Mumbai: Icra Ltd, one of India’s four big credit rating companies, has come down heavily on the industry for making compromises to win business, sparking a debate on the credibility of the agencies in the world’s 10th largest economy.
“Some of the issues relating to excessive competition are possibly resulting in some rating agencies taking a liberal interpretation of the principles, which are well established internationally,” Icra managing director and chief executive officer Naresh Takkar said in an interview on Friday. Takkar didn’t name any particular agency.
Icra’s key rivals are Crisil Ltd, CARE Ltd and Fitch Ratings. Global rating agency Standard and Poor’s holds a 51% stake in Crisil, Moody’s is the single largest shareholder in Icra with a 28.51% stake, while Fitch is unlisted. CARE, set up in 1993 and the only one controlled by local promoters, plans a listing this fiscal.
Takkar’s remarks assume significance in the backdrop of the global debate over rating agencies that began with their role in the financial crisis three years ago and current uncertainties over sovereign debt that have been roiling the markets.
Crisil, the largest rater and also listed, and CARE rejected any accusation of compromising on principles. Fitch did not offer comment for this story.
Takkar said any dilution of standards will have “serious implications” on consumer confidence and overall credibility.
Crisil managing director and chief executive officer Roopa Kudva said the agency has always maintained its standards despite increasing competition.
“This is a credibility-driven business and there is a lot of risk if you lose credibility,” Kudva said. “If you lose credibility, you will not get business.”
Strong regulations since 1999 and the high level of competition have helped Indian raters maintain quality, she said.
“Competition is nothing new in the rating space in India. We have faced competition for over 20 years, even though the corporate bond market was minuscule,” Kudva said. “Of late, with the rating agencies covering bank loan ratings and other areas, the opportunities for rating agencies have increased. There is less pressure on chasing the same party for business.”
Raters need to keep pace with the fast-evolving market, said Rajesh Mokashi, deputy managing director, CARE, rejecting Takkar’s contentions.
“Agencies which handle distribution and reach correctly only will make better results in the market,” Mokashi said.
CARE has an independent external committee headed by noted chartered accountant Y.H. Malegam that has helped the company to maintain the “highest professional standards.”
There has been some conflict among raters of late.
They differed in July over perpetual bonds, a relatively new instrument for Indian companies although banks have been using these instruments to raise funds for at least the last three years. Only two firms—Tata Power Co. Ltd and Tata Steel Ltd—have issued such bonds.
The differences stemmed from the option that allows an issuer to defer payments or even stop making payments on perpetual bonds, depending upon the nature of the security, without being declared a defaulter.
Crisil gave the top investment grade of AA/positive to Tata Power’s Rs 1,500 crore perpetual debentures issued in early June promising an 11.4% return with a step-up provision if not redeemed after 10 years.
Shortly after this, Fitch sounded a warning on corporate perpetual bonds in general, without singling out the two Tata firms. “They are...inherently riskier than other debt obligations, and should, therefore, be treated with considerable caution by investors.”
Competition is leading to an incorrect grading of risk, Icra’s Takkar said.
“One could possibly see very clearly in the marketplace that systematically some rating agencies may end up giving higher rating because of the excessive competition and also because of the overall small size of the market,” he said. “Unless it is checked, it would lead to a situation where investors’ confidence will get affected.”
Crisil, which listed in 1993, has traditionally dominated the rating industry with a market share just above 50%. The number of companies rated by Crisil grew from around 400 in March 2008 to 6,300 in March this year.
For Icra, which listed in 2007, the number of live issuers grew from 1,158 in March 2009 to 3,965 in June this year. There are no accurate estimates of the total size of Indian rating industry.
Crisil had a market capitalization of Rs 5,559.26 crore on 19 August, while that of Icra was Rs 989.45 crore.
In the year ended 31 March, 2011, Crisil posted a net profit of Rs 178.17 crore, up 18.51%. Icra’s net profit declined to Rs 44.91 crore from Rs 50 crore in the year before.
CARE’s net profit rose to Rs 87.19 crore in March from Rs 55.38 crore, according to the latest figures available.
The credibility debate comes as CARE gets ready to list. IDBI Bank Ltd is the largest shareholder in the company with a 26.75% stake. Other promoters include Canara Bank (23.67%) and State Bank of India (9.97%). In addition, there are around 15 institutional shareholders, including Federal Bank Ltd, Infrastructure Leasing and Financial Services Ltd and some Tata group firms.
Capital market regulator Securities and Exchange Board of India has decided to keep an “intent watch” on the role of credit rating agencies and risks they may pose to the market, aiming to make necessary changes in regulations for these entities, PTI news agency reported on 11 August. Mint was not able to independently verify this.
The debate in 2008, when top-rated institutions and instruments collapsed, was focused around conflict-of-interest issues. The agencies are generally paid by companies to get rated.
Many of them have also diversified into other areas such as advisory and research activities to boost revenue.
For example, over 50% of Crisil’s revenue comes from outside India through high-end analytical research for global institutions.
For Icra, too, non-rating business contributes about 40% of revenue.
Rating agencies should stick to their core business, said Ashvin Parekh, partner at global consultancy firm Ernst and Young.
Most importantly, they should understand their role to give correct signals to the banking system, Parekh said.
“Rating agencies have a much larger role to play. But do they have the capacity to understand the issues is a question,” Parekh said. “Many of them are now becoming like consultants. They should stick to the core business. There has to be a very high order of dialogue at the government level as well to let them understand their role.”