companies. This will not only allow these companies to explore alternative sources of funds, but, through greater visibility, also facilitate healthy competition among fund providers. For banks and other investors, it creates an information base that can be used for efficient portfolio selection. The acceptance of credit ratings by the investor community has led to investors showing increasing interest in the bank loan rating portfolio. Investors have also begun to consider offering a suite of market-linked borrowing products (including non-convertible debentures, commercial paper, and MIBORlinked short-term debt instruments) to rated mid-sized companies. Regulators Regulatorstypically banking regulators and capital market regulatorsuse credit ratings, or permit ratings to be used, for regulatory purposes. For example, under the Basel II capital framework of the Basel Committee on Banking Supervision, banking regulators can accredit credit rating agencies based on specified criteria. The ratings assigned by these accredited External Credit Assessment Institutions or ECAIs are used to assign risk weights to various bank exposures in calculating capital charge for credit risk. Further, some regulators (such as IRDA and PFRDA) have incorporated ratings into the investment guidelines for the entities they regulate. Rating thus provides an additional layer of comfort to the regulators in their assessment of product risks and overall systemic risks.

CREDIT RATING AGENCIES IN INDIA There are five Credit rating agencies in India, namely: 1. Credit Rating Information Services of India Limited (CRISIL) 2. Investment Information and Credit Rating Agency of India (ICRA) 3. Credit Analysis & Research Limited (CARE) 4. Duff & Phelps Credit Rating India Private Ltd. (DCR India) 5. ONICRA Credit Rating Agency of India Ltd.

1. CRISIL: The concept of credit rating in India was initiated by the Credit Rating Information Services of India Limited (CRISIL). CRISIL was established in 1987 and started operations in January 1998.Currently, five rating agencies are in operation in India, rating bonds, time deposits, CP (Commercial Paper) and structured obligations. All the four Indian rating agencies have tie ups/alliances with international rating agencies. CRISIL is India's leading rating agency, and is the fourth largest in the world. Its business model comprises of three divisions - Debt Rating, Crisil Research and Information Services (CRIS) and Crisil Advisory Services (CAS). Standard and Poor`s (S&P), which holds a 9.6 per cent stake in the company, assists it on developing new rating methodologies for newer securities .With over a 70% share of the Indian Ratings market, CRISIL Ratings is the agency of choice for issuers and investors. It is a full service rating agency that offers a comprehensive range of rating services and it also provides the most reliable opinions on risk by combining its understanding of risk and the science of building risk frameworks, with a contextual understanding of business. CRISIL has rated over 6,797 debt instruments worth Rs.13.53 trillion (over USD343 billion)11 issued by over4,600 debt issuers, including manufacturing companies, banks, financial institutions (FIs), state governments and municipal corporations. It is the only rating agency to operate on the basis of a sectoral specialization, which underpins the sharpness of analysis, responsiveness of the process and large-scale dissemination of opinion pieces. CRISIL Ratings also offers technical know-how overseas. For instance, it has provided assistance and up ratings agencies in Malaysia (RAM) and Israel and in the Caribbean . In March 2004, CRISIL took up an equity stake of about 9% in the share capital of the Caribbean Information & Credit Rating Services Limited (CariCRIS), with an investment of US $ 300,000.

Rating Process CRISIL's ratings process is designed to ensure that all ratings are based on the highest standards of independence and analytical rigour. From the initial meeting with the management to the assignment of the rating, the rating process normally takes three to four weeks. However, CRISIL has sometimes arrived at rating decisions in shorter timeframes, to meet urgent requirements. The process of rating starts with a rating request from the issuer, and the signing of a rating agreement. CRISIL employs a multi-layered, decision-making process in assigning a rating. A detailed flow chart of CRISIL's rating process is as below:

2. ICRA: ICRA Limited (formerly, Investment Information and Credit Rating Agency of India Limited) was incorporated on January 16, 1991 and launched its services on August 31, 1991, by leading financial/investment institutions, commercial banks and financial services companies as an independent and professional investment information and credit rating agency. ICRA is a public limited company with its shares listed on the Bombay Stock Exchange and National Stock Exchange. It is an independent and professional company providing investment information and credit rating services. ICRAs major shareholders include Moody's Investors Service and leading Indian financial institutions and banks. As the growth and globalisation of Indian Capital markets have led to an exponential surge in demand for professional credit risk analysis, ICRA has actively responded to this need by executing assignments including credit ratings, equity gradings, and mandated studies spanning diverse industrial sectors. In addition to being a leading credit rating agency with expertise in virtually every sector of the Indian economy, ICRA has broad-based its services to the corporate and financial sectors, both in India and overseas, and presently offers its services under three banners namely:
1. Rating services 2. Information services 3. Advisory service

RATING PROCESS : ICRAs rating process involves:  Receipt of rating request from an issuer. Please note that ICRA does not assign unsolicited ratings.  Assigning a rating team The team usually comprises two members. The composition of the team is based on the expertise and skills required for evaluating the issuers business.  Collating information Issuers are provided a list of information requirements and the broad framework for discussions. These information requirements encompass the rating factors specific to the issuers business. ICRA maintains internal records to support its credit ratings in accordance with our internal policies and applicable norms from SEBI. ICRA follows strict processes to maintain confidentiality. All information collected as part of the rating process is used only for rating activities and is not disclosed in ICRAs publications unless approved by the issuer.  Meeting key officials and the management team In addition to the quantitative analysis, rating involves assessment of several qualitative factors that are likely to have a bearing on credit profile of the issuer. This requires extensive interactions with issuers senior officials and top management specifically relating to business and financial risk, managements approach to mitigating risk factors, outlook for the business, management strategy & future plans, and funding policies. Visit to the Works facilitates understanding of the production process and also helps in assessing the progress of projects under implementation. Rating team also has discussions with the auditors and key lenders.  Preview meeting- After the completion of analysis, the findings are discussed at length internally to validate the identification of all key factors, which have a bearing on the rating.

