LOGO

ROLE OF
Credit Rating Agencies
IN PAKISTAN
Group Members

1 AREEBA SHEIKH (F06B006)

2 ABEER IQBAL (F06B021)

3 ABEER MAHMOOD (F06B037)

4 HAFSA ZAHID (F06B008)

LOGO

 One of the fundamental

economic problems faced by
developing countries is the
difficulty in mobilizing funds to
increase investment.
 This makes access to
international capital
markets an important
resource for obtaining
funds to raise the level and
accelerate the pace of
investment and growth.

 In order to gain access,

developing countries must
first obtain a favorable rating
of their creditworthiness by
one or more credit rating
agencies.
Credit Rating

Credit Rating means

evaluating a company,
security or investment
product.

 A current opinion on the

relative creditworthiness of
debt.

 A debt specific evaluation.

 Aimed at differentiating
credit quality.

 A response to the market’s

demand for information.
LOGO
What is not Credit Rating?
An audit of the issuing company.

A onetime assessment of creditworthiness of the issuer.

A general purpose certification of “goodness” of a

company.

A recommendation to buy, hold or sell the rated

security.
Credit Rating Agency

 A credit rating agency (CRA) is a

company that assigns credit ratings
for issuers of certain types of debt
obligations.

 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 grades on the debt range from

AAA to D with some variation in
notation by each agency. Higher
ratings are given to sovereign debtors
who have the highest ability and
willingness to pay.
 WHY CREDIT
RATING?
 To solve asymmetric information problems between investors and asset
managers.

For Investors:
 Gives an information about the interest rate.
 Providing investors with independent, relevant and updated financial
information on issuers.

For Dept Holders:

 Allowing issuers to access debt capital markets and to diversify their funding
 IMPORTANCE OF CREDIT RATINGS

 The importance of rating agencies

opinions to investors and other
market participants, and the influence
of these opinions on the securities
markets have increased significantly.
This is due in part to the increase in
the number of issuers and the advent
of new and complex financial
 Today, credit ratings affect
products.
securities markets in many ways,
including an issuer’s access to
capital, the structure of
transactions, and the ability of
investors and others to make
particular investments.
Importance To The Investors And The Functioning Of The Securities Markets

 Issuers seek credit ratings for a number of

reasons, such as to improve the marketability or
pricing of their financial obligations, or to satisfy
investors, lenders, or counterparties who want
to enhance management responsibility.

 Credit ratings can play a significant role in the

investment decisions of investors, and the value
investors place on such ratings is evident from,
among other things, the impact ratings have on
an issuer’s ability to access capital.
 USES
Credit ratings are used by investors, issuers, investment banks,
broker-dealers, and governments.
RATINGS USED BY BOND
Issuers rely on credit ratings as an independent verification of
their own credit-worthiness and the resultant value of the
instruments they issue.

A significant bond issuance must have at least one rating

from a respected CRA for the issuance to be successful.

Many institutional investors now prefer that a debt

issuance have at least three ratings.
The same issuer also may have different credit ratings
for different bonds. This difference results from the
bond's structure, how it is secured, and the degree to
which the bond is subordinated to other debt.

Many larger CRAs offer "credit rating advisory

services" that essentially advise an issuer on how to
structure its bond offerings and SPEs so as to
achieve a given credit rating for a certain debt
tranche.
RATINGS USE BY INVESTMENT BANKS &
BROKER-DEALERS
Investment banks and broker-dealers also
use credit ratings in calculating their own
risk portfolios.

Larger banks and

broker-dealers conduct
their own risk calculations,
but rely on CRA ratings as a "check" against
their own analyses.
 RATINGS USE BY GOVERNMENT
REGULATORS

Regulators use credit ratings as well, or permit ratings to be used for regulatory
purposes.
 RATINGS USE IN STRUCTURED
FINANCE
Structured financial
transactions may be
viewed as either a
series of loans with
different
characteristics, or
else a number of
small loans of a
similar type
packaged together
into a series of
"buckets".
Companies involved in structured financing often consult with credit rating
agencies to help them determine how to structure the individual tranches so
that each receives a desired credit rating.
ROLE OF RATING AGENCIES
Rating agencies play an important role to evaluate

• To evaluate the issuers of securities

• To provide rating decisions and publications.

EVALUATION OF THE
ISSUERS OF THE SECURITIES
GENERAL PROCEDURES FOR EVALUATING ISSUERS
Rating procedures are designed to facilitate analytical consistency.
Organizationally, the larger rating agencies divide the rating into separate
categories by

• Industry

• Type of instrument
RATING COMMITTEES

Rating committees are generally formed

ad hoc to initiate, withdraw, or change a
rating. They typically are composed of a
lead credit analyst, managing directors
or other area supervisors, and junior
analytical staff.

