“We can negotiate on fees but we can never negotiate on ratings”

DR Dogra, chief executive officer of Indian rating agency CARE Ratings speaks to Moneylife’s Sanket Dhanorkar about the efficacy of the revised WPI, the criticism against IPO grading and the concerns over ‘grade shopping’

Sanket Dhanorkar (ML): Is the revised WPI series representative of the entire basket of commodities and does it give a true picture of inflation?

DR Dogra (DR): I think that the right step has been taken by moving the base year from 1993-94 to 2004-05 because the GDP is also based on 2004-05 numbers. So now we have a like-to-like comparison as far as the period is concerned. They have also expanded the list of commodities and the number of quotations, which will offer a more representative sample. We will see the merit of this in some time.

ML: What is the rationale behind reduced weightage to food items?

DR: The number of commodities under manufacturing sector is very large. WPI is not the right indicator for consumer prices. It is the CPI. WPI covers the total economy, which has more industrial commodities. The main reason why inflation has come down is that you have a larger basket of manufactured commodities as compared to food items. The earlier WPI series considered some commodities which were not even produced. So it was not really representative. The new commodities under the revised WPI reflect the real prices.

ML: What are your thoughts about concerns over deflated reporting inflation figures?

DR: This concern will remain because everybody is considering consumer prices. But the WPI is not the index for consumer prices. That difference will always remain. Consumers are more concerned about food items. WPI is much more than that. Inflation cannot be measured by CPI. At the economy level, WPI is the only indicator of the price levels.

ML: Do you believe IPO grading is giving the desired results?

DR: It is too early to take a call on IPO grading. For any product to show its result, you need some time. IPO grading considers only the fundamentals of an issue. Fundamental value of a company can be captured only over a longer period of time. Market realities get balanced out after 4-5 years and give you the real worth of that security. The one big advantage of IPO grading is that investors do not have to go through 600 pages of the red herring prospectus of any company.
Does the layperson get the time to go through such a document? The rating analyst goes through the relevant pages of the document and converts that whole DRHP into a single number. This is beneficial for a lay investor who has very little research or information. It at least gives him a better input. If you are a junk investor then you may go and buy an issue rated 1 or 2. But if you are a very conservative investor, then you may opt for an issue rated 4 or 5.

ML: Why is there some criticism against IPO grading?

DR: The criticism of IPO grading is mostly by investment banks. They know that if I give a rating of 1 or 2, it is very difficult to sell that issue. They are not quite happy with this kind of arrangement. That is why they speak against it. They also say that it is a time-consuming and costly exercise. We take maximum of 4 weeks to complete the process. As regards the cost, my standard fee is 0.1%. Look at other expenses of an IPO. They are not less than 6% or 7%. Some issues even go to 10%. Clients negotiate with us and get some discount. We are in a market which is very competitive. So we are also aware that we can't charge high fees.

We have to be commercially viable to anyone. Why they are criticising despite this is they are concerned about getting a low rating. The reason being that their fees depend on the amount they raise. If the issue size is Rs600 crore and the fees are 1%, they get Rs6 crore. If because of poor rating the issue garners only Rs500 crore, they get less. Sometimes, the issue does not come out at all. If the issue happens, they get their fees. If it doesn't, they don't get anything. So, they are concerned. In my case, whether the issue gets Rs100 or Rs200 premium, my fees don't change. We are an independent rating firm. We maintain our independence and give good ratings if the client deserves it. This is a desirable instrument especially for the small investor, who doesn't have any research base. Any criticism against it is motivated.

ML: How do you ensure transparency and accountability amidst allegations of grade shopping?

DR: There is a big hue and cry around this issue. A lot of criticism has been levelled against this industry. Despite having an unblemished record of more than 80-90 years, two years of this subprime issue has somewhat tarnished the image of these rating firms. Certainly, what happened in the last two-three years is not desirable. I don't think that the entire criticism of rating agencies is correct. Some of them were indeed party to the reckless pushing of these subprime loans by investment banks. The assumptions these agencies made have gone haywire because of the peculiar volatility which the real estate market experienced in those days. Fortunately, we don't have such problems here in India.

