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Corporate Bond Ratings and Agencies

Corporate Bond Ratings and Agencies. Alexandra Leziy-Miller. Topics and Learning Objectives. Debt review Purpose of ratings and users Credit rating a gencies Ratings Rating methodology Rating process Controversies . Corporate Debt. Debt Why does a company take on debt ?

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Corporate Bond Ratings and Agencies

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  1. Corporate Bond Ratings and Agencies Alexandra Leziy-Miller

  2. Topics and Learning Objectives • Debt review • Purpose of ratings and users • Credit rating agencies • Ratings • Rating methodology • Rating process • Controversies

  3. Corporate Debt • Debt • Why does a company take on debt? • To undertake projects • Mergers and acquisitions • Refinance existing debt • What is the big deal about debt? • Risk • Borrower • Lender

  4. Purpose of Ratings and Users • Lenders want to know investments are safe • Support judgment • Convenience • Larger pool of funds • Determine the cost of borrowing • Users • Investors, Issuers, Regulators • Question?

  5. Agencies & History • The “Big Three” • Standard and Poor’s (S&P) • 1860 • Moody’s • 1900 • Fitch Ratings • 1913 • Nationally Recognized Statistical Rating Organization (NRSRO) • 1975

  6. Standard & Poor’s Timeline

  7. Moody’s Timeline

  8. Fitch Ratings Timeline

  9. Long-Term Ratings

  10. Short-Term Ratings *Short-Term ratings are based on the probability of default within one year

  11. Main Rating Factors • Protections afforded in the covenants • Collateral • Ability to make payments • The lower your rating, the more covenants, collateral and requirements your bond issue will contain • To strengthen and reduce risk • Credit enhancement • Bond insurance (limited availability) • Letter of credit (commercial banks) • Third party guarantee (cash, securities, assets)

  12. Credit Agency Methodology • Quantitative and qualitative analyses • Event risk • Natural disaster – e.g. Florida vs. Wyoming • Financial risk – Ability to make payments • Company vs. company comparison • Microeconomic event • Ratios • Business risk • Industry vs. industry comparison – e.g. oil vs. airline • Economy - macroeconomic event • Corporate governance risk • Ownership structure • Management quality

  13. The Ratings Process • Submit application (request rating) • Lead analyst and team • Review committee • Inform issuer • Appeal • Public • Monitor

  14. Monitoring • Why is monitoring of ratings important? • Cost of borrowing • Regulations • Credit watch & outlook (positive/stable/negative) • Does not necessarily lead to a change • Current Events: April 18, 2011 • AAA Rating On United States of America ; Outlook Revised To Negative

  15. Controversies • Conflict of interest • “Investor-pays” business model • “Issuer-pays” business model • Ratings don’t change quickly enough • Enron • Barriers to entry • High

  16. Market Share

  17. Questions? • Thank you

  18. References • Standard and Poor’s • http://www.standardandpoors.com • Moody’s • http://www.moodys.com • Fitch: • http://www.fitchibca.com • U.S. Securities and Exchange Commission (SEC) • http://www.sec.gov • WIKIPEDIA • http://en.wikipedia.org/wiki/Credit_rating_agency • Fabozzi, Modigliani, Jones (2010). Foundations of Financial Markets and Institutions, 4th ed. Pearson Education, Inc.

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