These key rating factors are also discussed with the top management of the debt issuing entity to elicit their views.  Rating committee meeting: ICRAs rating committee is the designated authority for assigning ratings. The rating team comprising the analysts presents the key rating factors and its analysis, which are discussed in this committee. The rating committee assigns a rating and all the factors, which influence the rating, are clearly spelt out.o Rating communication The assigned rating along with key rating factors are communicated to the issuers top management for acceptance. The ratings, which are not accepted, are either rejected or reviewed. The rejected ratings are not disclosed and complete confidentiality is maintained subject to compliance with statutory guidelines.  Rating review If the rating is not acceptable to the issuer, there is a provision for a review of the rating assigned. These reviews are usually taken up only if the issuer provides fresh inputs on the key factors that were considered for assigning the rating. Issuers response is presented to the rating committee for arriving at the final rating decision.  Surveillance Once the rating is accepted, it is kept under continuous surveillance over the life of the instrument. Ratings could undergo a revision if there are changes- internal or external to the issuer that could materially impact the issuers debt servicing capability. Monitoring of Ratings It is obligatory on our part to continuously monitor the accepted ratings over the tenure of the rated instruments. As has been mentioned earlier, the issuer is bound by the mandate signed in our favour to provide information, as and when required by us. The ratings are generally reviewed every year, unless the circumstances of the case warrant either an earlier or more frequent review. A review could lead to either a retention or revision of the rating. The review process is largely similar to the initial rating process. On completion of the review exercise, the rating rationale which explains the key rating factors that support the rating decision is disclosed to the public and is posted on the website which is accessible free of charge.
3. CARE: Credit Analysis & Research Ltd. (CARE Ratings) is a full service rating company that offers a wide range of rating and grading services across sectors. It was established in 1993. CARE has an unparallel depth of expertise. CARE Ratings methodologies are in line with the best international practices. It has completed over 3850 rating assignments having aggregate value of about Rs 8071 billion (as at December 2007), since its inception in April 1993. It has been recognized by statutory authorities and other agencies in India for rating services. The authorities/agencies include: Securities and Exchange Board of India (Sebi), Reserve Bank of India (RBI), Director General, Shipping and Ministry of Petroleum and Natural Gas (MoPNG),Government of India (GoI), National Housing Bank (NHB), National Bank for Agriculture and Rural development (NABARD), National Small Scale Industries Commission (NSIC). CARE Ratings has also been recognized by RBI as an Eligible Credit Rating Agency (ECRA) for Basel II implementation in India. It was promoted by major Banks/FIs (financial institutions) in India. The three largest shareholders of CARE are IDBI Bank, Canara Bank and State Bank of India. CARE Ratings is well equipped to rate all types of debt instruments like Commercial Paper, Fixed Deposit, Bonds, Debentures, Hybrid instruments, Structured Obligations, Preference Shares, Loans, Asset Backed Securities(ABS), Residential Mortgage Backed securities(RMBS)

etc. CARE Ratings has significant presence in all sectors including Banks / FIs, Corporate, Public finance. Coverage of CARE Ratings has extended to more than 1075 entities over the past decade and is widely accepted by investors, issuers and other market participants. It has evolved into a valuable tool for credit risk assessment for institutional and other investors, and over the years CARE has increasingly become a preferred rating agency. Rating Process The rating process takes about three to four weeks, depending on the complexity of the assignment and the flow of information from the client. Rating decisions are made by the Rating Committee.

4. Duff & Phelps Credit Rating India Private Ltd. (DCR India): Fitch Ratings India Private Limited, formerly known as Duff & Phelps Credit Rating India Private Ltd. Prior to 2001, is a wholly-owned subsidiary of the Fitch group that started operating in India since 1996.

5. ONRICA: ONRICA Credit Rating Agency of India Limited was incorporated in 1993. It is an established player in the individual credit assessment and scoring services space in the Indian market. ONRICA is the first in India to launch commercial services and provide individual credit rating and reporting services to the Indian financial market. ONICRA has been acknowledged as pioneers of Individual Credit Rating in the Economic hailed by the financial sector and in the media. It delivers objective and reliable pre and post disbursement credit validation and information on credit takers and have been successfully doing the employee screening for wide gamut of requirements. It provides Dynamic Customer-Focused solutions that bridges the gap between principals and their prospective / existing customers. It provides spectrum of services which include the services like Credit Rating, Associate Rating, Employee Screening, SSI/SME Rating, Customer Verification, Lifestyle Analysis and Royalty Retention. Currently, it cater to clients in major business segments such as Telecom, Banking, Automotive, Consumer Finance, IT and other Service Industries.