In evaluating the credit worthiness of a company/entity, the direct and/or tacit support of the group it belongs to or of the parent company assumes significance. While carrying out the credit rating exercise, Infomerics tries to derive comfort from such support, which may be likely, after considering many factors including the demonstrated support in the past. Actually this support goes a long way for the subsidiary/associate/joint venture company in meeting its debt obligation in times of stress. This is more so only when the parent company and/or the group has stronger financials and net cash flow availability.
In case of group support, Infomerics considers large groups with operations in many segments and have complicated shareholding structure. Such groups leverage their brand reputation in raising resources. Most companies in the group may be listed and each will have a professional management and an independent board. But the promoters exercise control over companies in the group, retaining a sizeable stake. In this context, it is important to identify the companies comprising the group. The overall credit profile of the group is evaluated considering the fundamental strength, business model, industry sensitivity and the managerial quality of the major entities of the group.
Infomerics’ attempt is aimed at exploring the possibilities of notching up the credit rating of the subsidiary/associate/joint venture company based on the aforesaid support. Besides the demonstrated support extended by the parent/group in the past, as highlighted above, the other factors considered by Infomerics are moral obligation of the parent/group, stature & standing of the parent/group, strategic position of the company in the group / to the parent company, the commercial benefits to the parent and/or to the group at large due to such association.
Let us discuss below the aforesaid factors in seriatim:
(i) Demonstrated support extended by the parent/group in the past to the company being rated
The support by the parent company and/or by the group may be continuous or situation specific. The parent/group extends support operationally or financially or managerial and on sustained basis or sporadically, as and when the need arises. Operational support may be by way of forward integration, backward integration, marketing support, technology support or infrastructure sharing. Financial support can be by way of infusing equity, extending loans/advances on softer terms, using group or parent’s strength in raising money and/or extending corporate guarantee for raising money. Managerial support may be in the form of sharing services in the areas of corporate finance, legal, representation of eminent people of the parent’s Board in the company being rated. Infomerics also tries to view as to whether this support is on regular basis or in case of eventualities. Prima facie, the operational support is generally on sustained basis; while the financial support may be regular in nature or situation specific.
(ii) Moral obligation of the parent/group
In India, there are groups or companies which are so reputed and have established credentials over decades that association of their name with a company even tacitly imparts high level of comforts to all the counter-parties, including the lender community. While this speaks well for the parent/group, circumstantially it casts a significant obligation on the parent/group to ensure that their images are not adversely impacted due to any deficiency on the part of the subsidiary/associate/joint venture company. This is more so in case of honouring financial obligations such as, vendors payment, payment of statutory liabilities, employee payment and debt servicing, besides all sorts of contractual non-financial obligations. Extent of management control and shared name also reflect the moral obligation of the parent company/group.
(iii) Stature & standing of the group/parent
While the support of the group and/or parent company assumes considerable significance in assessing the creditworthiness of the subsidiary/associate/joint venture company, the weightage on such support also depends on the stature & standing of the group/parent. More precisely, all parent companies/groups cannot command the similar level of acceptability from the market. A listed company or a company accessing capital market frequently has a more obligation to extend support to its group companies.
(iv) Strategic position of the company being rated
A large group has many companies in its portfolio and those may be involved diversified activities. Each company in the group is differently placed in terms of its nature of operations, business model, individual financial strength, scenario & outlook of the industry in which the company operates and past track record. All these determine the strategic position/importance of such company in the group / to the parent company and hence, the support flows accordingly. For captive finance companies, the extent of parent’s business being funded by the captive finance company reflects the level of strategic importance. More candidly, all companies in the same group may not get similar level of support from the group/parent.
(v) Commercial/economic benefits to the parent and/or to the group for a particular subsidiary/associate/joint venture company
While the commercial benefits accruing to the parent and/or to the group for a particular company also determines the strategic position of the latter, this factor also plays a significant role in imparting parent/group support. Apart from other factors, if the parent/group feels that extending support to a particular subsidiary/associate/joint venture company is a matter of high level of financial gain in the ensuing years, then the former tries to protect such objective in a reasonable manner. Further, the propensity of the parent company to support a profitable group company in times of stress is generally more, as compared to a loss making entity, to protect decline in economic value of its investment. Extent of parent holding, both current & future, also indicates parent’s level of commitment.
From Infomerics’ perspective, the parent/group support is relevant for credit rating of debt programme of the subsidiary/associate/joint venture company if there is a case of notching up of such credit rating. Infomerics believes that such notching up may be possible only when the parent’s credit rating is stronger than the standalone rating of the subsidiary/associate/joint venture company or when the overall standing of the group is explicitly/implicitly much superior than that of the company being rated. But this notching-up approach is a two-way traffic in the sense that when the credit rating of subsidiary/associate is notched up due to parent support, there is a likely impact on parent company’s credit quality for extending such support. This notching up is not certain and depends on a case to case basis as in case of a independent special purpose vehicles (SPVs), parent company/group support from parent may be limited in meeting debt obligations and hence, is the impact on credit rating. Further, the notching-up approach is applied only when there is no corporate guarantee from the parent. If the debt instrument of a company being rated is unconditionally and irrevocably guaranteed by the parent, and backed by a ring fenced payment mechanism, the rating of the guaranteed instrument is equated with the parent’s rating and rating so assigned carries a suffix ‘SO’ (Structured Obligation).
The ultimate rating of the subsidiary/associate/joint venture company depends upon three factors such as, the standalone rating of the company being rated, the rating of the parent company and to what extent the notch-up is feasible. While the standalone rating is an assessment of the company being rated without factoring parent company support, the parent company rating is after factoring the support being extended by the parent to the company being rated. The extent of notch-up shall depend on five factors mentioned above with the premises as to whether the linkage between the subsidiary/associate company are strong, moderate or weak. In case of strong linkage, the rating of the subsidiary/associate company is made equal to that of the parent. If it is weak, no notching up is done. If the linkage is moderate, then the rating of the subsidiary becomes somewhere between the rating of the subsidiary/associate company and the rating of parent company. However, if support is expected from a number of companies in the group, then it would be difficult to identify a single company for the purpose of measuring support. This causes uncertainty regarding the extent and timeliness of support. Hence, the notch-up gets restricted in such cases.
In case of a joint venture where two or more sponsors have equal shareholding, Infomerics factors the credit worthiness of the sponsor if it provides a written undertaking to provide distress support in servicing the entire/substantial portion of the debt obligation of the joint venture company.
In all cases when a rating factors in support from the parent company or a group company, with an expectation of infusion of funds or any other financial support towards timely debt servicing, the name of the such entity along with the rationale for such expectation is mentioned. A synopsis of the above is also mentioned in the Press Release under the Analytical Approach.