The primary objective of Credit Rating is to provide guidance to the investors in determining credit risk associated with a debt instrument/ credit obligation. The Credit Rating is neither a generalpurpose evaluation of the issuer/ entity nor an opinion on all the debt contracted/ to be contracted by such an entity. Credit Rating is not a recommendation to buy or sell or hold securities / debt obligations. It is only an opinion of the Credit Rating Agency on the relative capacity of the issuer to service its debt obligation as per terms of the contract with particular reference to the instrument being rated. Part 2.8 Definition of Credit Rating Agencies A credit rating agency (CRA) is a company that assigns credit ratings for issuers of certain types of debt obligations as well as the debt instruments themselves. In some cases, the servicers of the underlying debt are also given ratings. In most cases, the issuers of securities are companies, special purpose entities, state and local governments, non-profit organizations, or national governments issuing debt-like securities (i.e., bonds) that can be traded on a secondary market. A credit rating for an issuer takes into consideration the issuer's credit worthiness (i.e., its ability to pay back a loan), and affects the interest rate applied to the particular security being issued. The Rating Agency does not guarantee the completeness or accuracy of the information on which the rating is based. A credit rating agency has to rely extensively on the information, clarifications and opinion provided by the Issuers as well as those obtained from other professional agencies like auditors, bankers, solicitors, investors, customers and suppliers, etc. The Rating, usually expressed by way if an alphabetical or alphanumeric symbol, is an easily understood tool enabling the investors to differentiate between credit instruments on the bases of underlying credit quality. A Rating dose not gives any direct or indirect assurance or guarantee against the probability of default. The Rating Agency , in fact, endeavours to arrive at a relative rankings in terms of the probability of default in a debt offering based on its predictive tools and techniques, rigorous process of Due Diligence, internal and external research that constitute its analytical framework. It enables lenders/ investors to take an informed decision based on their individual risk return preferences. It also enables the lender to assess the risk underlying a debt offering and factor the same in his lending/ pricing decision. A Rating tries to establish a linkage between risk and return. The Rating being an opinion, subjective and judgemental in nature, there can not be a precise correct or incorrect Rating, the endeavour always at a “fair” Rating. When there is a chance of default in repayment, the borrower is assigned a low grade and when the borrower has the sound financial health to meet its obligations it is awarded a high grade. The grades or rates assigned to the borrower are called rating symbols or rating notch. Rating notches range from “AAA” to “D”. “AAA” is the highest safety grade in the rating scale for an entity that indicates a safe and timely repayment of borrowed money whereas “D” signals a current or future default in repayment of the borrower. The table in the next page summarizes the rating scales used by premier rating agencies: Generally, international rating agencies assign short-term and long-term credit ratings.
Short-term rating gives the benchmark of the likelihood of borrower’s default within one year.
Long-term rating evaluates the likelihood of default over longer time (up to the lifetime of the securities issued).