RATING SCALES
Rating agencies designate
ratings to both long-term and
short term debt through some
variation of an alphabetical
combination of upper case
letters e.g. AAA, AA, BBB, CCC
etc
RATING COMMITTEE PROCESS

• Rate a new issuer or instrument.

• Assess a major transaction or event that might
impact a current rating.
• Consider putting a rating on review for change.

Committee deliberations are preceded by

regular on-going contacts with issuers and
information gathering. Ratings are based on a
variety of public and nonpublic information.
• Public information reviewed in the
ratings process typically includes
filings with the commission, news
reports, industry reports, bond and
stock price trends, data from central
banks, and proxy statements.

• Nonpublic information can include

credit agreements, acquisition
agreements, private placement
memorandum and business
projections and forecasts.
RATING DECISIONS
AND PUBLICATIONS
• CREATE A WATCH LIST

Rating agencies generally survey ratings over

time by reviewing corporate filings
monitoring industry trend and maintaining a
dialogue with corporate management by
using “watch list”.

Watch List
Watch lists signal to the market that a
rating is under active review for a change (in
any direction) and are typically in response to
significant sector or issuer specific events.
Typically, issuers or instruments are kept on a
watch list 90–120 days, depending on the
practice of a particular rating agency
• WAIT FOR NEW INFORMATION
Rating agencies generally advise issuers in
advance of an imminent rating action and allow
the issuers to appeal the decision.

• RESOLVE ANY OBJECTION

Issuers may be allowed to review and edit press
releases to ensure factual accuracy and prevent
the disclosure of confidential information.
PUBLISH RATINGS

Rating agencies publish rating outlooks. An outlook is an opinion on the future

direction of the rating. Outlooks are usually categorized as being positive,
negative, or stable, and are typically included in a rating action press release.
LOGO

PACRA
Pakistan Credit Rating Agency
PACRA

The primary function is to evaluate the capacity and

willingness of a corporate entity to honor its debt obligations.
PACRA ratings reflect an independent, professional and impartial
assessment of the credit risk associated with a particular debt
instrument or a corporate entity.
 It provides a measurement
of risk, after determining the
acceptable rate of return at
the given risk level.

However it is not a
recommendation to purchase,
sell or hold a security, in as
much as it does not comment
on the security's market price
or suitability for a particular
investor.
 Rating process is about evaluating

Business Risk

Financial Risk
Information Gathering

 Information with regard to

Financial Risk is generally
provided by the company

 However, comprehensive
information with regard to
Business Risk is not readily
available from any identifiable
source.

www.themegallery.com Company Logo

LOGO

RATING PROCESS
Used By PACRA
 Steps Of Rating Process Are:

1. Mandate for rating 2. Review of public inform

received by PACRA action including audited
financial statement
3. Questionnaire seeking 4. Plant visit/meeting with
additional information to the management
client
5. Information received and
analyzed

6. Preparation of draft
report
7. Rating committee meeting of
assignment of rating

8. Report sent to the client for

review as to factual
accuracy/confidentiality
 9. Client decision rating public
or not

10(a). Rating made public 10(b). Rating not made

public
ADVANTAGES OF CREDIT RATING

 Certainty about the

financial strength of
the issuer.
 Savings in research costs.

 Ratings represent the informed

opinion of a neutral third party.
 Guidance in making an investment decision by being
presented with a wide variety of safe choices.

 Identification of the risk involved in

the debt instrument.

 Constant monitoring and surveillance by the agency on

the debt instrument leading to effective risk
management strategies.
For the issuer, the merits of credit ratings are:

•Expanded access to capital markets.

•Lower financing cost.

•Recognition to a first time and unknown issuer in

order to establish his market credibility.

•Enhancement of goodwill.

•Motivation for better performance.

CRITICISM
 Credit rating agencies do not downgrade
companies promptly enough.

 Large corporate rating agencies

have been criticized for having
too familiar a relationship with
company management, possibly
opening themselves to undue
influence or the vulnerability of
being misled.
Credit Rating Agencies have made errors of
judgment in rating structured products.

Rating only represents the past and present

performances of the company and therefore
future events may alter the nature of the
rating.
 Rating of a debt instrument is not a
guarantee as to the soundness of the
company.

 Default probability need not be

specifically predicted.

CRAs cannot be used as recommendations to buy, sell

or hold securities as they do not comment on the
adequacy of market price, suitability of any security or
taxability of payments.
 The information is obtained from
issuers, underwriters, etc. and is
usually not checked for accuracy or
truth.

 Changes in market considerations

may result in loss that will not be
reflected in CRAs.
Ratings agencies do serve a purpose in financial markets.
Their value in assessing default risk and thereby affecting
credit spreads plays a critical role in financial markets and
especially the flow of capital to developing countries
LOGO