Had rating shopping been possible, had I wanted, I would have gone to clients of CRISIL and ICRA and negotiated lower fees and offered higher ratings than them. So why are we not doing this? After all, we are all commercial companies and so are interested in our bottom-line. The longevity of the credit rating agency does not depend on the number of clients we rate. It depends on the investors' confidence in us. Lenders have belief in my ratings and so they push their clients to come to us for having their security rated. But if they don't trust us, why will they look at my ratings? That is why no rating agency will try to charge lower fees and give high rating. We can negotiate on fees but we can never negotiate on ratings.
As far as we are concerned, we are the only rating agency which has an external rating committee. In India, everyone started with an external committee. CRISIL and ICRA have now moved on to in-house ratings. We have not disbanded the earlier system. I am the only one in the rating committee who is a common link between the company and the rating committee. All other members are external. We have also decided that no board member will be a part of the rating committee. My external committee is not concerned with which client has paid how much for the rating. Only I am aware of this aspect. The final rating is given by the external committee. In doing so, we are ensuring that quality is maintained at all costs. The beauty of a rating agency is only in its quality of rating, not in numbers. If my lenders believe in my ratings and they stand the test of time, only then can a rating agency prosper and have a future.

In terms of grade shopping, there is a real conflict because we are rating a client and he is also paying us fees. So he has interest in getting higher ratings. But the client also knows that if I give him a rating which he doesn't deserve, he can fool one or two lenders, but in the long run lenders will know the story as they are also risk professionals. The lender also does his own credit appraisal. So if he knows that my ratings are always higher, he will not believe in my ratings.

ML: How often does it happen that clients move on to other rating firms in search of a higher rating?

DR: Around 30% of ratings by all rating agencies are not accepted by clients. It is true in our case also. They then move to another rating agency and try to get higher rating. It happens sometimes where we give higher rating while CRISIL gives lower or that we give lower rating and CRISIL gives higher. It doesn't mean that either we are wrong or CRISIL is wrong. But suppose there is one rating agency which always gives higher rating than others, then there is a problem with that agency. If their ratings are consistently higher, it means that it is a loose firm and does not follow ethical standards.

We cannot improve the credit quality of any company. It is an inherent weakness. But what we can do is we can understand credit quality much better than anybody else. We don't outsource our due diligence; we do it ourselves, even if we make lower margins. All appraisal work is done by our own people. We need not be technical experts, but what we do is understand the business of the client and critically analyse and look at how their cash flows will be affected.

ML: Which specific parameters do you concentrate on while assigning the grade?

DR: Credit rating is nothing but the study of the ability and willingness of the company to pay on time. Even if the company is making losses, but its parents are strong and can bring in equity, it can get investible credit. If, suppose, the company is making profits but those are locked up in inventory, it may not get a good rating. What I look at is the liquidity part - whether cash flows will be available to the company at the point of need. We look at the debt servicing ratio, interest coverage ratio, etc. All assumptions have to be justified. If earlier the company was growing at 20% and it projects growth of 40% for the coming year, it has to convince us how it will manage to do so. Only then can we rely on such optimistic projections.

On the other hand, IPO grading is based more on the fundamentals of the company - how it is placed vis-a-vis other players in the market. So we look at the business risk, financial risk, competitive position etc. Basically, it is a business call we take based on how much control the company has over its revenues as well as expenses. When doing IPO grading, we have to look at the long term fundamentals of that company.


Ashok Leyland wins order for supply of 2,850 buses

Ashok Leyland, the Hinduja flagship, has won an order for supply of 2,850 buses from the Institute for Road Transport (IRT), the nodal agency for procurement of vehicles for Tamil Nadu government. No financial details of the contract were provided.

The 2,850 buses order is from across the seven state transport undertakings in Tamil Nadu, including the Metropolitan Transport Corporation, State Express Transport Corporation and the Tamil Nadu State Transport Corporations of Villupuram, Salem, Coimbatore, Kumbakonam and Madurai.

On Friday, Ashok Leyland shares ended 1.9% up at Rs76 on the Bombay Stock Exchange, while the benchmark Sensex gained 0.9% to 19,594 points.


Anjani Fabrics signs MoU to acquire Balhanuman Fabrics

Anjani Fabrics Ltd, said it has signed a memorandum of understanding (MoU) to acquire Balhanuman Fabrics Pvt Ltd. No financial details of the deal were provided.

With the acquisition of Balhanuman Fabrics, the total production capacity of Anjani Fabrics will increase to almost 2.4 million metre per annum, said the textile company in a statement.

On Friday, Anjani Fabrics shares ended 1.1% down at Rs31 on the Bombay Stock Exchange, while the benchmark Sensex gained 0.9% to 19,594 points.


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