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IL&FS crisis fallout: Sebi tightens disclosure norms for credit rating agencies

To ensure investors have some way to analyse the performance of a credit rating agency, Sebi also asked them to publish details about the historical average rating transition rates across various rating categories. Photo: Abhijit Bhatlekar/Mint

To ensure investors have some way to analyse the performance of a credit rating agency, Sebi also asked them to publish details about the historical average rating transition rates across various rating categories. Photo: Abhijit Bhatlekar/Mint

Mumbai: India’s markets regulator has tightened disclosure norms for credit rating agencies after they failed to warn investors in time about the deteriorating credit profile of Infrastructure Leasing and Financial Services Ltd (IL&FS). The rating agencies will now need to disclose the liquidity position of the company being rated, Securities and Exchange Board of India (Sebi) said in a circular on Tuesday.

A company’s liquidity position would include parameters such as liquid investments or cash balances, access to unutilized credit lines, liquidity coverage ratio, and adequacy of cash flows for servicing maturing debt obligation, the Sebi circular said.

Credit rating agencies would also need to disclose if the company is expecting additional funds to pare its debt along with the name of the entity that will provide the money. Credit rating firms will also have to analyse the deterioration of liquidity and also check for asset-liability mismatch.

Tuesday’s circular follows an abrupt downgrade in the ratings of bonds sold by IL&FS and related entities after they defaulted on payment obligations in September. Credit rating agencies (CRAs) had downgraded the bonds from high investment grade (AA+ in some cases) to default or junk.

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“Sharp rating changes create an element of surprise and suddenness. CRAs should strive to keep them to a minimum. In this context, disclosure of sharp rating actions made available at one place on the depositories and exchanges website in a consolidated manner is a welcome step. This will enable stakeholders including investors and regulators to compare data across each CRA in an efficient and transparent manner and make comparative assessments,” said Somasekhar Vemuri, senior director at Crisil Ratings.

This is the fourth time Sebi has changed norms for credit rating agencies. In November 2016, Sebi issued a circular revamping norms for rating agencies after it found Crisil and Credit Analysis and Research Ltd (CARE) did not follow due process and had failed in monitoring ratings of JP Morgan’s credit opportunity fund and Amtek Auto Ltd. The rating agencies subsequently settled the case through a consent mechanism.

In December 2017, after a meeting of its board, Sebi again revamped norms by tweaking ownership norms, and processes to follow while withdrawing a rating.

On 21 June, after a meeting of its board, Sebi announced changes to the ownership and governance structure of rating agencies. “While these disclosures are well and good, it does not address the important issue that is who will ‘rate the rating agency’. The accountability is lacking. If a rating agency’s conduct is violating Sebi norms, then they should not be allowed to settle the offence via consent mechanism,” said J.N. Gupta, a former executive director at Sebi. He is also the founder of Stakeholder Empowerment Services.

To ensure investors have some way to analyse the performance of a rating agency, Sebi also asked them to publish details about the historical average rating transition rates across various rating categories. This will equip investors to make more informed decisions and be more discerning when comparing different ratings, according to Vemuri of Crisil.

“Publishing transition statistics will help investors get a perspective on quality of ratings especially rating stability; an integral part of evaluating the performance on any CRA. This along with the default statistics will enable comparison of performance across CRAs,” said Vemuri.