THIS could be the first instance of policy makers in India learning lessons from the Wall Street collapse. The finance ministry and regulators are looking at the possibility of banning credit rating agencies (CRAs) from providing allied services to clients whose debt instruments they rate.
The government feels that when ancillary services such as consultancy and financial advisory are offered by the rating agency to the client which it rates, the former may be constrained to please the latter — a favour that would help in developing the market for their allied services. This would lead to the rating agency compromising on rating and make investors misjudge the worth of the securities they buy. This is in addition to the larger conflict of interest involved in accepting fee from the same entity whose instruments they rate.
The proposed regulatory framework for credit rating agencies would explicitly address the conflict of interests grappling these entities, which is highlighted by the ongoing financial turbulence in the US. Accounting and auditing firms, whose integrity is important for regulators and investors, face a similar restriction worldwide. An auditing firm that does statutory auditing of a company’s financial statements cannot give advisory services to the entity as it is feared that it may affect the client’s independence.
In India, Standard and Poor’s has more than 43% stake in leading credit rating agency Crisil, while Moody’s Investment Company India holds 28.5% in Icra. The Fitch group has a 100% subsidiary here called Fitch India. CARE Ratings is a domestic player with IDBI Bank, Canara Bank and SBI as major shareholders.
The government is aware that preventing rating agencies from doing allied business might escalate the cost of their rating services as cash flow from other businesses may dry up. It is aware that sometimes firms cut corners because of institutional constraints and not necessarily because of greed.
Rating agencies, in the meantime, have told the government that their other businesses are run by subsidiaries, which are separate legal entities operating at an arm’s length.
They are run by separate CEOs who do not interact with the chief of their parent firm. The government is now examining how much revenue these agencies generate from their allied businesses. A final view would be taken only after considering feedback from stakeholders, it is understood.
The government feels that when ancillary services such as consultancy and financial advisory are offered by the rating agency to the client which it rates, the former may be constrained to please the latter — a favour that would help in developing the market for their allied services. This would lead to the rating agency compromising on rating and make investors misjudge the worth of the securities they buy. This is in addition to the larger conflict of interest involved in accepting fee from the same entity whose instruments they rate.
The proposed regulatory framework for credit rating agencies would explicitly address the conflict of interests grappling these entities, which is highlighted by the ongoing financial turbulence in the US. Accounting and auditing firms, whose integrity is important for regulators and investors, face a similar restriction worldwide. An auditing firm that does statutory auditing of a company’s financial statements cannot give advisory services to the entity as it is feared that it may affect the client’s independence.
In India, Standard and Poor’s has more than 43% stake in leading credit rating agency Crisil, while Moody’s Investment Company India holds 28.5% in Icra. The Fitch group has a 100% subsidiary here called Fitch India. CARE Ratings is a domestic player with IDBI Bank, Canara Bank and SBI as major shareholders.
The government is aware that preventing rating agencies from doing allied business might escalate the cost of their rating services as cash flow from other businesses may dry up. It is aware that sometimes firms cut corners because of institutional constraints and not necessarily because of greed.
Rating agencies, in the meantime, have told the government that their other businesses are run by subsidiaries, which are separate legal entities operating at an arm’s length.
They are run by separate CEOs who do not interact with the chief of their parent firm. The government is now examining how much revenue these agencies generate from their allied businesses. A final view would be taken only after considering feedback from stakeholders, it is understood.
