Session5 RoopaKudva Presentation (1)

7/31/2019 Session5 RoopaKudva Presentation (1)

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A business model for rating agencies:

learning from the CRISIL experience

Roopa KudvaManaging Director and Chief Executive Officer

CRISIL

June 16, 2010


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2.

Key Messages

Measures of effectiveness of business model for credit ratings

High-quality and accurate credit ratings

Widespread availability of credit ratings

Three possible models

Each has advantages

Each also has potential risks

The issuer-pays model has worked well in India The market lacks organized large bond investors

As in any model, strong safeguards and processes are needed to manage

conflicts of interest

India benefited from its strong regulatory framework

Other lessons from CRISILs experience

Bond rating revenues may need to be supplemented through complementary

businesses

Ratings not being the sole source of revenues or profits helps rating agencies to

maintain their independence


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3.

Presentation Flow

Background: what credit ratings are

The framework for evaluation An evaluation of the business models

The issuer-pays model

The investor-pays model

The government-pays model and its variants

How CRISILs model evolved

The challenges of being a pioneer

The need for revenue diversity


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4.

Background: What Credit Ratings Are


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5.

What Credit Ratings Are

Alphanumeric symbols indicating a scale of creditworthiness for

a security, issuer, or borrower

AAA, AA, B, etc.

Usually indicate probability of default or expected loss

Not recommendations to buy, sell, or hold rated securities

Other considerations would enter into the decision, e.g. price, investors

preferred risk profile


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6.

Why Markets Need Credit Ratings

Not all investors have the ability or resources to carry out a

thorough credit analysis of all available debt securities

Broadens the investable universe for the average bond investor

Allows large numbers of issuers to competitively access

funding at a low transaction cost

A rating is an easy-to-understand opinion from an independentparty

Establishes a common currency across market participants

Allows specification and measurement of capital adequacy and capital

allocation in a transparent manner

Publicly available credit ratings add to the information and

research available about companies and securities

Allow market participants to make better-informed decisions


7/207.

The Framework for Evaluation


8/208.

What to Look for in a Business Model

Credit ratings should be of high quality, and should be accurate

Should accurately measure creditworthiness

Should be the product of a strong and independent process

Ratings should be widely available to all market participants

The principal benefit of ratings today is that they are freely available to

the market as a whole

This benefit would be lost if ratings were available by subscription only

Smaller investors would be hit the hardest


9/209.

The Models Examined


10/2010.

The Issuer-pays Model

Benefits:

Free availability of ratings. Investors can compare the credit quality of

a wide array of instruments, choose the ones that best fit their risk

preferences, and continuously monitor the credit quality of their

investments

Access for rating agencies to high-quality information

Keeping the cost to the system low

Potential risks:

Potential for conflicts of interest. Strong mechanisms are needed for

managing these, including

Multilevel rating processes

Strict separation of the analytical and marketing functions

Delinking compensation from level of ratings


11/2011.

The Investor-pays Model

Benefits:

Freedom from possibility of issuer pressure

Potential risks:

Conflicts of interest in the opposite direction. Rating agencies could

face pressure from investors to give lower-than-warranted ratings so that

yields can be higher, and to not downgrade once rated so that mark-to-

market losses can be avoided

Dependence on public information for ratings, given the absence of

a relationship with the entity being rated

Taking ratings out of the public domain, since ratings would be

available only to investors who agree to pay for them


12/2012.

The Government-pays Model (and its variants)

Benefits:

No structural incentive for bias in either direction

Potential risks:

Moral hazard. Ratings that are paid for by government or regulators can

be seen to have an official approval or even amount to a payment

guarantee

Guaranteed business for rating agencies. Since government cannot

be seen to be favoring any party, all empanelled agencies will be

guaranteed business, removing any incentive to demonstrate analytical

rigor or to update and improve criteria and processes


13/2013.

Which Model Works Best?

Modern financial markets have overwhelmingly used the issuer-

pays model

The investor-pays model fell out of favor during the 1970s,

although there have been efforts to revive it

The government-pays model variants have so far not been tried

except in pockets; too early to say if it works Each model has its strengths and weaknesses, and there is

room for all three to coexist


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14.

