Credit Rating has gained significant importance amongst the investors in India and its financial markets. It gives the credit quality of the firm as it ensures the creditworthiness of the firm. It is suggesting an opinion on the credit quality of the firm, that is, the ability of the debt issuing firm to serve the debt instruments. It ensures the relative capability of the corporate entity to serve its debt commitment in time concerning the instrument being rated. Credit rating is in the form of alphabetical or alphanumerical characterization of the creditworthiness- individual, business, or instrument of a company. The ratings are merely check the creditworthiness, and it cannot be considered as a recommendation. The credit rating only talks about two important things one, its ability to pay and the willingness to pay. Significance of Credit Rating It analyzes the possible credit risk associated with granting a financial instrument to the company or individual.The rating is based on the credentials of the companyThe creditworthiness of the individual or company is given, which is based on the borrowing or lending transactions done by the company in the past.It is determined on the basis of the statements of assets and liabilities of the company or individual. Its ability to meet its debt obligations. Credit Rating Agency in India These are the first established agencies in India. a. CRISIL- Credit Rating And Services (India) Limitedb. ICRA Limited- Investment Information and Credit Agency of India Limitedc. CARE- Credit Analysis and Research Limitedd. Fitch Ratings India Private Ltd Working of Credit rating LEGISLATIONS-The Credit Rating Agency is registered under the Securities Exchange Board of India. The SEBI registers, and it has the right to authorize and the right to regulate the credit rating agencies according to the SEBI Regulations, 1999 of the SEBI Act, 1992. The Agency assesses and evaluates the creditworthiness of an individual or company. Evaluation of Debtor’s Income They initially evaluate the debtor’s income and credit/ liabilities to analyze the debtor’s ability to repay the debt or if there is any risk associated with the debt. Gives Credit rating These agencies have the right to evaluate and give a rating to the- companies, state governments, non-profit governments, countries, securities, local government bodies, and unique purpose entities. Evaluation of Financial Information Many factors are considered for setting up these ratings: financial statements, type of debts, lending and borrowing history, repayment capability, past credit repayment information, etc. These factors contribute to the computation of the rating of the organization/ individual/company. Credit Score It computes the result called A Credit Score. No Financial Report Produced The credit rating agency does not provide any financial report or decision, but such a Credit Score helps to know whether the entity should get the credit facility or not. The lender can analyze the credit score It helps the lender to analyze the credit information/credit score and making the reports or the decision easier for them. Setting Up of a Credit Rating Agency It is set up under the guidelines, as per the SEBI (Credit Rating Agencies) Regulations, 1999: Form-A Application has to be made in Form-A to SEBI, which is a non-refundable application fee form, to get the certificate of registration to carry out the activities of the credit rating agency. Form-B The certificate of registrations shall be granted by the Board in Form-B. Eligibility Criterion The applicant must fulfill the eligibility conditions as laid down by the SEBI. Promotion of the Credit Rating Agency The promotion of credit rating agency by the following persons: a. Public Financial Institutions, as defined by Section 4A of the Companies Actb. Scheduled Commercial Banksc. The Foreign Bank operating in India after the approval of Reserve Bankd. The Foreign, Credit rating agency, having - 5 years experience in rating securitiese. Company/ Body Corporate having a net worth of Rupees 100 Crores, as per the annual audited accounts for the previous five years Maintaining of Books of Accounts Credit Rating Agency shall maintain the books of accounts and records for a minimum period of 5 years. Appointment of Compliance Officer The Credit Rating agency shall appoint a compliance officer who shall take care of the compliances of various acts, rules, regulations, notifications, circulars, guidelines. etc How is Credit Rating given? Entering into AgreementThe Agency has to enter into an agreement with the client whose securities are to be rated: a. It has to define the rights and liabilities of the parties.b. Fees charged have to be specified.c. Tenure for the periodic review of the ratings.d. The client discloses in the offer document the credit rating received for its listed securities.e. The confidentiality of all the information disseminated by the client has to be ensured.f. There shall be due diligence exercised to ensure that the rating assigned is fair and appropriate. Rating Agencies assign the credit rating and communicate to the client.The final rating is assigned, and the same is published along with the definition of the concerned rating.A copy of the rating is to be filed with the Board along with modification.The rating agency has to file the rationale behind the rating assigned with the justification attached to it and the continuing risk factors.There will be continual review and surveillance of the ratings assigned by the rating agency.There must be a regular credit watch so that there are no deviations, no change in the expected trends, which are likely to affect the entity's credibility. Therefore such instruments are put at the credit watch.Investors are advised to invest in the securities up to investment grade levels, which is the Baa (Moody) and BBB (S&P). Conclusion It can be concluded that the operation of the credit agency is like a private company. They have to assess the ability of the borrowers to repay the debt. The credit agency estimates the borrowers and issues some credit ratings based on the borrower’s solvency status. In India, the credit rating agencies have been established in 1980. The work is to evaluate the chance of the default on the borrower's part in repayment of the loans. There are no standard methods or scale to calculate its ratings for the credit risk, considering only the qualitative -business strategy of the company and quantitative financial data. Read our article:Which is the Best Credit Bureau in India?