Life could soon change for rating agencies

The Securities and Exchange Board of India (Sebi) is planning to overhaul the role of credit rating agencies (CRAs) in the wake of the IL&FS fiasco.The regulator is discussing a proposal under which credit rating agencies separate their rating entity and the non-rating businesses in order to avoid conflicts of interest. The proposal is there shouldn’t be any linkages other than shareholding and no repatriation of dividend or profit from the nonrating businesses to the company that owns the rating business.Sebi is also planning to put in place a framework on compensation for rating agencies to ensure that there is a disincentive for them to assign aggressive ratings.The regulator’s thinking is: since ratings are fundamental to any debt instrument and a vital piece of information in the investment process of fixed income instruments, there has to be a framework which is free from bias and conflict. The framework may also look at a model where each rating agency is compensated by fixed tariff which is common to all rating agencies.“Currently, there is no transparency in the way credit rating agencies are getting compensated. This will bring transparency and accountability,” said a fund manager with a domestic asset manager.Sebi is also considering rotation of rating agencies. Companies having listed debt may be required to have two credit rating agencies rate the outstanding debt for three years. After that, another two rating agencies may have to be appointed. No rating agency can be appointed for consecutive two terms, sources said.“Credit rating firms have sadly been rarely ahead of the curve,” said S Raman, former whole time member of Sebi.The regulator will discuss all these proposals at a meeting with credit rating agencies this week.“Sebi had sought credit rating agencies’ view on various issues and these recommendations were given by them,” the person said. 66439403 The regulator is also considering to tweak rules to have at least two ratings in case issuance amount is over Rs 100 crore, and three ratings in case of Rs 500 crore.“The proposal of requiring multiple ratings depending upon the size of an issue, while carrying a decent logic, would be yet one more regulatory prescription which only bolster their business further, that too in the immediate aftermath of the IL&FS rating fiasco,” Raman said.Sebi is also planning to strengthen the rating standards and disclosures. The regulator has proposed that if a subsidiary company gets support from the parent group or government, then credit rating agencies will have to name the parent company or government that will provide support towards timely debt servicing. Rating agencies may also have to provide the rationale for this expectation.The credit rating industry has come under scrutiny after the firms that assessed IL&FS failed to pick up signals of financial trouble brewing at the lender.The regulator is also planning to introduce a specific section on liquidity among key rating drivers that will highlight liquid investments or cash surpluses for servicing debt obligation over next one year, so that investors are aware about the liquidity situation of an issuer. Besides, credit rating agencies may also have to implement the tracking of early warning indicators like bond spread analysis for debt instruments.Entities whose yield spread is either higher than or lower than a pre-defined threshold vis-a-vis the corresponding benchmark would have to be reviewed by a rating agency on a periodic basis.There are seven rating agencies registered with Sebi, including Crisil, Care Ratings and Icra.

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