The CRISIL Story: How It All Happened


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15.

CRISILs Growth from 1994 to 2009

#Up to 2005 CRISILs reporting year was April to March

^2005 was a nine month year from April to December 2005

*Majority stake in Gas Strategies sold on 10th Dec 2008

Year 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005# 2005^ 2006 2007 2008* 2009

Headcount 141 161 191 182 205 197 202 368 370 394 496 638 1155 1484 1750 1956 2164

1 4 1 1 1 1 1 1 42005(9M)*

Total Rev 90 126 183 238 323 364 340 441 685 714 854 1,193 1,405 2,873 4,043 5,146 5,603

Int Rev 1 0 3 2 3 1 2 4 2 0 4 0 3 7 14 3 36 5 66 0 1 ,70 5 2 ,62 9 2, 82 3 2, 91 1

PBT 54 86 120 127 154 208 192 127 272 268 281 314 355 802 1,106 1,875 2,075

5486 120 127

154 208 192 127272 268 281

314355

802

1,106

1,875

2,075

0

500

1,000

1,500

2,000

2,500

-

1,000

2,000

3,000

4,000

5,000

6,000

Rev INR Mn

Total Rev Int Rev PBT

PBT INR Mn


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16.

The Beginning: Credit Rating? Wont Work in India!

No bond market

Directed lending Absence of market-determined interest rates

Zero interest from global rating agencies

Grudging acceptance from domestic issuers and investors

What CRISIL Did

Built credibility

Ensured that opinions put out were independent, objective, and reliable

Developed awareness

Outreach with regulators, borrowers, users, intermediaries

Entrenched itself to benefit from the growth that it anticipated


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17.

1991 2001: Building a Robust Business

Rapid economic growth post liberalization, followed by a slowdown

Deterioration in corporate credit quality

Collapse of many nonbank lenders

These were anticipated by a spate of downgrades from CRISIL

Credit Rating agencies in India were regulated starting 1999

What CRISIL Did

Refused to dilute standards despite loss of business

Market share in ratings plummeted below 40%

CRISIL believed that business would eventually come back if it continued to put out credible ratings, focusedon criteria and processes

Focused on key intermediaries and investors, to address the move to private placements

Incubated and built up infrastructure policy consulting business

Growing competition, shallow market in ratings

Moved strongly into research Acquired Indias leading industry and company research provider

Initiated global tie-up to access best practices, attain scale

MoU with S&P (later evolved, through an equity investment, into a majority holding)

Went public

CRISIL has never borrowed

Comfortable with transparency and exposure that a public listing entails


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18.

Timely Rating Changes: Rating Actions and Market Share

Rating changes and market share

1.1 1.1

0.9

0.7

0.91.0

0.91.0

1.1

0.6

65

72 7071

48

69

50

59

0.0

0.2

0.4

0.6

0.8

1.0

1.2

FY 1995 FY 1996 FY 1997 FY 1998 FY 1999 FY 2000 FY 2001 FY 2002 FY 2003 FY 2004

MarketSh

are(%)

0

10

20

30

40

50

60

70

80

ModifiedC

reditRatio

Modified Credit Ratio Market Share in ratings business (%)


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19.

2002 Today: More Diversification, Explosive Growth

Rating actions in the 1990s built up CRISILs credibility in the credit ratings

space

CRISIL today is the unquestioned leader in the Indian market Opportunities: application of Basel II guidelines, growing sophistication of SMEs

Opened up a huge market for ratings

Indias rating agencies and its CRA regulations have served the market well

Subprime crisis and its fallout have had relatively little effect on the industry in India

Rapid evolution of Indias markets and capabilities have opened up myriadbusiness opportunities

What CRISIL Did

Adhered strongly to values, reinforced processes

Focused on outreach and transparency in ratings business

To maintain franchise with investors, regulators a key source of competitive advantage

Stayed hungry for growth

Acquired and built up Irevna, now the leading knowledge process outsourcing player in the

financial space

Set up research and analytics offshoring for Standard & Poors

Aggressively created market for independent equity research and funds research


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20.

www.crisil.comwww.standardandpoors.com

Session5 RoopaKudva Presentation (1)

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